A Practical Guide for Determining Whether a Section 338(h)(10) Election Should Be Made for a Target Insurance Company
In March 2006, the Internal Revenue Service (IRS) finalized regulations which provide helpful rules for determining the likely tax consequences of a section 338(h)(10)1 election on the disposition of an insurance company. T.D. 9257 (April 7, 2006). However, as discussed below, despite the helpful guidance, there are a number of considerations—both tax and nontax—which must be taken into account before deciding on making the election. These considerations begin with the basic question as to whether the respective parties, the Buyer and the Seller, will have a better tax answer with or without an election. Before discussing the evaluation process, a summary of the basic rules is necessary.
Stock Sale Without Section 338(h)(10) Election
If a Buyer purchases 100 percent of the stock of a Target insurance company without the election, the Seller’s gain or loss is determined by comparing the Seller’s aggregate stock basis to the amount realized on the sale. The tax basis of Target’s assets stays the same as it was prior to the sale. All of Target’s tax attributes remain with Target although their use by the Buyer or the Buyer’s consolidated group may be limited under various Code sections, such as the limitation on the use of loss carryovers and built-in loss under section 382, or the section 1504(c)(2) inability of a Target life insurance company to immediately join in a new life/nonlife consolidated group. The tax basis in Target’s assets includes the unamortized balance of specified policy acquisition expenses under section 848 as well as the remaining balance of any existing section 197 intangible in the hands of Target. These amounts continue to be amortized on the same amortization schedule utilized by Target prior to the sale. On the other hand, the Buyer has a tax basis in Target stock equal to the purchase price plus capitalized expenses. In the event of a stock purchase when Target is a member of a consolidated group, Target retains tax liability for all consolidated return years for which it was a member under Treas. Reg. § 1.1502-6.
25 Taxing Times, Vol. 5, Issue 1 (February 2009)