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TAX CLINIC

The following example illustrates
the application of Sec. 384 to a simple
fact pattern:

Example 1: On Dec. 31, 2021, Corp
A and Corp B each have NOLs
of $25 million. Also on Dec. 31,
2021, Corp B merges into Corp A
in a transaction that qualifies as a
tax-free reorganization under Sec.
368(a)(1)(A). On Dec. 31, 2021, im-
mediately before the merger, Corp B
had property with an FMV of $100
million and a basis of $50 million
(Property 1). In the tax year end-
Issues in allocating income other corporations) control of another ing Dec. 31, 2022, the combined
under Sec. 384 corporation, or if the assets of a corpo- corporation sold Property 1 for $100
Sec. 384 (limitation on use of preacqui- ration are acquired by another corpora- million, for a gain of $50 million. In
sition losses to offset built-in gains) was tion in a reorganization under Sec. the same tax year, the combined cor-
enacted in 1987 by the Omnibus Bud- 368(a)(1)(A), (C), or (D), and either of poration had total income, including
get Reconciliation Act, P.L. 100-203, the corporations is a “gain corporation,” the gain from sale of Property 1, of
but despite its being in the Code for income for any recognition period tax $50 million (this example assumes
over 35 years, Treasury and the IRS year, to the extent attributable to RBIG, that no Sec. 382 limit applies to the
have not promulgated any regulations is not offset by any preacquisition loss use of any of the NOLs).
for it. Although the IRS has addressed (other than a preacquisition loss of the
several issues in the application of Sec. gain corporation). Under Sec. 384, the combined cor-
384 with letter rulings and other guid- Under Sec. 384(c)(3), a preacquisi- poration is not permitted to use preac-
ance, the Service has yet to come out tion loss includes any NOL carry- quisition losses of Corp A to offset the
with comprehensive regulations and, forward to the tax year in which the gain from the sale of Property 1 to the
thus, has yet to address several issues acquisition date occurs, any NOL for extent that the gain was attributable
with its application. that year to the extent the loss is al- to RBIG. Since the entire $50 mil-
One issue that has not been formally locable to the period in that year on lion of gain was attributable to RBIG,
addressed is how total taxable income or before the acquisition date, and any the corporation is not permitted to
of a corporation is allocated to recog- recognized built-in loss (RBIL). Under use preacquisition losses except those
nized built-in gain (RBIG) on property Sec. 384(c)(4), a gain corporation is any from Corp B. Therefore, the combined
that it acquired that is subject to Sec. corporation with a net unrealized built- corporation is not permitted to use the
384, when it has other income or loss in gain (NUBIG). In general, a corpo- $25 million of NOLs from Corp A but
from other properties. Additionally, ration has a NUBIG if the fair market is permitted to use the $25 million of
the IRS has yet to address the applica- value (FMV) of its assets immediately NOLs that were acquired from Corp B.
tion of Sec. 384 when there is a sale of before the acquisition date exceeds their Thus, the corporation recognizes $25
multiple properties with RBIG that are aggregate adjusted bases. Under Sec. million of gain in the tax year ended
subject to different Sec. 384 limits. 384(c)(1)(A) an RBIG is any gain rec- Dec. 31, 2022.
ognized during the recognition period
Sec. 384 basic interpretation on the disposition of any asset, except Complications interpreting
Sec. 384 generally limits the use of pre- to the extent the gain corporation es- ‘attributable to recognized
acquisition net operating losses (NOLs) tablishes that (1) the asset was not held built-in gains’
of a corporation to offset gain recog- by the gain corporation on the acquisi- Although the most basic applications IMAGE BY SIBANI DAS/GETTY IMAGES
nized on property that the corporation tion date, or (2) the gain exceeds the of Sec. 384 can be straightforward,
acquired with a built-in gain. Sec. excess, if any, of the FMV of the asset what income “attributable to recog-
384(a) provides that if a corporation ac- on the acquisition date over its adjusted nized built-in gains” means can be
quires directly (or through one or more basis on that date. difficult to apply in more complicated

14 February 2023 The Tax Adviser