Ninth Circuit Invalidates “Midco” Tax Shelter | WPN World People News

The Court of Appeals for the Ninth Circuit upheld the IRS’s assertion of transferee liability against the former shareholders of a closely held corporation who participated in a so-called “Midco” transaction, announced Principal Deputy Assistant Attorney General Richard E. Zuckerman and Deputy Assistant Attorney General Travis A. Greaves of the Justice Department’s Tax Division.

In a Midco transaction, the shareholders of a closely held corporation owning appreciated assets seek to “cash out” without bearing the full tax burden resulting from the conversion of the assets to cash. They do so by purporting to sell their stock to a Midco promoter for an amount far greater than the after-tax value of the corporation, based on the promoter’s professed ability to eliminate the corporation’s taxable gain resulting from the asset sale. But the promoter’s gain-elimination strategy is false, and by the time the IRS discovers the ploy, the corporation no longer has any assets.

In Slone v. Commissioner, the IRS sought to collect the corporation’s unpaid tax from the former (selling) shareholders as the deemed recipients of a fraudulent transfer by the corporation, arguing that the stock sale should be disregarded and the transaction recharacterized as, in substance, a liquidating distribution by the corporation to the former shareholders. The Ninth Circuit, reversing the U.S. Tax Court, agreed with the IRS’s characterization of the substance of the transaction and held that such substance controls for purposes of both federal tax law and the applicable (Arizona) fraudulent-transfer law.

Source: U.S. Department of Justice