What Is an All-Cash D Reorganization?

An all-cash D reorganization is a corporate transaction with complex tax implications. It involves one corporation selling its assets to a related corporation, owned by the same shareholders, entirely for cash. Following the sale, the selling corporation liquidates and distributes the cash to its owners. Although this looks like a taxable asset sale and liquidation, the Internal Revenue Service (IRS) can recharacterize it.

Under certain conditions, the transaction is treated not as a sale but as a tax-deferred reorganization under Section 368 of the Internal Revenue Code. The conflict arises because what appears to be a cash sale is viewed by tax authorities as a continuation of the business in a modified corporate form.

Core Requirements for Qualification

For a transaction to be classified as an all-cash D reorganization, the primary requirement is common ownership and control. The shareholders of the selling, or target, corporation must own at least 50% of the total voting power or 50% of the total value of the stock of the acquiring corporation immediately after the transaction. This control test ensures that the same ultimate owners are behind both entities, justifying the treatment as a reorganization rather than a true sale to an unrelated party.

To determine this ownership, the IRS applies the constructive ownership rules found in Section 318. These attribution rules treat stock owned by certain family members or related entities as being owned by the individual shareholder. For example, stock owned by a spouse, child, grandchild, or parent is attributed to the individual. Therefore, a shareholder who does not directly own 50% of the acquiring company might still meet the threshold when their holdings are combined with those of close relatives.

Another requirement is the transfer of “substantially all” of the target corporation’s assets to the acquiring corporation. The IRS provides a safe harbor benchmark for this rule, which is met if the acquiring corporation obtains at least 90% of the fair market value of the target’s net assets and at least 70% of its gross assets. This test distinguishes a genuine reorganization from a transaction where operating assets are split between different corporate structures.

The transaction must also be part of an integrated plan of reorganization, and the target corporation must completely liquidate. This means the sale of assets and the subsequent distribution of all proceeds to the shareholders must be prearranged and executed as connected steps. The target corporation must distribute the cash received from the acquiring corporation, along with any assets it retained, to its shareholders. This complete liquidation is a statutory requirement under Section 354.

An all-cash D reorganization does not require the acquiring corporation to issue its own stock to the selling corporation or its shareholders. Judicial precedent established that a formal stock issuance is a “meaningless gesture” when the same shareholders already own both corporations in similar proportions. Issuing new stock would not alter the shareholders’ underlying ownership interests, making the exchange of stock certificates unnecessary.

Tax Consequences for Involved Parties

When a transaction qualifies as an all-cash D reorganization, the tax consequences differ from a standard asset sale. The cash shareholders receive from the liquidating target corporation is not treated as a payment in exchange for their stock, which would otherwise generate a capital gain or loss. Instead, the cash is considered “boot,” which is any property received in a reorganization other than the stock of the acquiring company.

The cash boot is tested to determine if it has the effect of a dividend. For these reorganizations, the cash is treated as a dividend, measured against the combined earnings and profits (E&P) of both the target and acquiring corporations. While qualified dividends are taxed at preferential rates, they are ordinary income, not capital gains.

This means a shareholder cannot offset the income with capital losses. For example, if a shareholder receives $500,000 in cash and the combined E&P of the two corporations is $600,000, the entire distribution is taxed as a dividend. In a simple liquidation, that same shareholder might have a high basis in their stock, resulting in a much smaller capital gain or even a loss.

As a party to the reorganization, the selling corporation recognizes no gain or loss on the transfer of its assets to the acquiring corporation. The target corporation also recognizes no gain or loss on the distribution of the cash to its shareholders as part of the liquidation plan.

The acquiring corporation does not get a “stepped-up basis” in the assets equal to the cash price it paid. Instead, it takes a “carryover basis,” meaning its basis in the assets is the same as the target corporation’s basis. If the target had old, fully depreciated assets with a low basis, the acquiring corporation inherits that low basis. This prevents the acquiring corporation from claiming higher depreciation deductions on the assets going forward, which would have been possible in a standard asset purchase.

The Transaction in Practice

For example, imagine Shareholder A is the sole owner of two corporations: Target Corp and Acquiring Corp. Target Corp holds business assets that Acquiring Corp wishes to obtain.

The first step is the transfer of assets for cash. Target Corp sells all of its operating assets to Acquiring Corp. In exchange, Acquiring Corp pays Target Corp cash equal to the fair market value of those assets. Target Corp now no longer holds operating assets but instead holds a large sum of cash.

The second step is the complete liquidation of the target. As part of the integrated plan, Target Corp formally dissolves and liquidates. It distributes all the cash it received from Acquiring Corp, plus any other remaining assets, to Shareholder A. With this distribution, Target Corp ceases to exist, and Shareholder A now holds the cash.

Both corporations involved in the reorganization must attach a detailed statement to their federal income tax returns for the year the transaction occurs. As required by Treasury Regulation §1.368-3, this statement must include the basis of the transferred assets and the amount of cash and other property exchanged. Shareholders receiving cash or property must also file a statement with their returns, detailing the basis of their surrendered stock and the amount of money received.