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Du Pont and Seagram make merger history.


J.E. Seagram Corp. is involved in a dispute with the IRS that has reached the Tax Court. The resolution will have widespread ramifications regarding the tax consequences of mergers and other stock-for-stock transactions.

At issue is E.I. Du Pont De Nemours & Co.'s 1981 acquisition of Conoco Inc. Seagram owned a substantial amount of Conoco stock that, eventually, was transferred to Du Pont in exchange for the latter's paper. Seagram is now seeking to deduct the $545 million it lost on the trade.

The IRS contends, however, that the Du Pont-Conoco transaction was a tax-free reorganization, so the Seagram loss was deferred on the exchange and, in effect, resides in the basis of the Du Pont stock.

For a merger to be a tax-free reorganization, the transaction must show "continuity of proprietary interest.'' This means the "historic" shareholders of the target corporation must receive and retain a significant amount of equity in the acquiring corporation. "Significance" relates to the equity component of the total consideration received. For advance ruling purposes, the IRS requires at least 50% of the merger consideration to be stock. (The case laws suggest a continuity percentage of as little as 25% would suffice. )

In seeking to sustain its deduction, Seagram is arguing it was not a historic shareholder of Conoco, so the Du Pont stock it received in the merger does not count positively toward satisfying a continuity of proprietary interest. Presumably, it is contending that because its ownership of Conoco was transitory, it never rose to the level of historic ownership.

Observation: It appears that if the Tax Court accepts Seagram's argument, every putative tax-free reorganization will be imperiled. This is because when a merger is announced, the stock gravitates to the hands of arbitrageurs and other short-term holders. When the deal is finally consummated, very little of the buyer's stock is conveyed to the requisite historic shareholders.

Although this is an issue the IRS has not chosen to pursue (or enforce), the Seagram litigation could raise the IRS's consciousness and lead to routine continuity challenges of garden-variety mergers.
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Title Annotation:J.E. Seagram Corp., E.I. Du Pont De Nemours and Co.
Publication:Journal of Accountancy
Article Type:Brief Article
Date:Aug 1, 1992
Previous Article:Defining "activity" for passive losses.
Next Article:Foreign tax reform bill.

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