How to Exit a Controlled Foreign Corporation

Faced with a buyer wary of liabilities, a company reorganizes a CFC.
Robert WillensFebruary 7, 2011

Ownership in a controlled foreign corporation (CFC) is a designation many companies feel is a must to avoid. But in order to extract itself from that entanglement, a company may find it necessary to “decontrol” the structure of the CFC. That was true in a situation involving a CFC we’ll call Bullseye.

In a letter ruling issued on January 22, the Internal Revenue Service reported that Bullseye’s stock is owned by two foreign companies indirectly owned by U.S. shareholders — and hence CFCs themselves. Let’s call them Bullet Corp. and Circle Corp. When Bullet tried to sell its Bullseye shares to a foreign company we’ll dub Buyer Co., Bullet ran into a problem.

Bullet’s difficulties arose when Buyer refused to make the deal because of concerns about Bullseye’s potential contingent liabilities. For its part, Circle was similarly resistant to picking up Bullseye shares. As a result of the impasse, according to the IRS, the following transaction was proposed:
• Bullet forms a separate entity called LittleBullet that isn’t regarded as separate from Bullet for U.S. tax purposes. Bullet and LittleBullet form a company called ThirdBullet.
• Bullet acquires Circle’s interest in Bullseye in exchange for a note.
• Bullseye closes down and distributes all of its assets and liabilities to Bullet.
• Bullet transfers all of Bullseye’s assets and liabilities (excluding the contingent liabilities) to ThirdBullet.
• Bullet transfers a certain percentage of its interest in ThirdBullet to Circle to satisfy the note issued to it by Bullet.
• Finally, Bullet sells its remaining percentage of interest in ThirdBullet to Buyer Co. for cash.

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In its letter ruling (LTR 201003014), the IRS reported that the foregoing steps would be treated as a “direct transfer” by Bullseye of all of its assets to ThirdBullet in exchange for all of ThirdBullet’s stock and the assumption by ThirdBullet of Bullseye’s liabilities. By deeming the transaction a direct transfer — essentially ruling that the steps boiled down to a reorganization — the service found it would be tax-free.

And what about those contingent liabilities? Bullet assumed them when Bullseye dissolved. Chances are that was fine with Bullet’s management, which had succeeded in shedding its role as the partial owner of a CFC.

Contributor Robert Willens, founder and principal of Robert Willens LLC, writes a weekly tax column for

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