Tax Impact of Demutualization – The Saga Continues

In August 2008, the U.S. Court of Federal Claims ruled against the IRS position of assigning zero income tax basis to stock received in an insurance company demutualization.   Instead, the court ruled that basis is to be allocated to the stock of the policy up to the amount of the selling price of the stock.  The court’s opinion comes as no surprise – they ruled in November of 2006 against an IRS motion for summary judgment.  That meant the case was to go to trial to determine the basis of the shares.  If the court had agreed with the IRS, it would have granted summary judgment.  So, we have known since that time that IRS would lose the case – the shares would have a positive basis and not all of the gain would be taxable. What was not known was how income tax basis would be computed.

In late 2009, the U.S. Court of Appeals for the Federal Circuit affirmed the U.S. Court of Federal Claims by issuing a decision without a published opinion.     However, IRS continued to litigate the issue in an Arizona federal district court.   On July 9, 2012, the court, on motion for summary judgment, disagreed with both the IRS position and the taxpayer’s position setting the stage for a trial on the issue of how basis is to be allocated between the premium and the stock.

On January 15, 2013, a California federal district court determined, on opposing motions for summary judgment, that the taxpayer failed to establish that the taxpayer had any income tax basis in the shares of stock received upon demutualization.

In mid-March, 2013, a federal district court in Arizona (the court that set the stage for a trial on basis computation) delivered its opinion on the basis computation.

As the issue continues to unfold in the courts, the demutualization issue raises filing issues for practitioners.

Download Demutualization Details and Form 1040X: forms.pdf

Download Explanation of Changes (attachment to Form 1040X): attachment to 1040x.pdf

Full PDF: 

CALT does not provide legal advice. Any information provided on this website is not intended to be a substitute for legal services from a competent professional. CALT's work is supported by fee-based seminars and generous private gifts. Any opinions, findings, conclusions or recommendations expressed in the material contained on this website do not necessarily reflect the views of Iowa State University.

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