Treas. Reg. § 1.338(h)(10)-1(e), Ex. 1

338(h)(10) Election for Some But Not All Targets

A section 338(h)(10) election can be made for some target corporations in a chain but not others. Where the election is made, the selling group recognizes no gain or loss on the stock sale and the target is treated as selling its assets; where it is not made, the seller must recognize gain or loss on the deemed sale of that subsidiary’s stock.

Treas. Reg. § 1.338(h)(10)-1(e), Example 1 • Section 336 & 338 Elections

338(h)(10) Election Explained

S1 owns all of the T stock, and T owns all of the stock of T1 and T2. S1 is the common parent of a consolidated group that includes T, T1, and T2. P makes a qualified stock purchase of all of the T stock from S1. S1 joins with P in making a section 338(h)(10) election for T and for the deemed purchase of T1. A section 338 election is not made for T2.

S1 does not recognize gain or loss on the sale of the T stock, and T does not recognize gain or loss on the sale of the T1 stock, because section 338(h)(10) elections are made for T and T1. Gain or loss realized on the sale of the T or T1 stock is therefore not taken into account in earnings and profits.

Because a section 338 election is not made for T2, however, T must recognize any gain or loss realized on the deemed sale of the T2 stock. See § 1.338-4(h). The results would be the same if S1, T, T1, and T2 are not members of any consolidated group, because S1 and T are selling affiliates.

Key Takeaways

The election is target by target

A section 338(h)(10) election can be made for some targets in a chain and not others. Here it is made for T and T1 but not for T2.

No gain on the elected stock sales

Where the election is made, the selling affiliate recognizes no gain or loss on the stock sale; the target is instead treated as selling its assets in a deemed asset sale.

Gain survives on the non-elected subsidiary

Because no section 338 election is made for T2, T must recognize the gain or loss realized on the deemed sale of the T2 stock under section 1.338-4(h).

Consolidated status is not required

The same results follow whether or not S1, T, T1, and T2 are members of a consolidated group, because S1 and T are selling affiliates.

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