Rev. Rul. 66-332

Advice has been requested whether, under the circumstances set forth below, the class A stock and preferred stock are `section 306 stock' within the meaning of section 306(c) of the Internal Revenue Code of 1954.

A corporation had outstanding $100 par value common stock. Pursuant to a plan of reorganization (recapitalization) under section 368(a)(1)(E) of the Code the common stock was reclassified as class A stock and each shareholder of the corporation could continue to hold his class A stock or exchange, over a 30-day period, all or part of the class A stock for units consisting of one share of $100 par value new preferred stock and one share of $1 par value new class B stock. The exchange ratio was one share of class A stock for each unit of one share of preferred stock and one share of class B stock.

The preferred stock is entitled to a cumulative dividend of $7 per share before any dividend is paid on either class A or class B stock. The class A stock is entitled to a cumulative dividend of $7 per share before any dividend is paid on class B stock. After all cumulative dividends on the preferred stock and the class A stock have been paid, the class A and class B stock share equally in all further dividends. The preferred stock is entitled to a preference on any distribution of assets in the amount of its par value. After this preference has been satisfied the class A stock is entitled to a preference on any distribution in the amount of one and one-half times the amount of its par value and thereafter the class A and class B stock share equally in any further distribution of assets. The class A and class B stock both have voting rights. The preferred stock is nonvoting except in case of a dividend arrearage.

During the 30-day exchange period certain shareholders of the corporation exchanged all of their shares of class A stock for units of preferred and class B stock. Other shareholders exchanged only portions of their class A stock for units of preferred and class B stock. Still other shareholders exchanged none of their class A stock for units of preferred and class B stock.

The recapitalization is a reorganization under section 368(a)(1)(E) of the Code and the exchanges are nontaxable under section 354(a)(1) of the Code.

Section 306(c)(1)(B) of the Code provides, in part and in effect, that `section 306 stock' is any stock, except common stock, which is received by a shareholder in pursuance of a plan of reorganization under section 368 of the Code with respect to the receipt of which gain or loss to the shareholder was to any extent not recognized by reason of section 354 of the Code, provided the effect of the transaction is substantially the same as the receipt of a stock dividend.

The effect of the transaction to those shareholders of the corporation who exchanged all of their class A stock for units of preferred and class B stock is substantially the same as the exchange of their old common stock for shares of class B stock and the receipt of a stock dividend in shares of preferred stock.

The shareholders who exchanged only a portion of their class A stock for units of preferred and class B stock, still own class A stock which is preferred both as to dividends and distributions over the class B stock. Therefore, the class A stock is not common stock as that term is used in section 306(c)(1)(B) of the Code. Thus, the effect of the transaction as to them is substantially the same as the exchange of their old common stock for shares of class B stock and the receipt of a stock dividend in shares of class A stock and other preferred stock.

The shareholders who retained all of their class A stock own no shares of class B stock. The effect of the transaction as to them is substantially the same as the exchange of their old common stock for participating class A preferred stock. Had cash been received in lieu of the class A stock, such cash would not have been treated as a dividend. See section 1.306-3(d) of the Income Tax Regulations. Therefore, the retention of class A stock by these shareholders is not substantially the same as their having received a stock dividend.

Accordingly, (1) the preferred stock is `section 306 stock' in the hands of those shareholders who exchanged all of their class A stock for units of preferred and class B stock, (2) the class A stock retained as well as the preferred stock is `section 306 stock' in the hands of those shareholders who exchanged only a portion of their class A stock for units of preferred and class B stock, and (3) the class A stock retained by those shareholders who exchanged none of their class A stock for units of preferred and class B stock is not `section 306 stock.'