ABA Seeks Certainty on Affiliation for Professional Corporations

November 18, 2021

Hon. Charles P. Rettig
Commissioner
Internal Revenue Service
1111 Constitution Avenue, NW
Washington, DC 20224

Re: Comments Concerning Proposed Guidance under Section 1504

Dear Commissioner Rettig:

Enclosed please find comments concerning a proposed revenue ruling and revenue procedure under Section 1504 regarding the ability of a professional corporation to join in the filing of a consolidated return. These comments are submitted on behalf of the Section of Taxation and have not been reviewed or approved by the House of Delegates or the Board of Governors of the American Bar Association. Accordingly, they should not be construed as representing the position of the American Bar Association.

The Section of Taxation would be pleased to discuss these comments with you or your staff.

Sincerely,

Julie A. Divola
Chair, Section of Taxation
American Bar Association
Washington, DC

Enclosure

cc:
Hon. Lily Batchelder, Assistant Secretary (Tax Policy), Department of the Treasury
Mark Mazur, Deputy Assistant Secretary (Tax Policy), Department of the Treasury
Thomas West, Deputy Assistant Secretary, Domestic Business Tax, Department of the Treasury
Krishna P. Vallabhaneni, Tax Legislative Counsel, Department of the Treasury
Colin Campbell, Attorney-Advisor, Department of the Treasury
William M. Paul, Principal Deputy Chief Counsel and Deputy Chief Counsel (Technical), Internal Revenue Service
Robert H. Wellen, Associate Chief Counsel (Corporate), Internal Revenue Service
Russell G. Jones, Special Counsel, Internal Revenue Service
Robert H. Liquerman, Special Counsel, Internal Revenue Service
Marie C. Milnes-Vasquez, Special Counsel, Internal Revenue Service
Julie T. Wang, Senior Counsel, Branch 2, Internal Revenue Service
Bailey A. Timmons, Attorney, Branch 1, Internal Revenue Service

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AMERICAN BAR ASSOCIATION
SECTION OF TAXATION

Comments Concerning Proposed Revenue Ruling and Revenue Procedure under Section 1504 of the Internal Revenue Code Regarding the Ability of a Professional Corporation to Join in the Filing of a Consolidated Return

These comments (“Comments”) are submitted on behalf of the American Bar Association Section of Taxation (the “Section”) and have not been reviewed or approved by the House of Delegates or Board of Governors of the American Bar Association. Accordingly, they should not be construed as representing the position of the American Bar Association.

Principal responsibility for preparing these comments was exercised by Bryan Collins, William McCanless, Maury Passman, Jeffrey Vogel, and Kristie Withrow. Significant contributions were made by William Pauls, Brian Peabody, Brianna Baily, Erik Corwin, Elliot Freier, Graham Magill, Olivia Orobona, Joseph Pari, Mark Silverman, Stephen Wegener, and Thomas Wessel. These Comments have been reviewed by Anthony Sexton, Chair of the Affiliated & Related Corporations Committee, Lisa Zarlenga of the Committee on Government Submissions, and Kurt Lawson, Vice-Chair for Government Relations for the Tax Section.

Although members of the Section may have clients who might be affected by the federal tax principles addressed by these Comments, no member who has been engaged by a client (or who is a member of a firm or other organization that has been engaged by a client) to make a government submission with respect to, or otherwise to influence the development or outcome of one or more specific issues addressed by, these Comments has participated in the preparation of the portion (or portions) of these Comments addressing those issues. Additionally, although the Section's diverse membership includes government officials, no such official was involved in any part of the drafting or review of these Comments.

Contacts: Bryan Collins
202-419-1413
bryan.collins@Andersen.com

Maury Passman
202-533-3775
mpassman@kpmg.com

Jeffrey Vogel
704-370-4372
jlvogel@kpmg.com

Date: November 18, 2021

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Table of Contents

EXECUTIVE SUMMARY

COMMENTS

I. Background

II. DISCUSSION

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EXECUTIVE SUMMARY

These Comments concern the issue of affiliation under section 1504(a)¹ for professional corporations. Pursuant to section 1501, an affiliated group of corporations has the privilege of filing a consolidated U.S. federal income tax return in lieu of filing separate returns. For this purpose, section 1504 defines the term “affiliated group” as one or more chains of includable corporations connected through stock ownership with a common parent corporation, but only if the common parent owns directly stock meeting the requirements of section 1504(a)(2) in at least one of the other includible corporations; and stock meeting the requirements of section 1504(a)(2) in each of the includible corporations (except the common parent) is owned directly by one or more of the other includible corporations. Stock ownership meets the requirements of section 1504(a)(2) only if it possesses at least 80% of the total voting power of the stock of the corporation, and has a value equal to at least 80% of the total value of the stock of such corporation. In these Comments, we refer to these requirements together as the “Section 1504(a) Affiliation Requirement.”

Many states have laws preventing the corporate practice of certain professions, such as medicine, dentistry, veterinary, legal, accounting, architecture, and engineering.² State law often allows members of these professions to form professional corporations,³ which generally require that only professionals licensed in that state may be shareholders and/or serve as directors of the professional corporation.

In order to combine professional corporations engaged in these professions, corporate enterprises might establish structures whereby a management corporation will enter into certain contracts and other arrangements with a professional corporation that provide the management corporation with effective control and economic ownership of the business of the professional corporation, while the licensed professionals retain discretion regarding the practice of the profession.⁴ To adhere to state law in these arrangements, the licensed professionals retain legal title to the stock of the professional corporation and the authority to make decisions relating to the practice of the profession. But, because beneficial ownership and not mere legal title is relevant for purposes of the Section 1504(a) Affiliation Requirement, a question arises in this context as to whether the professional corporation is a member of the management corporation's affiliated group under section 1504(a).

These types of arrangements are increasingly common across multiple industries where state law makes special provision for professional corporations. For example, with respect to the medical profession, a recent report noted the telehealth industry has become increasing popular as a result of the COVID-19 pandemic and could eventually grow to a $250 billion industry.⁵ This growth is likely to result in a continued rise in professional corporations in the medical industry associating with larger corporate enterprises that deliver telehealth services. As a result, there is a growing need to provide taxpayers with precedential guidance to alleviate taxpayer uncertainty with respect to whether professional corporations are members of an affiliated group.

We recommend that the U.S. Department of the Treasury (“Treasury”) and the Internal Revenue Service (the “Service”) issue a revenue ruling or other precedential guidance (the “Revenue Ruling”) that generally provides that the Section 1504(a) Affiliation Requirement (i) is met where the contractual agreements vest beneficial ownership of the stock of the professional corporation in the management corporation, and the contractual agreements are legally enforceable under state law, but (ii) is not met where the contractual agreements vest beneficial ownership of the stock of the professional corporation in the management corporation but the contractual agreements are not legally enforceable under state law. As discussed in greater detail below, we generally believe that the Section 1504(a) Affiliation Requirement should be satisfied where relevant contractual relationships establish appropriate beneficial ownership and are enforceable under state law; if either of those requirements is not satisfied, then we believe the Section 1504(a) Affiliation Requirement is not satisfied. We do not believe that the Revenue Ruling should attempt to set forth when or whether beneficial ownership has been satisfied or any “litmus test” for whether such contractual relationships are enforceable under state law: both of those issues are factual issues which we believe are best left to a situation-by-situation analysis.

We also recommend that Treasury and the Service issue a revenue procedure (the “Revenue Procedure”) to provide transitional relief. The Revenue Procedure would provide relief for a variety of situations, particularly those that otherwise could impact the validity of a consolidated return, such as an affiliated group's failure to include a member in its first consolidated return.

Given the urgent need for precedential guidance addressing this topic, we recommend that any guidance be limited to the issue of affiliation under section 1504(a) in situations involving professional corporations. Although we recognize that many of the principles we discuss below might have implications beyond section 1504(a),⁶ or implications with respect to the application of section 1504(a) beyond the professional corporation context, those considerations are outside the scope of these Comments.

COMMENTS

I. Background

A. The Election to File a Consolidated Return

Section 1501 generally provides that an affiliated group of corporations may elect to file a consolidated return for U.S. federal income tax purposes. The basic purpose of the consolidated return regime is to ensure that the tax liability of an affiliated group of corporations as a whole is returned, determined, assessed, and collected in such manner as clearly to reflect income and, in so doing, to reduce the effect that the existence of separate affiliated corporations has on the aggregate tax liability of an affiliated group of corporations.⁷ For this reason, taxpayers might derive certain advantages from the filing of a consolidated return including, but not limited to, the ability to use a member's losses to offset other members' income or gain, the deferral of income or gain from intercompany transactions under Treas. Reg. § 1.1502-13, stock basis investment adjustments under Treas. Reg. § 1.1502-32, the exclusion of intercompany distributions from taxable income, and the determination of percentage limitations for certain tax-free provisions on a consolidated basis.⁸ The Service also might derive certain benefits from the application of the consolidated return regime to affiliated groups of corporations by prescribing rules to clearly reflect the taxable income of the consolidated group.⁹

If an election to file a consolidated return is made, all members of the affiliated group that are includible corporations generally must be included in the consolidated return.¹⁰ Section 1504(b) defines the term “includible corporation” as any corporation other than: (i) a corporation exempt from taxation under section 501; (ii) with some exceptions, an insurance company subject to taxation under section 801; (iii) with some exceptions, a foreign corporation; (iv) a regulated investment company; (v) a real estate investment trust; (vi) a DISC; or (vii) an S corporation. An election to file a consolidated return is made at the time the affiliated group's first consolidated return is filed and requires that each subsidiary member of the consolidated group execute and attach to such return a Form 1122, Authorization and Consent of Subsidiary Corporation to be Included in a Consolidated Income Tax Return. Once an initial election to file a consolidated return is made, such an election generally is irrevocable, and the affiliated group may not elect to discontinue filing a consolidated return without obtaining the prior consent of the Service.¹¹

An omission of an includible corporation from the initial consolidated return could impact the validity of the consolidated return election and, as such, the computation of taxable income for members of an affiliated group.¹² Thus, clarity on whether a corporation is part of an affiliated group of includible corporations is relevant to both taxpayers and the Service. As noted above, an includible corporation is a member of an affiliated group of corporations only if the Section 1504(a) Affiliation Requirement — requiring ownership of stock possessing at least 80% of the total voting power and value of the stock of a corporation — is met with respect to the stock in that corporation.¹³ As discussed in Part I.B.1. below, in assessing whether the Section 1504(a) Affiliation Requirement is satisfied, beneficial ownership of stock, and not mere legal title, is the relevant standard. Accordingly, although state law generally requires that the shareholders of a professional corporation be professionals licensed in the state of incorporation, we do not believe this fact necessarily precludes a professional corporation from being a member of an affiliated group of corporations under certain circumstances.

B. Ownership for Purposes of the Section 1504(a) Affiliation Requirement

1. Beneficial Ownership and Not Mere Legal Title

In determining property ownership for U.S. federal income tax purposes, the courts, Treasury and the Service generally focus on who has the benefits and burdens of ownership, and not solely on who holds legal title to the property.¹⁴ The Supreme Court in Corliss v. Bowers¹⁵ stated that “taxation is not so much concerned with the refinements of title as it is with actual command over the property taxed — the actual benefit for which the tax is paid.”¹⁶ Similarly, as explained below, the courts, Treasury, and the Service have consistently interpreted the “ownership” requirements for purposes of satisfying the Section 1504(a) Affiliation Requirement as referencing the beneficial ownership of the relevant stock.

Early in the history of the consolidated return regime, the Board of Tax Appeals considered in Macon, Dublin & Savannah Railroad Co. v. Commissioner¹⁷ whether legal title or beneficial ownership was relevant for purposes of the Section 1504(a) Affiliation Requirement. In that case, a parent corporation held all of the stock of a subsidiary corporation but transferred 54% of the subsidiary corporation's stock to a third party pursuant to what was in form a sale and purchase agreement. However, the understanding of both parties was that the third party would act as a nominee of the parent corporation with respect to the stock in the subsidiary. In addition, the parent corporation retained an option to repurchase the shares at any time within the five-year period following the sale.

On these facts, the Board dismissed the argument that ownership of legal title of the subsidiary's stock by a nominee caused the subsidiary to cease its affiliation with the parent corporation, concluding that “[t]he direct ownership required [for affiliation purposes] is not merely possession of the naked legal title, but beneficial ownership, which carries with it dominion over the property. Any other conclusion would lead to absurd and ridiculous results.”¹⁸

Treasury and the Service generally have reached similar conclusions in published revenue rulings.¹⁹ For example, in Revenue Ruling 70-469,²⁰ P corporation owned 80% of the stock of S corporation. For valid corporate purposes, P caused the name of A, as nominee, to appear on the stock book and records of S as the owner of one of the shares of S. Placing the record ownership of the share in A's name qualified A as a director of S. A was at all times legally obligated to hold and deal with such share according to the orders and direction of P. The certificate representing the share was endorsed to A, transfer was made upon the stock book of S, A's name was entered upon the stock book as the owner of the share, and A endorsed the new certificate in blank and delivered it to P, which retained it in its possession. The Service concluded in the ruling that P retained “direct” ownership of the shares of the S stock because “A's relationship to P is essentially that of an agent to his principal,” and P possessed the entire beneficial ownership of the share.

The Tax Court in Miami National Bank v. Commissioner²¹ extended the idea that beneficial ownership is “direct ownership” in situations beyond nominee fact patterns. In that case, the Tax Court concluded that a parent corporation was the owner for U.S. federal income tax purposes of stock that was held in a subordinated securities account with a broker, where the parent corporation retained the rights to vote the shares and to dividends. The petitioner was a bank, the stock of which was held by several shareholders. Shareholders owning more than 80% of the petitioner's single class of stock entered into an agreement to sell that stock to Data Lease Corporation. Prior to the date of the transaction, one shareholder (Mr. Cohen) had transferred record title to some stock to his broker as security for a subordinated securities account. The transfer permitted the broker to take the stock into account in meeting its minimum capital requirements.

Pursuant to his agreement with the broker, Mr. Cohen was prevented from taking the stock from the broker unless he substituted cash or other property with an equivalent fair market value in its stead. However, Mr. Cohen was not prohibited from transferring his interest in the stock (although his assigns would continue to be subject to the same agreement). Further, Mr. Cohen retained his right to dividends with respect to the stock, as well as the right to vote the shares. It was these retained rights that Mr. Cohen transferred to Data Lease Corporation in exchange for consideration.

During the taxable years at issue, any dividends paid with respect to the stock in the subordinated securities account were paid to the broker, who then credited those dividends to Mr. Cohen's account. Data Lease Corporation reported those amounts as income, and credited them toward the unpaid purchase price of Mr. Cohen's stock. Eventually, Mr. Cohen transferred cash equal to the fair market value of his stock in the petitioner to the broker, and received his stock. Shortly thereafter, Mr. Cohen transferred the stock certificates to Data Lease Corporation.

For the years at issue in the case, petitioner's income was included in the consolidated federal income tax return filed by Data Lease Corporation and its affiliates. Essentially, Data Lease Corporation and petitioner took the position that Data Lease Corporation's beneficial ownership of its shares constituted ownership of the shares for purposes of determining whether the Section 1504 Affiliation Requirement was satisfied, notwithstanding retention of legal title of the shares by the broker.

The Service challenged the petitioner's position, arguing that Data Lease Corporation was not the “direct owner” of the petitioner stock held in the subordinated securities account. It acknowledged that the courts had consistently concluded that “ownership” for purposes of the Section 1504(a) Affiliation Requirement should be interpreted as “beneficial ownership,” but contended that only in nominee or escrow situations is beneficial ownership sufficient to comply with the statutory ownership requirements. The Tax Court rejected this argument, concluding that Data Lease Corporation was the beneficial owner of the shares and therefore the “direct owner” for purposes of the Section 1504 Affiliation Requirement.

Several years later, in Revenue Ruling 84-79,²² Treasury and the Service similarly extended the definition of “direct ownership” for purposes of the Section 1504 Affiliation Requirement. In the ruling, P owned all of the outstanding stock of corporation S. To satisfy Federal Aviation Administration regulations, P transferred all of its S stock to a revocable voting trust. Under the terms of the trust agreement, the trustee had all voting powers associated with the S stock during the period the trust agreement was in force. However, the trustee could not vote the S stock in favor of either a sale of substantially all of S's assets or dissolution of S without P's authorization. In addition, the trust agreement provided that all dividends (except stock dividends) would be paid directly to P. The trustee was not able to alienate or dispose of any of the S stock without P's authorization, and P had the ability to remove the trustee at any time without cause and appoint a qualified successor trustee. Finally, P could amend or terminate the trust agreement at any time.

Revenue Ruling 84-79 concluded that P's ownership of the S stock is equivalent to the ownership P had in the share that A held in Revenue Ruling 70-469,²³ and that P therefore satisfied the Section 1504(a) Affiliation Requirement with respect to the S stock. In a General Counsel Memorandum issued shortly before Revenue Ruling 84-79, the Service noted that “possession of everything but legal title is equivalent to direct ownership.”²⁴ The Service has also issued multiple private letter rulings in contexts similar to Revenue Ruling 84-79 concluding that the Section 1504(a) Affiliation Requirement is met in situations where stock of a subsidiary is transferred to a voting trust.²⁵

2. Determining Beneficial Ownership

As illustrated above, the courts, Treasury, and the Service have concluded that beneficial ownership, and not mere legal title, is relevant for purposes of the Section 1504(a) Affiliation Requirement. Therefore, it is necessary to understand the framework for assessing whether beneficial ownership of stock lies with a person other than the holder of legal title to the shares. Various factors generally are considered by the courts, Treasury, and the Service in assessing who holds the benefits and burdens of property ownership for U.S. federal income tax purposes.²⁶ In the context of stock ownership, the Second Circuit in Himmel v. Commissioner²⁷ concluded, in considering whether a redemption was essentially equivalent to a dividend, that stock generally involves three important rights: (i) to vote, and thereby exercise control; (ii) to participate in current earnings and accumulated surplus; and (iii) to share in net assets on liquidation.²⁸

These enumerated rights, often referred to as the “Himmel rights,” also have been cited by Treasury and the Service in defining the rights inherent in a shareholder's interest²⁹ and utilized by Treasury and the Service in a variety of contexts where determining beneficial ownership of stock is necessary for U.S. federal income tax purposes.

For instance, the Service has concluded that a purchasing corporation does not have beneficial ownership of escrowed shares for purposes of the Section 1504(a) Affiliation Requirement where the selling shareholders retain voting and distribution rights with respect to the shares until such shares are released from escrow. For example, in CCA 201414015,³⁰ a purchasing corporation agreed to acquire 100% of the outstanding stock of a target corporation. In Year 1, the purchasing corporation acquired from the sellers an amount of stock constituting less than 80% of the target corporation's sole class of outstanding stock. Pursuant to the stock purchase agreement, the remaining target shares could be purchased beginning in Year 2, and were placed in escrow until purchased. Pursuant to the escrow arrangement, the sellers retained the right to vote and receive dividends on the escrowed shares.

The purchasing corporation argued that because it was unconditionally and irrevocably obligated to complete the purchase of the target shares under the terms of the stock purchase agreement, it was affiliated with the target corporation within the meaning of section 1504(a) prior to Year 2. The Service disagreed and concluded that the benefits and burdens of ownership of the escrowed shares were not transferred to the purchasing corporation before Year 2. The Service based its conclusion on the fact that the sellers maintained voting rights and the rights to all distributions on the escrowed stock until the date those shares were actually paid for and released from escrow.³¹

In generic legal advice memorandum (“GLAM”) 2012-007, the Service highlighted additional factors that have also been considered by the courts in determining tax ownership of stock when assessing whether a bona fide stock sale occurred for U.S. federal income tax purposes.³² The issue presented in the GLAM was whether a parent corporation satisfied the Section 1504(a) Affiliation Requirement with respect to a subsidiary corporation where the parent corporation engaged in a purported purchase of some subsidiary stock from an unrelated counterparty in exchange for the parent corporation's debt instrument. If the parent corporation was appropriately viewed as the owner of the purchased shares for U.S. federal income tax purposes, the parent corporation would own enough shares of the subsidiary corporation's stock to satisfy the Section 1504(a) Affiliation Requirement.

Under the facts of the GLAM, the parent corporation's debt instrument had an effective yield that was less than one-third of the comparable yield at which the parent corporation would have generally issued a fixed rate instrument. The debt instrument also entitled the counterparty to exchange the instrument for the same class and quantity of subsidiary stock as that sold to the parent corporation after a certain period of time, regardless of the price of the subsidiary stock at the time of the exchange. In addition, the purchase agreement provided that the counterparty could exchange the instrument earlier if the subsidiary declared a dividend payable in other than cash or stock or declared a dividend that exceeded a certain threshold amount per share. In connection with the purchase, the parent corporation and the counterparty also entered into a pledge agreement under which the subsidiary's shares that were purportedly sold to the parent corporation were pledged as collateral for the parent corporation's debt instrument. Under the terms of the pledge agreement, neither the parent corporation nor the counterparty could sell, assign, or otherwise dispose of the subsidiary's shares.

The Service began its analysis in the GLAM by stating that to determine whether the purported sale would be respected as such for U.S. federal income tax purposes, it must be determined whether the parent corporation possessed meaningful benefits and burdens associated with the ownership of the subsidiary stock. The Service noted that in the context of a transfer of stock, the following factors had been found by courts to be particularly relevant: (i) which party has the opportunity to share in gain from an appreciation in value of the stock and bears the risk of loss from a decline in value of the same; (ii) which party has legal title to, and the ability to dispose of, the stock; (iii) which party has the right to vote the stock; (iv) which party has possession of the stock; and (v) which party has the right to receive dividends.

When applying the first of these factors to the facts considered in the GLAM, the Service determined that the counterparty effectively retained all of the potential for gain and a substantial portion of the risk of loss with respect to the stock. Specifically, the Service noted that the economic expectation was that the counterparty would exchange the parent corporation's instrument for the subsidiary stock during the exchange period, given the high probability that the fair market value of the stock would be much more than the parent corporation's instrument. The Service believed that the subsidiary stock would have to decline in value precipitously before the counterparty would be expected to retain the parent corporation's debt instrument.

Moreover, although the parent corporation was entitled to vote the purchased stock, the Service reasoned that the nature of the transaction belied the weight that should be afforded to this factor. Because the parent corporation already owned a majority of the subsidiary corporation's voting stock before the purported sale, the Service did not believe the parent corporation's ability to control and manage the subsidiary corporation was affected as a result of the purported sale. Further, the Service believed the parent corporation's ability to receive dividends on the purchased stock was effectively limited because, had the subsidiary corporation declared a dividend exceeding the amount specified in the pledge agreement, it would have been in the counterparty's economic interest to exercise its exchange right and reclaim the shares. Based on this analysis, the Service concluded in the GLAM that the parent corporation was not appropriately viewed as the beneficial owner of the purchased subsidiary stock.

Drawing from the case law and administrative guidance discussed above, we believe that when assessing whether beneficial ownership of stock lies with some person other than the legal owner of the shares, the appropriate factors to consider include the three factors enumerated in Himmel — the right to vote,³³ the right to receive dividends, and the right to receive distributions upon liquidation — as well as which party benefits from appreciation in the value of the stock (or bears the risk of loss from a decline in the value of the stock). As demonstrated in GLAM 2012-007, the facts and circumstances of the particular situation must be examined in assessing how much weight to give any particular factor.

II. DISCUSSION

A. Background of Guidance in the Context of Professional Corporations

1. Description of Typical Arrangement

As described above, in the context of professional corporations, there has long been uncertainty regarding whether a professional corporation may be affiliated with a consolidated group if applicable state law restricts the ownership of the professional corporation to a licensed professional.

For example, under the “corporate practice of medicine doctrine” in many states, a corporation generally is prohibited from practicing medicine and is often restricted from participating as a shareholder or owner of a professional corporation. Similar laws in certain states are also applicable to other professions such as dentistry, veterinary, legal, accounting, architecture, and engineering. However, for a variety of reasons, state law often allows members of these professions to form professional corporations, which may employ or contract with the licensed professionals to provide professional services. Furthermore, these state laws generally restrict how a professional corporation can be structured by providing that only licensed professionals in that state can own shares in the professional corporation or serve as directors of the professional corporation (or both).³⁴

A management corporation seeking a business relationship with a professional corporation might establish various contractual and other arrangements with the professional corporation and licensed professionals to provide administrative and management services while complying with these state law restrictions. Under a typical arrangement, the management corporation contracts with a licensed professional to have the licensed professional serve as the professional corporation's sole shareholder. The licensed professional generally pays a nominal amount to acquire and hold legal title to all of the stock of the professional corporation. In addition, the management corporation, the licensed professional, and the professional corporation enter into several agreements designed to transfer the economic benefits and effective control of the professional corporation to the management corporation while ensuring that the management corporation does not engage in the professional practice. Although the specific agreements might vary state by state and among different taxpayers, they usually include a “Management Services Agreement” (or support services agreement), a “Director Agreement,” and a “Stock Transfer Restriction Agreement.” It is not unusual for certain of these agreements to be combined. Additional agreements might also include an option agreement, which might be similar to a Stock Transfer Restriction Agreement in that it generally allows the management corporation to purchase or transfer the shares of the professional corporation upon certain actions by the licensed professional, and a nominee agreement, which often is used to indicate control over the board of directors of the professional corporation.

Typically, under a Management Services Agreement between the management corporation and the professional corporation, the management corporation provides certain administrative and support services to the professional corporation in exchange for a management fee. These services might include financial reporting, billing, information systems support, and other back-office and administrative services. The Management Services Agreement might also provide that the management corporation manages all affairs of the professional corporation to the extent such management does not violate state law.

Under a Director Agreement between the management corporation and the licensed professional, the licensed professional usually serves as the sole director of the professional corporation, overseeing and coordinating the management corporation's business objectives for the professional corporation. Often, the management corporation has the right to terminate the Director Agreement without cause or penalty, which generally triggers a transfer under the Stock Transfer Restriction Agreement.

Finally, the licensed professional and the professional corporation usually enter into a Stock Transfer Restriction Agreement, to which the management company is generally also party. Under this agreement, the licensed professional generally is prohibited from transferring any shares of stock in the professional corporation.³⁵ The Stock Transfer Restriction Agreement typically restricts certain activities of the professional corporation without the consent of the management corporation, such as paying a dividend or making a distribution with respect to its stock, or issuing additional equity interests or rights to acquire additional equity interests in the professional corporation. The Stock Transfer Restriction Agreement also usually restricts certain activities of the licensed professional, such as consenting to a liquidation or dissolution of the professional corporation. In addition, the Stock Transfer Restriction Agreement generally provides that upon the occurrence of certain events (e.g., the termination of the Director Agreement or the licensed professional's breach of the terms of the agreement), the licensed professional must transfer all of the shares of the professional corporation to a transferee designated by the management corporation.

As described in Part I.B.1. above, for purposes of the Section 1504(a) Affiliation Requirement, beneficial ownership of stock in a corporation is relevant for determining whether the corporation is affiliated with a consolidated group, rather than legal title to the stock. Thus, an issue arises as to whether the Section 1504(a) Affiliation Requirement can be satisfied by the management corporation in these situations, even though the licensed professional owns legal title to the stock of the professional corporation.

2. Non-Reliance Guidance Issued by the Service

The Service has issued three private letter rulings permitting professional corporations to join in the filing of a consolidated U.S. federal income tax return as members of an affiliated group.³⁶

a. PLR 9605015

In PLR 9605015,³⁷ a member of an affiliated group of corporations that filed a consolidated return acquired three primary care medical practices, of which two were at issue in the PLR. The acquisitions were structured through the formation by the acquiring corporation of two new professional corporations that acquired the intangible assets of the target medical practice, employed the physician sellers, and provided medical care to patients. The tangible assets of the target medical practices were acquired by a management services corporation (a subsidiary of the acquiring corporation), which then provided management and administrative services to each professional corporation.

A physician shareholder held legal title to the professional corporations' stock to comply with state law, and the funds used to acquire such stock were loaned from the acquiring corporation to the physician shareholder. The loans were secured by a pledge agreement between the physician and the acquiring corporation, and the acquiring corporation held an option allowing it to reacquire the stock of the professional corporations at any time. The pledge agreements provided that: (i) the physician must give the acquiring corporation 10 days' notice prior to exercising any right to vote, must consult with the acquiring corporation with regard to any vote, and must give five days' notice of his intention with respect to the vote; (ii) if the physician did not intend to comply with the acquiring corporation's vote recommendation, the acquiring corporation would exercise its option to purchase the physician's stock through another licensed physician who would vote in accordance with the acquiring corporation; (iii) the acquiring corporation could demand a revote to the extent the physician misrepresented his voting intention; (iv) the physician may not receive dividends from the professional corporation; and (v) the acquiring corporation may acquire the stock of the professional corporation from the physician at any time pursuant to the option agreement for the value paid by the physician for such stock.

Under these facts, the Service ruled that the acquiring corporation was the beneficial owner of the stock of the professional corporations for purposes of the Section 1504(a) Affiliation Requirement and the professional corporations were members of the acquiring corporation's consolidated group.

PLR 9605015 was revoked retroactively without explanation by PLR 9752025.³⁸ Subsequently, in FSA 199926014,³⁹ the Service explained that the applicable state statute in PLR 9605015 prohibited non-licensed professionals not just from holding legal title but also from having beneficial ownership of the stock of a professional corporation, and that any purported transfer was void and given no legal effect. The FSA concluded that because a shareholder that is not a licensed professional could not have beneficial ownership of the stock of the professional corporation under applicable state law, the parent corporation could not be considered the owner of the professional corporation for purposes of the Section 1504(a) Affiliation Requirement. Therefore, the professional corporation could not be a member of the consolidated group.

b. PLR 201451009

In PLR 201451009,⁴⁰ the common parent of an affiliated group of corporations that filed a consolidated return indirectly owned (through disregarded limited liability companies) the stock of a management corporation. Under applicable state law, a professional corporation could only engage in the profession through professionals, and the shares of a professional corporation generally could only be held by professionals. A licensed professional paid a nominal amount to acquire legal title to all the stock of two professional corporations. The management corporation, the licensed professional, and the professional corporations entered into a number of agreements (described in detail below); under these facts, the Service ruled that the professional corporations were members of the affiliated group that included the management corporation and therefore were permitted to join in the filing of a consolidated return.

The management corporation and the professional corporations entered into a Support Services Agreement under which the management corporation performed all administrative and support services on behalf of the professional corporations in exchange for a fee. The management corporation also managed the professional corporations to the extent the management did not constitute engagement in the profession.

Under the Director Agreement entered into by the licensed professional and the management corporation, the licensed professional served as the director for the professional corporations and oversaw and coordinated the management corporation's business objectives. The management corporation had the right to terminate the Director Agreement without cause or penalty upon providing “e” day's notice to the licensed professional. The termination of the Director Agreement was a transfer event under the Stock Transfer Restriction Agreement.

Finally, the management corporation, the professional corporations, and the licensed professional entered into Stock Transfer Restriction Agreements which prohibited the licensed professional from transferring or disposing of any shares of the professional corporations, except as otherwise provided in the agreements. The agreements also prohibited the licensed professional from having the professional corporations make a dividend or other distribution with respect to its stock, or from issuing equity interests or rights to acquire equity interests, and required the licensed professional to prevent the professional corporations from taking such action. In addition, the licensed professional could not consent to a liquidation or dissolution of the professional corporations without the consent of the management corporation.⁴¹

The Stock Transfer Restriction Agreement provided that upon the occurrence of a transfer event, the shares of the professional corporations were transferred (or deemed to be transferred) by the licensed professional to a transferee identified by the management corporation. The PLR described the following transfer events with respect to the professional corporations: (i) the transfer or attempt to transfer any shares of stock in the professional corporation to a person other than a transferee identified by the management corporation; (ii) the licensed professional ceasing to be a professional director for the professional corporation; (iii) the termination, with or without cause, of the Support Services Agreement; (iv) the filing of any petition for or other document causing or intended to cause the dissolution of the professional corporation; (v) the licensed professional voting to issue more of the professional corporation's stock to any person; (vi) the licensed professional voting to amend or otherwise attempting to amend the professional corporation's articles of incorporation or bylaws; (vii) the licensed professional voting to declare a dividend on the professional corporation's shares; (viii) the licensed professional ceasing to be a director on the corporate board of the professional corporation; (ix) the licensed professional voting to engage in or enter into any transaction providing for the disposition of all or substantially all of the professional corporation's property and assets or voting to adopt a plan of dissolution and/or distribution of the assets of the professional corporation or voting to adopt a plan of merger involving the professional corporation; (x) the licensed professional breaching a covenant in the Stock Transfer Restriction Agreement; (xi) the licensed professional breaching any agreement between the licensed professional and the management corporation; and (xii) the licensed professional's notification to the management corporation that the licensed professional desired to transfer all of the stock in the professional corporation.

In the PLR, the taxpayer represented that the legal arrangements created by the Stock Transfer Restriction Agreements were valid and legally enforceable under applicable law, and that applicable law did not prohibit the beneficial ownership of the stock of the professional corporations by the management corporation. Citing Revenue Ruling 84-79, the Service ruled that the professional corporations were members of the affiliated group and thus were permitted to join in the filing of the consolidated return.

c. PLR 202049002

The Service also cited Revenue Ruling 84-79 in reaching a similar conclusion in PLR 202049002.⁴² The common parent of an affiliated group of corporations that filed a consolidated return owned the stock of a corporate subsidiary, which in turn owned the equity interests in a management company that was a limited liability company. Under applicable state law, a professional corporation may engage in the practice of the profession only through a professional, and the shares of a professional corporation generally may be held only by a professional. The licensed professional owned legal title to all the shares of the professional corporation.

Pursuant to an agreement between the management company and the professional corporation, the management company performed all administrative and support services for the professional corporation in exchange for a fee and managed the professional corporation to the extent allowable under state law. Pursuant to the same agreement, the management company was the only entity entitled to any economic benefit resulting from the professional corporation's operations. Under a second agreement, the licensed professional was restricted from selling or otherwise transferring the shares of the professional corporation. If the licensed professional violated these restrictions, the stock of the professional corporation automatically transferred to a designated transferee selected by the parent corporation for a nominal amount. In addition, the agreement prohibited the licensed professional from authorizing, approving, or declaring any dividend or other distribution, or issuing additional equity interests or rights to acquire additional equity interests.

B. Recommendations

We recommend that Treasury and the Service issue precedential guidance in the form of the Revenue Ruling — described more fully below — with at least two situations, one illustrating a situation where the Section 1504(a) Affiliation Requirement is met and one illustrating a situation where it is not met, with the sole difference between the two situations being state law enforceability of the contractual relationships that are relevant to determining beneficial ownership of stock. We recommend that the Revenue Ruling (i) not provide a standard for determining whether such contractual relationships are legally enforceable under state law, (ii) not explicitly address other Code provisions, and (iii) not be limited to a particular profession.

In addition, we recommend that Treasury and the Service issue guidance in the form of the Revenue Procedure — likewise described more fully below — to provide transition relief and address those situations where taxpayers took prior positions inconsistent with those adopted in the Revenue Ruling.

C. Explanation

1. Scope of Proposed Revenue Ruling

a. Published Guidance

To date, the Service has addressed the issue of the application of the Section 1504(a) Affiliation Requirement to professional corporations only in non-precedential guidance, as discussed above in Part II.A.2. Pursuant to section 6110(k)(3), written determinations such as PLRs and internal legal memorandums generally may not be cited as precedent, regardless of whether they represent the Service's considered analyses of the application of law to a taxpayer's specific facts.

We recommend that the Treasury and the Service issue precedential guidance in the form of the Revenue Ruling. The Revenue Ruling will be more broadly applicable to taxpayers than the PLRs issued in this area, and, unlike PLRs, taxpayers will be able to rely on it. In addition, it will provide guidance to taxpayers on how the Service will treat a transaction under a particular set of facts that are not taxpayer-specific. In this type of guidance — unlike in regulations — it is unnecessary for the Service to draw the line precisely or set forth a specific set of standards that must be met, particularly given the variance among state law with respect to restrictions on the ownership of stock of a professional corporation and potential variances in contractual arrangements employed by various taxpayers in different states (and within a particular state).

We believe that the Revenue Ruling format also readily lends itself to the consideration of a narrow issue and can be limited in scope. For example, as discussed below, we recommend that the Revenue Ruling be limited to the issue of affiliation under section 1504(a) in situations involving professional corporations.

b. No Enumerated Standard Regarding Enforceability of Contractual Agreements

One of the critical elements of the Section 1504(a) Affiliation Requirement analysis is whether the contractual agreements between the management corporation, the professional corporation, and the licensed professional, which are in substance designed to transfer the benefits and burdens of ownership of the stock of the professional corporation to the management corporation, are legally enforceable under state law.⁴³

We do not believe that the Revenue Ruling should provide a standard for determining whether such contractual agreements are legally enforceable under state law because that question is not a matter of the interpretation of tax law; for example, there should not be a standard requiring a taxpayer to obtain an opinion from legal counsel concluding that the contractual agreements are legally enforceable under state law. The issue of whether such agreements are legally enforceable under state law is ultimately a legal question that is beyond the scope of any tax guidance.⁴⁴

If the contractual agreements are legally enforceable under state law, a secondary issue is whether the remedy for a breach of contract should affect the determination of whether the benefits and burdens of ownership of the stock of the professional corporation are transferred to the management corporation. We generally do not believe that the nature or availability of the remedy for violating the contractual arrangements should affect this outcome. Prior case law and guidance from Treasury and the Service in this area do not suggest that the legal remedies for breach of the contractual arrangements affect the conclusion as to whether the contracts confer beneficial ownership on a contracting party. In fact, the above-described authorities establish that the issue of the beneficial ownership of stock turns on the contractual rights of the parties, not the consequences if a party acts inconsistent with those contractual rights.

To paraphrase the Supreme Court, taxation is concerned with the actual command over the property taxed.⁴⁵ The cases involving tax ownership determinations and the revenue rulings cited above generally do not involve discussion over the nature of the legal remedies. Neither do judicial analyses of Himmel factors. Rather, cases such as Grodt & McKay Realty, Inc. ask which party bears the risk of loss or damage to the property and which party receives the profits from the operation and sale of the property,⁴⁶ which are factors that do not depend on specific legal remedies, such as damages, specific performance, injunctive relief, or the ability to unwind an action that violates a contractual relationship or treat it as void ab initio.

In addition, the practical availability of a remedy ought not be relevant to the issue of tax ownership. For example, the fact that a licensed professional might violate the terms of a contract, with a management corporation being without adequate legal remedy due to the licensed professional being “judgment proof,” should not preclude a management corporation from ownership of the economic rights associated with stock. Whether a management corporation beneficially owns the economics associated with a professional corporation's stock ought not turn on the financial wherewithal of the licensed professional to respond to legal judgment if, hypothetically, the licensed professional might choose to commit fraud or theft, or otherwise violate the parties' contractual arrangements.

In short, the contractual rights and obligations of the parties are what is important, provided they generally are enforceable under applicable law and not illusory. The ability to obtain a specific legal remedy, or to obtain satisfaction of a hypothetical award of monetary damages, ought to be no more relevant to the issue of tax ownership of the stock in a professional corporation than it was to ownership of the stock of the corporations considered in the authorities discussed above.

c. Limited to the Issue of Affiliation Under Section 1504(a)

Given the increasing use of professional corporations, there is an urgent need for precedential guidance addressing the application of the Section 1504(a) Affiliation Requirement in this context. Accordingly, we recommend that the Revenue Ruling be limited to the issue of affiliation under section 1504(a) in situations involving professional corporations and not explicitly address other Code provisions where there is a requirement for specific ownership of the vote and/or value of a corporation.⁴⁷ Such a limited-scope Revenue Ruling would facilitate prompt issuance of guidance to alleviate taxpayer uncertainty as to whether a professional corporation is a member of an affiliated group.

d. Not Limited to a Particular Profession

We recommend that the Revenue Ruling not be limited to situations involving professional corporations in a particular profession. As noted above, there are a number of professions where state law can prevent corporate ownership of the stock of a professional corporation by limiting the ownership of stock in a professional corporation to a licensed practitioner in the relevant profession. The issue of whether a corporation should be treated as the beneficial owner of the stock of a professional corporation as a result of contractual relationships, notwithstanding the fact that a licensed practitioner owns title to the stock of the professional corporation, is not specific to a particular profession.

We acknowledge that one consideration that may be taken into account in determining the scope of the Revenue Ruling is the fact that, in certain professions or scenarios, there might be mutual inchoate benefits to both the corporation and the licensed professional as a result of the contractual relationships between the parties. For example, in the context of a hospital and a physician, each of the hospital and the physician might benefit from entering into these contractual relationships with each other and with the professional corporation. However, we believe that regardless of whether there are mutual benefits to both the corporation and the licensed professional arising from the contractual relationships, or to the broader public, this should not impact the analysis of whether the corporation has the benefits and burdens of ownership of the stock of the professional corporation.⁴⁸ We do not believe that mutual benefits should distinguish one profession from another with respect to the issue of the Section 1504(a) Affiliation Requirement.

e. Addresses Multiple Situations

We recommend that the Revenue Ruling address at least two situations, one illustrating a situation where the Section 1504(a) Affiliation Requirement is met and one illustrating a situation where it is not met, with the sole difference between the two situations being state law enforceability of the contractual relationships that are relevant to determining beneficial ownership of stock.⁴⁹

i. Situation 1: (affiliation is met)

Parent, a State A corporation, is the common parent of an affiliated group of corporations that file a consolidated federal income tax return (the “Parent Consolidated Group”). Sub is a State A corporation and member of the Parent Consolidated Group. PC is a State B professional corporation engaged in the practice of Profession (for example, medicine or architecture). PC is subject to State B law, which provides that PC may engage in the practice of Profession only through one or more licensed professionals. State B law also provides that the shares of PC generally may be issued to, held by, or transferred only to licensed professionals.

Professional is an individual who is licensed to practice Profession in State B. Professional holds legal title to all the issued and outstanding shares of PC, for which Professional paid a nominal amount.

Sub, PC, and Professional enter into a Management Services Agreement, a Director Agreement, and a Stock Transfer Restriction Agreement. Under the Management Services Agreement, Sub agrees to perform all administrative and support services (e.g., financial reporting, billing, and information systems support) on behalf of PC in exchange for a fee.⁵⁰ Sub also manages PC, to the extent such management does not constitute engagement in Profession. Under the structure established in the Management Services Agreement, Sub is the only entity entitled to any economic benefit resulting from PC's operations.

Under the Director Agreement, Professional serves as the professional director for the PC and oversees and coordinates Sub's business objectives for the PC. Sub has the right to terminate the Director Agreement with or without cause or penalty, upon three days' notice to Professional. The termination of the Director Agreement is a Transfer Event under the Stock Transfer Restriction Agreement.

The Stock Transfer Restriction Agreement provides that Professional may not transfer or dispose of any shares of the stock of PC, except as provided in the agreement. PC's corporate bylaws also prohibit a transfer of any shares of the stock of PC, other than in accordance with the Stock Transfer Restriction Agreement, and provide that any person who transfers, holds, or purports to exercise any rights or privileges with respect to any shares of stock in PC in violation of the rights, restrictions, or provisions of the bylaws shall not have the right to vote, receive dividends, or enjoy or exercise any right or privilege as a holder of shares of stock in the PC. In addition, the Stock Transfer Restriction Agreement provides that Professional is prohibited from allowing PC to make a dividend or other distribution with respect to its stock or issuing additional equity interests or rights to acquire additional equity interests, and Professional is required to take all steps necessary to prevent PC from taking any such action. The Stock Transfer Restriction Agreement also prohibits Professional from consenting to a liquidation or dissolution of PC without the consent of Sub.

Upon the occurrence of a Transfer Event, Professional is required to transfer all of the stock of PC to Sub or Sub's Designated Transferee (a licensed professional or an entity otherwise permitted under State B law to hold the stock of PC and who is designated by Sub), in exchange for the same nominal amount that Professional had paid to acquire the PC shares. Events that give rise to a Transfer Event include: (i) the purported transfer of any PC shares (or of the PC's issuance of shares) to any person other than a Designated Transferee; (ii) the termination, with or without cause, of the Management Services Agreement; (iii) the termination, with or without cause, of the Director Agreement; (iv) the initiation by any person of any proceeding intended to result in the PC's dissolution; (v) the attempt to amend PC's articles of incorporation or bylaws; (vi) the attempt to declare or make a distribution on or to redeem any of PC's shares; (vii) Professional, either as a shareholder or director, voting to engage in or enter into any transaction providing for the disposition of all of PC's property and assets; (viii) Professional, either as a shareholder or director, voting to adopt a plan of dissolution and/or distribution of the assets of PC or a plan of merger involving PC; (ix) Professional's breach of the Management Services Agreement, Director Agreement, or Stock Transfer Restriction Agreement; and (x) Professional's notification that Professional desires to transfer all of the stock in a PC.

The PC's shares are certificated, and the certificates bear a conspicuous legend that provides notice that the shares are subject to the Stock Transfer Restriction Agreement. Professional executed an irrevocable stock power over the PC's shares, indorsed in blank, and delivered the PC share certificates and the irrevocable stock power to Sub.

The Management Services Agreement, Director Agreement, and Stock Transfer Restriction Agreement are valid and legally enforceable under State B law.

ii. Situation 2: (affiliation is not met)

The facts are the same as Situation 1, except that one or more of the Management Services Agreement, Director Agreement, and Stock Transfer Restriction Agreement are not valid or legally enforceable under State B law.

2. Revenue Procedure

We acknowledge that the issuance of the Revenue Ruling might adversely impact taxpayers who have taken different positions than those recommend above. For example, a taxpayer might have failed to include a professional corporation as a member in the consolidated group, and such failure to include the member in the consolidated return for the first year of the consolidated group could call into question the validity of the group's consolidated return election. Conversely, a taxpayer might have included a professional corporation as a member in the consolidated group when the professional corporation should not have been included as a group member.

Accordingly, we believe that the Revenue Procedure might be necessary to provide transition relief and address these situations where taxpayers have taken different positions and could be adversely impacted. We considered various approaches regarding the Revenue Procedure and recommend two alternatives that the Service could adopt that would provide appropriate transition relief to such taxpayers.

a. Alternative 1: Application of Revenue Ruling on a Prospective Basis

Under the first alternative (“Alternative 1”) the Revenue Procedure would provide that the guidance under the Revenue Ruling applies on a prospective basis pursuant to the Service's authority in section 7805(b)(8), effective for tax years beginning after the issuance of the Revenue Ruling. Under Alternative 1, a position taken by a taxpayer prior to the effective date of the Revenue Procedure would not be challenged if it was inconsistent with the guidance in the Revenue Ruling. For example, if a taxpayer did not include a professional corporation in the consolidated group in prior tax years when the professional corporation should have been included under the Revenue Ruling, the group's consolidated return election would not be invalidated for those prior years. Additionally, the group would not be required to treat the professional corporation as though it were historically a member of the consolidated group (e.g., the group would not be required to file amended returns and retroactively make investment adjustments under Treas. Reg. § 1.1502-32 to the stock of the professional corporation or track intercompany transactions under Treas. Reg. § 1.1502-13 with respect to the professional corporation).

If a professional corporation historically was not included in the group, and should be included as a member of the group prospectively, consistent with the Revenue Ruling, we recommend that the Revenue Procedure provide that the professional corporation becomes a member at the end of the last day preceding the first day of the tax year beginning after the issuance of the Revenue Ruling.

If a professional corporation historically was included in the group, and should not be included as a member of the group prospectively consistent with the Revenue Ruling, we recommend that the Revenue Procedure provide that the professional corporation leaves the consolidated group at the end of the last day preceding the first day of the tax year beginning after the issuance of the Revenue Ruling.

b. Alternative 2: Option to Conform with Revenue Ruling on a Prospective Basis

Under the second alternative (“Alternative 2”), the Revenue Procedure would provide that taxpayers have the option either (i) to conform with the guidance under the Revenue Ruling on a prospective basis, effective for tax years beginning after the issuance of the Revenue Ruling, or (ii) continue to rely on an existing position, so long as certain specified criteria are satisfied, pursuant to the Service's authority in section 7805(b)(8). Alternative 2 would allow a taxpayer who has taken (or inherited) a position concerning the affiliation of a professional corporation that is inconsistent with the guidance under the Revenue Ruling to have the option to conform with the Revenue Ruling on a prospective basis, rather than be mandated to conform with the Revenue Ruling.⁵¹

Alternative 2 is similar to the grandfather rule provided in the 2010 proposed regulations addressing the U.S. federal classification of series entities (the “Proposed Series Regulations”).⁵² Prior to the issuance of the Proposed Series Regulations, a number of states enacted statutes providing for the creation of entities that may establish separate series or cell companies, which generally were not treated as separate legal entities for state law purposes. The Proposed Series Regulations provided that, for U.S. federal tax purposes, a domestic series is treated as an entity formed under local law and that its federal tax treatment is determined under the check-the-box regulations. The proposed effective date provided that when final regulations become effective, taxpayers treating series entities in a manner inconsistent with the final regulations will be required to change their treatment of series. However, Prop. Treas. Reg. § 301.7701-1(f)(3)(ii) included a grandfather rule which excepted certain series established prior to the publication of the proposed regulations on September 14, 2010, if the series met certain criteria.⁵³ The grandfather rule ceased to apply on and after the date any person(s) who were not owners of the series organization (or series) prior to September 14, 2010, own, in the aggregate, a 50% or greater interest in the series organization (or series).

If Alternative 2 is adopted by the Service, we recommend that taxpayers be able to continue to rely on an existing position if the following criteria are satisfied:

In addition, we recommend that Alternative 2 include an exception to this grandfather rule, similar to the Proposed Series Regulations, where the grandfather rule does not apply on and after the date any person(s) who were not owners of the professional corporation own a sufficient amount of stock of the professional corporation such that the Section 1504(a) Affiliation Requirement is relevant.