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During this transitional period, the transaction described above would be tax free.
The contribution by A of the Y stock would qualify for nonrecognition as to A, X and Y under section 351 or 368(a)(1)(B), and the liquidation of Y would be tax free under sections 332 and 337.
Unlike a single-member LLC, however, the state law existence of a QSub as a corporate entity, as well as certain longstanding federal tax doctrines regarding corporate entities, create issues and complexities that are unique to the QSub regime.
The new regulations address many of these issues but, as is evident from the points discussed below, there remain important areas in which the use of a QSub continues to raise planning opportunities, as well as potential pitfalls.
With the development of e-commerce and Internet companies, as well as liberalizing federal income tax rules enacted in recent years, S corporations are experiencing a resurgence in popularity.
While still not appropriate or available in every circumstance, there are a wide variety of areas in which S corporations, and particularly Qualified Subchapter S Subsidiaries (or "QSubs") offer an important planning choice.
Alternatively, if the transaction fails to qualify as a reorganization, it may be fully taxable.
Such a regulation certainly will improve the predictability of tax treatment when an S corporation acquires the remainder of the stock of any partially-controlled subsidiary, and then makes a QSub election.
But until new regulations are finalized this remains an area of risk; and even with these promised regulations the step transaction doctrine will pose other risks for S corporations and QSubs.
Consider a case in which individual A owns 50% of the stock of Y and A's corporation, X, owns the other 50% interest in Y.
Under the step transaction doctrine, A's contribution of his 50% interest in Y to X, followed by X's QSub election for Y, would be a taxable transaction.
It is important to note that, due to the operation of the final regulations' transitional relief rules, some taxpayers may be facing a March 15, 2000 deadline for taking action.