Par. 7. Section 1.367(b)-5 is amended by: 1. Revising paragraphs (b)(1)(ii) and (c)(2). 2. Adding paragraph (e)(3). The revisions and addition read as follows:
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(b) * * *
(1) * * *
(ii) If the distributee is an individual or a tax-exempt entity as described in § 1.337(d)-4(c)(2) then, solely for purposes of determining the gain recognized by the distributing corporation, the controlled corporation shall not be considered to be a corporation, and the distributing corporation shall recognize any gain (but not loss) realized on the distribution.
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(c) * * *
(2) Adjustment to basis in stock and income inclusion —(i) In general . If the distributee's postdistribution amount (as defined in paragraph (e)(2) of this section) with respect to the distributing or controlled corporation is less than the distributee's predistribution amount (as defined in paragraph (e)(1) of this section) with respect to such corporation, then the distributee's basis in such stock immediately after the distribution (determined under the normal principles of section 358) shall be reduced by the amount of the difference. However, the distributee's basis in such stock shall not be reduced below zero, and to the extent the foregoing reduction would have reduced basis below zero, the distributee shall instead include such amount in income as a deemed dividend from such corporation. See, e.g., paragraph (g) Example 1 of this section.
(ii) Exception. The basis reduction rule of paragraph (c)(2)(i) of this section shall apply only to the extent such reduction increases the distributee's section 1248 amount (as defined in § 1.367(b)-2(c)(1)) with respect to the distributing or controlled corporation; otherwise such basis reduction shall be replaced by the income inclusion rule of paragraph (c)(2)(i) of this section. See, e.g. , § 1.367(b)-8(d)(6) Example 2.
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(e) * * *
(3) Divisive D reorganization with a preexisting controlled corporation. In the case of a transaction described in § 1.367(b)-8(b)(4), the predistribution amount with respect to a distributing or controlled corporation shall be computed after the allocation of the distributing corporation's earnings and profits described in § 1.367(b)-8(b)(4)(i)(A) and (b)(4)(ii)(A) (without regard to the parenthetical phrase in § 1.367(b)-8(b)(4)(ii)(A)), but before the reduction in the distributing corporation's earnings and profits described in § 1.367(b)-8(b)(4)(i)(B). See, e.g., § 1.367(b)-8(d)(6) Example 3 and § 1.367(b)-8(e)(7) Example 3.
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