[Code of Federal Regulations]
[Title 26, Volume 4]
[Revised as of April 1, 2004]
From the U.S. Government Printing Office via GPO Access
[CITE: 26CFR1.381(c)(13)-1]

[Page 418-422]
 
                       TITLE 26--INTERNAL REVENUE
 
    CHAPTER I--INTERNAL REVENUE SERVICE, DEPARTMENT OF THE TREASURY 
                               (CONTINUED)
 
PART 1_INCOME TAXES--Table of Contents
 
Sec. 1.381(c)(13)-1  Involuntary conversions.

    (a) Carryover requirement--(1) General rule. Section 381(c)(13) 
requires that after the date of distribution or transfer the acquiring 
corporation, in a transaction to which section 381(a) applies, shall be 
treated as the distributor or transferor corporation for

[[Page 419]]

purposes of applying section 1033, relating to involuntary conversions. 
This rule shall apply even though the property similar or related in 
service or use to the property converted, or the stock of a corporation 
owning such similar property, is purchased by the acquiring corporation 
after the date of distribution or transfer and is not received from the 
distributor or transferor corporation in the transaction to which 
section 381(a) applies. Accordingly, if any factor essential to the 
application of section 1033 occurs on or before the date of distribution 
or transfer and any other such factor also occurs after that date, then, 
in accordance with section 381(c)(13) and this section, the provisions 
of section 1033 shall apply to the acquiring corporation in the same 
manner that they would have applied to the distributor or transferor 
corporation in the absence of the distribution or transfer. For purposes 
of this section, the terms involuntary conversion and disposition of the 
converted property shall have the meaning ascribed to them by the 
regulations under section 1033.
    (2) Application to other transactions. The provisions of this 
section shall apply to any transaction which, under provisions of the 
Internal Revenue Code of 1954, is treated as though it were an 
involuntary conversion within the meaning of section 1033. See, for 
example, section 1071, relating to gain from a sale or exchange to 
effectuate the policies of the Federal Communications Commission; and 
sections 1332(b)(3) and 1333(3), relating to war loss recoveries.
    (b) Conversion into similar property. Section 1033(a)(1) provides 
that no gain shall be recognized if property is involuntarily converted 
only into property which is similar or related in service or use to the 
property so converted. If there is a disposition of property of a 
distributor or transferor corporation and, subsequent to the date of 
distribution or transfer, property similar or related in service or use 
to the property disposed of is received by the acquiring corporation as 
compensation for the property so disposed of, then no gain shall be 
recognized to the acquiring corporation, provided that no gain would 
have been recognized under section 1033(a)(1) if the similar property 
had been received directly by the distributor or transferor corporation.

    Example. Property of S Corporation with an adjusted basis of $100 is 
condemned by the local government. Shortly after the property is so 
condemned, S Corporation liquidates and distributes its assets to P 
Corporation in a distribution to which section 381(a) applies. 
Subsequent to the date of distribution, P Corporation receives from the 
government (in settlement of the condemnation proceedings) property with 
a market value of $500 which is similar or related in service or use to 
the property so condemned. No gain is recognized to either corporation 
upon P Corporation's receipt of the similar property, and the property 
so received has a basis of $100 in the hands of P Corporation on the 
date of its acquisition.

    (c) Conversion into money or dissimilar property when disposition 
occurs after December 31, 1950--(1) General rule. Section 1033(a)(3) and 
Sec. 1.1033(a)-2 provide rules for involuntary conversions of property 
into money or dissimilar property where the disposition of the converted 
property occurs after December 31, 1950. In such a case, the gain on the 
conversion, if any, shall be recognized, at the election of the 
taxpayer, only to the extent that the amount realized on the conversion 
exceeds the cost of other property purchased by the taxpayer which is 
similar or related in service or use to the property so converted, or 
exceeds the cost of stock purchased by the taxpayer in the acquisition 
of control of a corporation owning such other property, provided (i) the 
taxpayer purchases such other property or stock for the purpose of 
replacing the property so converted and (ii) the purchase occurs during 
the period of time specified in section 1033(a)(3)(B). The provisions of 
this paragraph shall apply to involuntary conversions where the 
disposition of the property occurs after December 31, 1950, and where 
the election to have section 1033(a)(3) apply to the treatment of the 
gain upon the conversion is contingent upon activities of both the 
distributor or transferor corporation and the acquiring corporation. For 
purposes of section 381(c)(13), the period of time specified in section 
1033(a)(3)(B) shall be determined by taking into account taxable years 
of, and extensions of time granted to, both

[[Page 420]]

the distributor or transferor corporation and the acquiring corporation.
    (2) Replacement period. The period during which the purchase of 
similar property or stock must be made in order to prevent the 
recognition of gain on the involuntary conversion terminates 2 years 
(or, in the case of a disposition occurring before Dec. 31, 1969, 1 
year) after the close of the first taxable year in which any part of the 
gain upon the conversion is realized, or at the close of such later date 
as may be designated pursuant to an application of the taxpayer. See 
paragraph (c)(3) of Sec. 1.1033(a)-2. Therefore, if, in a case to which 
this subparagraph applies, the first taxable year in which gain is 
realized is the taxable year of the distributor or transferor 
corporation ending with the close of the date of distribution or 
transfer, the acquiring corporation will have a maximum of only 2 years 
(or, in the case of a disposition occurring before Dec. 31, 1969, 1 
year) after that date in which to purchase the similar property or 
stock, unless an extension of time has been granted upon application by 
the distributor, transferor, or acquiring corporation within the time 
prescribed. See paragraph (a) of Sec. 1.381(b)-1 as to the termination 
of the taxable year of the distributor or transferor corporation. See 
paragraph (c)(3) of Sec. 1.1033(a)-2 as to applications to extend the 
period within which to replace the converted property. In addition to 
the information otherwise required under paragraph (c)(3) of Sec. 
1.1033(a)-2, the application shall contain sufficient detail in 
connection with the distribution or transfer to establish that section 
381(c)(13) applies to the involuntary conversion involved.
    (3) Examples. The application of this paragraph may be illustrated 
by the following examples:

    Example (1). A and B Corporations compute their taxable income on 
the basis of the calendar year, and both corporations use the cash 
method of accounting. During 1970 property of A Corporation is destroyed 
by fire, and in January 1971, A Corporation receives $15,000 from an 
insurance company as compensation for its loss of property. The adjusted 
basis of the property on the date of destruction is $10,000; as a 
consequence, A Corporation realizes a gain of $5,000 on the involuntary 
conversion. On June 30, 1971, B Corporation acquires all of the assets 
of A Corporation in a reorganization to which section 381(a) applies. In 
accordance with paragraph (c)(2) of Sec. 1.1033(a)-2, A Corporation 
reports in its return for the short taxable year ending June 30, 1971, 
all the details in connection with the involuntary conversion but does 
not include the realized gain in gross income, thereby electing to have 
the gain recognized only to the extent provided in section 1033(a)(3). 
On June 15, 1973, B Corporation purchases for $20,000 property which is 
similar or related in service or use to the property previously 
destroyed. In its return for 1973, B Corporation reports all of the 
details in connection with its replacement of the property, as required 
by paragraph (c)(2) of Sec. 1.1033(a)-2. As a result of this 
replacement by B Corporation, none of the gain realized by A Corporation 
is recognized. The replacement property which is purchased by B 
Corporation has a basis to that corporation of $15,000 on the date of 
its purchase, that is, the cost of such property ($20,000) decreased by 
the amount of gain not recognized to A Corporation on the involuntary 
conversion ($5,000).
    Example (2). Assume the same facts as in Example (1), except that B 
Corporation does not purchase similar property on or before June 30, 
1973, and does not apply on or before that date (in accordance with 
paragraph (c)(3) of Sec. 1.1033(a)-2) for an extension of time in which 
to make a replacement. In such event, the gain realized by A Corporation 
is recognized to that corporation for its taxable year ending June 30, 
1971. A Corporation's tax liability for such taxable year must be 
recomputed in accordance with paragraph (c)(2) of Sec. 1.1033(a)-2 in 
order to reflect this additional income.
    Example (3). Assume the same facts as in Example (1), except that 
the property of A Corporation is destroyed in 1968, A Corporation 
receives the $15,000 from an insurance company in January 1969, B 
Corporation acquires all of the assets of A Corporation on June 30, 
1969, and A Corporation's return is filed for the short taxable year 
ending June 30, 1969. B Corporation would have to purchase property 
which is similar or related in service or use to the property previously 
destroyed by June 30, 1970, in order to take advantage of the provisions 
of section 1033.
    Example (4). M and N Corporations compute their taxable income on 
the basis of the calendar year, and both corporations use the cash 
method of accounting. During 1970, property of M Corporation is 
destroyed by fire. The adjusted basis of the property on the date of 
destruction is $10,000. The property is insured against loss by fire, 
but the insurance claim is not satisfied on or before June 30, 1971, the 
date on which N Corporation acquires all of the assets (including the 
insurance claim) of M Corporation in a reorganization to which section 
381(a) applies. On

[[Page 421]]

September 1, 1972, N Corporation receives $15,000 from the insurance 
company as compensation for the fire loss suffered by M Corporation. 
Upon receipt of the insurance proceeds, N Corporation realizes a gain of 
$5,000 upon the involuntary conversion; however, in its return for 1972, 
N Corporation elects under the provisions of paragraph (c)(2) of Sec. 
1.1033(a)-2 to have the gain recognized only to the extent provided by 
section 1033(a)(3). On December 30, 1974, N Corporation purchases for 
$20,000 property which is similar or related in service or use to the 
property previously destroyed in the hands of M Corporation. As a result 
of this replacement by N Corporation, none of the gain realized by N 
Corporation in 1972 is recognized. The replacement property which is 
purchased by N Corporation has a basis to that corporation of $15,000 on 
the date of its purchase, that is, the cost of such property ($20,000) 
decreased by the amount of gain not recognized to N Corporation on the 
involuntary conversion ($5,000).
    Example (5). R and S Corporations compute their taxable income on 
the basis of the calendar year, and both corporations use the cash 
method of accounting. During 1970 property of R Corporation is destroyed 
by fire. The adjusted basis of the property on the date of destruction 
is $10,000. In anticipation of taking the benefit of section 1033(a)(3), 
R Corporation purchases for $20,000 on June 1, 1971, property which is 
similar or related in service or use to the destroyed property. In its 
return for 1971, R Corporation reports all of the details in connection 
with the replacement of the property, as required by paragraph (c)(2) of 
Sec. 1.1033(a)-2. The property destroyed in 1970 is insured against 
loss by fire, but the insurance claim is not satisfied on or before 
March 1, 1972, the date on which S Corporation acquires all of the 
assets (including the insurance claim) of R Corporation in a 
reorganization to which section 381(a) applies. On October 1, 1972, S 
Corporation receives $12,000 from the insurance company as compensation 
for the fire loss suffered by R Corporation. Upon receipt of the 
insurance proceeds, S Corporation realizes a gain of $2,000 upon the 
involuntary conversion; however, in its return for 1972, S Corporation 
elects under the provisions of paragraph (c)(2) of Sec. 1.1033(a)-2 to 
have the gain recognized only to the extent provided by section 
1033(a)(3). As a result of the replacement by R Corporation, none of the 
gain realized by S Corporation in 1972 is recognized. Assuming there are 
no adjustments for depreciation, the replacement property has a basis on 
October 1, 1972, of $18,000, that is, the cost of such property 
($20,000) decreased by the amount of gain not recognized to S 
Corporation on the involuntary conversion ($2,000)

    (d) Conversion into money when disposition occurs before January 1, 
1951. Section 1033(a)(2) provides that, if property is disposed of in an 
involuntary conversion before January 1, 1951, and money is received as 
compensation for the conversion, no gain shall be recognized if such 
money is forthwith expended in the acquisition of other property similar 
or related in service or use to the property so converted, or in the 
acquisition of control of a corporation owning such other property, or 
in the establishment of a replacement fund. That section also provides 
that, if any part of the money is not so expended, the gain, if any, 
shall be recognized to the extent of the money which is not so expended. 
For example, if, pursuant to section 381(c)(13) and section 1033(a)(2), 
property of a distributor or transferor corporation is disposed of 
before January 1, 1951, in an involuntary conversion, and the proceeds 
from the conversion are received by the acquiring corporation so that 
the gain on the conversion is realized by that corporation, the 
acquiring corporation may avoid recognition of the gain if it complies 
with the provisions of section 1033(a)(2) for nonrecognition of gain. 
Thus, the acquiring corporation must forthwith expend the proceeds in 
the acquisition of similar property or stock, or in the establishment of 
a replacement fund, in order to avoid recognition of the gain, if the 
disposition occurred before January 1, 1951. See the provisions of 
Sec. Sec. 1.1033(a)-3 and 1.1033(a)-4 relating to involuntary 
conversions and replacement funds when disposition of the converted 
property occurred before January 1, 1951.
    (e) Successive acquiring corporations. An acquiring corporation 
which, in a transaction to which section 381(a) applies, acquires the 
assets of a corporation which previously acquired the assets of another 
corporation in a transaction to which section 381(a) applies, shall be 
treated as such other corporation for purposes of applying sections 
381(c)(13) and 1033 (relating to involuntary conversions). Thus, for 
example, if any factor essential to the application of section 1033 
occurs on or before the date of distribution or transfer in one 
transaction to which section 381(a) applies, and any other such factor 
occurs

[[Page 422]]

after the date of distribution or transfer in a subsequent transaction 
to which section 381(a) applies, then the acquiring corporation in such 
subsequent transaction shall be treated as the first distributor or 
transferor corporation subject to the rules and limitations of this 
section for purposes of sections 381(c)(13) and 1033.

[T.D. 6552, 26 FR 1989, Mar. 8, 1961, as amended by T.D. 7075, 35 FR 
17995, Nov. 24, 1970]