Pursuant to the treasury regulations under I.R.C. § 355, a spin-off must be undertaken for a purpose that is "germane" to the business of either the distributing corporation, the controlled corporation, or the affiliated group of which the distributing corporation and the controlled corporation are a part. In this respect, the IRS has long taken the position that a shareholder purpose is not a valid business purpose. But is this correct? Arguably, no.
Significantly, this issue has not been addressed by a court. That is, this position does not necessarily have any basis in the law (or in logic for that matter). My personal opinion is that a court would, more likely than not, squarely disagree with the IRS on this issue because I believe this general disallowance of shareholder purpose as a valid business purpose to be inconsistent with fundamental principles of corporate governance. The most basic theory of corporate governance is that a corporation exists for its shareholders. E.g., Dodge v. Ford Motor Co., 170 N.W. 668 (N.J. 1919). Indeed, a corporation is organized and carried on primarily for the profit of its shareholders. Id. Thus, any purpose which enhances shareholder value is consistent with the corporation's existence for its shareholders. Why, then, is a shareholder purpose insufficient by itself to support a 355 transaction?
To be clear, I would never recommend supporting a 355 transaction solely with a shareholder purpose. The IRS has clearly stated its position with respect to this issue, and the stakes are simply too high in this type of transaction to challenge the IRS. However, I do think that this is an issue to watch. Eventually, this issue will make its way into the court system, and when it does, I predict that the IRS' position will be invalidated.