Why Did Darden, but Not Yahoo, Get Spinoff Ruling?

For over 50 years, Bloomberg Tax’s renowned flagship daily news service, Daily Tax Report® has helped leading practitioners and policymakers stay on the cutting edge of taxation and...

Nov. 10 — Darden Restaurants Inc., which completed a spinoff of its restaurants into a real estate investment trust Nov. 9, said it received a private letter ruling from the IRS about the transaction, raising questions about why the agency declined to rule on Yahoo! Inc.'s planned deal.

The two transactions both have small active businesses in the new company formed in the spin, Robert Willens, a tax consultant in New York, told Bloomberg BNA Nov. 10. Darden is spinning off six LongHorn Steakhouse franchise restaurants with the real estate and Yahoo is spinning off a small business advertising unit with its Alibaba Group Holding Ltd. shares.

Treasury Department and Internal Revenue Service officials are watching increasing numbers of corporate and REIT spinoffs, especially those that have relatively small qualifying businesses and retention of control over or use of the REIT's assets through long-term leases or other arrangements. The IRS is studying several issues tied to tax-free spinoffs under tax code Section 355 and is considering issuing regulations that could change the taxability of those transactions (178 DTR G-3, 9/15/15).

Comparing Concerns

“Somehow, Darden got the IRS to rule that the active business requirement was satisfied even though the business actively conducted by the spun-off REIT is, at best, de minimis,” Willens said. “Does that signal some sort of hostility toward the Yahoo spinoff?”

Darden's and Yahoo's transactions aren't exactly equivalent transactions, Jonathan Talansky, member at Mintz, Levin, Cohn, Ferris, Glovsky and Popeo PC, told Bloomberg BNA. Yahoo also faces “device” factors, meaning that the spinoff can't just be a means to distribute earnings and profits to shareholders tax-free.
“For REIT spins, the pressure point is business purpose,” Talansky said.

It's easier for companies to justify the reason for a real estate spinoff because there are cost-of-capital benefits, such as cheaper financing, associated with being a publicly traded REIT, he said.

Recent Ruling

Darden, the owner of Olive Garden and the Capital Grille, received the private letter ruling within the past three weeks. The company said Oct. 21 that the ruling was still pending. The ruling is tied to “issues relevant to the qualification of the spin-off as tax-free,” a Nov. 9 news release said. The company also received opinions from Skadden, Arps, Slate, Meagher & Flom LLP and KPMG LLP. Skadden is also advising Yahoo's transaction.

Darden Chief Executive Officer Gene Lee told investors Oct. 16 that he thinks the transaction has “a substantial business purpose” and that he's “really confident that our proposed transaction will satisfy all the requirements of applicable law.” Darden separated 488 stores through the sale-leaseback of 64 restaurant properties, and a REIT spin that will include 424 restaurants(204 DTR G-7, 10/22/15).

McDonald's Passes

Darden's REIT spinoff was completed one day before McDonald's Corp. said it won't form a REIT after reviewing the tax advantages and shareholders' long-term interests. The world's largest restaurant chain has been under pressure from some investors to create a REIT to unlock value in their real estate holdings and to save on taxes.

“Any potential value creation from a REIT is outweighed by the significant financial and operational risks to our business and the continued progress of our turnaround,” Chief Administrative Officer Pete Bensen said Nov. 10.

To contact the reporter on this story: Laura Davison in Washington at ldavison@bna.com
To contact the editor responsible for this story: Brett Ferguson at bferguson@bna.com

Request Daily Tax Report