F Reorganization in S Corporation Sales

§ Short answer

An F reorganization, often called an F reorg, under Rev. Rul. 2008-18 is a pre-closing restructuring in which the shareholders of an S corporation form a new holding company, contribute the S corporation’s stock to it, elect qualified subchapter S subsidiary (QSub) status for the old corporation, and convert the old corporation to a single-member LLC. The buyer then purchases LLC interests, which is treated for federal income tax purposes as a purchase of assets. The buyer obtains a cost basis in the assets even if the S election was invalid, although the LLC retains OldCo’s historical tax liabilities, and the sellers may roll over a portion of their equity on a tax-deferred basis.

Buyers of closely held S corporations, including private equity sponsors and strategic acquirers, frequently require the sellers to complete an F reorganization before closing. The structure relies on IRC §368(a)(1)(F), Rev. Rul. 2008-18, and the QSub rules of §1361(b)(3) to convert a transaction that is a sale of equity under state law into a purchase of assets for federal income tax purposes. It has become a common alternative to an election under §338(h)(10) or §336(e).

The value of the resulting basis step-up increased with the One Big Beautiful Bill Act (OBBBA), which permanently restored 100 percent bonus depreciation under §168(k) for qualified property acquired after January 19, 2025 (see RSK’s overview of the OBBBA). This discussion describes how the structure works, the tax consequences to buyers and sellers, how it compares with the elective alternatives, and practical issues for Texas businesses.

Background

A buyer that purchases the stock of an S corporation without an election takes the corporation as it finds it. The corporation’s basis in its assets is unchanged, so the buyer receives no additional depreciation or amortization for the premium it pays, and the corporation keeps its tax history, including any defect in its S election. A buyer that purchases assets instead takes a cost basis, allocated among the assets under §1060, and may recover the portion allocated to goodwill and other §197 intangibles over 15 years and the portion allocated to qualifying tangible property through depreciation, including bonus depreciation.

For the sellers, the difference between a stock sale and an asset sale of an S corporation is usually smaller than for a C corporation, because gain on an asset sale generally passes through to the shareholders and is taxed once. The character of the gain can differ, however, because an asset sale produces ordinary income to the extent of depreciation recapture under §1245 and on other ordinary income assets. A corporation that converted from C corporation status within the past five years may also owe the built-in gains tax under §1374. A direct asset sale also requires the assignment of contracts, permits, licenses, and titles, which can be costly or impractical for an operating business.

Three structures provide asset treatment for federal income tax purposes while transferring equity under state law: a §338(h)(10) election, a §336(e) election, and an F reorganization followed by the sale of LLC interests.

How the F Reorganization Works

Rev. Rul. 2008-18 addresses the first two steps below. The LLC conversion and the sale of LLC interests are added in practice because, as Situation 1 of the ruling illustrates, a sale of even 1 percent of the stock of a QSub terminates the QSub election. In the most common form, the transaction proceeds as follows:

Formation of a holding company. The shareholders of the S corporation (OldCo) form a new corporation (NewCo) and contribute all of the OldCo stock to NewCo in exchange for all of the NewCo stock, in the same proportions in which they held OldCo. Situation 2 of the ruling reaches the same result through a reverse subsidiary merger.
QSub election. NewCo elects on Form 8869 to treat OldCo as a QSub, effective immediately after the contribution. Under Treas. Reg. §1.1361-4(a)(2), the election causes OldCo to be treated as liquidating into NewCo, and the contribution and deemed liquidation together are intended to qualify as a reorganization under §368(a)(1)(F) (see Treas. Reg. §1.368-2(m)(4), Example 5).
Conversion to an LLC. OldCo converts under state law into a limited liability company. In Texas, a corporation may convert into an LLC under §10.101 of the Texas Business Organizations Code. Because the LLC has a single owner and is disregarded as an entity separate from NewCo, the conversion generally has no federal income tax consequence.
Sale. The buyer purchases all or part of the LLC interests from NewCo.

Rev. Rul. 2008-18 assumes that the transaction meets the requirements of a reorganization under §368(a)(1)(F) and holds that, consistent with Rev. Rul. 64-250, OldCo’s S election does not terminate but continues for NewCo. NewCo therefore does not file a new Form 2553, although it must itself satisfy the requirements of a small business corporation. For reorganizations occurring on or after January 1, 2009, NewCo must obtain a new employer identification number (EIN), and OldCo must retain its EIN and use it whenever it is treated as a separate entity for federal tax purposes, including for employment and certain excise taxes. Because the transaction is an F reorganization, OldCo’s taxable year does not close under §381(b)(1), and NewCo is treated for §381 purposes as if it were OldCo.

Final regulations under Treas. Reg. §1.368-2(m), effective for transactions occurring on or after September 21, 2015, define a “mere change” through six requirements. In general, all of the resulting corporation’s stock must be distributed in exchange for the transferor’s stock; the same persons must own both corporations in identical proportions; the resulting corporation may not hold property or tax attributes before the transaction, other than de minimis amounts; the transferor must completely liquidate for federal income tax purposes, which a QSub election accomplishes; no corporation other than the resulting corporation may hold property of the transferor if that corporation would succeed to the transferor’s attributes under §381(c); and the resulting corporation may not hold property acquired from another corporation if it would succeed to that corporation’s attributes. Example 5 of the regulations treats a contribution of a corporation’s stock to a newly formed corporation, followed by the merger of the corporation into the new corporation, as a mere change; a QSub election produces a comparable deemed liquidation. The regulations also provide that a potential F reorganization may precede or be part of a larger transaction, such as a sale, without losing its status, and that money or property distributed to shareholders is treated as a separate transaction.

Tax Consequences of the Sale

Sale of 100 percent of the LLC. Because the LLC is disregarded, a buyer that purchases all of the LLC interests is treated as purchasing the LLC’s assets, and NewCo is treated as selling them. The buyer and NewCo allocate the consideration among the assets under §1060 and generally each file Form 8594. NewCo’s gain or loss is computed asset by asset and passes through to its shareholders.

Sale of less than 100 percent, with rollover equity. When the sellers retain a portion of the business, the buyer purchases only part of the LLC interests. Under Rev. Rul. 99-5, Situation 1, the buyer is treated as purchasing an undivided interest in each of the LLC’s assets from NewCo, after which NewCo and the buyer are treated as contributing their interests in the assets to a new partnership in exchange for partnership interests. NewCo recognizes gain only on the portion of the assets treated as sold, and §721(a) generally defers gain on the portion it contributes. The deferred gain is preserved through §704(c) and is generally recognized when the partnership sells the assets or NewCo disposes of its interest. Rev. Rul. 99-5 assumes that the LLC has no liabilities. Where the LLC has debt, the allocation of liabilities under §752 and any pre-closing distribution of borrowed funds to NewCo should be analyzed under §§707 and 752.

The LLC conversion determines the form of the business after a partial sale. Absent the conversion, a sale of 21 percent of the OldCo stock would terminate the QSub election. Under §1361(b)(3)(C)(ii), NewCo would be treated as selling a 21 percent undivided interest in each asset, followed by a transfer of all of the assets to a new corporation in a §351 transaction. NewCo would recognize gain only on the portion sold, but OldCo would emerge as a C corporation owned by NewCo and the buyer. Treas. Reg. §1.1361-5(b)(3), Example 1, which reaches a different result, has not been updated for that 2007 statutory change. Example 2 confirms that where the QSub is first merged into a disregarded LLC, a sale of LLC interests is instead treated as a sale of an undivided interest in each asset followed by the formation of a partnership.

Sellers. The character of NewCo’s gain is determined asset by asset, so the shareholders may recognize ordinary income from depreciation recapture and other ordinary income assets in addition to capital gain or §1231 gain on goodwill. Gain within the §1374 recognition period is subject to the built-in gains tax at the corporate level. After the sale, NewCo continues as an S corporation holding cash, a partnership interest, or both. A NewCo with accumulated earnings and profits from C corporation years should monitor its passive investment income. If passive investment income exceeds 25 percent of gross receipts in a year in which NewCo has accumulated earnings and profits, NewCo is subject to tax under §1375, and if that condition exists for three consecutive years, the S election terminates under §1362(d)(3).

Buyers. The buyer obtains a cost basis in the assets it is treated as purchasing. Goodwill and other §197 intangibles are amortized over 15 years. Used tangible property may qualify for 100 percent bonus depreciation if it was not used by the taxpayer or a predecessor before the acquisition and meets the purchase requirements of §179(d)(2) and (3), which exclude acquisitions from related persons and members of the same controlled group, carryover basis transfers, and basis determined by reference to other property held by the taxpayer. In a rollover structure, Treas. Reg. §1.168(k)-2(g)(1)(iii) generally permits bonus depreciation for the buyer’s deemed purchase in a transaction of the type described in Rev. Rul. 99-5 and allocates it to the buyer, subject to the relationship tests. The analysis should be modeled before the purchase price allocation is agreed.

Comparison with §338(h)(10) and §336(e) Elections

Issue	F reorg (Rev. Rul. 2008-18)	§338(h)(10) election	§336(e) election
Eligible buyers	Any buyer, including a partnership, fund, or individual	A corporation making a qualified stock purchase	Any purchaser that is not related to the sellers; sales to multiple unrelated purchasers within 12 months may be aggregated
Minimum interest acquired	Any percentage of the LLC interests	At least 80 percent of the stock within 12 months	At least 80 percent of the stock within 12 months
If the S election was invalid	The buyer still acquires assets for federal income tax purposes. Corporate-level tax on the sale falls on NewCo, but the LLC remains liable for any corporate income tax of OldCo for periods before the reorganization	The election may be unavailable, leaving the buyer with carryover basis and a C corporation with potential exposure for prior years	Same concern as §338(h)(10)
Rollover equity	Gain on the retained portion is generally deferred under §721 (Rev. Rul. 99-5)	All of the assets are treated as sold, including the portion attributable to retained stock	All of the assets are treated as sold, including the portion attributable to retained stock
Timing of filings	Form 8869 and the restructuring steps are completed before closing	Form 8023, signed by the purchaser and all S corporation shareholders, after closing	Binding written agreement among the S corporation and all of its shareholders, and an election statement with the S corporation’s return; the purchaser does not join
Entity after closing	LLC, disregarded if 100 percent is sold or a partnership if equity is rolled over	The target remains a corporation. The old target’s S election ends, although the new target may be treated as a QSub of an S corporation purchaser, if eligible	The target remains a corporation. The old target’s S election ends, although the new target may make a new S election, if eligible

The elective alternatives require fewer pre-closing steps and may be adequate where the buyer is a corporation, the sellers are exiting entirely, and the S election history is clean. Where the buyer is a fund or partnership, the sellers will retain equity, or the S election history is uncertain, the F reorganization generally provides more flexibility.

Practical Considerations

The QSub election is essential. A corporation is not a permitted S corporation shareholder under §1361(b)(1)(B), so without a valid QSub election NewCo’s ownership of the OldCo stock would terminate OldCo’s S election. NewCo should answer “Yes” on line 14 of Form 8869, which indicates that the election is made in connection with a reorganization under §368(a)(1)(F) and Rev. Rul. 2008-18. Under the Form 8869 instructions, an election generally may not be effective more than two months and 15 days before it is filed. Relief for late QSub elections may be available under Rev. Proc. 2013-30.
Sequence matters. The QSub election should be filed while OldCo is still a corporation and should take effect on the date of the contribution. An election filed after the LLC conversion may be invalid even if it specifies an earlier effective date, because OldCo is no longer eligible to be a QSub when the election is made. A gap between the contribution and the effective date of the election may also leave OldCo as a C corporation for a period, with potential built-in gains exposure. The conversion and any sale should follow the effective date of the election, and the step plan, effective dates, and state filings should be documented in advance.
Identical ownership and one class of stock. NewCo’s stock should mirror OldCo’s ownership, and its governing documents should be reviewed so that NewCo itself satisfies the single class of stock requirement. Pre-closing distributions to shareholders are treated as separate transactions under Treas. Reg. §1.368-2(m)(3)(iii).
EINs and payroll. NewCo applies for a new EIN. The LLC continues to use OldCo’s EIN, including for payroll, because a disregarded entity is treated as a corporation for employment tax purposes.
Historical liabilities remain with the LLC. The F reorganization changes the buyer’s tax basis, not the legal entity it acquires. Under Treas. Reg. §301.7701-2(c)(2)(iii), a disregarded entity remains liable for its own federal tax liabilities for periods in which it was not disregarded, and state tax and other liabilities generally follow the converted entity. Purchase agreements therefore continue to address pre-closing taxes through representations, indemnities, escrows, or insurance.
Contracts and consents. Under §10.106 of the Texas Business Organizations Code, a converting entity continues to exist without interruption in the form of the converted entity, and its property and liabilities remain with it, which generally avoids asset-by-asset assignments. Contracts, leases, licenses, and credit agreements should still be reviewed for provisions triggered by a conversion or change of control.

Quick answers

The restructuring itself is generally not taxable because it qualifies as a reorganization under IRC §368(a)(1)(F). The sale that follows is taxable. Because the buyer purchases interests in a disregarded LLC, the sale is treated as a sale of assets, and the gain passes through the holding company to its shareholders.

Yes. Under Rev. Rul. 2008-18, the original S election does not terminate but continues for the new holding company, which does not file a new Form 2553. The new holding company must itself meet the requirements of a small business corporation.

Yes. For F reorganizations occurring on or after January 1, 2009, Rev. Rul. 2008-18 requires the new holding company to obtain its own EIN. The old S corporation retains its EIN and uses it whenever it is treated as a separate entity, including for employment taxes.

An F reorganization works for any type of buyer, including private equity funds organized as partnerships, preserves the buyer’s asset basis even if the S election turns out to have been invalid (although pre-closing tax exposure remains with the LLC), and allows the sellers to roll over part of their equity on a tax-deferred basis. A §338(h)(10) election requires a corporate purchaser, depends on a valid S election, and treats 100 percent of the assets as sold.

RSK Insight

Sellers should plan for the F reorganization early, ideally when the letter of intent is signed. The steps are not complex, but they involve a new entity, an EIN application, a Form 8869 filing, and a state law conversion, all of which must be completed in the right order before closing. Although the structure protects the buyer if the S election was invalid, it does not protect the sellers: if OldCo was in fact a C corporation, NewCo inherits that status and the asset sale may be taxed at both the corporate and shareholder levels. A review of the S election history before marketing the business, including the acceptance of Form 2553, shareholder eligibility, and whether distributions were proportionate to stock ownership, allows inadvertent issues to be corrected under Rev. Proc. 2013-30, Rev. Proc. 2022-19, or a private letter ruling before they affect the transaction.

The tax cost of an F reorganization to the sellers is largely a function of the purchase price allocation. Equipment-intensive Texas businesses, such as oilfield service, construction, and manufacturing companies, may have significant depreciation recapture taxed as ordinary income, while buyers may now expense qualifying used equipment under 100 percent bonus depreciation. Sellers should model the after-tax proceeds under the proposed allocation and consider whether a gross-up is warranted. For Texas franchise tax purposes, beginning with the 2026 report, the Comptroller’s administrative policy generally determines amounts taken from the federal return under the Internal Revenue Code in effect for the federal tax year, so taxpayers that subtract cost of goods sold may include bonus depreciation. That policy is administrative and subject to change (see RSK’s analysis of Texas franchise tax conformity). Texas does not follow the federal disregarded entity classification for franchise tax purposes, so the converted LLC remains a taxable entity, and NewCo and the LLC, or the buyer’s group after closing, may be required to file a combined report.

How RSK Can Help

Transaction structuring. Compare an F reorganization with §338(h)(10), §336(e), and direct asset or stock sales, including the effect of rollover equity.
S corporation diligence. Review the S election history and identify and correct inadvertent issues before a sale process begins.
Step plan and filings. Prepare the step plan, Form 8869, EIN applications, and related documentation, and coordinate with counsel on the state law conversion.
Purchase price allocation. Model the allocation under §1060, depreciation recapture, built-in gains tax, and a seller gross-up, and prepare Form 8594.
Post-closing compliance. Address partnership formation, §704(c) allocations, and Texas franchise tax reporting for the converted LLC.

Please visit RSK’s Tax Advisory page or contact us for more information on how RSK can help.

References

Rev. Rul. 2008-18, 2008-13 I.R.B. 674. irs.gov
Rev. Rul. 64-250, 1964-2 C.B. 333, and Rev. Rul. 73-526, 1973-2 C.B. 404 (as discussed in Rev. Rul. 2008-18).
Rev. Rul. 99-5, 1999-1 C.B. 434 (conversion of a single-member LLC to a partnership). irs.gov
IRC §368(a)(1)(F) and §381(b). 26 U.S.C. §368 · 26 U.S.C. §381
Treas. Reg. §1.368-2(m), reorganizations under §368(a)(1)(F). 26 C.F.R. §1.368-2
IRC §§1361, 1362, 1374, and 1375; Treas. Reg. §§1.1361-4 and 1.1361-5 (QSub elections and terminations). 26 U.S.C. §1361 · 26 C.F.R. §1.1361-4 · 26 C.F.R. §1.1361-5
Instructions for Form 8869, Qualified Subchapter S Subsidiary Election (Rev. December 2020). irs.gov
IRC §§338(h)(10) and 336(e); Treas. Reg. §§1.338(h)(10)-1 and 1.336-1 through 1.336-5. 26 U.S.C. §338 · 26 U.S.C. §336
IRC §§168(k), 179(d)(2), 197, and 1060, as amended by Pub. L. 119-21, §70301 (One Big Beautiful Bill Act). 26 U.S.C. §168
Treas. Reg. §301.7701-2(c)(2) (disregarded entities; federal tax liabilities and employment taxes). 26 C.F.R. §301.7701-2
Rev. Proc. 2013-30, 2013-36 I.R.B. 173 (late election relief), and Rev. Proc. 2022-19 (relief for certain S corporation issues).
Texas Business Organizations Code §§10.101 and 10.106 (conversion and effect of conversion). statutes.capitol.texas.gov

This article is for general informational purposes only and does not constitute tax or legal advice. It reflects guidance available as of October 23, 2026. Whether a transaction qualifies as a reorganization under §368(a)(1)(F), and its consequences to buyers and sellers, depends on each taxpayer’s specific facts and on state law. Readers should consult a qualified advisor before taking action.

§ About the author

Numair Khan, CPA

Partner · RSK · Tax Advisory

Numair Khan is a Partner and co-leader of RSK’s Tax Advisory practice with more than fifteen years of experience advising public and private companies on complex tax matters. He developed his practice at Deloitte and other national accounting firms, and his clients include private equity sponsors, portfolio companies, and operating businesses across the energy value chain, real estate, and hospitality.

← All insights

F reorganizations in S corporation acquisitions.