An F-reorganization is a tax-free "mere change in identity, form, or place of organization" of a single corporation, authorized by IRC §368(a)(1)(F). On its own it is a mundane restructuring tool — but in M&A it has become a workhorse for preparing an S-corporation for sale, because it elegantly solves several problems at once. It is now one of the most common pre-sale structures in private-equity acquisitions of S-corp targets.
The problem it solves
S-corporations are extremely common among privately held U.S. companies, but they create friction in a sale:
- Buyers want a tax step-up (an asset deal or §338(h)(10));
- sellers want capital-gains treatment and often want to roll over equity into the buyer's structure on a tax-deferred basis; and
- the S-election is fragile (it can be inadvertently broken, and buyers worry about its validity).
A straight §338(h)(10) gives step-up but does not easily accommodate tax-deferred rollover, and it depends on the S-election being valid.
How the pre-sale F-reorg works
The typical structure restructures the S-corp before the sale, tax-free, into a holding-company form:
- The shareholders form a new holding company ("Newco") and contribute their S-corp stock to it; Newco elects S status.
- The old operating S-corp becomes a qualified subchapter S subsidiary (QSub) of Newco — a disregarded entity for tax.
- The QSub is then converted to an LLC (also disregarded).
The result is an operating business held in a disregarded LLC under an S-corp holding company — accomplished as a tax-free §368(a)(1)(F) change in form.
Why buyers and sellers love it
With the business now in a disregarded LLC, the deal can be structured so that:
- The buyer purchases LLC interests, which for tax purposes is a purchase of assets — delivering a clean step-up without needing a §338 election or worrying about the historic S-election's validity;
- the seller can roll over a portion of equity into the buyer's holding company on a tax-deferred basis (because contributing LLC interests for buyer equity can qualify for non-recognition);
- the seller retains capital-gains treatment on the cash portion; and
- the structure insulates the buyer from risks in the target's prior S-corp history.
Why it matters
The F-reorganization has become the default structuring move when a PE buyer acquires an S-corporation and wants both a step-up and a tax-efficient management/founder rollover — a combination §338(h)(10) cannot cleanly provide. It is highly technical and must be executed correctly with tax counsel, but its prevalence makes it essential vocabulary in middle-market deal structuring.
See also
- Rollover equity — Existing equity that the seller (often the founder or management team) retains in the post-close business rather than cashing out at closing. Standard in PE-backed deals to keep operators incentivised.
- Stock purchase — A deal structure in which the buyer acquires the equity of the target entity, taking it whole — assets, liabilities, contracts and history. Generally favoured by sellers.
- Basis step-up — An increase in the tax basis of acquired assets to fair market value, allowing the buyer to depreciate or amortise the higher basis going forward. Available in asset deals and 338-elected stock deals.
- Section 338(h)(10) election — A joint U.S. tax election that treats the stock acquisition of a domestic corporation (typically an S-corp or subsidiary) as a deemed asset purchase for tax purposes, giving the buyer a basis step-up.
- Section 368 reorganization types — The Section 368 categories of tax-free reorganizations — Type A (statutory merger), Type B (stock-for-stock), Type C (stock-for-asset), Type D (acquisitive D), Type F (form change) and others.
- Leveraged buyout — An acquisition financed largely with borrowed money, repaid from the target’s cash flows.