Liquidating Chapter 11 Cases and Liquidating Trusts

3. The plan, disclosure statement and any separate trust agreement must provide that the beneficiaries of the trust will be treated as the grantors and deemed owners of the trust for federal income tax purposes. The trust must require that the trustee file tax returns for the trust as a grantor trust pursuant to Treasury Regulation Section 1.671-4(a).
4. The plan, disclosure statement and any separate liquidating trust agreement must provide for consistent valuations of the transferred property by the trustee and the creditors, and those valuations must be used for all federal income tax purposes.
5. All of the income must be treated as subject to tax on a current basis, whether or not a reserve is established for disputed claims. The ruling request must explain how the trust's taxable income will be paid and who will be responsible for such payments of any tax due.
6. The liquidating trust must contain a fixed or determinable termination date, generally not more than five (5) years from the date of creation of the trust and that is reasonable based on all facts and circumstances. Limited extensions beyond five (5) years are permissible if approved by the bankruptcy court having jurisdiction over the case, on a finding that the extension is necessary to the liquidating purpose of the trust.
7. If the trust is to hold any operating assets of a going business, a partnership interest in a partnership that holds operating assets, or 50% or more of the stock of a corporation with operating assets, the ruling request must explain why it is necessary to retain these assets.
8. The trust is not permitted to receive or retain cash or cash equivalents in excess of a reasonable amount to meet claims or contingent liabilities or to maintain the value of the property during liquidation.
9. The investment powers of the trustee, other than those reasonably necessary to maintain the value of the property and to further the liquidating purpose of the trust, must be limited to powers to invest in demand and time deposits, such as short-term certificates of deposit in banks or other savings institutions, or other temporary, liquid investments, such as Treasury bills.

¹ A recent private ruling, Ltr. Rul. 200938017, provides guidance on how long a liquidating trust can remain in place while still retaining its tax-favored status as a grantor trust. There, the answer was eleven (11) years.