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Simple English definitions for legal terms
continuity of interest
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A quick definition of continuity of interest:
Continuity of interest refers to a rule that applies to certain types of business transactions. In simple terms, it means that when one company buys another company, the shareholders of the company being bought must keep some ownership in the new company to avoid paying taxes on the transaction. Similarly, if a company splits into two or more separate companies, the shareholders must keep some ownership in each of the new companies to avoid taxes. This rule helps ensure that the transaction is not just a way to avoid taxes, but rather a legitimate business deal.
A more thorough explanation:
Definition: Continuity of interest refers to a legal requirement that must be met in certain types of corporate reorganizations to qualify for tax-deferred treatment. This requirement mandates that the shareholders of the target corporation must retain an interest in the acquiring or controlled corporation.
Example 1: In an acquisitive reorganization, the shareholders of the target corporation must hold shares in the acquiring corporation to qualify for tax-deferred treatment. For instance, if Company A acquires Company B, the shareholders of Company B must receive shares in Company A and hold them for a certain period to avoid immediate tax consequences.
Example 2: In a divisive reorganization, the shareholders of the target corporation must retain an interest in both the distributing and the controlled corporations to qualify for tax-deferred treatment. For example, if Company A splits into two separate entities, Company B and Company C, the shareholders of Company A must hold shares in both Company B and Company C to avoid immediate tax consequences.
These examples illustrate how continuity of interest is a legal requirement that must be met in certain types of corporate reorganizations to qualify for tax-deferred treatment. It ensures that the shareholders of the target corporation maintain a stake in the new entity and prevents them from immediately realizing taxable gains or losses.