MONARCH FUNDS
FORUM FUNDS
JUNE 6, 2003
June 6, 2003
Monarch Funds
Two Portland Square
Portland, Maine 04101
Forum Funds
Two Portland Square
Portland, Maine 04101
Re: REORGANIZATIONS TO COMBINE SERIES OF A MASSACHUSETTS
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BUSINESS TRUST AND A DELAWARE STATUTORY TRUST
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Ladies and Gentlemen:
Monarch Funds, a Massachusetts business trust that before April 23,
2003, was a Delaware statutory trust ("Monarch"), on behalf of each segregated
portfolio of assets ("series") thereof listed under the heading "Acquiring
Funds" on Schedule A attached hereto (each an "Acquiring Fund"), and Forum
Funds, a Delaware statutory trust ("Forum"), on behalf of each series thereof
listed under the heading "Target" on Schedule A (each a "Target"), have
requested our opinion as to certain federal income tax consequences of the
proposed acquisition of each Target by the Acquiring Fund listed opposite its
name on Schedule A pursuant to an Agreement and Plan of Reorganization between
them dated as of April 23, 2003 ("Plan").1 Specifically, each Investment Company
has requested our opinion, with respect to each Reorganization --
(1) that Acquiring Fund's acquisition of Target's assets in
exchange solely for voting shares of beneficial interest ("shares") in
Acquiring Fund ("Acquiring Fund Shares") and Acquiring Fund's
assumption of Target's liabilities, followed by Target's distribution
of those shares PRO RATA to its shareholders of record determined as of
the Effective Time (as herein defined) ("Shareholders") constructively
in exchange for their shares in Target ("Target Shares") (such
transactions collectively referred to herein as the "Reorganization"),
will qualify as a "reorganization" as defined in section
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1 The Targets and Acquiring Funds are sometimes referred to herein
individually as a "Fund" and collectively as the "Funds," and Forum and
Monarch are sometimes referred to herein individually as an "Investment
Company" and collectively as the "Investment Companies."
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PAGE 2
368(a)(1)(C),2 and each Fund will be "a party to a reorganization"
within the meaning of section 368(b);
(2) that neither the Funds nor the Shareholders will recognize
gain or loss on the Reorganization; and
(3) regarding the basis and holding period after the
Reorganization of the transferred assets and the Acquiring Fund Shares
issued pursuant thereto.
In rendering this opinion, we have examined (1) the Plan, (2) the Proxy
Statement/Prospectus dated April 25, 2003, that was furnished in connection with
the solicitation of proxies by Forum's board of trustees for use at a special
meeting of the Targets' shareholders held on May 28, 2003 ("Proxy Statement"),
and (3) other documents we have deemed necessary or appropriate for the purposes
hereof. As to various matters of fact material to this opinion, we have relied,
exclusively and without independent verification, on statements of responsible
officers of each Investment Company and the representations described below and
made in the Plan (as contemplated in Section 8(d) thereof) (collectively,
"Representations").3
FACTS
-----
Each Investment Company is a trust that is registered with the
Securities and Exchange Commission ("Commission") as an open-end management
investment company under the Investment Company Act of 1940, as amended ("1940
Act"). Target is a series of Forum, and Acquiring Fund is a series of Monarch.
Before January 1, 1997, each Investment Company "claimed" classification for
federal tax purposes as an association taxable as a corporation and has not
elected otherwise since.
Acquiring Fund's shares are divided into five classes, including three
designated Universal Shares, Institutional Service Shares, and Investor Shares;
those three classes are the only classes of Acquiring Fund's shares involved in
the Reorganization and thus included in the term "Acquiring Fund Shares." The
Target Shares are divided into three
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2 All "section" references are to the Internal Revenue Code of 1986, as
amended ("Code"), unless otherwise noted, and all "Treas. Reg.ss."
references are to the regulations under the Code ("Regulations").
3 For convenience, the balance of this letter refers only to a single
Reorganization, one Target, and one Acquiring Fund (except for footnote 4,
referring to the Funds' respective share classes), but the opinions and
analysis herein apply separately to each Reorganization.
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PAGE 3
classes, designated Institutional Shares, Institutional Service Shares, and
Investor Shares.4 Acquiring Fund's Universal Shares and Target's Institutional
Shares, and the similarly designated classes of Target Shares and Acquiring Fund
Shares, are substantially similar ("correspond") to each other.
The Reorganization, together with all related acts necessary to
consummate the same, will occur on the date hereof and will be deemed to take
place simultaneously at 9:00 a.m. Eastern time on the weekday (except federal
holidays and other days that the Federal Reserve Bank of San Francisco is
closed) following the date hereof ("Effective Time").
The Funds invest substantially all of their respective net investable
assets in the same subtrust of Core Trust, a Delaware statutory trust registered
with the Commission as an open-end management investment company under the 1940
Act (which subtrust is classified for federal tax purposes as a partnership)
("Core Trust Portfolio"), and their investment objectives, strategies, and
policies thus are the same.
For the reasons, and after consideration of the factors, described in
the Proxy Statement, each Investment Company's Board of Trustees unanimously
approved the Plan. In doing so, each such board, including all its members that
are not "interested persons" (as that term is defined in the 1940 Act),
determined that (1) the Reorganization would be in its Fund's shareholders' best
interests and (2) the interests of its Fund's existing shareholders will not be
diluted as a result of the Reorganization.
The Plan, which specifies that the Investment Companies intend it to
be, and adopt it as, a "plan of reorganization" within the meaning of the
Regulations, provides in relevant part for the following:
(1) Acquiring Fund's acquisition of all property and assets of
any kind Target owns -- including all cash, cash equivalents,
securities (including Target's interest in Core Trust Portfolio),
claims (whether absolute or contingent, known after reasonable inquiry
or unknown, accrued or unaccrued, or conditional or unmatured),
contract rights, and receivables (including dividend and interest
receivables) owned or attributed to Target, and any deferred or prepaid
expense shown as an asset on its books -- and all interests, rights,
privileges, and powers of or attributable to it, at the
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4 Neither the Target named Daily Assets Treasury Obligations Fund nor the
Acquiring Fund named Daily Assets Treasury Fund (which are the
participating Funds in one of the Reorganizations) has a class of Investor
Shares
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PAGE 4
Effective Time, wherever located (collectively, "Assets"), in exchange
solely for the following:
(a) the number of full and fractional shares of each class of
Acquiring Fund Shares, determined, for each such class, by dividing
the net value of the Assets attributable to the corresponding class of
Target Shares by the net asset value of one share of such Acquiring
Fund Share class (all calculated and determined pursuant to Section
3(c) of the Plan); and
(b) Acquiring Fund's assumption of all liabilities of, allocated,
or attributable to Target, whether known after reasonable inquiry or
unknown, accrued or unaccrued, absolute or contingent, or conditional
or unmatured (collectively "Liabilities");
(2) Target's distribution of those Acquiring Fund Shares to the
Shareholders, accomplished by Monarch's recording on its books the
Shareholders' ownership thereof, by class (whereupon all outstanding Target
Shares simultaneously will be canceled on Target's books)5; and
(3) Target's dissolution as soon as is reasonably possible, but in no
event more than six months after the Effective Time.
REPRESENTATIONS
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FORUM has represented and warranted to us as follows:
-----
(1) Forum is a statutory trust validly existing under the laws of the
State of Delaware; its Board of Trustees has duly established and
designated Target as a series thereof; it is duly registered with the
Commission as an open-end management investment company under the 1940 Act,
and such registration is in full force and effect; and before January 1,
1997, it "claimed" classification for
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5 The Plan provides that, at the time of the Reorganization, the Target
Shares will, in effect, be exchanged for Acquiring Fund Shares,
certificates for which will not be issued. Accordingly, Shareholders will
not be required to and will not make physical delivery of their Target
Shares, nor will they receive certificates for Acquiring Fund Shares,
pursuant to the Reorganization. Target Shares nevertheless will be treated
as having been exchanged for Acquiring Fund Shares, and the tax
consequences to the Shareholders will be unaffected by the absence of
Acquiring Fund Share certificates. SEE discussion at part V. under
"Analysis," below.
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PAGE 5
federal tax purposes as an association taxable as a corporation and has not
elected otherwise since;
(2) Target is a "fund" (as defined in section 851(g)(2)); it has
qualified for treatment as a regulated investment company under Part I of
Subchapter M of Subtitle A, Chapter 1, of the Code (a "RIC") for each
taxable year since the commencement of its operations and qualifies and
shall continue to qualify for treatment as a RIC for its taxable year that
includes the Effective Time; it will invest its assets at all times through
the Effective Time in a manner that ensures compliance with the foregoing;
and it has no earnings and profits accumulated in any taxable year in which
the provisions of such Subchapter M did not apply to it;
(3) From the date it commenced operations through the Effective Time,
Target shall conduct its "historic business" (within the meaning of Treas.
Reg. ss. 1.368-1(d)(2)) in a substantially unchanged manner; and before the
Effective Time Target will not (a) dispose of and/or acquire any assets (i)
for the purpose of satisfying Acquiring Fund's investment objective or
policies or (ii) for any other reason except in the ordinary course of its
business as a RIC or (b) otherwise change its historic investment policies;
(4) Target incurred the Liabilities in the ordinary course of its
business;
(5) Target is not under the jurisdiction of a court in a "title 11 or
similar case" (as defined in section 368(a)(3)(A));
(6) During the five-year period ending at the Effective Time, (a)
neither Target nor any person "related" (within the meaning of Treas. Reg.
ss. 1.368-1(e)(3)) to it will have acquired Target Shares, either directly
or through any transaction, agreement, or arrangement with any other
person, with consideration other than Acquiring Fund Shares or Target
Shares, except for shares redeemed in the ordinary course of Target's
business as a series of an open-end investment company as required by
section 22(e) of the 1940 Act, and (b) no distributions will have been made
with respect to Target Shares, other than normal, regular dividend
distributions made pursuant to Target's historic dividend-paying practice
and other distributions that qualify for the deduction for dividends paid
(within the meaning of section 561) referred to in sections 852(a)(1) and
4982(c)(1)(A); and
(7) Not more than 25% of the value of Target's total assets (excluding
cash, cash items, and U.S. government securities) is invested in the stock
and securities of any one issuer, and not more than 50% of the value of
such assets is invested in the stock and securities of five or fewer
issuers.
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MONARCH has represented and warranted to us as follows:
(1) Monarch is organized as a business duly created and validly
existing under the laws of the Commonwealth of Massachusetts; its Board of
Trustees has duly established and designated Acquiring Fund as a series
thereof; it is duly registered with the Commission as an open-end
management investment company under the 1940 Act, and such registration is
in full force and effect; and before January 1, 1997, it "claimed"
classification for federal tax purposes as an association taxable as a
corporation and has not elected otherwise since;
(2) Acquiring Fund is a "fund" (as defined in section 851(g)(2)); it
has qualified for treatment as a RIC for each past taxable year since the
commencement of its operations and qualifies and shall continue to qualify
for treatment as a RIC for its taxable year that includes the Effective
Time; it will invest its assets at all times through the Effective Time in
a manner that ensures compliance with the foregoing; and it has no earnings
and profits accumulated in any taxable year in which the provisions of such
Subchapter M did not apply to it;
(3) No consideration other than Acquiring Fund Shares (and Acquiring
Fund's assumption of the Liabilities) will be issued in exchange for the
Assets in the Reorganization;
(4) Acquiring Fund has no plan or intention to issue additional shares
following the Reorganization except for shares issued in the ordinary
course of its business as a series of an open-end investment company; nor
does Acquiring Fund, or any person "related" (within the meaning of Treas.
Reg. ss. 1.368-1(e)(3)) to it, have any plan or intention to acquire --
during the five-year period beginning at the Effective Time, either
directly or through any transaction, agreement, or arrangement with any
other person -- with consideration other than Acquiring Fund Shares, any
Acquiring Fund Shares issued to the Shareholders pursuant to the
Reorganization, except for redemptions in the ordinary course of such
business as required by section 22(e) of the 1940 Act;
(5) Following the Reorganization, Acquiring Fund (a) will continue
Target's "historic business" (within the meaning of Treas. Reg. ss.
1.368-1(d)(2)) and (b) will use a significant portion of Target's "historic
business assets" (within the meaning of Treas. Reg. ss. 1.368-1(d)(3)) in a
business; in addition, Acquiring Fund (c) has no plan or intention to sell
or otherwise dispose of any of the Assets, except for dispositions made in
the ordinary course of that business and dispositions necessary to maintain
its status as a RIC, and (d) expects to retain substantially all the Assets
in the same form as it receives them in the Reorganization, unless and
until subsequent investment circumstances suggest the desirability of
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PAGE 7
change or it becomes necessary to make dispositions thereof to maintain
such status;
(6) There is no plan or intention for Acquiring Fund to be dissolved
or merged into another business trust or a corporation or any "fund"
thereof (as defined in section 851(g)(2)) following the Reorganization;
(7) Immediately after the Reorganization, (a) not more than 25% of the
value of Acquiring Fund's total assets (excluding cash, cash items, and
U.S. government securities) will be invested in the stock and securities of
any one issuer and (b) not more than 50% of the value of such assets will
be invested in the stock and securities of five or fewer issuers;
(8) Acquiring Fund does not directly or indirectly own, nor at the
Effective Time will it directly or indirectly own, nor has it directly or
indirectly owned at any time during the past five years, any shares of
Target; and
(9) During the five-year period ending at the Effective Time, neither
Acquiring Fund nor any person "related" (within the meaning of Treas. Reg.
ss. 1.368-1(e)(3)) to it will have acquired Target Shares with
consideration other than Acquiring Fund Shares.
EACH INVESTMENT COMPANY has represented and warranted to us as follows:
-----------------------
(1) The fair market value of the Acquiring Fund Shares each
Shareholder receives will be approximately equal to the fair market value
of the Target Shares it constructively surrenders in exchange therefor;
(2) Its management (a) is unaware of any plan or intention of
Shareholders to redeem, sell, or otherwise dispose of (i) any portion of
their Target Shares before the Reorganization to any person "related"
(within the meaning of Treas. Reg. ss. 1.368-1(e)(3)) to either Fund or
(ii) any portion of the Acquiring Fund Shares they receive in the
Reorganization to any person "related" (within such meaning) to Acquiring
Fund, (b) does not anticipate dispositions of the Acquiring Fund Shares at
the time of or soon after the Reorganization to significantly exceed the
usual rate and frequency of dispositions of shares of Target as a series of
an open-end investment company, (c) expects that the percentage of
Shareholder interests, if any, that will be disposed of as a result of or
at the time of the Reorganization will be DE MINIMIS, and (d) does not
anticipate that there will be extraordinary redemptions of Acquiring Fund
Shares immediately following the Reorganization;
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(3) Each Shareholder will pay his or her own expenses (including fees
of personal investment or tax advisers for advice regarding the
Reorganization), if any, he or she incurs in connection with the
Reorganization;
(4) The fair market value of the Assets on a going concern basis will
equal or exceed the Liabilities to be assumed by Acquiring Fund and those
to which the Assets are subject;
(5) There is no intercompany indebtedness between the Funds that was
issued or acquired, or will be settled, at a discount;
(6) Pursuant to the Reorganization, Target will transfer to Acquiring
Fund, and Acquiring Fund will acquire, at least 90% of the fair market
value of the net assets, and at least 70% of the fair market value of the
gross assets, Target held immediately before the Reorganization. For the
purposes of the foregoing, any amounts Target uses to pay its
Reorganization expenses and to make redemptions and distributions
immediately before the Reorganization (except (a) redemptions in the
ordinary course of its business required by section 22(e) of the 1940 Act
and (b) regular, normal dividend distributions made to conform to its
policy of distributing all or substantially all of its income and gains to
avoid the obligation to pay federal income tax and/or the excise tax under
section 4982) will be included as assets it held immediately before the
Reorganization;
(7) None of the compensation received by any Shareholder who is an
employee of or service provider to Target will be separate consideration
for, or allocable to, any of the Target Shares that shareholder held; none
of the Acquiring Fund Shares any such shareholder receives will be separate
consideration for, or allocable to, any employment agreement, investment
advisory agreement, or other service agreement; and the consideration paid
to any such shareholder will be for services actually rendered and will be
commensurate with amounts paid to third parties bargaining at arm's-length
for similar services;
(8) Immediately after the Reorganization, the Shareholders will not
own shares constituting "control" (as defined in section 304(c)) of
Acquiring Fund;
(9) Neither Fund will be reimbursed for any expenses incurred by it or
on its behalf in connection with the Reorganization unless those expenses
are solely and directly related to the Reorganization (determined in
accordance with the guidelines set forth in Rev. Rul. 73-54, 1973-1 C.B.
187); and
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(10) The aggregate value of the acquisitions, redemptions, and
distributions limited by Forum's Representation numbered (6) and Monarch's
Representations numbered (4) and (9) will not exceed 50% of the value
(without giving effect to such acquisitions, redemptions, and
distributions) of the proprietary interest in Target at the Effective Time.
OPINION
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Based solely on the facts set forth above, and conditioned on the
Representations being true at the Effective Time and the Reorganization
being consummated in accordance with the Plan, our opinion (as explained
more fully in the next section of this letter) is as follows:
(1) Acquiring Fund's acquisition of the Assets in exchange solely for
Acquiring Fund Shares and Acquiring Fund's assumption of the Liabilities,
followed by Target's distribution of those shares in complete liquidation
PRO RATA to the Shareholders constructively in exchange for their Target
Shares, will qualify as a "reorganization" as defined in section
368(a)(1)(C), and each Fund will be "a party to a reorganization" within
the meaning of section 368(b);
(2) Target will recognize no gain or loss on the transfer of the
Assets to Acquiring Fund in exchange solely for Acquiring Fund Shares and
Acquiring Fund's assumption of the Liabilities6 or on the subsequent
distribution of those shares to the Shareholders in constructive exchange
for their Target Shares;
(3) Acquiring Fund will recognize no gain or loss on its receipt of
the Assets in exchange solely for Acquiring Fund Shares and its assumption
of the Liabilities;
(4) Acquiring Fund's basis in each Asset will be the same as Target's
basis therein immediately before the Reorganization, and Acquiring Fund's
holding period for each Asset will include Target's holding period
therefor;
(5) A Shareholder will recognize no gain or loss on the constructive
exchange of all its Target Shares solely for Acquiring Fund Shares pursuant
to the Reorganization; and
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6 Notwithstanding anything herein to the contrary, we express no opinion as
to the effect of the Reorganization on either Fund or any Shareholder with
respect to any Asset as to which any unrealized gain or loss is required to
be recognized for federal income tax purposes at the end of a taxable year
(or on the termination or transfer thereof) under a mark-to-market system
of accounting.
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(6) A Shareholder's aggregate basis in the Acquiring Fund Shares it
receives in the Reorganization will be the same as the aggregate basis in
its Target Shares it constructively surrenders in exchange for those
Acquiring Fund Shares, and its holding period for those Acquiring Fund
Shares will include, in each instance, its holding period for those Target
Shares, provided the Shareholder holds them as capital assets at the
Effective Time.
Our opinion is based on, and is conditioned on the continued
applicability of, the provisions of the Code and the Regulations, judicial
decisions, and rulings and other pronouncements of the Internal Revenue Service
("Service") in existence on the date hereof. All the foregoing authorities are
subject to change or modification that can be applied retroactively and thus
also could affect our opinion; we assume no responsibility to update our opinion
with respect to any such change or modification. Our opinion also is applicable
only to the extent each Fund is solvent, and we express no opinion about the tax
treatment of the transactions described herein if either Fund is insolvent. Our
opinion is solely for the addressees' information and use and may not be relied
on for any purpose by any other person without our express written consent.
ANALYSIS
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I. THE REORGANIZATION WILL QUALIFY AS A C REORGANIZATION, AND EACH FUND WILL
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BE A PARTY TO A REORGANIZATION.
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A. EACH FUND IS A SEPARATE CORPORATION.
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A reorganization under section 368(a)(1)(C) (a "C Reorganization")
involves the acquisition by one corporation, in exchange solely for all or a
part of its voting stock, of substantially all of the properties of another
corporation. For a transaction to qualify under that section, therefore, both
entities involved therein must be corporations (or associations taxable as
corporations). Each Investment Company, however, is a business or statutory
trust, not a corporation, and each Fund is a separate series of an Investment
Company.
Regulation section 301.7701-4(b) provides that certain arrangements
known as trusts (because legal title is conveyed to trustees for the benefit of
beneficiaries) will not be classified as trusts for purposes of the Code because
they are not simply arrangements to protect or conserve the property for the
beneficiaries. That section states that these "business or commercial trusts"
generally are created by the beneficiaries simply as devices to carry on
profit-making businesses that normally would have been carried on through
business organizations classified as corporations or partnerships under the Code
and concludes that the fact that any organization is technically cast in the
trust form will not change its real character if it "is more properly
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classified as a business entity under [Treas. Reg.] ss. 301.7701-2."7
Furthermore, pursuant to Treas. Reg. ss. 301.7701-4(c), "[a]n `investment' trust
will not be classified as a trust if there is a power under the trust agreement
to vary the investment of the certificate holders. SEE COMMISSIONER V. NORTH
AMERICAN BOND TRUST, 122 F.2d 545 (2d Cir. 1941), CERT. DENIED, 314 U.S. 701
(1942)."
Based on these criteria, neither Investment Company qualifies as a
trust for federal tax purposes.8 Each Investment Company is not simply an
arrangement to protect or conserve property for the beneficiaries but is
designed to carry on a profit-making business. Furthermore, while each
Investment Company is an "investment trust," there is a power under its Trust
Instrument to vary its shareholders' investment therein. Neither Investment
Company has a fixed pool of assets -- each series thereof (including each Fund)
is a managed portfolio of securities, and its investment adviser has the
authority to buy and sell securities for it. Accordingly, we believe that each
Investment Company should not be classified as a trust, and instead should be
classified as a business entity, for federal tax purposes.
Regulation section 301.7701-2(a) provides that "[a] business entity
with two or more members is classified for federal tax purposes as either a
corporation or a partnership." The term "corporation" is defined for those
purposes (in Treas. Reg. ss. 301.7701-2(b)) to include corporations denominated
as such under the federal or state statute pursuant to which they were organized
and certain other entities. Any business entity that is not classified as a
corporation under that section (an "eligible entity") and has at least two
members can elect to be classified as either an association (and thus a
corporation) or a partnership. Treas. Reg. ss. 301.7701-3(a).
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7 On December 10, 1996, the Service adopted Regulations for classifying
business organizations (Treas. Reg. ss.ss. 301.7701-1 through -3 and parts
of -4, the so-called "check-the-box" Regulations) to replace the provisions
in the then-existing Regulations that "have become increasingly
formalistic. [The check-the-box Regulations replace] those rules with a
much simpler approach that generally is elective." T.D. 8697, 1997-1 C.B.
215. Regulation section 301.7701-2(a) provides that "a BUSINESS ENTITY is
any entity recognized for federal tax purposes . . . that is not properly
classified as a trust under [Treas. Reg.] ss. 301.7701-4 or otherwise
subject to special treatment under the . . . Code." Neither Investment
Company is subject to any such special treatment.
8 Because each Fund is considered separate from each other series of the
Investment Company of which it is a part for federal tax purposes (see the
discussion in the last paragraph of I.A. below), the analysis in the
accompanying text applies equally to each Fund.
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An eligible entity in existence before January 1, 1997, the effective
date of the check-the-box Regulations, "will have the same classification that
the entity claimed under [the prior Regulations]," unless it elects otherwise.
Treas. Reg. ss. 301.7701-3(b)(3)(i). Based on the reasoning stated in the second
preceding paragraph -- and the fact that, under the law that existed before the
check-the-box Regulations, the word "association" had been held to include a
Massachusetts business trust (SEE HECHT V. MALLEY, 265 U.S. 144 (1924)), to
which a Delaware statutory trust is very similar for these purposes -- each
Investment Company "claimed" classification under the prior Regulations as an
association taxable as a corporation. Moreover, since that date neither has
elected not to be so classified. Accordingly, we believe that each Investment
Company will continue to be classified as an association (and thus a
corporation) for federal tax purposes.
The Investment Companies as such, however, are not participating in the
Reorganization, but rather separate series thereof (the Funds) are the
participants. Ordinarily, a transaction involving segregated pools of assets
such as the Funds could not qualify as a reorganization, because the pools would
not be separate taxable entities that constitute corporations. Under section
851(g), however, each Fund is treated as a separate corporation for all purposes
of the Code save the definitional requirement of section 851(a) (which is
satisfied by the respective Investment Companies). Accordingly, we believe that
each Fund is a separate corporation, and its shares are treated as shares of
corporate stock, for purposes of section 368(a)(1)(C).
B. TRANSFER OF "SUBSTANTIALLY ALL" OF TARGET'S PROPERTIES.
------------------------------------------------------
For an acquisition to qualify as a C Reorganization, the acquiring
corporation must acquire "substantially all of the properties" of the transferor
corporation in exchange solely for all or part of the acquiring corporation's
stock. For purposes of issuing private letter rulings, the Service considers the
transfer of at least 90% of the fair market value of the transferor's net
assets, and at least 70% of the fair market value of its gross assets, held
immediately before the reorganization to satisfy the "substantially all"
requirement. Rev. Proc. 77-37, 1977-2 C.B. 568. The Reorganization will involve
such a transfer. Accordingly, we believe that the Reorganization will involve
the transfer to Acquiring Fund of substantially all of Target's properties.
C. QUALIFYING CONSIDERATION.
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The acquiring corporation in an acquisition intended to qualify as a C
Reorganization must acquire at least 80% (by fair market value) of the
transferor's property solely for voting stock. Section 368(a)(2)(B)(iii). The
assumption of liabilities by the acquiring corporation or its acquisition of
property subject to liabilities normally is disregarded (section 368(a)(1)(C)),
but the amount of any such liabilities will be treated as money paid for the
transferor's property if the acquiring corporation exchanges any money
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PAGE 13
or property (other than its voting stock) therefor. Section 368(a)(2)(B).
Because Acquiring Fund will exchange only Acquiring Fund Shares, and no money or
other property, for the Assets, we believe that the Reorganization will satisfy
the solely-for-voting-stock requirement to qualify as a C Reorganization.
D. DISTRIBUTION BY TARGET.
----------------------
Section 368(a)(2)(G)(i) provides that a transaction will not qualify as
a C Reorganization unless the corporation whose properties are acquired
distributes the stock it receives and its other property in pursuance of the
plan of reorganization. Under the Plan -- which we believe constitutes a "plan
of reorganization" within the meaning of Treas. Reg. ss. 1.368-2(g) -- Target
will distribute all the Acquiring Fund Shares it receives to the Shareholders in
constructive exchange for their Target Shares; as soon as is reasonably possible
thereafter, Target will be terminated. Accordingly, we believe that the
requirements of section 368(a)(2)(G)(i) will be satisfied.
E. REQUIREMENTS OF CONTINUITY.
--------------------------
Regulation section 1.368-1(b) sets forth two prerequisites to a valid
reorganization: (1) a continuity of the business enterprise through the issuing
corporation ("IC") -- defined in that section as "the acquiring corporation (as
that term is used in section 368(a))," with an exception not relevant here --
under the modified corporate form as described in Treas. Reg. ss. 1.368-1(d)
("continuity of business enterprise") and (2) a continuity of interest as
described in Treas. Reg. ss. 1.368-1(e) ("continuity of interest").
1. CONTINUITY OF BUSINESS ENTERPRISE.
---------------------------------
To satisfy the continuity of business enterprise requirement of Treas.
Reg. ss. 1.368-1(d)(1), IC must either (i) continue the target corporation's
"historic business" ("business continuity") or (ii) use a significant portion of
the target corporation's "historic business assets" in a business ("asset
continuity").
While there is no authority that deals directly with the continuity of
business enterprise requirement in the context of a transaction such as the
Reorganization, Rev. Rul. 87-76, 1987-2 C.B. 84, deals with a somewhat similar
situation. In that ruling, P was an "investment company" (as defined in section
368(a)(2)(F)(iii)) that invested exclusively in municipal bonds. P acquired the
assets of T, another such investment company, in exchange for P common stock in
a transaction that was intended to qualify as a C Reorganization. Prior to the
exchange, T sold its entire portfolio of corporate stocks and bonds and
purchased a portfolio of municipal bonds. The Service held that this transaction
did not qualify as a reorganization for the following reasons: (1) because T had
sold its historic assets prior to the exchange, there was no asset continuity;
and
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PAGE 14
(2) the failure of P to engage in the business of investing in corporate
stocks and bonds after the exchange caused the transaction to lack business
continuity as well.
The Funds invest substantially all of their respective net investable
assets in Core Trust Portfolio, and their investment objectives, strategies, and
policies thus are the same. Moreover, after the Reorganization Acquiring Fund
will continue Target's "historic business" (within the meaning of Treas. Reg.
ss. 1.368-1(d)(2)). Accordingly, there will be business continuity.
Acquiring Fund not only will continue Target's historic business, but
it also will use in its business a significant portion of Target's "historic
business assets" (within the meaning of Treas. Reg. ss. 1.368-1(d)(3)). In
addition, Acquiring Fund (a) has no plan or intention to sell or otherwise
dispose of any Assets, except for dispositions made in the ordinary course of
its business and dispositions necessary to maintain its status as a RIC, and (b)
expects to retain substantially all the Assets in the same form as it receives
them in the Reorganization, unless and until subsequent investment circumstances
suggest the desirability of change or it becomes necessary to make dispositions
thereof to maintain such status. Accordingly, there will be asset continuity as
well.
For all the foregoing reasons, we believe that the Reorganization will
satisfy the continuity of business enterprise requirement.
2. CONTINUITY OF INTEREST.
----------------------
Regulation section 1.368-1(e)(1)(i) provides that "[c]ontinuity of
interest requires that in substance a substantial part of the value of the
proprietary interests in the target corporation be preserved in the
reorganization. A proprietary interest in the target corporation is preserved
if, in a potential reorganization, it is exchanged for a proprietary interest in
the issuing corporation . . . ." That section goes on to provide that
"[h]owever, a proprietary interest in the target corporation is not preserved
if, in connection with the potential reorganization, . . . stock of the issuing
corporation furnished in exchange for a proprietary interest in the target
corporation in the potential reorganization is redeemed. All facts and
circumstances must be considered in determining whether, in substance, a
proprietary interest in the target corporation is preserved."
For purposes of issuing private letter rulings, the Service considers the
continuity of interest requirement satisfied if ownership in an acquiring
corporation on the part of a transferor corporation's former shareholders is
equal in value to at least 50% of the
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PAGE 15
value of all the formerly outstanding shares of the transferor corporation.9
Although shares of both the target and acquiring corporations held by the target
corporation's shareholders that are disposed of before or after the transaction
will be considered in determining satisfaction of the 50% standard, the Service
has issued private letter rulings that excepted from that determination "shares
which are required to be redeemed at the demand of shareholders by . . . Target
or Acquiring in the ordinary course of their businesses as open-end investment
companies (or series thereof) pursuant to Section 22(e) of the 1940 Act." Priv.
Ltr. Ruls. 9823018 (Mar. 5, 1998) and 9822053 (Mar. 3, 1998); CF. Priv. Ltr.
Rul. 199941046 (July 16, 1999) (redemption of a target RIC shareholder's shares,
amounting to 42% of the RIC's value, and other shares "redeemed in the ordinary
course of Target's business as an open-end investment company pursuant to
section 22(e)" excluded from determination of whether the target or a related
person acquired its shares with consideration other than target or acquiring
fund shares).10
During the five-year period ending at the Effective Time, (1) neither
Target nor any person related11 to it will have acquired Target Shares, either
directly or through any
- ---------------------------------
9 Rev. Proc. 77-37, SUPRA; BUT SEE Rev. Rul. 56-345, 1956-2 C.B. 206
(continuity of interest was held to exist in a reorganization of two RICs
where immediately after the reorganization 26% of the shares were redeemed
to allow investment in a third RIC); SEE ALSO REEF CORP. V. COMMISSIONER,
368 F.2d 125 (5th Cir. 1966), CERT. DENIED, 386 U.S. 1018 (1967) (a
redemption of 48% of a transferor corporation's stock was not a sufficient
shift in proprietary interest to disqualify a transaction as a
reorganization under section 368(a)(1)(F) ("F Reorganization"), even though
only 52% of the transferor's shareholders would hold all the transferee's
stock); AETNA CASUALTY AND SURETY CO. V. U.S., 568 F.2d 811, 822-23 (2d
Cir. 1976) (redemption of a 38.39% minority interest did not prevent a
transaction from qualifying as an F Reorganization); Rev. Rul. 61-156,
1961-2 C.B. 62 (a transaction qualified as an F Reorganization even though
the transferor's shareholders acquired only 45% of the transferee's stock,
while the remaining 55% of that stock was issued to new shareholders in a
public underwriting immediately after the transfer).
10 Although, under section 6110(k)(3), a private letter ruling may not be
cited as precedent, tax practitioners look to such rulings as generally
indicative of the Service's views on the proper interpretation of the Code
and the Regulations. CF. ROWAN COMPANIES, INC. V. COMMISSIONER, 452 U.S.
247 (1981); ALSO SEE Treas. Reg. ss. 1.6662-4(d)(3)(iii) (providing that
private letter rulings issued after October 31, 1976, are authority for
purposes of determining whether there is or was substantial authority for
the tax treatment of an item under section 6662(d)((2)(B)(i), in connection
with the imposition of the accuracy-related penalty under section 6662 to a
substantial understatement of income tax).
11 All references in this and the next paragraph to the word "related" are to
that word within the meaning of Treas. Reg. ss. 1.368-1(e)(3).
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transaction, agreement, or arrangement with any other person, with consideration
other than Acquiring Fund Shares or Target Shares, except for shares redeemed in
the ordinary course of Target's business as a series of an open-end investment
company as required by section 22(e) of the 1940 Act, and (2) no distributions
will have been made with respect to Target Shares, other than normal, regular
dividend distributions made pursuant to Target's historic dividend-paying
practice and other distributions that qualify for the deduction for dividends
paid (within the meaning of section 561) referred to in sections 852(a)(1) and
4982(c)(1)(A). Nor does Acquiring Fund, or any person related to it, have any
plan or intention to acquire -- during the five-year period beginning at the
Effective Time, either directly or through any transaction, agreement, or
arrangement with any other person -- with consideration other than Acquiring
Fund Shares, any Acquiring Fund Shares issued pursuant to the Reorganization,
except for redemptions required by the 1940 Act in the ordinary course of that
business. Furthermore, during the five-year period ending at the Effective Time,
neither Acquiring Fund nor any person related to it will have acquired Target
Shares with consideration other than Acquiring Fund Shares. The aggregate value
of the acquisitions, redemptions, and distributions limited by the foregoing
will not exceed 50% of the value (without giving effect to such acquisitions,
redemptions, and distributions) of the proprietary interest in Target at the
Effective Time.
There is no plan or intention of Shareholders to redeem, sell, or
otherwise dispose of (1) any portion of their Target Shares before the
Reorganization to any person related to either Fund or (2) any portion of the
Acquiring Fund Shares they receive in the Reorganization to any person related
to Acquiring Fund. Moreover, each Investment Company (a) does not anticipate
dispositions of the Acquiring Fund Shares at the time of or soon after the
Reorganization to significantly exceed the usual rate and frequency of
dispositions of shares of Target as a series of an open-end investment company
and (b) does not anticipate that there will be extraordinary redemptions of
Acquiring Fund Shares immediately following the Reorganization. Although
Acquiring Fund Shares will be offered for sale to the public on an ongoing basis
after the Reorganization, sales of those shares will arise out of a public
offering separate and unrelated to the Reorganization and not as a result
thereof. SEE REEF CORP. V. COMMISSIONER, 368 F.2d at 134; Rev. Rul. 61-156,
SUPRA. Similarly, although Shareholders may redeem Acquiring Fund Shares
pursuant to their rights as shareholders of a series of an open-end investment
company (SEE Priv. Ltr. Ruls. 9823018 and 9822053, SUPRA, and 8816064 (Jan. 28,
1988)), those redemptions will result from the exercise of those rights in the
course of Acquiring Fund's business as such a series and not from the
Reorganization as such.
Accordingly, we believe that the Reorganization will satisfy the
continuity of interest requirement.
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F. BUSINESS PURPOSE.
----------------
All reorganizations must meet the judicially imposed requirements of
the "business purpose doctrine," which was established in GREGORY V. HELVERING,
293 U.S. 465 (1935), and is now set forth in Treas. Reg. ss.ss. 1.368-1(b),
- -1(c), and -2(g) (the last of which provides that, to qualify as a
reorganization, a transaction must be "undertaken for reasons germane to the
continuance of the business of a corporation a party to the reorganization").
Under that doctrine, a transaction must have a BONA FIDE business purpose (and
not a purpose to avoid federal income tax) to qualify as a valid reorganization.
The substantial business purposes of the Reorganization are described in the
Proxy Statement. Accordingly, we believe that the Reorganization is being
undertaken for BONA FIDE business purposes (and not a purpose to avoid federal
income tax) and therefore meets the requirements of the business purpose
doctrine.
G. SATISFACTION OF SECTION 368(A)(2)(F).
-----------------------------------
Under section 368(a)(2)(F), if two or more parties to a transaction
described in section 368(a)(1) (with an exception not relevant here) were
"investment companies" immediately before the transaction, then the transaction
shall not be considered a reorganization with respect to any such investment
company and its shareholders. But that section does not apply to a participating
investment company if, among other things, it is a RIC or --
(1) not more than 25% of the value of its total assets is invested in
the stock and securities of any one issuer and
(2) not more than 50% of the value of its total assets is invested in
the stock and securities of five or fewer issuers.
In determining total assets for these purposes, cash and cash items (including
receivables) and U.S. government securities are excluded. Section
368(a)(2)(F)(iv). Each Fund will meet the requirements to qualify for treatment
as a RIC for its respective current taxable year and will satisfy the foregoing
percentage tests. Accordingly, we believe that section 368(a)(2)(F) will not
cause the Reorganization to fail to qualify as a C Reorganization with respect
to either Fund.
For all the foregoing reasons, we believe that the Reorganization will
qualify as a C Reorganization.
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H. EACH FUND WILL BE A PARTY TO A REORGANIZATION.
---------------------------------------------
Section 368(b)(2) provides, in pertinent part, that in the case of a
reorganization involving the acquisition by one corporation of properties of
another -- and Treas. Reg. ss. 1.368-2(f) further provides that if one
corporation transfers substantially all its properties to a second corporation
in exchange for all or a part of the latter's voting stock (I.E., a C
Reorganization) -- the term "a party to a reorganization" includes each
corporation. Pursuant to the Reorganization, Target is transferring all its
properties to Acquiring Fund in exchange for Acquiring Fund Shares. Accordingly,
we believe that each Fund will be "a party to a reorganization."
II. TARGET WILL RECOGNIZE NO GAIN OR LOSS.
-------------------------------------
Under sections 361(a) and (c), no gain or loss shall be recognized to a
corporation that is a party to a reorganization if, pursuant to the plan of
reorganization, (1) it exchanges property solely for stock or securities in
another corporate party to the reorganization and (2) distributes that stock or
securities to its shareholders. (Such a distribution is required by section
368(a)(2)(G)(i) for a reorganization to qualify as a C Reorganization.) Section
361(c)(4) provides that sections 311 and 336 (which require recognition of gain
on certain distributions of appreciated property) shall not apply to such a
distribution.
Section 357(a) provides in pertinent part that, except as provided in
section 357(b), if a taxpayer receives property that would be permitted to be
received under section 361 without recognition of gain if it were the sole
consideration and, as part of the consideration, another party to the exchange
assumes a liability of the taxpayer or acquires from the taxpayer property
subject to a liability, then that assumption or acquisition shall not be treated
as money or other property and shall not prevent the exchange from being within
section 361. Section 357(b) applies where the principal purpose of the
assumption or acquisition was a tax avoidance purpose or not a BONA FIDE
business purpose.
As noted above, it is our opinion that the Reorganization will qualify
as a C Reorganization, each Fund will be a party to a reorganization, and the
Plan constitutes a plan of reorganization. Target will exchange the Assets
solely for Acquiring Fund Shares and Acquiring Fund's assumption of the
Liabilities and then will be terminated pursuant to the Plan, distributing those
shares to the Shareholders in constructive exchange for their Target Shares. As
also noted above, it is our opinion that the Reorganization is being undertaken
for BONA FIDE business purposes (and not a purpose to avoid federal income tax);
we also do not believe that the principal purpose of Acquiring Fund's assumption
of
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the Liabilities is avoidance of federal income tax on the proposed transaction.
Accordingly, we believe that Target will recognize no gain or loss on the
Reorganization. 12
III. ACQUIRING FUND WILL RECOGNIZE NO GAIN OR LOSS.
---------------------------------------------
Section 1032(a) provides that no gain or loss shall be recognized to a
corporation on the receipt of money or other property in exchange for its stock.
Acquiring Fund will issue Acquiring Fund Shares to Target in exchange for the
Assets, which consist of money and securities. Accordingly, we believe that
Acquiring Fund will recognize no gain or loss on the Reorganization.
IV. ACQUIRING FUND'S BASIS IN THE ASSETS WILL BE A CARRYOVER BASIS, AND ITS
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HOLDING PERIOD WILL INCLUDE TARGET'S HOLDING PERIOD.
---------------------------------------------------
Section 362(b) provides, in pertinent part, that the basis of property
acquired by a corporation in connection with a reorganization to which section
368 applies shall be the same as it would be in the hands of the transferor,
increased by the amount of gain recognized to the transferor on the transfer (a
"carryover basis"). As noted above, it is our opinion that the Reorganization
will qualify as such a reorganization and that Target will recognize no gain on
the Reorganization. Accordingly, we believe that Acquiring Fund's basis in each
Asset will be the same as Target's basis therein immediately before the
Reorganization.
Section 1223(2) provides in general that the period for which a
taxpayer has held acquired property that has a carryover basis shall include the
period for which the transferor held the property. As noted above, it is our
opinion that Acquiring Fund's basis in the Assets will be a carryover basis.
Accordingly, we believe that Acquiring Fund's holding period for each Asset will
include Target's holding period therefor.
V. A SHAREHOLDER WILL RECOGNIZE NO GAIN OR LOSS.
--------------------------------------------
Under section 354(a)(1), no gain or loss shall be recognized if stock
in a corporation that is a party to a reorganization is exchanged pursuant to a
plan of reorganization solely for stock in that corporation or another corporate
party to the reorganization. Pursuant to the Plan, the Shareholders will receive
solely Acquiring Fund Shares for their Target Shares. As noted above, it is our
opinion that the Reorganization will qualify as a C Reorganization, each Fund
will be a party to a reorganization, and the Plan constitutes a plan of
reorganization. Although section 354(a)(1) requires that the
- -------------------------------
12 See footnote 5.
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transferor corporation's shareholders exchange their shares therein for shares
of the acquiring corporation, the courts and the Service have recognized that
the Code does not require taxpayers to perform useless gestures to come within
the statutory provisions. SEE, E.G., EASTERN COLOR PRINTING CO., 63 T.C. 27, 36
(1974); DAVANT V. COMMISSIONER, 366 F.2d 874 (5th Cir. 1966). Therefore,
although Shareholders will not actually surrender Target Share certificates in
exchange for Acquiring Fund Shares, their Target Shares will be canceled on the
issuance of Acquiring Fund Shares to them (all of which will be reflected on
Acquiring Fund's books) and will be treated as having been exchanged therefor.
SEE Rev. Rul. 81-3, 1981-1 C.B. 125; Rev. Rul. 79-257, 1979-2 C.B. 136.
Accordingly, we believe that a Shareholder will recognize no gain or loss on the
constructive exchange of all its Target Shares solely for Acquiring Fund Shares
pursuant to the Reorganization.
VI. A SHAREHOLDER'S BASIS IN ACQUIRING FUND SHARES WILL BE A SUBSTITUTED
-----------------------------------------------------------------------
BASIS, AND ITS HOLDING PERIOD THEREFOR WILL INCLUDE ITS HOLDING PERIOD
-----------------------------------------------------------------------
FOR ITS TARGET SHARES.
---------------------
Section 358(a)(1) provides, in pertinent part, that in the case of an
exchange to which section 354 applies, the basis of the property permitted to be
received thereunder without the recognition of gain or loss shall be the same as
the basis of the property exchanged therefor, decreased by, among other things,
the fair market value of any other property and the amount of any money received
in the exchange and increased by the amount of any gain recognized on the
exchange by the shareholder (a "substituted basis"). As noted above, it is our
opinion that the Reorganization will qualify as a C Reorganization and, under
section 354, a Shareholder will recognize no gain or loss on the constructive
exchange of all its Target Shares solely for Acquiring Fund Shares in the
Reorganization. No property will be distributed to the Shareholders other than
Acquiring Fund Shares, and no money will be distributed to them pursuant to the
Reorganization. Accordingly, we believe that a Shareholder's aggregate basis in
the Acquiring Fund Shares it receives in the Reorganization will be the same as
the aggregate basis in its Target Shares it constructively surrenders in
exchange for those Acquiring Fund Shares.
Section 1223(1) provides in general that the period for which a
taxpayer has held property received in an exchange that has a substituted basis
shall include the period for which the taxpayer held the property exchanged
therefor if the latter property was a "capital asset" (as defined in section
1221) in the taxpayer's hands at the time of the exchange. SEE Treas. Reg. ss.
1.1223-1(a). As noted above, it is our opinion that a Shareholder will have a
substituted basis in the Acquiring Fund Shares it receives in the
Reorganization. Accordingly, we believe that a Shareholder's holding period for
the Acquiring Fund Shares it receives in the Reorganization will include, in
each instance, its holding period for the Target Shares it constructively
surrenders in exchange therefor,
provided the Shareholder holds those Target Shares as capital assets at the
Effective Time.
Very truly yours,
KIRKPATRICK & LOCKHART LLP
By:
------------------------------------
Theodore L. Press
SCHEDULE A
- ------------------------------------------------------- ------------------------------------------------------
ACQUIRING FUNDS TARGETS
--------------- -------
(EACH A SERIES OF MONARCH FUNDS) (EACH A SERIES OF FORUM FUNDS)
- ------------------------------------------------------- ------------------------------------------------------
Daily Assets Treasury Fund Daily Assets Treasury Obligations Fund
- ------------------------------------------------------- ------------------------------------------------------
Daily Assets Government Fund Daily Assets Government Obligations Fund
- ------------------------------------------------------- ------------------------------------------------------
Daily Assets Cash Fund Daily Assets Cash Fund
- ------------------------------------------------------- ------------------------------------------------------