Taxing Intellectual Property Transfers

By Heather Gorman, J.D., LL.M., Washington, DC

Editor: Annette B. Smith, CPA

Foreign Income & Taxpayers

Outbound transfers of intellectual property (IP) can raise difficult issues for U.S. persons. One scenario that illustrates this point involves an outbound transfer of IP by a U.S. company to a foreign subsidiary that then transfers the IP to another lower-tier foreign subsidiary.

Example: USCo transfers Sec. 936(h)(3)(B) IP with a seven-year useful life to controlled foreign corporation CFC1 solely in exchange for stock in CFC1 on day 1. Pursuant to a plan, CFC1 then transfers the IP to CFC2 solely in exchange for stock in CFC2 on day 2. The IP constitutes substantially all of CFC2’s assets. In year 3, CFC2 sells the IP to an unrelated person.

USCo’s transfer of IP to CFC1 is subject to Sec. 367(d). CFC1’s further transfer of that IP to CFC2 is governed by Temp. Regs. Sec. 1.367(d)-1T(f)(3). The sale of IP in year 3 causes USCo to recognize gain under Temp. Regs. Sec. 1.367(d)-1T(f)(1).

The transfer of the property from CFC1 to CFC2 solely in exchange for stock in CFC2 also creates an indirect stock transfer under Regs. Sec. 1.367(a)-3(d)(1)(vi). As such, the second transfer of IP subjects the transfer to the rules of Sec. 367(a) and requires USCo to file a gain recognition agreement (GRA) on CFC2’s stock or face gain on the transfer. Moreover, CFC2’s later disposition of the IP to an unrelated person may trigger gain under Sec. 367(a).

The double transfer of IP creates a transaction that is subject to the rules of both Secs. 367(a) and 367(d). Because regulations do not provide clear coordination, the outbound transfer of IP could be subject to both regimes. While subjecting the transfer to a double tax seems inappropriate, it is unclear which rules govern and whether there is an ordering rule on which a taxpayer can rely.

Regimes for Taxing Transfers

Generally, under Sec. 351(a) “no gain or loss shall be recognized if property is transferred to a corporation by one or more persons solely in exchange for stock,” provided that immediately after the transfer, the transferor is in control of the corporation. However, when the transferor is a U.S. person and the transferee is a foreign corporation, under Sec. 367(a)(1) the gain on the transfer is taxed, unless an exception under Sec. 367(a)(2) or (3) applies, because the foreign transferee is deemed not to be a corporation for U.S. tax purposes.

Sec. 367(d)(1) provides alternative rules to the Sec. 367(a)(1) gain recognition rule if the transferred asset is an asset defined in Sec. 936(h)(3)(B). Under Sec. 367(d)(2), the U.S. person is deemed to have sold the IP to the foreign corporation in exchange for contingent payments from the transferee foreign corporation. The contingent payments have the source and character of a foreign royalty that is contingent upon “the productivity, use, or disposition of such property.”

The indirect stock transfer rules provide additional guidance. Regs. Sec. 1.367(a)-3(d) identifies several different types of transactions that will give rise to indirect stock transfers that are subject to Sec. 367(a). These transactions include a U.S. person’s transfer of property (in this case IP) in a transaction described in Sec. 351, provided that the foreign transferee corporation transfers some or all of the property in a subsequent Sec. 351 transaction to another foreign corporation. Under Regs. Sec. 1.367(a)-3(d), the planned double transfer of the IP in the example above should give rise to an indirect transfer by USCo to the extent of the IP that is transferred to CFC2.

Generally, a U.S. person is required to file Form 926, Return by a U.S. Transferor of Property to a Foreign Corporation, reporting any Sec. 367(a) or 367(d) transfers in the tax year of a transfer under Sec. 6038B. Under Regs. Sec. 1.6038B-1(b), USCo would be required to report the IP transferred to CFC1 in year 1 (i.e., the Sec. 367(d) transfer). USCo would also be required to report the IP transferred to CFC2 in year 2 (i.e., the indirect stock transfer). However, Regs. Sec. 1.6038B-1(b)(2)(i)(B)(1) carves out an exception to the indirect stock transfer reporting requirement, providing that a U.S. transferor who owns “5 percent or more of the total voting power or the total value of the transferee foreign corporation immediately after the transfer” must file a GRA under Regs. Sec. 1.367(a)-8 instead of Form 926. If USCo fails to file the GRA on the indirect stock transfer in a timely manner, the indirect stock transfer is a taxable transaction.

Assuming that USCo filed Form 926 for the Sec. 367(d) transfer and filed the GRA (which often is overlooked) for the indirect stock transfer in year 1, what happens in year 3, when CFC2 sells the IP to an unrelated person?

As discussed, Sec. 367 prescribes two operative regimes where intangible property is transferred in exchanges described in Sec. 351. There are several reasons for adopting the view that Sec. 367(d), and not Sec. 367(a), should apply to tax the IP in the example. First, Sec. 367(d)(1)(A) provides that Sec. 367(a) “shall not apply” when a U.S. person transfers intangible property to a foreign corporation in an exchange under Sec. 351 or 361. Second, Sec. 367(d)(1)(B) provides that the provisions of Sec. 367(d) “shall apply” in those circumstances. Under Sec. 367(d), Treasury was given broad authority to address the transfer of IP, but nothing in the regulations cedes that authority to Sec. 367(a) in this case. However, there is no specific regulation that would influence a choice between the Sec. 367(d) regime and the Sec. 367(a) regime for purposes of the example. Nevertheless, the contingent payments referred to in Sec. 367(d) reflect congressional intent to tax outbound transfers that otherwise might escape taxation under Sec. 367(a).

In light of this approach, Sec. 367(d)(2) directs the tax on USCo to reflect a contingent payment “commensurate with the income attributable to the intangible,” which likely factors into this tax any appreciation in the intangible. Temp. Regs. Sec. 1.367(d)-1T(f)(1)(ii) specifically provides that USCo should recognize a contingent payment commensurate with the “part of its taxable year that the intangible property was held by the transferee foreign corporation and thereafter shall not be required to recognize any further deemed payments.”


Neither the Code nor the regulations explicitly address whether both Secs. 367(a) and 367(d) act to tax the IP twice or whether one of the regimes takes precedence over the other. Furthermore, the IP could have either appreciated or depreciated from the time of the transfers. If the assets depreciate in value, Sec. 367(d) may result in less gain; however, if the IP appreciates in value, Sec. 367(a) may result in less gain. This issue may be addressed when the IRS and Treasury issue Sec. 367(d) regulations or through a modification of the Sec. 367(a) indirect stock rules. In the meantime, taxpayers are left to struggle with what appears to be a very difficult issue.


Annette Smith is a partner with PricewaterhouseCoopers LLP, Washington National Tax Services, in Washington, DC.

For additional information about these items, contact Ms. Smith at (202) 414-1048 or

Unless otherwise noted, contributors are members of or associated with PricewaterhouseCoopers LLP.

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