Final Regs. Issued on Killer B Transactions

By Kristin N. Hanson, CPA, Oak Brook, IL

Editor: Frank J. O’Connell Jr., CPA, Esq.

Foreign Income & Taxpayers

On May 19, 2011, the IRS issued final regulations under Sec. 367(b) to close a loophole that allowed one or more foreign corporations involved in a triangular reorganization to repatriate earnings tax free to the United States in certain circumstances (T.D. 9526). These transactions are often referred to as “Killer B” transactions. The final regulations primarily adopt the proposed regulations that were published in May 2008 and are effective for all transactions occurring on or after May 17, 2011.


In 2006, the IRS issued Notice 2006-85, which initially announced the IRS’s plan to issue regulations that would address Killer B transactions. A year later, the IRS issued Notice 2007-48 to expand the scope of Notice 2006-85. In a Killer B transaction, the parent company stock is used to purchase the stock or assets of a target. It was used as a way to repatriate foreign earnings without subjecting the U.S. parent company to any U.S. tax on the transaction.

Example: U.S. parent company USP owns 100% of USSub, a U.S. subsidiary, and 100% of controlled foreign corporation CFC1. USSub owns 100% of CFC2, another controlled foreign corporation. In the transaction, CFC1 buys parent stock from USP for cash. CFC1 then exchanges the parent stock with USSub for the stock or property of CFC2 in a transaction qualifying as a triangular reorganization under Sec. 368(a). CFC1 now owns the stock or assets of CFC2, and USSub owns the parent stock.

In this transaction, taxpayers took the position that the transaction qualified as a triangular reorganization under Sec. 368(a) and that under Sec. 1032 the parent company should recognize no gain or loss on the receipt of the cash in exchange for its stock. CFC1 does not recognize any gain or loss on the exchange because the basis and the fair market value of the stock are the same.

In the next step of the transaction, CFC1 transfers the USP stock to USSub in exchange for the stock or assets of the target, CFC2. Generally, under Sec. 1248, if a U.S. person sells or exchanges stock in a foreign corporation and that person owns 10% or more of the total combined voting power of all classes of stock entitled to vote of such foreign corporation at any time during the five-year period ending on the date of the sale or exchange when that foreign corporation was a controlled foreign corporation, the gain recognized on the sale or exchange of such stock will be included in the gross income of the U.S. seller as a dividend to the extent of the U.S. person’s ratable share of the foreign corporation’s post-1962 earnings and profits. However, under Regs. Sec. 1.367(b)-4(b)(1)(ii), the exchange by USSub of the target stock for the parent stock from CFC1 would not create a deemed dividend for USSub under Sec. 1248 since the stock received in the exchange is stock of a domestic corporation and that domestic corporation is a Sec. 1248 shareholder of the acquired corporation.

Under Sec. 361, CFC1 would not recognize gain or loss on the parent stock that is exchanged since the exchange of property is under a plan of reorganization and is exchanged solely for stock or securities in another corporation party to the reorganization. These transactions were also carefully planned to ensure that CFC1 did not own the USP stock on the last day of any quarter during the year in order to ensure they did not have an investment in U.S. property under Sec. 956 at the end of the quarter and did not have any income under Sec. 951 related to it.

Notice 2006-85 stated that the regulations would make adjustments with respect to USP and CFC1 in order to treat the property transferred from CFC1 to USP as a distribution under Sec. 301(c). The deemed distribution would be treated separately from the transfer by USP of the USP stock to CFC1 as a part of the reorganization. The adjustments would have the following effects:

  • USP will be required to include in gross income the deemed dividend from CFC1.
  • There will be a reduction in USP’s basis in its CFC1 stock.
  • USP will recognize gain from the sale or exchange of property.
  • CFC1 will reduce its earnings and profits as a result of the distribution.

Notice 2007-48 expanded on the prior notice by adding that the regulations would also address the situation in which CFC1 acquires the USP stock from the USP shareholders rather than directly from USP. In addition, it added that the regulations would include a rule that requires the earnings and profits of other corporations to be taken into account if the principal purpose of these corporations is to avoid the adjustments discussed in the first notice.

Final Regs.

The final regulations largely adopt the provisions of the proposed and temporary regulations (REG-136020-07). Regs. Sec. 1.367(b)-10 provides that for purposes of a triangular reorganization as defined in Regs. Sec. 1.358-6(b)(2), the amount of money transferred from CFC1 to USP will be treated as a deemed distribution. The deemed distribution will also include any assumption of liability assumed by CFC1 as well as the fair market value of any property that is transferred from CFC1 to USP in exchange for the USP stock. The deemed distribution will follow the ordering rules of Sec. 301(c) regarding whether the distribution will be a dividend, return of capital, or capital gain to USP. In addition, when the subsidiary transferring company is a foreign corporation as discussed in the above example, the rules related to Sec. 902 indirect foreign tax credits and Sec. 959 previously taxed income will also apply to the distribution. If the subsidiary corporation is a U.S. corporation that transfers property to a foreign parent, the rules of Secs. 881, 882, 897, 1442, and 1445, related to the taxation of non-U.S. entities and withholding, will also apply to the distribution.

Regs. Sec. 1.367(b)-10 also states that immediately after the deemed distribution by CFC1, USP will be deemed to make a contribution of the same amount to CFC1 with no built-in gain or loss. If USP is in control of CFC1 at the time of the acquisition of the USP stock, the deemed distribution and contribution will be deemed to occur immediately before the acquisition of the USP stock. If USP is not in control prior to the transaction, the deemed distribution and contribution are deemed to occur immediately after the acquisition of the USP stock and immediately before the triangular reorganization.

The final regulations also contain an anti-abuse provision stating that if the subsidiary corporation in the transaction was created, organized, or funded to avoid the application of this section with respect to the earnings and profits of a related corporation under Sec. 267(b), the earnings and profits of the subsidiary will be deemed to include the earnings and profits of the related corporation for purposes of determining the consequences of the adjustments in this section.

The final regulations make a few changes to the proposed regulations issued in 2008:

  • The regulations will not apply if neither the parent nor the subsidiary corporation is a controlled foreign corporation immediately before or after the triangular reorganization.

  • The regulations will not apply if the parent corporation is a foreign corporation, the subsidiary is a U.S. corporation, the dividend from the subsidiary to the parent would not be subject to tax in the United States under Sec. 881 or 882, and the parent’s stock in the subsidiary is not considered a U.S. real property interest.

  • The final regulations make changes to the priority rule in the 2008 regulations, which provided that if the amount of gain on the target stock that would otherwise be recognized under Sec. 367(a)(1) is less than the amount of the deemed dividend required to be picked up as part of the 2008 regulations, the 2008 regulations apply first to the transaction. The final regulations expand the rule to include the gain on both target stock and securities as well as to include the amount of any gain on the deemed distribution as well as the dividend amount for purposes of the comparison between the final regulations and Sec. 367(a)(1).

  • The final regulations combine the separate rules of the proposed regulations regarding timing for situations when the parent stock is acquired from the parent as well as when the parent stock is acquired from others.

As discussed above, the final regulations are effective for transactions occurring on or after May 17, 2011. For triangular reorganizations prior to that date and after May 2008, the proposed and temporary regulations will apply.


Frank J. O’Connell Jr. is a partner in Crowe Horwath LLP in Oak Brook, IL.

For additional information about these items, contact Mr. O’Connell at (630) 574-1619 or

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

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