In a move to reduce the tax benefits of, and therefore the incentives for, corporate inversions, the IRS announced additional rules designed to curtail the ability of an inverted company to access foreign subsidiaries' earnings without paying U.S. tax (Notice 2015-79). In a corporate inversion, a multinational company based in the United States replaces its U.S. parent with a foreign parent. The IRS issued the notice to inform taxpayers that it intends to issue regulations, and that the regulations will generally apply to transactions completed on or after Nov. 19, 2015.
Among the new rules will be one requiring the foreign acquiring corporation to be subject to tax as a resident of the foreign country in order to be deemed to have substantial business activities in the foreign country. If a corporation is deemed to have substantial business activities in a foreign country, it is not subject to U.S. tax. In many cases, a corporation may have significant business activities in a foreign country but still not be subject to tax, thus defeating the purpose of the anti-inversion rules.
A second new rule will disregard certain stock of the foreign acquiring corporation in "third-country" transactions, that is, transactions in which a U.S. corporation combines with a foreign corporation and they establish a new foreign parent in a third country. The IRS is concerned that this is often done for tax-avoidance purposes. Therefore, in determining whether the corporation meets the 80% control rule (in which case it will be treated as a domestic corporation), the new provision will disregard stock of the new acquiring foreign parent issued to shareholders of the existing foreign corporation if certain requirements are met.
Another important provision in the notice clarifies the definition of nonqualified property for purposes of disregarding certain stock of the foreign acquiring corporation. Temp. Regs. Sec. 1.7874-4T(i)(7)provides that the term nonqualified property means (1) cash or cash equivalents, (2) marketable securities, (3) certain obligations, and (4) any property acquired in a transaction (or series of transactions) with a principal purpose of avoiding Sec. 7874. The first three types of property are referred to as specified nonqualified property, and the fourth is referred to as avoidance property. The IRS is concerned that taxpayers may be defining avoidance property narrowly, and it intends to issue regulations to clarify that avoidance property includes any property (other than specified nonqualified property) acquired with a principal purpose of avoiding the purposes of Sec. 7874, regardless of whether the transaction involves an indirect transfer of specified nonqualified property.
According to the IRS, it also plans to issue regulations to address post-inversion tax-avoidance transactions. In particular, the IRS will target transfers or licenses of property that occur post-inversion to avoid the reach of Sec. 7874. It also plans to amend the regulations under Sec. 367 to prevent avoidance of tax on unrealized net built-in gain in property held by an expatriated foreign subsidiary.
The notice also made changes to the earlier guidance on corporate inversions issued in 2014 in Notice 2014-52.