The Treasury Department and the Internal Revenue Service have outlined additional steps they are taking to reduce the tax benefits of corporate inversions, and when possible, stop the transactions from occurring.
The Treasury noted that U.S. companies are currently taking advantage of an environment that allows them to move their tax residence overseas to avoid paying taxes, without making significant changes in the nature of their overall operations. Last year, the Treasury took targeted steps to address this issue, and the notice issued by the Treasury and the IRS on Thursday identifies additional ways to reduce the incentives to invert.
“Last year, Treasury took targeted action to address inversions,” said Treasury Secretary Jacob J. Lew. “This notice made a real difference by reducing some of the economic benefits of inversions, resulting in a decline in the pace of these transactions. This next action makes it even harder to invert, and further reduces the tax benefits for U.S. companies. While we intend to take additional action in the coming months, there is only so much the Treasury Department can do to prevent these tax-avoidance transactions. Only legislation can decisively stop inversions. The Administration has been working with Congress in an effort to reform our business tax system and address the issue of corporate inversions.”
Notice 2015-79 describes regulations that the Treasury Department and the IRS intend to issue that will address transactions that are structured to avoid the purposes of section 7874 by requiring the foreign acquiring corporation to be a tax resident in the relevant foreign country in order to have substantial business activities in the relevant foreign country; disregarding certain stock of the foreign acquiring corporation in “third-country” transactions; and clarifying the definition of nonqualified property for purposes of disregarding certain stock of the foreign acquiring corporation.
Notice 2015-79 also describes regulations that the Treasury Department and the IRS intend to issue that will address certain post-inversion tax avoidance transactions by defining inversion gain for purposes of Section 7874 to include certain income or gain recognized by an expatriated entity from an indirect transfer or license of property and providing for aggregate treatment of certain transfers or licenses of property by foreign partnerships for purposes of determining inversion gain; and requiring an exchanging shareholder to recognize all of the gain realized upon an exchange of stock of a controlled foreign corporation, or CFC, without regard to the amount of the CFC’s undistributed earnings and profits, if the transaction terminates the status of the foreign subsidiary as a CFC or substantially dilutes the interest of a United States shareholder in the CFC.
Specifically, the notice makes it more difficult for U.S. companies to undertake a corporate inversion by (1) limiting the ability of U.S. companies to combine with foreign entities using a new foreign parent located in a “third country,” (2) limiting the ability of U.S. companies to inflate the new foreign parent corporation’s size and therefore avoid the 80-percent ownership rule, and (3) requiring the new foreign parent to be a tax resident of the country where the foreign parent is created or organized. This third requirement will need to be met in order to satisfy the current rule that at least 25 percent of the new entity’s business activity is in the home country of the new foreign parent. These actions apply to deals closed today or after today.
In addition, the notice reduces the tax benefits of inversions by limiting the ability of an inverted company to transfer its foreign operations to the new foreign parent after an inversion transaction without paying current U.S. tax. These actions apply to inversions completed on or after Sept. 22, 2014.
Lastly, the latest notice makes some corrections to last year’s action, Notice 2014-52. Today’s notice corrects the “cash box” rule to ensure that assets used in an active insurance business are not treated as passive assets. It also corrects the rule that would disregard certain extraordinary dividends for purposes of the ownership requirement to ensure that the rule does not apply when a U.S. company is acquired in an all-cash, or mostly all-cash, acquisition.
The Treasury said it is actively working on the guidance announced in the first inversion notice released on Sept. 22, 2014, and expects to issue those regulations in the coming months. The Treasury also plans to continue to examine additional ways to reduce the tax benefits of inversions, including guidance to address earnings stripping. Thursday’s notice requests comments on additional ways that Treasury can make inversion deals less economically appealing.
“These actions further reduce the benefits of an inversion and make these transactions even more difficult to achieve,” said Lew. “This is an important step, but it is not the end of our work. We continue to explore additional ways to address inversions—including potential guidance on earnings stripping—and we intend to take further action in the coming months. Nonetheless, there is only so much Treasury can do to prevent these tax-avoidance transactions. We look forward to continuing to work with Congress in a bipartisan manner to reform our broken business tax system and to eliminate inversions for good.”
Lawmakers mostly reacted along party lines. Sen. Ron Wyden, D-Ore., the ranking Democrat on the Senate Finance Committee, acknowledged that congressional action is needed. “We welcome efforts from Treasury to curb overseas tax inversions,” he said in a statement. “Ultimately it’s up to Congress to deliver tax policy that better equips companies to compete and succeed by staying in the U.S. And the only way to get that done, and end the inversion virus that is plaguing our country, is through true bipartisan tax reform. Inversions are a red flag on the urgent need for tax reform. If we want to protect the economic strength of the U.S. and create jobs, this must be a top priority for all lawmakers in the year ahead. With leadership in both the House and Senate recognizing the importance of fundamental tax reform, there’s no reason we shouldn’t be able to get there.”
However, Senate Finance Committee chairman Orrin Hatch, R-Utah, was more guarded in his reaction. “A pure anti-inversion approach may have the unintended consequence of encouraging more acquisitions of United States companies by foreign-owned firms,” he said. “With the American tax system already favoring foreign takeovers, we need to chart a course that tips the balance away from inversions and foreign takeovers. While the best way to resolve these issues would be through a comprehensive tax overhaul that lowers the corporate tax rate and shifts the U.S. to a territorial tax system with base erosion protections, it’s imperative we explore what actions can be taken now. That Treasury has opted to, once again, issue guidance meant to curb inversions only further demonstrates the critical need to update our outdated tax laws and create an economic landscape that not only retains the best and brightest businesses in the world, but also encourages investment here at home.
“The Administration’s approach to this issue must be carefully scrutinized,” Hatch added. “And, in my view, any permanent solution to combatting inversions should be legislated by Congress. For that to happen, we must have strong leadership from the White House to forge bipartisan compromise. Only by working together can we keep our nation’s tax system globally competitive.”
House Ways and Means Chairman Kevin Brady, R-Texas, called for broader tax reforms. “Inversions are a serious problem that need to be addressed, but even Secretary Lew acknowledges that the only real solution to inversions is tax reform that makes American companies more competitive,” he said. “Mandating new rules to raise taxes on American businesses simply makes them more attractive takeover targets for foreign corporations. Treasury is contradicting its own call to pursue a more competitive tax code in favor of shortsighted counterproductive triage which will only lock American businesses in an even more uncompetitive tax system. Instead, we should all redouble our efforts to work together to fix our broken tax code.”
Rep. Sander Levin, D-Mich., the ranking Democrat on the House Ways and Means Committee, said he sees the new rules as a positive step. “Treasury’s actions today are a step forward in making inversions both less beneficial and more difficult for American companies to undertake,” he said. “One of the rules, for example, would reduce the pool of eligible foreign companies that can be acquired to facilitate inversions. Corporate tax inversions are costing the U.S. tens of billions of dollars in lost tax revenue and putting an increasing burden on American taxpayers, who cannot just move their addresses overseas to avoid taxes. Yet, as Secretary Lew noted in his letter yesterday, ‘only legislation can decisively stop inversions.’ The rumors that Pfizer may announce its plans to invert as soon as next week, making it potentially the largest inversion ever, highlights the urgent need for Congress to act, in addition to steps taken by Treasury.”
In January, Levin and another member of the Ways and Means Committee, Rep. Lloyd Doggett, D-Texas, introduced the Stop Corporate Inversions Act of 2015, which broadly follows the proposal laid out by President Obama in his fiscal year 2015 budget. Sen. Dick Durbin, D-Ill., and Jack Reed, D-R.I., introduced companion legislation in the Senate. The House bill would apply to inversions completed after May 8, 2014.
“Treasury is belatedly issuing a modest clarification when much bolder action is required," said Doggett. "The appalling Pfizer deal is a particularly bitter pill to swallow. If Pfizer wants to pay Irish taxes, how about they start charging Irish prices to Americans for their drugs. Treasury has yet to respond to a longstanding, specific proposal that the Administration categorize debt as equity for these inverted corporations, curbing the practice of earnings stripping. With a Republican Congress obstructing legislation, the Administration must utilize every power it has to end both price gouging and tax dodging. So far, it has failed to do so.”
Doggett and Rep. Rosa DeLauro, D-Conn., along with other members of Congress, urged Treasury Secretary Jack Lew in September to publish an annual list of inverted companies and use executive authority to crack down on these tax avoidance schemes. Inversions occur when U.S. companies move their headquarters overseas, but only on paper, to avoid paying their fair share of U.S. taxes.
“The new guidance announced by Treasury will limit the benefit of and discourage some corporate inversions,” said DeLauro. “Congress and the Administration need to do more to prevent companies from moving their mailboxes abroad to avoid paying taxes in the United States. Treasury should use their authority to prohibit earnings stripping. These companies built their businesses on the back of our education system, our research and development incentives, our skilled workforce, and our infrastructure – all funded by honest, hardworking Americans who pay their taxes. We cannot continue to allow these corporations to pretend they are American while reaping the benefits this country has to offer, yet claim to be another nationality when the tax bill comes.”
Register or login for access to this item and much more
All Accounting Today content is archived after seven days.
Community members receive:
- All recent and archived articles
- Conference offers and updates
- A full menu of enewsletter options
- Web seminars, white papers, ebooks
Already have an account? Log In
Don't have an account? Register for Free Unlimited Access