Daily Tax Update - December 8, 2011: IRS Issues Final Regs on Conduit Financing and Disregarded Entities

TREASURY, IRS FINALIZE REGULATIONS REGARDING TREATMENT OF DISREGARDED ENTITIES IN CONDUIT FINANCING RULES:  Treasury and the IRS have issued final regulations that treat disregarded entities as "persons" for purposes of the Treas. Reg. § 1.881-3 conduit financing regulations.  The final regulations adopt the approach of proposed regulations (REG-113462-08) issued in 2008.

  • The conduit financing regulations (Treas. Reg. § 1.881-3) generally allow the IRS to disregard the participation of intermediate entities in certain back-to-back financing transactions, and instead recharacterize the transaction as directly between two parties, for purposes of imposing withholding tax.  Specifically, the participation of one or more intermediate entities in a "financing arrangement" may be disregarded where such entities are acting as "conduit entities."  A financing arrangement is defined as a series of "financing transactions" by which one "person" advances money or other property, or grants rights to use property, and another "person" receives money or other property, or rights to use property, if the advance and receipt are effected through one or more other "persons." 
  • Because the assets and activities of a disregarded entity are generally treated as the assets and activities of the owner of the disregarded entity, disputes arose as to how transactions involving disregarded entities should be treated under Treas. Reg. § 1.881-3.  Because the final regulations now explicitly provide that disregarded entities constitute "persons," transactions entered into by a disregarded entity will be taken into account for purposes of determining whether a financing arrangement exists.
  • The final regulations apply to payments made on or after December 9, 2011.  According to the preamble to the final regulations, "[n]o inference should be drawn from any provision of these final regulations as to the treatment of financing transactions entered into with disregarded entities before the effective date of these final regulations or involving hybrid instruments."
  • The proposed regulations had requested comments on whether hybrid instruments should constitute financing transactions under the conduit financing regulations.  The preamble to the final regulations states that "Treasury and the IRS have decided to continue to study the area and not to provide any specific rules on hybrid instruments as part of the regulation package. . . .  The Treasury Department and the IRS continue to solicit comments on the treatment of hybrid instruments in financing transactions."
  • The regulations can be accessed here.
  • For additional information, contact Philip R. West - pwest@steptoe.com or  Amanda Varma - avarma@steptoe.com

CONTROVERSIAL PROVISIONS ADDED TO HOUSE PAYROLL TAX CUT BILL -- SENATE BILLS FAIL AGAIN:  House Republicans plan to add language to their payroll tax cut extension bill in the hope of gaining additional Republican support.  The proposed additions would give the Federal Energy Regulatory Commission authority to regulate the Keystone XL pipeline and include a provision on immigration. 

  • President Obama said yesterday he would veto the bill if "extraneous" provisions are included in the bill.  Obama said, "The payroll tax cut is something that House Republicans, as well as Senate Republicans, should want to do regardless of any other issues … it shouldn't be held hostage for any other issues that they may be concerned about."  Obama added, "And so my warning is not just specific to Keystone.  Efforts to tie a whole bunch of other issues to something that they should be doing anyway will be rejected by me."
  • Language was also added to the bill to eliminate Earned Income Tax Credit payments to illegal immigrants by requiring that recipients provide more identifying information to qualify for the EITC.  The bill also includes a two-year "doc fix" that prevents cuts to physicians under Medicare.
  • Although House Majority Leader Eric Cantor had been pushing to include a tax repatriation holiday provision in the bill, it was not included.  House Speaker Boehner said, "Mr. Cantor and I agree on the issue of repatriation and we agree that this is not the right place to do that bill as much as we’d like to do it.  The arena of an overall reform of our tax code is probably the best place to do it."
  • This afternoon, the Senate failed to obtain cloture on bills offered by both Democrats and Republicans. 

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