Daily Tax Update - July 13, 2012: Treasury, IRS Release Notice Addressing Certain Outbound Asset Reorganizations Involving Intangible Property

TREASURY, IRS RELEASE NOTICE ADDRESSING CERTAIN OUTBOUND ASSET REORGANIZATIONS INVOLVING INTANGIBLE PROPERTY:  Today, the IRS and Treasury issued Notice 2012-39, which provides guidance under section 367(d) addressing "transactions intended to repatriate earnings from foreign corporations without the appropriate recognition of income."  The guidance applies to transfers occurring on or after July 13, 2012.

  • The notice provides an example of a transaction intended to be addressed by the new rules.  In the example, a domestic corporation ("USP") owns 100% of a domestic subsidiary ("UST").  USP's basis in its UST stock equals the value of the stock ($100x).  UST has one asset, a patent with a tax basis of zero, and no liabilities. USP also owns all the stock of a foreign corporation ("TFC").  UST transfers the patent to TFC in exchange for $100x of cash and, in connection with the transfer, UST distributes the $100x of cash to USP and liquidates.
    • The taxpayer takes the position that neither USP nor UST recognizes gain or dividend income upon the receipt of the $100x of cash.  Under the section 367(d) regulations, USP includes in gross income an appropriate arm’s length charge for the use of the patent and establishes a receivable from TFC in the amount of the income inclusion.  USP receives both $100x and repayments of the receivable over time, but only recognizes income in the amount of the inclusions over time.
  • The notice states that Treasury and the IRS will issue regulations addressing the transfer of section 367(d) property in a section 361 exchange to a transferee foreign corporation (an "outbound section 367(d) transfer") to ensure that "with respect to all outbound section 367(d) transfers, the total income to be taken into account under section 367(d) is either included in income by the U.S. transferor in the year of the reorganization or, where appropriate, over time by one or more qualified successors."
    • The regulations will provide that, in an outbound section 367(d) transfer, the U.S. transferor will take into account income under section 367(d)(2)(A)(ii)(I) (i.e., the provision treating the U.S. transferor as receiving annual payments) with respect to each "qualified successor" by treating as a prepayment of such annual income the product of the "section 367(d) percentage" multiplied by the sum of (a) the money and fair market value of property received by the qualified successor in exchange for the U.S. transferor stock and (b) the product of the qualified successor’s ownership interest percentage multiplied by the amount of non-qualifying liabilities assumed by the transferee foreign corporation or satisfied by the U.S. transferor.  The amount is included in income by the U.S. transferor in the year of the outbound section 367(d) transfer.  As a qualified successor is treated as receiving annual payments, those payments will be excluded from gross income to the extent of the income previously taken into account by the U.S. transferor.
      • A “qualified successor” is a shareholder of the U.S. transferor that is a domestic corporation (other than a RIC, REIT, or S corporation) provided such shareholder receives qualified stock in the reorganization or immediately after the reorganization owns qualified stock other than qualified stock received in the reorganization.  Qualified stock is stock in the transferee foreign corporation.
      • The "section 367(d) percentage" is the ratio of the aggregate value of the section 367(d) property transferred by the U.S. transferor to the transferee foreign corporation in the section 361 exchange to the aggregate value of all property (e.g., all section 367(a) and 367(d) property) transferred in the exchange.
    • The regulations will also provide that, in an outbound section 367(d) transfer, the U.S. transferor will take into account income under section 367(d)(2)(A)(ii)(II) in an amount equal to the product of (a) the sum of the ownership interest of all non-qualified successors, if any, multiplied by (b) the amount of gain realized on all the section 367(d) property transferred in the section 367(d) exchange.
  • For additional information, contact Philip R. West - pwest@steptoe.com or Amanda Varma - avarma@steptoe.com
  • The notice can be accessed here.

TAX BILLS INTRODUCED JULY 12TH:

1. [112th] H.R.6109 : To amend the Internal Revenue Code of 1986 to extend the research and development tax credit, to limit treaty benefits with respect to certain deductible related-party payments, and to treat general aviation aircraft as 7-year property.
Sponsor: Rep Levin, Sander M. [MI-12] (introduced 7/12/2012)   Cosponsors (10)
Committees: House Ways and Means
Latest Major Action: 7/12/2012 Referred to House committee. Status: Referred to the House Committee on Ways and Means.

2. [112th] H.R.6115 : To amend the Internal Revenue Code of 1986 to increase the contribution limit for Coverdell education savings accounts from $2,000 to $10,000.
Sponsor: Rep Buerkle, Ann Marie [NY-25] (introduced 7/12/2012)    Cosponsors (1)
Committees: House Ways and Means
Latest Major Action: 7/12/2012 Referred to House committee. Status: Referred to the House Committee on Ways and Means.

3. [112th] H.R.6120 : To amend the Internal Revenue Code of 1986 to allow a credit against tax for qualified manufacturing facility construction costs.
Sponsor: Rep Honda, Michael M. [CA-15] (introduced 7/12/2012)   Cosponsors (8)
Committees: House Ways and Means
Latest Major Action: 7/12/2012 Referred to House committee. Status: Referred to the House Committee on Ways and Means.

4. [112th] S.3377 : A bill to amend the Internal Revenue Code of 1986 to exempt private foundations from the tax on excess business holdings in the case of certain philanthropic enterprises which are independently supervised, and for other purposes.
Sponsor: Sen Lieberman, Joseph I. [CT] (introduced 7/12/2012)   Cosponsors (1)
Committees: Senate Finance
Latest Major Action: 7/12/2012 Referred to Senate committee. Status: Read twice and referred to the Committee on Finance.

INTERNAL REVENUE SERVICE - CIRCULAR 230 DISCLOSURE: 
As provided for in Treasury regulations, advice (if any) relating to federal taxes that is contained in this communication (including attachments) is not intended or written to be used, and cannot be used, for the purpose of (1) avoiding penalties under the Internal Revenue Code or (2) promoting, marketing or recommending to another party any plan or arrangement addressed herein.

STEPTOE & JOHNSON LLP - TAX PRACTICE 
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