Daily Tax Update - February 12, 2013: Tax Court Holds That STARS Transaction Lacked Economic Substance

TAX COURT HOLDS THAT STARS TRANSACTION LACKED ECONOMIC SUBSTANCE:  On February 11, 2013, the Tax Court determined in Bank of New York Mellon Corp. v. Comm’r that the Structured Trust Advantaged Repackaged Securities transaction (“STARS transaction”) at issue lacked economic substance and should be disregarded for federal income tax purposes.  In addition, the Tax Court held that Bank of New York Mellon Corp. (“BNY”) could not deduct expenses incurred in furtherance of such STARS transaction and that income attributed to a foreign trustee was U.S.-source income.  This case involved an issue of first impression with respect to whether a bank was entitled to claim the foreign tax credits and deductions resulting from a STARS transaction.

  • As part of the transaction, BNY transferred income-producing assets to a trust with a U.K. trustee.  The trust was subject to U.K. tax on its income.  The STARS transaction generated approximately $199 million in foreign tax credits for the combined years at issue.  BNY claimed foreign tax credits and expense deductions on its 2001 and 2002 federal consolidated tax returns, and also reported income from assets transferred to the trust as foreign source income. 
  • The Tax Court, in an opinion by Judge Diane L. Kroupa, ultimately determined that, “[t]he STARS transaction in essence…was an elaborate series of pre-arranged steps designed as a subterfuge for generating, monetizing and transferring the value of foreign tax credits among the STARS participants.”  Moreover, “the STARS transaction (bifurcated or integrated) lacks economic substance and Congress did not otherwise intend to provide foreign tax credits for transactions such as STARS.  Accordingly, the STARS transaction is invalid for Federal tax purposes and the foreign tax credits and expense deductions claimed in connection with it are disallowed.”
  • The opinion can be accessed via: Bank of New York Mellon Corporation, as Successor in Interest to The Bank of New York Company, Inc. v. Commissioner, (Tax Ct. 2013)
  • For additional information, contact Philip R. West - mailto:pwest@steptoe.comor Matthew D. Lerner - mailto:mlerner@steptoe.com

PRESIDENT’S STATE OF THE UNION TO FOCUS ON JOBS AND THE ECONOMY:  Tonight, President Obama will lay out his agenda for his second term in his State of the Union Address.  According to White House Press Secretary Jay Carney, “[Y]ou will hear in the President's State of the Union an outline from him for his plan to create jobs and grow the middle class.  The President has always viewed the two speeches, the Inaugural Address and the State of The Union, as two acts in the same play.  And the fact is, while there was a focus on some of the other elements of the Inaugural Address, that the core emphasis that he has always placed in these big speeches remains the same and will remain the same, which is the need to make the economy work for the middle class, because the middle class is the engine that drives this country forward and which will, if it is given the right tools and the right opportunities, will drive us forward in the 21st century.  I'm not going to get into specifics in terms of my preview here of the State of the Union.  But he will focus on the proposals that are necessary to help the middle class grow and help the economy grow.”

OECD BEPS (Base Erosion and Profit Shifting) REPORT URGES STRONGER INTERNATIONAL CO-OPERATION ON CORPORATE TAX:  A long awaited high profile report addressing base erosion and profit shifting was released today by the Organization for Economic Cooperation and Development. The report was initiated at the behest of, and was funded by a special grant to the OECD by, the UK government, in conjunction with the German and French governments following a G-20 statement of support and high profile hearings in the UK focused on the taxes paid in the UK by certain multinational corporations.  The report states that “some multinationals use strategies that allow them to pay as little as 5% in corporate taxes when smaller businesses are paying up to 30%. OECD research also shows that some small jurisdictions act as conduits, receiving disproportionately large amounts of Foreign Direct Investment compared to large industrialised countries and investing disproportionately large amounts in major developed and emerging economies.”

  • “These strategies, though technically legal, erode the tax base of many countries and threaten the stability of the international tax system,” said OECD Secretary-General Angel Gurría. “As governments and their citizens are struggling to make ends meet, it is critical that all tax payers - private and corporate - pay their fair amount of taxes and trust the international tax system is transparent. This report is an important step towards ensuring that global tax rules are equitable, and responds to the call that the G-20 has made for the OECD to help provide solutions to the global economic crisis.”
  •  The report can be accessed here.
  • For additional information, contact Philip R. West - pwest@steptoe.com

SEN. CASEY SELECTED TO FINANCE COMMITTEE:  Senate Finance Committee Chairman Max Baucus announced that Senator Bob Casey (D-PA) will fill the vacancy left by former Senator John Kerry (D-MA), who left the Senate earlier this month to become Secretary of State.

  • Baucus said, “Bob Casey is a strong fighter for Pennsylvania and an important voice on jobs and the economy.  Bob has a proven record of standing up for the middle class on economic issues, and he will make a valuable addition to the Finance Committee.  I’m looking forward to working with Bob to move our economic recovery forward, reform the tax code and address our fiscal problems.”

MISCELLANEOUS GUIDANCE RELEASED:

Revenue Ruling 2013-2 provides tables of covered compensation under § 401(l)(5)(E) of the Internal Revenue Code (the “Code”) and the Income Tax Regulations, thereunder, for the 2013 plan year. [These tables assist pension plan administrators and payroll offices.]

Notice 2013-11 provides guidance on the 25-year average segment rates that are applied to adjust the otherwise applicable 24-month average segment rates that are used to compute the minimum contribution requirements for single-employer defined benefit plans under § 430 of the Internal Revenue Code (Code) and § 303 of the Employee Retirement Income Security Act of 1974 (ERISA) for plan years beginning in 2013.  The guidance reflects the changes made to the Code and ERISA by the Moving Ahead for Progress in the 21st Century Act (MAP-21), Pub. L. No.112 141.

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.

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