M & A Law Prof Blog

Editor: Brian JM Quinn
Boston College Law School

Tuesday, April 5, 2016

New inversion rules and whacking moles

In its ongoing battle to stem the inversion tide, the Treasury Dept has just announced new anti-inversion "temporary regulations." The first of these provides companies with guidance that the Treasury will disregard stock acquired in prior inversions/acquisitions that may have been acquired in order to get around previous inversion rules:

It is not consistent with the purposes of section 7874 to permit a foreign company (including a recent inverter) to increase in its size in order to avoid the inversion threshold under current law for a subsequent acquisition of an American company.  For the purposes of  computing the ownership percentage when determining if an acquisition is treated as an inversion under current law, today’s action excludes stock of the foreign company attributable to assets acquired from an American company within three years prior to the signing date of the latest acquisition.

So structuring transactions to get around the anti-inversion rules won't work. Strikes me that Treasury is like a little Dutch boy trying plug holes in the dike with his fingers.  Or, maybe a better metaphor, it's like Treasury is playing Whack-a-mole. It's hard to imagine Treasury will ever really win this fight.  But, it won't be for lack of trying.

The second set of temporary regulations Treasury announced yesterday was  a ban on earnings stripping (for some reason, I thought they already did this): 

Under current law, following an inversion or foreign takeover, a U.S. subsidiary can issue its own debt to its foreign parent as a dividend distribution. The foreign parent, in turn, can transfer this debt to a low-tax foreign affiliate.  The U.S. subsidiary can then deduct the resulting interest expense on its U.S. income tax return at a significantly higher tax rate than is paid on the interest received by the related foreign affiliate. In fact, the related foreign affiliate may use various strategies to avoid paying any tax at all on the associated interest income.  When available, these tax savings incentivize foreign-parented firms to load up their U.S. subsidiaries with related-party debt.
 
·         Today’s action makes it more difficult for foreign-parented groups to quickly load up their U.S. subsidiaries with related-party debt following an inversion or foreign takeover, by treating as stock the instruments issued to a related corporation in a dividend or a limited class of economically similar transactions. For example, the proposed regulations:
 
    o   Treat as stock an instrument that might otherwise be considered debt if it is issued by a subsidiary to its foreign parent in a shareholder dividend distribution;
    o   Address a similar “two-step” version of a dividend distribution of debt in which a U.S. subsidiary (1) borrows cash from a related company and (2) pays a cash dividend distribution to its foreign parent; and
    o   Treat as stock an instrument that might otherwise be considered debt if it is issued in connection with certain acquisitions of stock or assets from related corporations in transactions that are economically similar to a dividend distribution.
By treating these loan repayments as stock dividends, Treasury hopes to capture US based profits here in the US and make them subject to taxation. OK. Sure. We'll see if that works. It probably won't be enough to end this issue. A mole will likely just pop up somewhere else soon enough.
 
-bjmq

  

http://lawprofessors.typepad.com/mergers/2016/04/new-inversion-rules.html

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