The IRS issued new final regulations on cross-border reverse triangular reorganizations, popularly known as “Killer B” transactions (TD 9526). The regulations finalize with some modifications proposed regulations that were issued in 2008 (REG-136020-07).
Previously, in Notices 2006-85 and 2007-48, the Service had said new rules were needed to thwart the transactions, which are designed to allow corporations to repatriate foreign subsidiary earnings tax-free, in violation of IRC § 367. In such a transaction, a subsidiary purchases, in connection with the reorganization, stock of its parent corporation in exchange for property, and exchanges the parent company stock for the stock or property of a target corporation. The final regulations apply to such transactions, but only if the parent or the subsidiary (or both) is a foreign corporation.
Section 367(a)(1) provides a general rule under which, if a U.S. person transfers property to a foreign corporation in any of several types of reorganization exchanges, the foreign corporation is not considered to be a corporation for the purpose of recognizing gain on the transfer. The proposed regulations included a priority rule that applies to certain transactions described in section 367(a)(1) and the proposed regulations. Under the priority rule, if the amount of gain in the target stock that would otherwise be recognized under section 367(a)(1) (absent an exception) is less than the adjustment treated as a dividend under the proposed regulations, then the proposed regulations, and not section 367(a)(1), apply to the triangular reorganization.
To address a commenter’s concern that the priority rule did not take into account the amount of resulting U.S. tax, the IRS modified the scope of the 2008 regulations in the final regulations to exclude their application in additional situations and modified the 2008 regulations’ priority rule under Treas. Reg. § 1.367(a)-3(a)(2)(iv) and added a separate priority rule under 1.367(b)-10(a)(2)(iii).
The final regulations modify the scope of the 2008 regulations to include the acquisition by the subsidiary, in exchange for property, of parent securities that are used to acquire the stock, securities or property of the target in the triangular reorganization, but only to the extent the parent securities are treated by the target’s shareholders or security holders as “other property” under section 356(d).
The scope of the 2008 regulations is also modified to provide that the final regulations apply to the acquisition by the subsidiary, in exchange for property, of parent stock to the extent such parent stock is received by the target’s shareholders or security holders in an exchange to which section 354 or 356 applies.
If the regulations apply to a triangular reorganization, adjustments must be made under section 367(b), having the effect of a distribution of property from the subsidiary to the parent under section 301 (a deemed distribution). The final regulations make clear that the adjustments are made based on a distribution or contribution of a notional amount and therefore without the recognition of any built-in gain or loss on the distribution of that notional amount.
The definition of “property” in the 2008 regulations is modified in the final regulations to include rights (for example, options) to acquire subsidiary stock to the extent such rights are used by the subsidiary to acquire parent stock or securities from a person other than the parent.
The regulations apply to triangular reorganizations occurring on or after May 17, 2011.
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