The IRS has 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).
Killer B transactions 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.
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. A comment to the proposed regulations suggested that that in some cases it may be more appropriate for the priority rule to take into account the amount of resulting U.S. tax.
The preamble to the final regulations states that the IRS recognizes that in some cases it may be appropriate for the priority rule to take into account the amount of resulting U.S. tax. However, the IRS does not believe it would be administrable to take into account the resulting U.S. tax in all cases because this could require consideration of numerous tax attributes of various parties, including the parent, the subsidiary, and the shareholders of the target.
To address this concern, the scope of the final regulations was modified so that they do not apply in two cases: (1) if the parent and the subsidiary are foreign corporations and neither is a controlled foreign corporation (within the meaning of Treas. Reg. § 1.367(b)-2(a)) immediately before or immediately after the triangular reorganization; and (2) if
- The parent is a foreign corporation;
- The subsidiary is a domestic corporation;
The parent’s receipt of a dividend from the subsidiary would not be subject to U.S. tax under either section 881 (for example, by reason of an applicable treaty) or section 882; and
- The parent’s stock in the subsidiary is not a United States real property interest (within the meaning of section 897(c)).
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 securityholders 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 securityholders in an exchange to which section 354 or 356 applies.
Commentators had asked that the regulations not apply in cases where the target is not related to either the parent or the subsidiary, but the IRS believes its concerns about these transactions are valid regardless of whether the target is a related or unrelated party.
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 are effective upon their publication in the Federal Register and apply to transactions occurring on or after that date.
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