In TD 9760, the Treasury Department (Treasury) has issued final regulations under Sections 367, 1248 and 6038B. The final regulations generally adopt the provisions of the temporary and proposed regulations issued in 2013 without substantive change. The temporary regulations were set to expire on March 18, 2016.

Background

In August 2008, Treasury issued proposed regulations (the 2008 proposed regulations) under Sections 367, 1248 and 6038B affecting domestic corporations that transfer property to, or distribute the stock of, a foreign corporation. For a discussion of the 2008 proposed regulations, see Tax Alert 2008-1243. Treasury adopted as final many provisions of the 2008 proposed regulations in March 2013 (the 2013 final regulations). However, concurrent with the 2013 final regulations, Treasury issued additional temporary and proposed regulations (the 2013 temporary and proposed regulations) modifying a portion of the 2008 proposed regulations. For a discussion of the 2013 final, temporary and proposed regulations, see Tax Alerts 2013-601 and 2013-636. Final regulations published in 2014 adopted part of the 2013 temporary and proposed regulations relating to procedures for obtaining relief for failures to satisfy certain reporting requirements (see Tax Alert 2014-2097).

The 2008 proposed regulations included a proposal to refine one of the two exceptions to the coordination rule of Treas. Reg. Section 1.367(a)-3(d)(2)(vi)(A) that coordinates the application of Section 367 to an actual outbound transfer of property and a deemed outbound transfer of stock under the indirect stock transfer provisions of Treas. Reg. Section 1.367(a)-3(d). In general, the coordination rule provides that if, in connection with an indirect stock transfer, a US person (US transferor) transfers assets to a foreign corporation (foreign acquiring corporation) in an exchange described in Section 351 or 361, Section 367 applies first to the asset transfer and then to the indirect stock transfer. If an exception is satisfied, however, Section 367(a) and (d) will not apply, and the Section 367 consequences to the US transferor are determined solely under the indirect stock transfer rules.

One such exception was the so-called "Section 367(a)(5) exception," which generally turned off Section 367(a) and (d) with respect to an actual transfer of assets in an outbound reorganization if the assets were re-contributed to a controlled domestic subsidiary and the requirements of Section 367(a)(5) were satisfied, including that the controlling domestic corporate shareholders of the US transferor reduce their basis in the stock of the foreign acquiring corporation received in the reorganization to reflect their share of the net built-in gain in the re-transferred assets. The 2008 proposed regulations "clarified" that for this purpose only the basis in stock actually received in the reorganization could be adjusted, so basis in previously held stock could not be adjusted to satisfy this condition. This requirement was previously announced by the IRS Notice 2008-10, 2008-1 C.B. 277.

However, rather than adopting this proposed modification in the 2013 final regulations, the 2013 temporary and proposed regulations eliminated in its entirety the Section 367(a)(5) exception to the indirect stock transfer rule. The IRS explained in the preamble to the regulations that the change was due to concerns that certain transactions relying on the Section 367(a)(5) exception were structured to avoid gain recognition under Section 367(a), and these transaction would not be affected by the modifications included in the 2008 proposed regulations.

New final regulations and implications

The 2016 final regulations adopt the 2013 temporary and proposed regulations without substantive change, including the elimination of the Section 367(a)(5) exception. The 2016 final regulations also conform the exception to the coordination rule for Section 351 exchanges so that it is consistent with the remaining asset reorganization exception. Both remaining exceptions now require that the transferee domestic corporation's adjusted basis in the re-transferred assets not be greater than the US transferor's adjusted basis in those assets, disregarding any basis increase attributable to gain or income recognized by the US transferor on the outbound asset transfer. The preamble to the 2016 final regulations states that one commentator recommended that for this purpose the exceptions also should disregard any basis increase to the re-transferred assets attributable to any gain recognized by the foreign acquiring corporation on the re-transfer of the assets to the domestic corporation that is subject to US tax (e.g., gain treated as effectively connected income (ECI) under Section 897). Treasury declined to adopt this recommendation because that modification could permit a shifting of income to make use of more favorable tax attributes of the foreign corporation (e.g., an ECI net operating loss carryforward). In summary, the 2016 final regulations do not change the current tax consequences under Sections 367 and 1248 of outbound asset reorganizations.

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