On October 13, 2016 the U.S. Department of the Treasury (Hereafter: The Treasury) and the U.S. Inland Revenue Service (Hereafter: The IRS) issued final regulations to address earnings stripping. The aim of the regulations is to further reduce the benefits of corporate tax inversions, level the playing field between U.S. and non-U.S. businesses, and limit the ability of companies to lower their tax bills through transactions involving debt that do not support new investment in the United States. According to the Treasury the regulations also require large corporations claiming interest deductions to document loans to and from their affiliates, just as businesses of all sizes do when they borrow from unrelated lenders. The rules were proposed in April along with temporary anti-inversion regulations.
In a Fact Sheet issued in this respect The Treasury a.o. states the following:
“After a corporate inversion, multinational corporations often use a technique called earnings stripping to minimize U.S. taxes by paying deductible interest to the new foreign parent or one of its foreign affiliates in a low-tax country. This commonly-used technique can generate large interest deductions without requiring a company to finance new investment in the United States. The new regulations restrict the ability of corporations to engage in earnings stripping by treating financial instruments that taxpayers purport to be debt as equity in certain circumstances. They also require that corporations claiming interest deductions on related-party loans provide documentation for the loans, similar to the common practice for third-party loans. The ability to minimize income tax liabilities through the issuance of related-party financial instruments is not, however, limited to the cross-border context, so these rules also apply to related U.S. affiliates of a corporate group.”
In a press release issued by The Treasury with respect to the issuing of these final regulations to address earnings stripping a.o. the following is stated:
“Coupled with Treasury’s previous actions to address corporate inversions, today’s final regulations balance the operational needs of companies while preventing the erosion of our U.S. corporate tax base. Specifically, today’s final regulations narrowly target problematic earnings stripping transactions – transactions that generate deductions for interest payments on related-party debt that does not finance new investment in the United States – while minimizing unintended consequences for regular business activities.
· Exempting cash pools and short-term loans: Treasury requested comments in the proposed regulations on whether special rules are warranted for cash pools, cash sweeps, and similar arrangements. In response to thoughtful feedback, Treasury is providing a broad exemption for cash pools, which are essentially common funding accounts for related businesses. Treasury is also providing an exemption for loans that are short-term in both form and substance.
· Providing limited exemptions for certain entities where the risk of earnings stripping is low: Transactions between foreign subsidiaries of U.S. multinational corporations and transactions between pass-through businesses are exempt from the final regulations. Financial institutions and insurance companies that are subject to regulatory oversight regarding their capital structure are also excluded from certain aspects of the rules.
· Expanding exceptions for ordinary business transactions: Treasury has significantly expanded the exceptions for distributions to generally include all future earnings and allowing corporations to net distributions against capital contributions. Treasury is also including additional exceptions for ordinary course transactions, such as acquisitions of stock associated with employee compensation plans.
· Easing documentation requirements: Treasury has relaxed the intercompany loan documentation rules for U.S. borrowers. The regulations also extend the deadline by one year until January 1, 2018. ”
Click here to be forwarded to a press release as issued by the U.S. Department of the Treasury with respect to the issuing of these final regulations to address earnings stripping.
Click here to be forwarded to a Fact Sheet as issued by the U.S. Department of the Treasury with respect to the issuing of these final regulations to address earnings stripping.
Click here to be forwarded to Remarks by Treasury Secretary Jacob J. Lew on a Press Conference Call Regarding Announcement on Earnings Stripping.
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