KILLER B REGULATIONS FINALIZED

Triangular B reorganizations are often conducted whereby a subsidiary corporation will acquire a target corporation in exchange for stock of the subsidiary’s parent corporation. Throw a foreign corporation into the mix and the opportunity exists for tax avoidance, especially as to the acquisition of the subsidiary of stock of its parent for valuable consideration to use in the acquisition. For example, a foreign subsidiary may be able to repatriate earnings to a U.S. parent without a taxable dividend, or if the parent corporation is foreign then funds may be transferred to the parent without a U.S. withholding tax.

So-called ‘Killer B’ transactions were first addressed in Notices 2006-85 and 2007-48, and then further addressed in 2008 Temporary Regulations under Code Section 367(b). In May of this year, final Regulations were issued.

The final Regulations, when applicable, generally result in deemed distributions that are subject to tax under other Code sections, such as Section 301. They may also result in deemed contributions from the parent to its subsidiary. The deemed distributions may be characterized as ‘notional’ only, so as to avoid the potential application of Code Section 311(b) gains and losses.

Jeffrey Rubinger has published a recent article in the June 2011 Journal of Taxation that provides the history of the ‘Killer B’ transactions and an analysis of the new Regulations (“Final ‘Killer B’ Regulations Further Expand Likelihood of Gain Recognition by Taxpayers”). He points out that the deemed distributions can occur even if the target corporation is unrelated to the acquiring parent/sub group. He also notes that in circumstances when Code Section 367(b) does not apply due to a lack of earnings and profits, Code Section 367(a) may still be triggered.

Treasury Decision 9526, 5/19/11

DISCRETIONARY TRUST INTEREST HAS A GIFT TAX VALUE, BUT WHAT IS IT?

In a recent Private Letter Ruling, a current trust beneficiary was entitled to income only in the discretion of the trustee, and was entitled to principal in the discretion of the trustee as needed for the beneficiary’s health, support or maintenance. The trust beneficiaries and trustee are seeking State court approval for an early distribution of a portion of principal to the remaindermen, since it appears they would not otherwise be entitled to any distributions until the death of the current trust beneficiary.

The current trust beneficiary has advised the IRS that her income and resources are sufficient to maintain her current standard of living for her lifetime and any forseeable emergencies, that she has received no trust distributions, and based on her financial condition she will not qualify for distributions from the trust. The trustee has represented that distributions would be made to the current trust beneficiary only in case of emergency.

Thus, the IRS was advised that the chances of a distribution being made to the current trust beneficiary during her lifetime are between slim and none. Based on that, the current beneficiary sought a ruling that her cooperation in allowing the early distribution of a portion of the principal to the remaindermen would not be a taxable gift.

The IRS ruled that a gift would occur with such a distribution. The gift arises by reason of the current beneficiary giving up the ability to receive income or principal from the principal amount that will be distributed, and that such transfer is a gratuitous and taxable transfer to the remaindermen. Regardless of the lack of likelihood of a distribution ever being made to the current beneficiary, the possibility remains.

This is a fair and appropriate legal analysis. The practical issue is how to value the gift? This is a fact question and not something the IRS wouldl rule on, although the ruling does concede that the value may be nominal. When dealing with gifts involving discretionary interests, and even ascertainable standards, this is a common valuation question, but one that begs a practical solution.

I would be interested to hear via the comment section from any readers how they deal with these valuation issues.

Private Letter Ruling 201122007

NEW FOREIGN FINANCIAL ACCOUNTING REPORTING ONE STEP CLOSER

For tax years beginning after March 18, 2010, the Hiring Incentives to Restore Employment Act of 2010 (HIRE Act) provides that individuals with an interest in a “specified foreign financial asset” during the tax year must attach a disclosure statement to their income tax return for any year in which the aggregate value of all such assets is greater than $50,000. This reporting is in addition to similar reporting required on the annual FBAR form.

The IRS has now released a revised draft Form 8938, “Statement of Specified Foreign Financial Assets,” for public comment and review. This is the form that will be used for the HIRE Act reporting. Interestingly, the draft requires the taxpayer to list out the various income items from reported foreign financial assets and indicate where they are reported on the taxpayer’s income tax return (see excerpt below):

The actual reporting is not yet required. In Notice 2011-55the IRS suspended the reporting requirements until it releases a final Form 8938. Once the final form is released, taxpayers will still need to report for the period required by the new law, but not until they file their next income return that is due. The Notice also advises that the Code Section 6501(c)(8) limitations period for tax assessments for periods for which reporting is required will not expire before three years after the date on which the IRS receives Form 8938.

Link to Draft Form 8938