International Tax Alert - July 2017

August 2017

Recent International Tax News: Delayed Applicability in 385 Documentation Requirements and Abandonment of Border Adjustment Tax Proposal


Summary

In Notice 2017-36 (the “Notice”), the Department of the Treasury and the Internal Revenue Service (hereinafter, collectively “Treasury”) announced a delay in the application of the documentation requirements in the Section 385 Regulations by 12 months to interests issued or deemed issued on or after January 1, 2019.
 
Also, on July 27, 2017, the “Big Six” group of senior Republicans issued a joint statement abandoning the proposed border adjustment tax (“BAT”) included in the GOP House “Better Way for Tax Reform” blueprint (the “Blueprint”).
 
Below is a high level summary of the Notice and the “Big Six” joint statement. 


Details

  1. Notice 2017-36
On October 21, 2016, Treasury issued final and temporary regulations under IRC §385 which included certain documentation requirements in Treas. Reg. §1.385-2 necessary to determine whether an interest in a corporation is treated as stock or indebtedness for all purposes of the Internal Revenue Code (the “Documentation Regulations”).
 
The Documentation Regulations provide guidance regarding the documentation and other information that must be prepared, maintained, and provided to be used in the determination of whether an interest subject to the Documentation Regulations will be treated as indebtedness for federal tax purposes. The Documentation Regulations also include certain operating rules, presumptions, and factors to be taken into account in the making of any such determination. The Documentation Regulations, once applicable, generally require taxpayers to prepare and maintain documentation that evidences specified “indebtedness factors” with respect to purported debt instruments subject to the regulations. Thus, compliance with the Documentation Regulations does not establish that an interest is indebtedness; it serves only to satisfy the minimum documentation for the determination to be made under general federal tax principles. The Documentation Regulations were made applicable only with respect to interests issued or deemed issued on or after January 1, 2018.[1] For a discussion of the final and temporary regulations under IRC §385, see our October 2016 Tax Alert.
 
Following the issuance of the final and temporary regulations under IRC §385, these regulations were identified in Notice 2017-38 as significant tax regulations requiring additional review pursuant to President Trump’s Executive Order 13789, a directive that instructed the Secretary of the Department of the Treasury, to review all “significant tax regulations” issued on or after January 1, 2016, and, in consultation with the Administrator of the Office of Information and Regulatory Affairs, to submit a 60-day interim report identifying regulations that (1) impose an undue financial burden on U.S. taxpayers; (2) add undue complexity to the Federal tax laws; or (3) exceed the statutory authority of the Internal Revenue Service. In addition, the executive order further instructs the Secretary to submit a final report to the President by September 18, 2017 recommending specific action to alleviate the burdens of the identified regulations. In Notice 2017-38, Treasury also requested comments on whether the regulations identified in Notice 2017-38 should be rescinded or modified, and in the latter case, how the regulations should be modified in order to reduce burdens and complexity. For a discussion of Notice 2017-38, see our July 2017 Tax Alert.
 
In response to the concern that taxpayers have continued to raise with the application of the Documentation Regulations to interests issued on or after January 1, 2018, and in light of further actions concerning the final and temporary regulations under IRC §385 in connection with the review of those regulations, Treasury determined that these concerns warrant a delay in the application of the Documentation Regulations by 12 months. Accordingly, the Notice provides that Treasury intends to amend the Documentation Regulations to apply only to interests issued or deemed issued on or after January 1, 2019. Pending the issuance of those regulations, taxpayers may rely on the delay in the application of the Documentation Regulations set forth in the Notice.
 
In the Notice, Treasury also requested comments concerning whether the proposed amendment and delay of the application of the Documentation Regulations affords adequate time for taxpayers to develop any necessary systems or processes to comply with the Documentation Regulations.
 
  1. Abandonment of Border Adjustment Tax Proposal
In June 2016, the House Ways and Means Committee Republicans unveiled the Blueprint. The Blueprint identified several problems with the current U.S. tax system and proposed several changes to the system including a proposal for “border adjustments” which would effectively exempt exports from U.S. tax while taxing imports. For a discussion of the Blueprint and BAT, see our February 2017 Tax Alert.
 
On July 27, 2017, House Speaker Paul Ryan, Senate Majority Leader Mitch McConnell, Treasury Secretary Steven Mnuchin, National Economic Council Director Gary Cohn, Senate Finance Committee Chairman Orrin Hatch and House Ways and Means Committee Chairman Kevin Brady, issued a joint statement stating that they believe that there is a viable approach for ensuring a level playing field between American and foreign companies and workers, while protecting American jobs and the U.S. tax base without transitioning to the BAT. Given the unknowns associated with the BAT, a decision was made to set this policy aside to advance tax reform.
 
Besides abandoning the BAT proposal, the joint statement calls for reducing tax rates as much as possible, allowing unprecedented capital expensing, placing a priority on permanence and creating a system that encourages American companies to bring back jobs and profits trapped overseas.


BDO Insights

The delayed applicability of the Documentation Regulations is welcomed news for taxpayers that would have otherwise been subject to the Documentation Regulations. Taxpayers may still want to consider complying with the Documentation Regulations even before the applicability date as such documentation will be a factor that supports bona fide debt characterization for U.S. tax purposes.
 
Given the controversial nature of the BAT, removing the BAT from consideration could potentially help advance tax reform but, at the same time, finding a replacement for the revenue the BAT would have raised will need to be further considered.
 

For more information, please contact one of the following practice leaders:
 
Joe Calianno
Partner and International Tax Technical Practice Leader
National Tax Office 
     Monika Loving
Partner and International Tax Practice Leader

 
Scott Hendon
Partner 
  Annie Lee
Partner

 
Chip Morgan
Partner
  Robert Pedersen
Partner

 
William F. Roth III
Partner
National Tax Office
  Jerry Seade
Principal

 
Sean Dokko
Senior Manager
National Tax Office
 
 
 

[1] See Treas. Reg. §§ 1.385-1(f), 1.385-2(d)(2)(iii) and 1.385-2(i).