Stock Repurchase Excise May Pose Tax Risk for Multinational Groups Operating Cash Pools

Interim IRS guidance on the new Section 4501 stock repurchase excise tax includes a “per se” rule that could subject U.S. subsidiaries of foreign-parented groups to the excise tax as a result of the group engaging in common cash pooling arrangements and certain other types of transactions. 

Cash Pooling and Section 4501

Cash pooling is a centralized cash management system used by many corporate groups, including multinational groups, to optimize the cash balances of all members of the group. One member, frequently the parent corporation, acts as the central bank receiving excess cash from members and disbursing cash to members in need. These transactions are usually accounted for as intercompany loans between the pool entity and other members of the group.

The Section 4501 stock repurchase excise tax was enacted by the Inflation Reduction Act on August 16, 2022. The IRS issued interim guidance on the excise tax on December 27, 2022, in Notice 2023-2, with the intention to follow that preliminary guidance with forthcoming proposed regulations. See BDO’s alert IRS, Treasury Issue Interim Guidance on Stock Repurchase Excise Tax.

Cash Pooling Concern Under the Per Se Rule

The per se rule in the notice creates a concern when publicly traded foreign corporations own 50% or more by vote or value of U.S. subsidiaries and the group operates a cash pool. This concern arises if (1) the foreign parent or one of its greater-than-50%-owned non-U.S. subsidiaries¹ repurchases the stock of the foreign parent in a transaction that is a stock repurchase as defined in Section 4501 and (2) a U.S. subsidiary funds the repurchase “by any means.” In this case, the excise tax may apply to the U.S. subsidiary funding the stock repurchase, but the tax base is limited to the amount funded.²

Generally, the funding must be undertaken for a principal purpose of avoiding Section 4501 before the repurchase of foreign corporation stock can be subjected to the excise tax. However, under the per se rule in the notice, a principal purpose is deemed to exist if a greater-than-50%-owned U.S. subsidiary funds the foreign parent or other non-U.S. group member by any means, other than a distribution, and the funded member engages in a stock repurchase transaction within two years of the funding.  

Cash pooling in a group is usually all pervasive, involving regular movements of cash back and forth between the pool and all or most members. This makes the per se rule particularly problematic for groups employing cash pooling when parent stock is repurchased or if the foreign parent engages in one or more of the transactions the IRS considers economically similar to a stock repurchase as described in the notice.

Other Concerns

The per se rule is not limited to cash pools. It can apply to any transaction (other than a distribution) that moves cash to an entity that also repurchases the publicly traded foreign corporation’s stock within the two-year window. For example, any of the following could cause Section 4501 to apply:

• Intercompany loans
• Repayment of intercompany loans
• Payment of intercompany interest
• Intercompany asset or service purchases
• Capital contributions
• Almost any other transaction that moves cash from the U.S. coupled with parent company stock repurchases  

Observations

The government is working on proposed regulations for Section 4501. The notice states that the rules it sets forth are indicative of the rules the IRS expects to include in the proposed regulations. Until regulations are proposed, taxpayers can rely on the guidance provided by the notice.

Recent comments by IRS and Treasury representatives indicate that they are aware of the concerns discussed herein. Until greater clarity is provided in proposed regulations, U.S. companies that are members of groups with publicly traded foreign parents may have exposure to Section 4501.  

¹Certain partnerships are also covered by this rule.

²If a greater-than-50%-owned U.S. subsidiary repurchases the public foreign parent stock, Section 4501 applies regardless of the per se funding rule and the U.S. subsidiary is subject to the excise tax.