The US Treasury department will no longer allow corporations to play hopscotch, time to leave it on the playground.
Jeffrey S. Freeman, J.D., LL.M
The recent announcement from the US Treasury Department and IRS are leaving corporations with some tricky decisions. Those contemplating acquisitions must now play by the new rules that went into effect immediately, except for deals being performed on the day of the announcement, September 22, 2014.
New Corporate Playground Rules
Strategic moves that were once legal are now being outlawed and some are complete game changers.
- No Hopscotch Allowed: Hopscotch was a term used to refer to corporations using a loan to avoid paying taxes. Inverted companies would avoid paying taxes on dividends by loaning to a foreign parent instead of the actual U.S. parent that was the intended recipient of the funds. Now such a loan would be taxable, thus making them unattractive and hence gone.
This has major impact on eight U.S. companies with pending inversions. After Medtronic’s purchase of Covidien (one of the largest deals in U.S. history) it is loaning untaxed profits outside the U.S. to its new Irish parent company. Under the new rules this transaction would be taxable.
- Spinning doesn’t get you anywhere: A spinversion is a partial inversion where a U.S. company transfers a portion of its assets to a newly formed foreign corporation. This foreign corporation is then “spun off” to public shareholders, thus avoiding taxation as a U.S. company. New rules treat these types of spin-off companies as a domestic corporation and take away any tax advantage of such a maneuver.
- No more restructuring to avoid paying taxes: Where it was once advantageous to perform a corporate restructuring to access earning tax free is no longer allowed. Before the new foreign parent would purchase enough of the controlled foreign corporation’s stock to acquire control from the old US parent.
- No quick slim tricks: It may work for your high school reunion, but the Treasury is adding rule to prevent companies from artificially reducing their size by paying out large dividends to reduce their size before an inversion. This makes it much harder for U.S. entities to invert and now requires that the former owners own less than 80% of the combined company.
The rules are new and not all deals have been finalized. As analyst scramble to re-crunch numbers, we can be certain that the US Treasury Department and IRS have found a way to make inversions no longer make economic sense. Taxation cannot be escaped, especially when the rules of the playground are always changing.
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