n-08-10.pdf

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Part III - Administrative, Procedural, and Miscellaneous

Regulations Under Section 367(a) Applicable to Certain Outbound Reorganizations and
Section 351 Exchanges

Notice 2008-10

SECTION 1. OVERVIEW
The Internal Revenue Service (IRS) and the Treasury Department (Treasury) will
issue regulations under section 367(a) of the Internal Revenue Code (Code) to clarify
how the two exceptions to the rule in §1.367(a)-3(d)(2)(vi) of the Income Tax
Regulations (coordination rule) provided by §1.367(a)-3(d)(2)(vi)(B) apply to certain
outbound reorganizations described in section 368(a) and certain successive transfers
to which section 351 applies. This notice is issued in response to certain transactions
designed to avoid U.S. income tax. The regulations issued pursuant to this notice will
apply to transactions occurring on or after December 28, 2007.
SECTION 2. TRANSACTIONS AT ISSUE
The IRS and Treasury are aware that certain taxpayers are engaging in
transactions intended to repatriate cash or other property from foreign subsidiaries
without the recognition of gain or a dividend inclusion. In one such transaction, for
example, USP, a domestic corporation, owns 100 percent of the stock of FA, a foreign

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corporation, and USP’s basis in its FA stock is $100x. USP also owns 100 percent of
the stock of UST, a domestic corporation, and USP’s basis in its UST stock equals its
fair market value of $100x. UST’s property consists of property with zero tax basis,
such as self-created intangibles or fully depreciated tangible property. UST sells its
property to FA in exchange for $100x cash and, in connection with the transaction, UST
liquidates and FA transfers all of the property acquired from UST to U.S. Newco, a
newly formed domestic corporation, in exchange for 100 percent of the U.S. Newco
stock (the Transaction). Other variations of the Transaction may be available. For
example, FA may purchase the stock of UST from USP for $100x and, in connection
with the acquisition, UST merges into a domestic limited liability company (LLC) wholly
owned by FA that is disregarded as separate from FA for U.S. tax purposes. FA then
contributes all of its LLC interests to U.S. Newco, a newly formed domestic corporation,
in exchange for 100 percent of the U.S. Newco stock.
Taxpayers take the position that, pursuant to §1.367(a)-3(d)(2)(vi)(B)(1
)(i), UST’s
transfer of property to FA is not subject to section 367(a) or (d) because the basis
adjustment requirement of section 367(a)(5) is satisfied if USP reduces by $100x its
basis in the FA stock that it held prior to the Transaction.
SECTION 3. BACKGROUND
Section 367(a)(1) provides that if, in connection with an exchange described in
section 332, 351, 354, 356, or 361, a United States person transfers property to a
foreign corporation, such foreign corporation shall not, for purposes of determining the
extent to which gain shall be recognized on such transfer, be considered to be a

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corporation. Section 367(a)(2) provides that, except to the extent provided in
regulations, section 367(a)(1) shall not apply to the transfer of stock or securities of a
foreign corporation that is a party to a reorganization. Section 367(a)(3) provides that,
except to the extent provided in regulations, section 367(a)(1) shall not apply to the
transfer of property used in an active foreign trade or business. Section 367(a)(6)
grants regulatory authority to provide additional exceptions to the general rule of section
367(a)(1).
Section 367(a)(5) provides that in the case of an exchange described in section
361(a) or (b) (section 361 exchange), the exceptions to section 367(a)(1) provided
under sections 367(a)(2) and (a)(3) shall not apply. Therefore, the general rule under
section 367(a)(5) is that a transfer of property by a domestic corporation (U.S.
transferor) to a foreign corporation in a section 361 exchange is subject to section
367(a)(1). Section 367(a)(5) also provides, however, that subject to basis adjustments
and other conditions to be provided in regulations, the general rule will not apply (and
the transfer may therefore be eligible for the exceptions under sections 367(a)(2) and
(a)(3)) if the U.S. transferor is controlled (within the meaning of section 368(c)) by five or
fewer domestic corporations.
Regulations have not been issued under section 367(a)(5). However, the
legislative history of section 367(a)(5) explains how the required basis adjustments
would have to be made:
It is expected that regulations will provide this relief only if the U.S. corporate
shareholders in the transferor agree to take a basis in the stock they receive in a
foreign corporation that is a party to the reorganization equal to the lesser of (a)

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the U.S. corporate shareholders’ basis in such stock received pursuant to section
358, or (b) their proportionate share of the basis in the property of the transferor
corporation transferred to the foreign corporation.

S. Rep. No. 100-445, 100
th
Cong., 2d Sess. at 62 (Aug. 3, 1988). Thus, the gain
realized, but not recognized, by the U.S. transferor in connection with the section 361
exchange must be preserved in the stock received
by certain corporate shareholders of
the U.S. transferor in the reorganization.
The rules regarding the treatment of transfers of stock or securities to foreign
corporations are contained in §1.367(a)-3. Certain outbound reorganizations followed
by transfers to controlled corporations and certain successive transfers of property to
which section 351 applies constitute “indirect stock transfers” and are subject to
§1.367(a)-3. See §1.367(a)-3(d)(1). Such indirect stock transfers are subject to gain
recognition under section 367(a)(1), unless they qualify for the exceptions contained in
§1.367(a)-3(b) (for transfers of foreign stock) or -3(c) (for transfers of domestic stock).
See §1.367(a)-3(d)(1).
The general coordination rule of §1.367(a)-3(d)(2)(vi)(A) provides, in general, that
if, pursuant to an indirect stock transfer, a U.S. person transfers (or is deemed to
transfer) property to a foreign corporation in an exchange described in sections 351 or
361, such transfer is subject to sections 367(a) and (d), prior to the application of the
indirect stock transfer rules of §1.367(a)-3(d). Section 1.367(a)-3(d)(2)(vi)(A). This
general coordination rule, however, is subject to two exceptions (Exception One and
Exception Two).
Exception One is available for certain section 361 transfers of property made

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pursuant to a reorganization to the extent the foreign acquiring corporation transfers the
acquired property (re-transferred property) to a domestic corporation controlled within
the meaning of section 368(c) (domestic controlled corporation) as part of the same
transaction. However, Exception One applies only if the domestic controlled
corporation’s basis in the re-transferred property is no greater than the basis the U.S.
transferor had in such property and either (i) the domestic acquired corporation is
controlled (within the meaning of section 368(c)) by five or fewer domestic corporate
shareholders, appropriate basis adjustments as provided in section 367(a)(5) are made
to the stock of the foreign acquiring corporation, and any other conditions provided in
regulations under section 367(a)(5) are satisfied; or (ii) the indirect transfer of stock of
the domestic acquired corporation satisfies the requirements of §1.367(a)-3(c)(1)(i), (ii),
and (iv), and (c)(6), and the domestic acquired corporation attaches a statement to its
tax return for the taxable year of the transfer. Section 1.367(a)-3(d)(2)(vi)(B)(1
)(i) and
(ii
).
Exception Two is available for transfers described in §1.367(a)-3(d)(1)(vi) where
a U.S. person transfers property to a foreign corporation in a section 351 exchange, to
the extent that such property is transferred by such foreign corporation to a domestic
corporation in another section 351 exchange, but only if the domestic transferee’s basis
in the property is no greater than the basis that the U.S. transferor had in such property.
See §1.367(a)-3(d)(2)(vi)(B)(2
).
SECTION 4. REGULATIONS TO BE ISSUED UNDER SECTION 367(a)
The IRS and Treasury will issue regulations under section 367(a) to clarify how

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the two exceptions to the general coordination rule of §1.367(a)-3(d)(2)(vi)(A) are to be
applied.
The rule of Exception One contained in §1.367(a)-3(d)(2)(vi)(B)(1)(i) will be
modified to clarify that the basis adjustment required as provided in section 367(a)(5)
must be made to the stock of the foreign acquiring corporation received by domestic
corporate shareholders of the U.S. transferor in the reorganization such that the
appropriate amount of unrecognized gain in the U.S. transferor’s property is reflected in
such stock. Thus, the basis adjustment requirement cannot be satisfied by adjusting
the basis in stock of the foreign acquiring corporation held by such shareholders prior to
the reorganization. The regulations will clarify that to the extent the appropriate amount
of unrecognized gain in the U.S. transferor’s property cannot be preserved in the stock
of the foreign acquiring corporation received in the reorganization, then the U.S.
transferor’s transfer of property to the foreign acquiring corporation shall be subject to
sections 367(a) and (d).
Section 1.367(a)-3(d)(2)(vi)(B)(2
) will be modified to clarify that Exception Two
shall not apply to a section 351 transfer that is also a section 361 exchange. Thus, a
section 351 transfer that is also a section 361 exchange may only qualify, if at all, for
Exception One.
SECTION 5. EFFECTIVE DATE
The regulations described in this notice will apply to transactions occurring on or
after December 28, 2007. No inference is intended as to the treatment of transactions
described herein under current law, and the IRS may, where appropriate, challenge

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such transactions under applicable provisions or judicial doctrines.
SECTION 6. COMMENTS
The IRS and Treasury are studying other transactions and structures that have
the effect of repatriating earnings of foreign corporations without the recognition of gain
or a dividend inclusion. Comments are requested in this regard. Comments are also
requested regarding more fundamental changes that can be made in this area,
including possible changes to the coordination rule.
SECTION 7. DRAFTING INFORMATION
The principal authors of this notice are John Seibert and Daniel McCall of the
Office of Associate Chief Counsel (International). However, other personnel from the
IRS and Treasury Department participated in its development. For further information
regarding this notice contact Mr. Seibert or Mr. McCall at (202) 622-3860 (not a toll-free
call).