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Debevoise Discusses Treasury Guidance on Corporate Minimum Tax and Tax on Stock Buybacks

On December 27, 2022, Treasury released Notices 2023-7 and 2023-2 (the “Notices”). The Notices provide initial guidance on the 15% corporate minimum tax on the book income of large corporations (the “CAMT”) and the non-deductible 1% excise tax on certain corporate stock buybacks by publicly traded companies (the “Buyback Tax”) that were included in the Inflation Reduction Act (the “IRA”).[1] The CAMT and the Buyback Tax both are effective January 1, 2023. The CAMT Notice provides immediate guidance on time-sensitive areas of uncertainty, such as tax-free transactions that may give rise to financial statement income, and requests comments on over 30 specific interpretative issues. The Buyback Tax Notice provides helpful guidance in several areas but subjects a wider range of transactions to the tax than many had hoped.

The Notices are intended to provide interim guidance until proposed Treasury Regulations are promulgated. Until such time, Taxpayers can rely on the Notices.

CAMT Notice

Key Takeaways

The CAMT Notice addresses the following items which are outlined in greater detail below.

Mark-to-Market Financial Statement Items

Comment: The IRS jumping ahead on this important issue should provide meaningful comfort to taxpayers with significant mark-to-market gains on their financials that future interim and final guidance will mitigate unintended CAMT friction in relation to such financial gains.

Relief for Tax-Free Transactions

Comment: The guidance aligns the CAMT rules with U.S. federal income tax principles by preventing a tax-free transaction that results in a book income or loss event from affecting the calculation of AFSI. Some asymmetry remains between the book minimum tax rules and nonrecognition under the Code, however, as the relief does not extend to partially tax-free transactions, for which any financial accounting gain or loss or basis increase or decrease will still impact AFSI despite the lack of corresponding tax gain or loss. In requesting comments on this issue, the Treasury and IRS seem amenable to achieving consistency across nonrecognition transactions.

On the other hand, the Notice provides an example where a partner contributes property to a partnership and the partnership distributes cash to the partner that is recast for tax purposes as a part disguised sale and part tax-free contribution. The Notice concludes that the component parts (contribution and distribution) are stepped together as one transaction resulting in a single transaction that is in part a taxable transaction and therefore the whole transaction fails to qualify as a Covered Nonrecognition Transaction.

Relief for Distressed Companies

Comment: The guidance generally aligns the CAMT rules with U.S. federal income tax principles surrounding debt relief and distress, but it is not exhaustive. The CAMT Notice includes a request for comments on the application of these rules to distressed companies, including with regard to determining what and how tax attributes should be adjusted for purposes of the CAMT relative to the COD amount.

Adjustments to AFSI for Depreciation and Certain Tax Credits

Comment: These adjustments highlight the way in which the CAMT preserves tax preferences for certain types of investments (such as tangible property and computer software) but not others. While these depreciation rules are generally taxpayer-friendly for assets placed in service after 2022 (or assets with meaningful useful tax depreciation), they apply equally to pre-existing assets. For new assets, a taxpayer will have downward adjustments to AFSI while the assets are tax depreciated and upward adjustments upon disposition (to the extent of any remaining book/tax difference in basis). For pre-existing assets that were fully tax depreciated, these rules may result only in an upward adjustment to AFSI upon disposition of the assets.

Distributive Share of Partnership Income for Applicable Corporation Test

Comment: There was some confusion as to whether this was the correct reading of Section 59(k)(1), and the CAMT Notice confirms that it is. The implication is that where the taxpayer and a partnership are not aggregated as a “single employer” under Section 52, whether the AFSI of the partnership will be included in the AFSI of the taxpayer for purposes of determining whether the taxpayer is an applicable corporation will depend on whether the partnership is consolidated with the partner for financial reporting purposes.

Income Reported on Consolidated Financial Statements; Consolidated Income Tax Groups

Combining and Separating Groups/Testing Periods

Comment: The amount of AFSI allocated to Target or a distributed entity can be a point for negotiation (although buyer seems to have more at stake than seller). Although these rules result in double counting of target’s AFSI, it is worth noting that this only applies to the test of whether a taxpayer is an “applicable corporation” but does not impact the calculation of the actual CAMT. In addition, although not entirely clear, these rules do not seem to prorate for a transaction occurring in the middle of the year.

Safe Harbor for Small Corporations

Buyback Tax Notice

Corporate Liquidations and SPACs

Comment: The Notice effectively provides relief to special purpose acquisition companies (“SPACs”) that issued shares to the public for cash, but did not acquire an operating business within a specified time frame and are subsequently required to be liquidated. However, repurchases in connection with a de-SPAC transaction, in which the repurchasing company generally does not liquidate, would still be subject to the Buyback Tax.

Preferred Stock Repurchases

Comment: The Notice may adversely impact the market for private investment in public equity (“PIPEs”). PIPEs became particularly attractive during the initial impact of COVID-19 on the financial markets. PIPEs are commonly structured as redeemable preferred equity. Where feasible, public companies may prefer to issue debt rather than preferred stock to mitigate the potential application of the Buyback Tax.

Taxable Acquisitions; Leveraged Buyouts

Comment: Buyers should consider financing the acquisition of a public target at the level of the acquirer, rather than pushing debt into the former public target (as is typically the case), in order to mitigate application of the Buyback Tax.

Tax-Free Corporate Acquisitions

Comment: The approach taken by the Notice to tax-free reorganizations is likely to attract comments. Pursuant to the Notice, all of the cash received by public shareholders in a tax-free transaction is subject to the Buyback Tax, while cash received by public shareholders in taxable corporate acquisitions is subject to the Buyback Tax only to the extent the acquisition is treated as funded by the public company’s cash.

Spin-Offs and Split-Offs

Presumption Against Dividend Treatment

Comment: In the context of a public company that is widely held, providing sufficient evidence to rebut this presumption on a shareholder-by-shareholder basis, especially by requiring a certification from a shareholder, may introduce administrative complexity and cost.

Netting of Stock Issuances and Repurchases

Comment: Public companies should consider whether stock redemptions can be timed to occur in the same tax year as stock issuances to minimize the application of the Buyback Tax.

ENDNOTE

[1]      For more information on the Inflation Reduction Act of 2022, please see our client update at: https://www.debevoise.com/insights/publications/2022/08/senate-passes-15-corporate-minimum-tax.

This post comes to us from Debevoise & Plimpton LLP. It is based on the firm’s memorandum, “Treasury Releases Guidance on 15% Corporate Minimum Tax, 1% Tax on Stock Buybacks,” dated January 3, 2023, and available here.

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