Taxing intellectual property transfers.

• Author: Smith, Annette B.

Outbound transfers of intellectual property (IP) can raise difficult issues for U.S. persons. One scenario that illustrates this point involves an outbound transfer of IP by a U.S. company to a foreign subsidiary that then transfers the IP to another lower-tier foreign subsidiary.

Example: USCo transfers Sec. 936(h) (3)(B) IP with a seven-year useful life to controlled foreign corporation CFC1 solely in exchange for stock in CFC1 on day 1. Pursuant to a plan, CFC1 then transfers the IP to CFC2 solely in exchange for stock in CFC2 on day 2. The IP constitutes substantially all of CFC2's assets. In year 3, CFC2 sells the IP to an unrelated person. USCo's transfer of IP to CFC1 is subject to Sec. 367(d). CFC1's further transfer of that IP to CFC2 is governed by Temp. Regs. Sec. 1.367(d)-1T(f)(3). The sale of IP in year 3 causes USCo to recognize gain under Temp. Regs. Sec. 1.367(d)-1T(f)(1).

The transfer of the property from CFC1 to CFC2 solely in exchange for stock in CFC2 also creates an indirect stock transfer under Regs. Sec. 1.367(a)-3(d)(1)(vi). As such, the second transfer of IP subjects the transfer to the rules of Sec. 367(a) and requires USCo to file a gain recognition agreement (GRA) on CFC2's stock or face gain on the transfer. Moreover, CFC2's later disposition of the IP to an unrelated person may trigger gain under Sec. 367(a).

The double transfer of IP creates a transaction that is subject to the rules of both Secs. 367(a) and 367(d). Because regulations do not provide clear coordination, the outbound transfer of IP could be subject to both regimes. While subjecting the transfer to a double tax seems inappropriate, it is unclear which rules govern and whether there is an ordering rule on which a taxpayer can rely.

Regimes for Taxing Transfers

Generally, under Sec. 351(a) "no gain or loss shall be recognized if property is transferred to a corporation by one or more persons solely in exchange for stock," provided that immediately after the transfer, the transferor is in control of the corporation. However, when the transferor is a U.S. person and the transferee is a foreign corporation, under Sec. 367(a)(1) the gain on the transfer is taxed, unless an exception under Sec. 367(a)(2) or (3) applies, because the foreign transferee is deemed not to be a corporation for U.S. tax purposes.

Sec. 367(d)(1) provides alternative rules to the Sec. 367(a)(1) gain recognition rule if the transferred asset is an asset defined in Sec...