New temporary regulations consolidate rules for treatment of stock transfers to foreign corporations under sec. 367(a).

• Author: Dichter, Arthur J.

On Dec. 26, 1995, the IRS issued new temporary regulations dealing with the requirement in Sec. 367(a) that gain be recognized on certain transfers of domestic stock or securities by U.S. persons to foreign corporations. The new regulations incorporate many of the modifications set forth in proposed regulations issued in 1991 and in Notices 87-85 and 94-46. The new regulations also significantly increase the disclosure requirements for taxpayers seeking to qualify for an exception to Sec. 367(a) (1). Except for a new active trade or business requirement, the new temporary regulations are applicable retroactively to transactions occurring after Apr. 17, 1994.

Because the regulations add filing requirements, some companies that were largest in post-Apr 17, 1994 transactions may need to file amended returns.

Exception for Transfer of Stock or Securities of Domestic Corporation to Foreign Corporation by U.S. Person

The new regulations include the rule in Notices 87-85 and 94-46 that gain will be recognized without exception when a single U.S. transferor transfers stock or securities of a domestic corporation and owns directly or by attribution more than 50% of the transferee foreign corporation immediately after the transfer.

Notice 87-85 will continue to govern the availability of Sec. 367(a) exceptions for transfers of stock or securities of foreign. corporations until final regulations are released; see also Prop. Regs. Sec. 1.367(a)-3.

New Temp. Regs. Sec. 1.367(a)-3T(c) (1) sets out four conditions that must be satisfied for nonrecognition to apply to a transfer of stock or securities in a U.S. corporation:

1. The U.S. transferors of the acquired U.S. corporation (U.S. target), in the aggregate, must receive 5% or less of the transferee foreign corporation's stock (by vote and value).

2. Immediately following the transfer, officers, directors and 5% shareholders of the U.S. target, in the aggregate, must own 50% or less of the foreign transferee corporation (by vote and value).

3. In the case of a transfer occurring after Jan. 25, 1996, the transferee foreign corporation (or its affiliate) must have been engaged in an active trade or business that is substantial in comparison to the trade or business of the U.S. target for a 36-month period immediately preceding the transfer.

4. Either:

   1. The U.S. person transferring U.S. target stock must not be a 5% shareholder of the transferee foreign corporation immediately after the transfer, or

   2. If the U.S. person transferring U.S. target stock is a 5% shareholder of the transferee foreign corporation immediately after the transfer, that person must sign a gain recognition agreement to secure tax deferral on the resulting gain.

   In determining post-transaction ownership, the attribution rules of Sec. 958 apply. In addition, under the second and fourth conditions, stock owned by U.S. persons after the transfer includes all stock owned, whether or not it was actually received in the exchange. If the U.S. target owns, directly or through attribution, stock of the transferee foreign corporation, that stock is not taken into account in determining whether the 50% threshold in the first two conditions are met...