U.S. sandwich structures in the international inbound context.

• Author: Nevius, Alistair M.

When a foreign multinational operates in the United States through a U.S. group that has underlying foreign operations--known as a "U.S. sandwich structure" -- repatriating the U.S. group's foreign earnings often results in tax inefficiencies. This is because the after-tax foreign earnings may be subject to multiple layers of income and withholding tax as the earnings are repatriated up the ownership chain from the foreign operating entities (the controlled foreign corporations, or CFCs) to the U.S. group and then to the foreign parent. U.S. sandwich structures are also operationally inefficient, as the interposition of the U.S. group may prevent the foreign parent from achieving cost savings and business synergies by eliminating redundant sales and administrative functions, consolidating plants, and cross-selling products and services among the various operating units.

Out-from-Under Planning Techniques

To eliminate, or at least mitigate these inefficiencies, foreign multinationals frequently restructure their U.S. group such that the income of the underlying CFCs inures to the foreign parent or is otherwise earned outside the U.S. tax net. In the past, this restructuring, sometimes referred to as "out-from-under" planning, often was accomplished through a parent-subsidiary stock sale, whereby a foreign holding company of the CFCs would check the box on the CFCs and sell them to the foreign parent in exchange for stock of the U.S. parent. Sec. 304(a)(2) treats the stock sale as a dividend-equivalent redemption of the U.S. parent's stock. For foreign tax purposes, the disposition of the U.S. parent stock may be largely tax free, due to a basis offset and, in certain countries, any resulting gain may be largely exempt from local country tax.

Before the change in law discussed below, the dividend-equivalent redemption amount was treated for U.S. tax purposes as a dividend, first to the extent of the earnings and profits (E&P) of the acquiring foreign holding company and then to the extent of the E&P of the U.S. parent. This transaction removed the CFCs out from under the U.S. tax net. It also resulted in the E&P of the CFCs "hopscotching" around the U.S. group, as the redemption amount was treated as foreign-source dividend income for U.S. tax purposes and thus not subject to U.S. withholding tax. Checking the box on the CFCs before the disposition would reduce the amount of any subpart F inclusion to the U.S. group, and if the value of the...