President’s Budget Targets Inversions

The Obama Administration has corporate “inversions” in its sights.  On March 4, the Administration’s 2015 budget was released, and it includes a provision which would significantly lower the ownership thresholds to keep “inverted” companies within the U.S. taxing power.

The budget would make changes to section 7874, which was enacted in 2003 and targets “inversion transactions.” Under current law, an inversion transaction generally involves the acquisition by a foreign corporation of substantially all of the properties of a domestic corporation, if the shareholders of the domestic acquired corporation receive at least 80% of the vote or value of the foreign acquiring corporation’s stock in that transaction. In such a case, section 7874 causes the foreign acquiring corporation to be treated as a domestic corporation for U.S. tax purposes.    If, following the transaction, the former shareholders of the domestic corporation hold 60% to 80% of the interests in the acquiring corporation, the foreign acquiring corporation is not treated as a domestic corporation, but there are certain limitations on its ability to uses losses and deductions to offset its U.S. taxable income over a ten-year period following the transaction.

The President’s budget finds that the existing rules are not effective in curbing inversion transactions and that there is “no policy reason” to allow inversions while the former owners hold a controlling (i.e., greater than 50 percent) interest in the foreign entity.  Accordingly, the budget would.

  • Reduce the current 80% threshold to 50%, and require that if the shareholders of a domestic target corporation own more than 50% of the equity interests in a foreign acquiring corporation, the entity is treated as a U.S. corporation;
  • If the foreign entity is less-than 50% owned by the former U.S. shareholders, treat such entity as a U.S. entity if it has substantial business activities in the U.S. and is managed and controlled in the U.S.; and
  • Extend the inversion transaction treatment to acquisitions of substantially all the assets of a U.S. partnership or of substantially all the assets of a trade or business of a U.S. partnership.

Certain other proposals in the budget also would have a significant impact on “inverted companies,” including particularly the proposal to limit U.S. interest expense deductions to a proportionate amount of worldwide GAAP income.  See the revenue provisions of the 2015 budget, i.e., the “Greenbook.”  The inversion proposal is on page 64, the interest expense proposal is on page 49, and the full set of international tax proposals is on pages 42-65.

Read more on the proposal from Tax Analysts.

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