The Treatment of Certain Interests in Corporations as Stock or Indebtedness, 59318-59320 [2019-23819]

Agencies

• Internal Revenue Service
• DEPARTMENT OF THE TREASURY

[Federal Register Volume 84, Number 213 (Monday, November 4, 2019)]
[Proposed Rules]
[Pages 59318-59320]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2019-23819]


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DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

[REG-123112-19]
RIN 1545-BP51


The Treatment of Certain Interests in Corporations as Stock or 
Indebtedness

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Advance notice of proposed rulemaking.

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SUMMARY: This document announces that the Department of the Treasury 
(Treasury Department) and the IRS intend to issue proposed regulations 
regarding the treatment of certain interests in corporations as stock 
or indebtedness and requests comments from the public regarding the 
contemplated rules. This document also announces that, following the 
expiration of the 2016 Temporary Regulations (described in the 
Background section of this advance notice of proposed rulemaking), a 
taxpayer may rely on the 2016 Proposed Regulations (also described in 
the Background) until further notice is given in the Federal Register, 
provided that the taxpayer consistently applies the rules in the 2016 
Proposed Regulations in their entirety.

DATES: Written or electronic comments must be received by February 3, 
2020.

ADDRESSES: Submit electronic submissions via the Federal eRulemaking 
Portal at https://www.regulations.gov (indicate IRS and REG-123112-19) 
by following the online instructions for submitting comments. Once 
submitted to the Federal eRulemaking Portal, comments cannot be edited 
or withdrawn. The Treasury Department and the IRS will publish for 
public availability any comment received to its public docket, whether 
submitted electronically or in hard copy. Send hard copy submissions 
to: CC:PA:LPD:PR (REG-123112-19), Room 5203, Internal Revenue Service, 
P.O. Box 7604, Ben Franklin Station, Washington, DC 20044.

FOR FURTHER INFORMATION CONTACT: Concerning the proposals, Azeka J. 
Abramoff at (202) 317-6938; concerning submissions of comments, Regina 
Johnson at (202) 317-6901 (not toll-free numbers).

SUPPLEMENTARY INFORMATION: 

Background

I. Overview

    Section 385 authorizes the Secretary of the Treasury or his 
delegate (Secretary) to prescribe rules to determine whether an 
interest in a corporation is treated as stock or indebtedness (or as in 
part stock and in part indebtedness). On October 21, 2016, the Treasury 
Department and the IRS published T.D. 9790 in the Federal Register (81 
FR 72858), which included final regulations under section 385 and 
temporary regulations under section 385 (Temporary Regulations). On the 
same date, the Treasury Department and the IRS also published a notice 
of proposed rulemaking (REG-130314-16) in the Federal Register (81 FR 
72751) (2016 Proposed Regulations) by cross-reference to the Temporary 
Regulations, which include Sec. Sec.  1.385-3T and 1.385-4T. Technical 
corrections to the final regulations and the Temporary Regulations were 
published in the Federal Register (82 FR 8169) on January 24, 2017.
    The final regulations under section 385, the Temporary Regulations, 
and the 2016 Proposed Regulations address the classification of certain 
related-party debt as debt or equity for Federal tax purposes. Treasury 
Decision 9790 included rules set forth in Sec.  1.385-2, which 
establish minimum documentation requirements that ordinarily must be 
satisfied in order for debt obligations among related parties to be 
treated as debt for Federal tax purposes (Documentation Regulations). 
Treasury Decision 9790 also included Sec. Sec.  1.385-3, 1.385-3T, and 
1.385-4T, which treat as stock certain debt that is issued by a 
corporation to a controlling

[[Page 59319]]

shareholder in a distribution or in another related-party transaction 
that achieves an economically similar result (the Distribution 
Regulations). The Distribution Regulations are applicable for taxable 
years ending on or after January 19, 2017.
    The Temporary Regulations set forth rules regarding the treatment 
under the Distribution Regulations of certain qualified short-term debt 
instruments, transactions involving controlled partnerships, and 
transactions involving consolidated groups. The Temporary Regulations 
apply to taxable years ending on or after January 19, 2017. The 
Temporary Regulations expired on October 13, 2019. See section 7805(e); 
Sec.  1.385-3T(l); Sec.  1.385-4T(h).
    The 2016 Proposed Regulations cross-referencing the Temporary 
Regulations are proposed to apply to taxable years ending on or after 
January 19, 2017; in contrast to the Temporary Regulations, the 2016 
Proposed Regulations do not expire.

II. Executive Order 13789

    Executive Order 13789 (E.O. 13789), issued on April 21, 2017, 
instructed the Secretary to review all significant tax regulations 
issued on or after January 1, 2016, and to take concrete action to 
alleviate the burdens of regulations that (i) impose an undue financial 
burden on U.S. taxpayers; (ii) add undue complexity to the Federal tax 
laws; or (iii) exceed the statutory authority of the IRS. E.O. 13789 
further instructed the Secretary to submit to the President within 60 
days a report (First Report) that identifies regulations that meet 
these criteria. Notice 2017-38, 2017-30 I.R.B. 147, which was published 
on July 24, 2017, included the final section 385 regulations in a list 
of eight regulations identified by the Secretary in the First Report as 
meeting at least one of the first two criteria specified in E.O. 13789.
    E.O. 13789 further instructed the Secretary to submit to the 
President a report (Second Report) that recommended specific actions to 
mitigate the burden imposed by regulations identified in the First 
Report. On October 16, 2017, the Secretary published in the Federal 
Register the Second Report (82 FR 48013), which stated that (i) the 
Treasury Department and the IRS were considering a proposal to revoke 
the Documentation Regulations as issued and (ii) the Treasury 
Department will reassess the distribution regulations in light of 
impending tax reform and the Treasury Department and the IRS may then 
propose more streamlined and targeted regulations. On September 24, 
2018, the Treasury Department and the IRS issued proposed regulations 
that, if finalized, would remove the Documentation Regulations from the 
Code of Federal Regulations. See 83 FR 48265 (September 24, 2018). The 
Treasury Department and the IRS are publishing in the Rules section of 
this issue of the Federal Register final regulations that remove the 
Documentation Regulations.
    Some taxpayers submitted comments in response to E.O. 13789 and the 
September 2018 proposed regulations recommending that the Treasury 
Department and the IRS revoke the Distribution Regulations in addition 
to the Documentation Regulations, while another comment recommended 
that the Treasury Department and the IRS issue more streamlined and 
targeted Distribution Regulations. This advance notice of proposed 
rulemaking announces that the Treasury Department and the IRS intend to 
propose more streamlined and targeted Distribution Regulations.

III. The Distribution Regulations

    Under the Distribution Regulations' general rule, the issuance of a 
debt instrument by a member of an expanded group to another member of 
the same expanded group in a distribution, or an economically similar 
transaction, may result in the treatment of the debt instrument as 
stock. See Sec.  1.385-3(b)(2). The Distribution Regulations include a 
funding rule that treats as stock a debt instrument that is issued as 
part of a series of transactions that achieves a result similar to a 
distribution of a debt instrument. See Sec.  1.385-3(b)(3)(i). 
Specifically, Sec.  1.385-3(b) treats as stock a debt instrument that 
was issued in exchange for property, including cash, to fund a 
distribution to an expanded group member or another transaction that 
achieves an economically similar result. Id. Furthermore, the 
Distribution Regulations include a per se rule, which treats a debt 
instrument as funding a distribution to an expanded group member or 
other transaction with a similar economic effect if it was issued in 
exchange for property during the period beginning 36 months before and 
ending 36 months after the issuer of the debt instrument made the 
distribution or undertook a transaction with a similar economic effect. 
See Sec.  1.385-3(b)(3)(iii). The Distribution Regulations also include 
several exceptions limiting their scope. See, e.g., Sec.  1.385-3(c).
    The Distribution Regulations address debt instruments that do not 
finance any new investment in the operations of the borrower and 
therefore have the potential to create significant Federal tax 
benefits, including interest deductions that erode the U.S. tax base, 
without having meaningful non-tax significance. The Treasury Department 
and the IRS are cognizant that a complete withdrawal of the 
Distribution Regulations could restore incentives for multinational 
corporations to generate additional interest deductions without new 
investment. Accordingly, the Treasury Department and the IRS have 
determined that the Distribution Regulations continue to be necessary 
at this time.

Explanation of Contemplated Regulations

    Pursuant to E.O. 13789, the Treasury Department and the IRS intend 
to issue proposed regulations modifying the Distribution Regulations. 
To make the Distribution Regulations more streamlined and targeted, the 
Treasury Department and the IRS intend to issue proposed regulations 
substantially modifying the funding rule, including by withdrawing the 
per se rule. The Treasury Department and the IRS intend that the 
proposed regulations would not treat a debt instrument as funding a 
distribution or economically similar transaction solely because of 
their temporal proximity; rather, the proposed regulations would apply 
the funding rule to a debt instrument only if its issuance has a 
sufficient factual connection to a distribution to a member of the 
taxpayer's expanded group or an economically similar transaction (for 
example, when the funding transaction and distribution or economically 
similar transaction are pursuant to an integrated plan). Thus, under 
the proposed regulations, a debt instrument issued without such a 
connection to a distribution or similar transaction would not be 
treated as stock. As a result, the proposed distribution regulations 
would be more streamlined and targeted while continuing to deter tax-
motivated uneconomic activity. As part of the intended revisions of the 
funding rule, the Treasury Department and the IRS also are considering 
substantial revisions to, or removal of, certain exceptions in the 
regulations, consistent with the revised standard. The proposed 
distribution regulations would not alter materially the definition of a 
covered member (defined in Sec.  1.385-1(c)(2) as a member of an 
expanded group that is a domestic corporation).

Proposed Applicability Date

    The Treasury Department and the IRS intend to provide that the 
proposed regulations would apply to taxable years beginning on or after 
the date of publication of the Treasury decision

[[Page 59320]]

adopting those rules as final regulations in the Federal Register.

Reliance on the 2016 Proposed Regulations

    For periods after October 13, 2019 (the expiration date of the 
Temporary Regulations), a taxpayer may rely on the 2016 Proposed 
Regulations until further notice is given, provided that the taxpayer 
consistently applies the rules in the 2016 Proposed Regulations in 
their entirety.

Request for Comments

    The Treasury Department and the IRS request comments on all aspects 
of the rules described in part III of this advance notice of proposed 
rulemaking. In particular, the Treasury Department and the IRS request 
comments on the appropriate standard for determining the existence of a 
connection between a debt instrument and a distribution or economically 
similar transaction under the funding rule. For example, the funding 
rule could apply solely in cases in which a debt instrument is issued 
as part of an overall plan to fund the distribution or economically 
similar transaction. The Treasury Department and the IRS also request 
comments on whether the proposed regulations should include particular 
factors that indicate when the funding rule applies and factors that 
indicate when the funding rule does not apply. The Treasury Department 
and the IRS also request comments on what additional guidance, if any, 
should be issued (or which provisions should be eliminated from the 
final regulations) to reduce the compliance burdens associated with the 
Distribution Regulations. The Treasury Department and the IRS also 
request comments on how the Distribution Regulations may affect small 
businesses. All comments will be available at https://www.regulations.gov or upon request.

Effect on Other Documents

    Notice 2019-58, 2019-44 I.R.B. 1022 (October 28, 2019), which 
addresses the status of the 2016 Proposed Regulations after October 13, 
2019, is obsoleted.

Statement of Availability

    IRS Notices and other guidance cited in this document are published 
in the Internal Revenue Bulletin and are available from the 
Superintendent of Documents, U.S. Government Publishing Office, 
Washington, DC 20402, or by visiting the IRS website at https://www.irs.gov.

Drafting Information

    The principal author of this advance notice of proposed rulemaking 
is Azeka J. Abramoff of the Office of Associate Chief Counsel 
(International). However, other personnel from the Treasury Department 
and the IRS participated in its development.

Sunita Lough,
Deputy Commissioner for Services and Enforcement.
[FR Doc. 2019-23819 Filed 10-31-19; 4:15 pm]
BILLING CODE 4830-01-P