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September 2010 
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Tax Benefits For US Shareholders In Foreign Mergers |
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Claire Spencer, July 2009 |
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Page 2 of 2 |
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“But now, the IRS and Treasury Department acknowledged that many foreign jurisdictions have merger or consolidation statutes that operate in material respects like those of the states in the US. Accordingly, they revised the definition of statutory merger or consolidation to allow transactions effected pursuant to the statutes of a foreign jurisdiction to qualify as a statutory merger or consolidation,” says Hope Krebs, co-chair of the International Practice Group at Duane Morris.
Ultimately, keeping legislation simple and up-to-date keeps it effective, but some teething problems are somewhat inevitable. In this case, the simplicity of the definition of a statutory merger may leave it open to abuse. Anecdotally, a number of statutory mergers that have been classified as an A-type reorganisation under the new rules have already raised questions as to whether that should have been the case.
It is yet to be seen whether this will become a serious issue. But as lawmakers wished to classify more reorganisations among non-US organisations as being A-type, they are unlikely to kick up a fuss in the near term. As such, it is sufficient that such organisations meet the existing criteria laid out for A-type reorganisations.
Evaluating the effects
Of course, these rules will only concern a minority of transactions – most of the time, foreign shareholders that are effecting a merger of corporate entities would not be affected by having a taxable transaction. On balance though, the amendments (so far) can be considered a success, in that they achieve putting non-US corporations and their shareholders on an equal footing with their US-based counterparts when it comes to how they are treated by this area of tax law. “Without these rules, most multinational mergers that sought tax deferral needed to be characterised under either a B-type or C-type reorganisation for US tax purposes,” explains Mr Armstrong. “These were not always easy to structure into, given the robust dynamics of a multinational consolidation. Many consolidations are designed to provide assets to some shareholders or liability segregation, and in the context of a B-type reorganisation, such flexibility simply doesn’t exist, as they specifically require that only voting stock of the transferor can be given to the transferee.” He adds that C-type reorganisations are also problematic, due to their requirement that all of the assets must be transferred. As such, if shareholders are only looking to merge part of a business and retain the remainder, this will not be possible.
However, the rules were not subject to wholesale change – none of the ancillary provisions that could apply to an otherwise tax-deferred exchange were altered. For example, IRC Section 367 imposes an income tax on the outbound transfer of certain assets – so an A-type merger between a US company and a non-US company where the non-US company is the surviving entity would be treated as such a transfer. Furthermore, the Obama administration indicated earlier this year that they are likely to make this provision even stricter in the near future, possibly by substantially increasing the exit taxes. It may also be the case that foreign taxing authorities have similar rules to the US regarding expatriation of assets outside their taxing jurisdiction.
Overall then, it seems to be the case that more non-US companies qualify as A-type reorganisations under the amended rules. “We have seen a number of companies take advantage of the flexibility of the ‘A’ reorganisation since the final regulations were issued in 2006,” notes Ms Krebs. Notably, there has been an increase in foreign-to-foreign mergers which seek to be characterised as such – A-type classification makes the whole process rather less cumbersome. “Assuming that the global economy stabilises, we would expect to see an uptick in cross-border mergers, including an increase in the use of flexible ‘A’ reorganisations,” she continues. Furthermore, the A-type reorganisations are also set to rise among US-based companies, which are divesting of or acquiring a foreign component of their business. However, there has not been an increase in the use of A-type reorganisations where the US acquirer wishes to merge with a non-US target, mostly because that there are already other beneficial rules which apply when the seller is not based in the US.
Ultimately, all rules dealing with tax-deferred reorganisations – be they A, B, C or D-type – are definitional, not elective. There is no grey area – the definition either applies or it does not, and this can be problematic in some transactions. But it can now be applied in more cases than before, and the fact that the rules have been simplified has been helpful in as much as A-type reorganisations tend to be faster, cheaper and more flexible – no bad thing in the current climate.
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