Attention Taxpayers: New IRS Rules May Deem Debt to Be Stock

16 May 2016 Manufacturing Industry Advisor Blog

In April, the IRS proposed rules that would treat debt between related corporations as stock for U.S. tax purposes. These rules would apply to all corporations (including regular C corporations, S corporations, foreign corporations, and exempt organizations) related through 80% stock ownership, taking into account constructive ownership rules, except that members of a U.S. consolidated group would be exempted and treated as a single corporation. For example, the rules would apply to a U.S. parent and subsidiaries if they do not file U.S. federal consolidated returns; a foreign parent and U.S. subsidiary; and brother-sister corporations owned by a private equity fund, family, or exempt organization.

What this Means for Manufacturers

Stock treatment would apply for all U.S. tax purposes, meaning there would be no interest deduction; repayment would be treated as a stock redemption, likely dividend-equivalent; and the debt would have to be taken into account as stock in determining whether any of the tax law’s many stock ownership standards are met.

The proposed rules were issued in conjunction with other measures to combat perceived erosion of the U.S. tax base through inversions and multinational groups’ leveraging their U.S. operations to strip out U.S. earnings free of U.S. tax through interest deductions. However, the proposed rules are not limited to such scenarios and would apply to a purely domestic group, and could be adopted independently of those other provisions.

The proposed rules would impose stock treatment unless extensive debt qualification documentation is maintained for all such related party debt, even ordinary course daily accruals and borrowings. This rule would apply prospectively to debt issued after the rules are finalized.

Even with such documentation, stock treatment would be imposed for debt issued in specified transactions that are have or are deemed to have the effect of displacing equity of a group member. This rule would apply even now to debt issued after April 3, 2016, although the stock treatment would not be imposed until 90 days after the rules are finalized.

Finally, another rule, applicable to 50% related parties, would give the IRS authority to bifurcate debt instruments into separate debt and stock components, such as where only a portion of a debt is sufficiently certain of repayment to qualify as debt. This rule would apply prospectively to debt issued after the rules are finalized.

The rules contain a number of exceptions and thresholds to imposition of stock treatment. Groups would have to track a host of new related party debt parameters to monitor where they stand under and comply with the rules.

What’s Next

Although just proposed, already commentators are raising many issues and problems that arise thereunder, many of which have not been fully thought through. The proposed rules must go through a comment and hearing process before being finalized. Congress could get involved as well. Taxpayers can weigh in on the debate individually or through trade associations such as the National Association of Manufacturers, and in any event should keep informed of developments and know that if finalized as proposed, the equity displacement rules are in effect now.

This blog is made available by Foley & Lardner LLP (“Foley” or “the Firm”) for informational purposes only. It is not meant to convey the Firm’s legal position on behalf of any client, nor is it intended to convey specific legal advice. Any opinions expressed in this article do not necessarily reflect the views of Foley & Lardner LLP, its partners, or its clients. Accordingly, do not act upon this information without seeking counsel from a licensed attorney. This blog is not intended to create, and receipt of it does not constitute, an attorney-client relationship. Communicating with Foley through this website by email, blog post, or otherwise, does not create an attorney-client relationship for any legal matter. Therefore, any communication or material you transmit to Foley through this blog, whether by email, blog post or any other manner, will not be treated as confidential or proprietary. The information on this blog is published “AS IS” and is not guaranteed to be complete, accurate, and or up-to-date. Foley makes no representations or warranties of any kind, express or implied, as to the operation or content of the site. Foley expressly disclaims all other guarantees, warranties, conditions and representations of any kind, either express or implied, whether arising under any statute, law, commercial use or otherwise, including implied warranties of merchantability, fitness for a particular purpose, title and non-infringement. In no event shall Foley or any of its partners, officers, employees, agents or affiliates be liable, directly or indirectly, under any theory of law (contract, tort, negligence or otherwise), to you or anyone else, for any claims, losses or damages, direct, indirect special, incidental, punitive or consequential, resulting from or occasioned by the creation, use of or reliance on this site (including information and other content) or any third party websites or the information, resources or material accessed through any such websites. In some jurisdictions, the contents of this blog may be considered Attorney Advertising. If applicable, please note that prior results do not guarantee a similar outcome. Photographs are for dramatization purposes only and may include models. Likenesses do not necessarily imply current client, partnership or employee status.

Related Services


Foley Manufacturing Update
18 August 2022
Manufacturing Industry Advisor
Using Upfront IP Licensing to Reduce Future Supply Chain Disruptions
18 August 2022
Manufacturing Industry Advisor
Do you have adequate Ransomware Cyber Insurance Coverage?
18 August 2022
Internet, IT & e-Discovery Blog
Warning to All U.S. Taxpayers Who Use Cryptocurrency: “Crypto” Doesn’t Mean Your Currency is Secret — or Protected — from the IRS
17 August 2022
Legal News: Government Enforcement Defense & Investigations
Foley Sponsors Ernst & Young Entrepreneur of the Year® Program
1 December 2021 - 30 November 2022
Michigan and Northwest Ohio Region
Moss Adams 2022 Health Care Conference
3-4 November 2022
Las Vegas, NV
An Update on Remote Patient Monitoring Policy and Reimbursement
28 October 2022
Austin, TX
AI in Healthcare: EU-U.S. Legal Challenges and Guidance and Security Implications
26 October 2022
Las Vegas, NV