Today, the U.S. Department of the Treasury and the Internal Revenue Service (IRS) issued temporary and proposed regulations to further reduce the benefits of and limit the number of corporate tax inversions, including by addressing earnings stripping. By undertaking an inversion transaction, companies move their tax residence overseas to avoid U.S. taxes without making significant changes in their business operations. After an inversion, many of these companies continue to take advantage of the benefits of being based in the United States, while shifting a greater tax burden to other businesses and American families.

“Treasury has taken action twice to make it harder for companies to invert. These actions took away some of the economic benefits of inverting and helped slow the pace of these transactions, but we know companies will continue to seek new and creative ways to relocate their tax residence to avoid paying taxes here at home,” said Treasury Secretary Jacob J. Lew. “Today, we are announcing additional actions to further rein in inversions and reduce the ability of companies to avoid taxes through earnings stripping. This will have an important effect, but we cannot stop these transactions without new legislation. I urge Congress to move forward with anti-inversion legislation this year. Ultimately, the best way to address inversions is to reform our business tax system, which is why Treasury is releasing an updated framework on business tax reform, outlining the administration’s proposals to date as a guide for future reform. While that work goes on, Congress should not wait to act as inversions continue to erode our tax base.”

Genuine cross-border mergers make the U.S. economy stronger by enabling U.S. companies to invest overseas and encouraging foreign investment to flow into the United States. But these transactions should be driven by genuine business strategies and economic efficiencies, not a desire to shift the tax residence of a parent entity to a low-tax jurisdiction simply to avoid U.S. taxes.

Today, Treasury is taking action to:

• Limit inversions by disregarding foreign parent stock attributable to recent inversions or acquisitions of U.S. companies. This will prevent a foreign company (including a recent inverter) that acquires multiple American companies in stock-based transactions from using the resulting increase in size to avoid the current inversion thresholds for a subsequent U.S. acquisition.
• Address earnings stripping by:
  • Targeting transactions that generate large interest deductions by simply increasing related-party debt without financing new investment in the United States.
  • Allowing the IRS on audit to divide debt instruments into part debt and part equity, rather than the current system that generally treats them as wholly one or the other.
  • Facilitating improved due diligence and compliance by requiring certain large corporations to do up-front due diligence and documentation with respect to the characterization of related-party financial instruments as debt. If these requirements are not met, instruments will be treated as equity for tax purposes.
• Formalize Treasury’s two previous actions in September 2014 and November 2015.

Statement from Jacob Lew:

Today, Treasury is announcing our latest action to limit inversions as well as action to address earnings stripping, a commonly used technique to minimize taxes after an inversion.

For years, companies have been taking advantage of a system that allows them to move their tax residences overseas to avoid U.S. taxes without making significant changes in their business operations.

After an inversion, many of these companies continue to take advantage of the benefits of being based in the United States – including our rule of law, skilled workforce, infrastructure, and research, and development capabilities – all while shifting a greater tax burden to other businesses and American families.

Treasury has taken action twice to make it harder for companies to invert and reduce the economic benefits of doing so. These prior actions had a real impact and have helped slow the pace of these transactions. Throughout this process, we have said we would continue to explore all our administrative authority to address inversions, including potential guidance on earnings stripping.

Today, we are taking further action to make it more difficult to invert. Some companies are serial inverters. They acquire multiple U.S. firms in stock-based transactions over a short period of time. This increases their size and reduces the negative tax consequences of a subsequent inversion. Today’s action takes away a significant amount of the tax benefits of these serial inversions.

We are also taking action to curb the use of earnings-stripping by focusing on transactions that generate large interest deductions by simply transferring debt between subsidiaries without financing new investment in the United States.

Finally, we are issuing formal regulations implementing our previous two inversion actions – these simply carry out the original intent of the notices.

We will continue to explore additional ways to limit inversions. But only new anti-inversion legislation can stop these transactions. Until that time, creative accountants and lawyers will continue to seek new ways for companies to move their tax residences overseas and avoid paying taxes here at home.

We urge Congress to take action, and we believe the best way would be to enact comprehensive business tax reform with specific anti-inversion provisions. That is why today Treasury is also releasing an updated framework on business tax reform. This lays out the key elements of the President’s approach to reform and details the specific proposals the administration has put forward. This includes a comprehensive approach to reforming the international tax system that stops inversions and makes the U.S. business tax system fairer and more pro-growth. This framework could serve as a guide for future action.

While that work goes on, Congress should not wait to act as inversions continue to erode our tax base. Only congressional action can fully address inversion transactions, and I urge Congress to act this year.