Practical considerations from the final Section 385 regulations

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June 2020

Overview

Treasury and the IRS released regulations under Section 385 that finalize the treatment of certain qualified short-term debt instruments, transactions involving controlled partnerships, and transactions involving consolidated groups for purposes of classifying certain interests in corporations as stock or indebtedness under final regulations published in 2016.  While the 2020 Final Regulations, published May 13, do not contain substantive changes from the proposed and temporary regulations that were issued contemporaneously with the issuance of the 2016 Final Regulations, they have practical impact for multinational enterprises and present several issues and potential traps that corporations should consider in structuring or revising their intercompany debt or financing arrangements.

The takeaway

Following the revocation of the Documentation Rules and release of the notice of advanced rulemaking in 2019, many taxpayers concluded that the Distribution Regulations would be significantly modified, if not revoked, and may have reduced their focus on Section 385’s application.  By finalizing the 2016 Proposed Regulations without change, Treasury and the IRS reaffirmed their belief that the Distribution Regulations remain appropriate.  As a result, taxpayers should take this opportunity to re-examine their financial arrangements to analyze whether they may be impacted by the now entirely final Distribution Regulations. 

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Doug McHoney

International Tax Services Leader, PwC US

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