Deemed Stock Distribution Changes Outlined in IRS Proposal
The IRS issued proposed regulations outlining the amount and timing of a deemed distribution of stock and changing withholding agents' obligations.
The agency has concluded that “a deemed distribution of a right to acquire stock is more accurately viewed as a distribution of additional rights to acquire stock, the amount of which is the fair market value of the right,” the IRS said in the proposed rules released April 12. The rules provide guidance on determining the amount and timing of a deemed distribution under tax code Section 305(c).
The rules address situations where a deemed distribution of stock occurs because the conversion ratios change in such a way that increases the person's interest in the corporation under tax code Section 305(c).
The proposal covers three questions, Gregory N. Kidder, a partner at Steptoe & Johnson LLP, told Bloomberg Tax April 12: What is the amount of the deemed distributions, what is the timing of the distributions and what are the withholding agent's obligations?
The amount is determined by the fair market value of the right to acquire the stock. Kidder said while it is nice to have a general rule, it could be “challenging” to determine a methodology to determine the valuation.
The distribution is considered to occur at the time of the adjustment “in accordance with the instrument setting forth the terms of the right to acquire stock, but in no event later than the date of the distribution of cash or property that results in the deemed distribution,” the proposal said.
The IRS said the rules seek to clarify a withholding agent's obligation after receiving comments that withholding can be difficult in situations when there isn't a cash payout that corresponds with the distribution. Some withholding agents have also said they are unable to withhold on the date of the deemed distribution, because they don't know that a distribution on a security has been made.
A 30 percent withholding occurs on distributions to nonresident aliens, foreign partnerships or foreign corporations.
The proposal provides a withholding obligation exception for situations where the agent lacks control or custody of the property, saying the withholding agent only has an obligation if it knows about the distribution prior to the due date for filing Form 1042, Annual Withholding Tax Return for U.S. Source Income of Foreign Persons.
Seeking to Steer Clear
“You try to make sure you never have to deal with these rules,” Kidder said. “You never want to have a deemed distribution like this where you are creating taxable income to a party that is not receiving any money.”
The rules will be effective upon Federal Register publication of the final rules, but withholding agents may rely on the proposed rules for deemed distributions under Section 305(c) that occur before that time.
The proposal is scheduled to be published in the Federal Register April 13. Comments and requests for a hearing are due July 12.
To contact the reporter on this story: Laura Davison in Washington at lDavison@bloombergtax.com
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This update can be found in the Bloomberg Tax's flagship daily news service, Daily Tax Report®, April 12, 2016. For comprehensive coverage of taxation, pension, budget, and accounting issues, sign up for a free trial or subscribe to the Daily Tax Report today. Learn more »