Inbound U.S. Tax Planning With Inversions

by Bilzin Sumberg

With all of the recent negative publicity focused on the outbound restructuring of U.S. multinationals engaging in so-called “inversion” transactions (see prior blog “Corporate Inversions Showing No Signs of Slowing Down”), little, if any attention, has focused on the potential tax planning opportunities available in the inbound area resulting from the (likely unintended) consequences of Section 7874. A typical inversion involves a transaction or series of transactions through which a U.S.-based multinational restructures its corporate group, so that the ultimate parent corporation of the group becomes a foreign entity. This is typically accompanied by the transfer of the U.S. multinational’s ownership of its foreign subsidiaries to the new foreign parent, and an increase in the leveraging of the U.S. operations through intercompany debt.

If the original shareholders of the U.S. parent own at least 80 percent of the shares of the inverted foreign corporation after the transaction, and no substantial business activities occur in the foreign country where the new foreign parent is incorporated, Section 7874(b) treats the foreign parent as a U.S. corporation for all purposes of the Internal Revenue Code (the “Code”). It is important to note that Section 7874 (at least according to the plain language of the statute) is not limited to situations where the shareholders of the U.S. parent are U.S. shareholders. Therefore, as illustrated below, Section 7874 appears to have relevance in a number of everyday inbound transactions and could lead to some interesting tax planning opportunities.

Avoidance of U.S. Withholding Tax on Dividends

Generally, a U.S.-source dividend paid to a foreign person will be subject to a 30% U.S. withholding tax, unless reduced or eliminated by an applicable income tax treaty. To qualify for treaty benefits, however, a treaty’s limitation on benefits provision, if any, must be satisfied. Accordingly, not all foreign persons are eligible for U.S. income tax treaty benefits, especially if those foreign persons are resident in a jurisdiction that does not have a comprehensive income tax treaty with the United States.

For example, a dividend paid by a U.S. corporation to its 100 percent foreign shareholder who is resident in Dubai generally would be subject to a 30% U.S. withholding tax because no income tax treaty currently exists between the United States and the UAE. If, however, the foreign shareholder transfers all of its shares in the U.S. operating company to a newly-formed corporation organized in the Cayman Islands, it appears that no U.S. withholding tax would be imposed when a dividend is paid from the U.S. to the Cayman holding company. This is a result of Section 7874(b) treating the Cayman holding company as a U.S. corporation because (i) the foreign shareholder would own at least 80 percent of the shares of the new foreign parent and (ii) no substantial business activities would occur in the Cayman Islands. Accordingly, this restructuring appears to completely eliminate U.S. withholding tax on the dividend paid to the Cayman corporation, despite the fact that no income tax treaty exists between the United States and the Cayman Islands (or the UAE).

Of course, it should be noted that because Section 7874 treats the Cayman holding company as a U.S. corporation for all purposes of the Code, the dividend is treated as being paid from one U.S. corporation to another U.S. corporation. If structured correctly, however, the receipt of the dividend by the Cayman/U.S. holding company should be eligible for the 100 percent dividend received deduction. Further it also may be possible for the Cayman/U.S. company to repatriate cash to its shareholder resident in Dubai without triggering a U.S. withholding tax (which, by the way, would need to be collected by a Cayman holding company with a foreign shareholder). This may be accomplished by having the Cayman/U.S. holding company distribute a note to the shareholder in Dubai in a taxable year prior to its receipt of a dividend from the U.S. operating company. Future payments on the note would be treated as tax free payments of principal. It is also possible U.S. withholding tax on the dividend could be substantially reduced if the Cayman/U.S. holding company is characterized as “an existing 80/20 company.” It is certainly questionable whether Section 7874 was intended to apply in these circumstances, but the plain language of the statute clearly supports such a result.

Avoidance of FIRPTA

In addition to the avoidance of U.S. withholding tax on dividends, Section 7874 may also potentially help in avoiding the Foreign Investment in U.S. Real Property Tax Act (“FIRPTA”). In general, Section 897 taxes a foreign person on any gain recognized on the disposition of a U.S. real property interest. In addition, Section 1445 requires the purchaser to withhold 10 percent of the purchase price from the sales proceeds due to the foreign seller of the U.S. real property interest, even if such amount is greater than the actual tax due. For example, a foreign person who sells a U.S. real property interest for $10 million will be subject to $1 million withholding tax, even if the actual gain is only $50,000 (and the actual tax liability is only $10,000) because the asset has a cost basis of $9,950,000.

Section 7874 could potentially help avoid these results. For example, assume a foreign person owns U.S. real property through a U.S. corporation. A sale by that foreign person of the shares of the U.S. corporation would be subject to the FIRPTA consequences discussed above. If, however, the foreign person transfers his shares of the U.S. corporation to a foreign holding company organized in the BVI, Section 7874 would treat the BVI corporation as a U.S. corporation.

Accordingly, the BVI/U.S. holding company could now sell the shares of the U.S. real property holding corporation without being subject to the FIRPTA withholding tax rules. While the BVI/U.S. holding company will be subject to U.S. corporate income tax on any gain recognized on the sale, the IRS would have a much more difficult time collecting the tax due. This is because without the 10 percent FIRPTA withholding, the proceeds from the sale of the shares likely will be held in a foreign bank account owned by a foreign corporation with foreign shareholders. Good luck!

Again, it is unlikely these results ever were intended when Section 7874 was enacted. Nevertheless, the plain language of the statute clearly supports this interpretation.

Potentially Adverse Consequences To Foreign Persons Under Section 7874

While Section 7874 may be advantageous to foreign persons in the circumstances described above, there are a few potentially adverse tax situations that could arise as a result of Section 7874 applying in the inbound context. For example, practically all U.S. income tax treaties provide that unless a foreign corporation has a permanent establishment in the United States such foreign corporation will not be subject to direct U.S. federal income tax. If, however, Section 7874 treats a foreign a corporation as a U.S. corporation for all purposes, these income tax treaties essentially will be overridden by Section 7874 because a foreign corporation resident in a treaty jurisdiction now will be subject to U.S. federal income tax on its worldwide income, regardless of whether such corporation has a permanent establishment in the United States.

Furthermore, a foreign person attempting to avoid U.S. estate tax by transferring the shares of a U.S. corporation to a foreign holding company will now find that he or she owns a U.S.-situs asset for estate tax purposes as a result of Section 7874. It is certainly hard to believe that these were the types of transactions Congress was targeting when Section 7874 was enacted. Nevertheless, Section 7874 as presently drafted, and without any further guidance, would seem to apply in the situations described above.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

© Bilzin Sumberg | Attorney Advertising

Written by:

Bilzin Sumberg

Bilzin Sumberg on:

Readers' Choice 2017
Reporters on Deadline

"My best business intelligence, in one easy email…"

Your first step to building a free, personalized, morning email brief covering pertinent authors and topics on JD Supra:
Sign up using*

Already signed up? Log in here

*By using the service, you signify your acceptance of JD Supra's Privacy Policy.
Custom Email Digest
Privacy Policy (Updated: October 8, 2015):

JD Supra provides users with access to its legal industry publishing services (the "Service") through its website (the "Website") as well as through other sources. Our policies with regard to data collection and use of personal information of users of the Service, regardless of the manner in which users access the Service, and visitors to the Website are set forth in this statement ("Policy"). By using the Service, you signify your acceptance of this Policy.

Information Collection and Use by JD Supra

JD Supra collects users' names, companies, titles, e-mail address and industry. JD Supra also tracks the pages that users visit, logs IP addresses and aggregates non-personally identifiable user data and browser type. This data is gathered using cookies and other technologies.

The information and data collected is used to authenticate users and to send notifications relating to the Service, including email alerts to which users have subscribed; to manage the Service and Website, to improve the Service and to customize the user's experience. This information is also provided to the authors of the content to give them insight into their readership and help them to improve their content, so that it is most useful for our users.

JD Supra does not sell, rent or otherwise provide your details to third parties, other than to the authors of the content on JD Supra.

If you prefer not to enable cookies, you may change your browser settings to disable cookies; however, please note that rejecting cookies while visiting the Website may result in certain parts of the Website not operating correctly or as efficiently as if cookies were allowed.

Email Choice/Opt-out

Users who opt in to receive emails may choose to no longer receive e-mail updates and newsletters by selecting the "opt-out of future email" option in the email they receive from JD Supra or in their JD Supra account management screen.


JD Supra takes reasonable precautions to insure that user information is kept private. We restrict access to user information to those individuals who reasonably need access to perform their job functions, such as our third party email service, customer service personnel and technical staff. However, please note that no method of transmitting or storing data is completely secure and we cannot guarantee the security of user information. Unauthorized entry or use, hardware or software failure, and other factors may compromise the security of user information at any time.

If you have reason to believe that your interaction with us is no longer secure, you must immediately notify us of the problem by contacting us at In the unlikely event that we believe that the security of your user information in our possession or control may have been compromised, we may seek to notify you of that development and, if so, will endeavor to do so as promptly as practicable under the circumstances.

Sharing and Disclosure of Information JD Supra Collects

Except as otherwise described in this privacy statement, JD Supra will not disclose personal information to any third party unless we believe that disclosure is necessary to: (1) comply with applicable laws; (2) respond to governmental inquiries or requests; (3) comply with valid legal process; (4) protect the rights, privacy, safety or property of JD Supra, users of the Service, Website visitors or the public; (5) permit us to pursue available remedies or limit the damages that we may sustain; and (6) enforce our Terms & Conditions of Use.

In the event there is a change in the corporate structure of JD Supra such as, but not limited to, merger, consolidation, sale, liquidation or transfer of substantial assets, JD Supra may, in its sole discretion, transfer, sell or assign information collected on and through the Service to one or more affiliated or unaffiliated third parties.

Links to Other Websites

This Website and the Service may contain links to other websites. The operator of such other websites may collect information about you, including through cookies or other technologies. If you are using the Service through the Website and link to another site, you will leave the Website and this Policy will not apply to your use of and activity on those other sites. We encourage you to read the legal notices posted on those sites, including their privacy policies. We shall have no responsibility or liability for your visitation to, and the data collection and use practices of, such other sites. This Policy applies solely to the information collected in connection with your use of this Website and does not apply to any practices conducted offline or in connection with any other websites.

Changes in Our Privacy Policy

We reserve the right to change this Policy at any time. Please refer to the date at the top of this page to determine when this Policy was last revised. Any changes to our privacy policy will become effective upon posting of the revised policy on the Website. By continuing to use the Service or Website following such changes, you will be deemed to have agreed to such changes. If you do not agree with the terms of this Policy, as it may be amended from time to time, in whole or part, please do not continue using the Service or the Website.

Contacting JD Supra

If you have any questions about this privacy statement, the practices of this site, your dealings with this Web site, or if you would like to change any of the information you have provided to us, please contact us at:

- hide
*With LinkedIn, you don't need to create a separate login to manage your free JD Supra account, and we can make suggestions based on your needs and interests. We will not post anything on LinkedIn in your name. Or, sign up using your email address.