Publisher Seeks Retention of Approach in Loss Limitation Regs

November 7, 2019

Department of Treasury
Internal Revenue Service
CC:PA:LPD:PR (REG-125710-18)
Room 5203
Post Office Box 7604
Ben Franklin Station, Washington, DC 20044

Re: Comments on Proposed Regulations Under Section 382(h)

Dear Sir or Madam:

McGraw-Hill Education, Inc. is an adaptive learning company providing personalized education solutions for students and educators. We appreciate the opportunity to comment on the Proposed Regulations under Section 382(h) of the Internal Revenue Code of 1986, as amended (Code) that were issued on September 9, 2019 (Proposed Regulations).

We respectfully request that the Department of Treasury (Treasury) and the Internal Revenue Service (IRS) modify the Proposed Regulations to continue to allow a “loss corporation” to utilize the “Section 338 approach” where that corporation had a binding agreement with respect to a transaction that will result in an “ownership change” in place prior to September 9, 2019, and where the transaction will not be completed until after these Proposed Regulations are finalized.

Code Section 382 provides for an annual limitation on the carryforward of net operating losses of a Loss Corporation as defined in Section 382(k)(1) following an Ownership Change as defined in Section 382(g). The general limitation set forth in Section 382(b) is adjusted where the Loss Corporation with the Ownership Change has recognized built-in-gain or recognized built-in-loss under Section 382(h). The guidance under Notice 2003-65, 2003-2 C.B. 747, as amended by Notice 2018-30, 2018-21 IRB 610, (Notice) provides two safe harbor approaches for determining a Loss Corporation's recognized built-in-gain or loss — referred to as the Section 1374 Approach and the Section 338 Approach. Taxpayers have relied upon the guidance in the Notice for 16 years.

Taxpayers that executed binding agreements prior to issuance of the Proposed Regulations on September 9, 2019, did so relying upon the guidance in the Notice.

The Proposed Regulations closely follow the Section 1374 Approach with modifications and eliminate the Section 338 Approach for calculating recognized built-in-gains and losses. These changes are scheduled to be effective for Ownership Changes occurring after the Proposed Regulations are finalized. As a result, taxpayers who executed a binding agreement that will result in an Ownership Change and who relied upon the Section 338 Approach in the Notice when evaluating, negotiating, and ultimately pricing the transaction may be subjected to a new set of rules which produce an entirely different economic result simply based upon when the transaction closes and the Ownership Change occurs.

We respectfully request that Treasury and the IRS include in the final regulations a provision that allows taxpayers to continue to utilize the Section 338 Approach under the Notice where the taxpayer had a binding agreement in place prior to September 9, 2019, for a transaction that would result in an Ownership Change that occurs after the Proposed Regulations are finalized. Such a “grandfathering” provision is especially appropriate where the Proposed Regulations significantly change the current long-standing guidance for calculating recognized built-in-gain or loss and such guidance was in effect and properly relied upon by taxpayers that entered into a binding agreement prior to the issuance of the Proposed Regulations. In addition, a grandfathering provision would leave similarly situated taxpayers subject to the same guidance related to the Section 382 limitation under the Section 338 Approach. Without this provision, taxpayers that relied upon existing guidance when analyzing a transaction and executing a binding agreement prior to issuance of the Proposed Regulations could find themselves with dramatically different results in calculating the Section 382 limitation depending upon when the Ownership Change occurs — a factor often out of the control of the taxpayer, for example, when a transaction is dependent upon regulatory approval.

The Notice specifically states that taxpayers may rely upon the approaches set forth in the Notice for applying Section 382(h) to an Ownership Change until the effective date of temporary or final regulations under Section 382. Further, Section 7805(b)(1)(A) and (B) states that final regulations cannot be applied to a taxable period prior to the date on which any proposed or temporary regulations to which the final regulations relate are published in the Federal Register. The language in the Notice as well as the statutory language are designed to avoid a retroactive change in tax guidance. We respectfully submit that applying the Proposed Regulations to Ownership Changes occurring pursuant to a binding agreement executed prior to the issuance of these Proposed Regulations where the Ownership Change occurs after the Proposed Regulations are finalized is in effect a retroactive application of the Proposed Regulations, and a retroactive repeal of the guidance in the Notice. To avoid such a retroactive application of the Proposed Regulations and repeal of the guidance in the Notice, we respectfully request that the final regulations under Section 382 should include a grandfathering provision.

The Treasury and the IRS have on numerous prior occasions included such a grandfathering provision in proposed regulations where taxpayers have entered into binding contracts in reliance upon existing guidance and subsequently proposed regulations changed the existing guidance. Taxpayers should be able to rely upon official guidance when entering into a binding agreement without the possibility of a retroactive change in the guidance that significantly impacts the economics of the transaction during the period between signing and closing.

We recognize that several commenters have urged Treasury and the IRS to preserve the Section 338 Approach in the final regulations. This position has merit as well and is not inconsistent with our request.

In summary, we respectfully request that Treasury and the IRS continue to allow taxpayers to utilize the Section 338 Approach under Notice 2003-65 where the taxpayer had a binding agreement in place prior to September 9, 2019, for a transaction that would result in an Ownership Change which does not occur until after the Proposed Regulations are finalized.

We appreciate your consideration of our comments and are available to answer any questions.

Sincerely,

Deborah M. Flanagan
Senior Vice President-Tax
McGraw-Hill Education, Inc.
New York, NY