Firm Requests Relief to Ameliorate Effect of TCJA on Transaction

March 22, 2018

L. G. “Chip” Harter
Deputy Assistant Secretary (International Tax Affairs)
Department of the Treasury
1500 Pennsylvania Avenue, NW
Washington, DC 20220

Dear Chip,

Thank you to you and your team for meeting with us to discuss how changes made to Section 965 and the cash position determination under the Tax Cuts and Jobs Act of 2017 (“TCJA”) disproportionately impacted a U. S. multinational corporation relying on long-standing tax rules as it negotiated the acquisition of a foreign company. We are writing to provide the information you requested regarding the binding commitment to purchase the foreign company and the regulatory authority for granting the requested transition relief for a transaction that was negotiated, signed, and publicly disclosed before the TCJA was introduced in Congress. Specifically, we request (i) regulatory relief with respect to the entire purchase price of the transaction, or (ii) in the alternative, more limited regulatory relief with respect to a legally restricted portion of the purchase price.

International Affiliate's Binding Commitment to Purchase Target and the Associated Cash Position

The international affiliate (“International Affiliate”) of a U.S. company (“U.S. Parent”) executed a binding agreement (the “Purchase Agreement”) to purchase a foreign corporation (“Target”) on October 27, 2016. The parties intended the transaction to close, as stated in the Purchase Agreement, by October 27, 2017. However, a lengthy regulatory process in multiple jurisdictions around the world, including the EU, China, Japan, Mexico, Philippines, Russia, South Korea, and Taiwan, significantly delayed the planned timeline. To date, the acquisition of Target has been approved by every required jurisdiction except China. Absent the delay in receiving this final approval, the transaction would have closed well before the effective date of the TCJA, and the U.S. Parent would not have suffered a disproportionate impact under Section 965.

The Purchase Agreement requires International Affiliate to hold cash in reserve pending the closing of the transaction. Under the Purchase Agreement, International Affiliate is required to have sufficient funds available at the closing to complete the acquisition, represented to Target that it would have sufficient funds to complete the transaction, and is subject to Target's ability to exercise its right to specific performance. As a practical and business matter, the Purchase Agreement forces International Affiliate to hold cash for the purchase price in order to meet these obligations.

Moreover, International Affiliate must hold $2 billion in cash to satisfy the portion of the purchase price that must be paid under the Purchase Agreement even if the transaction does not close (the break-up fee) because the necessary regulatory approvals are not granted. International Affiliate can only avoid paying this portion of the purchase price if Target either breaches its obligations or if Target's board of directors changes its recommendation regarding the transaction.

If Target does not breach its obligations or change its recommendation, International Affiliate is fully bound by the Purchase Agreement until the termination date of the Purchase Agreement. Once the pre-closing conditions are satisfied, the transaction must be consummated immediately. Target could seek remedies, including specific performance, against International Affiliate if International Affiliate fails to consummate the transaction in violation of the Purchase Agreement.

Proposed Relief

The Purchase Agreement was signed well before tax reform negotiations gained any momentum. Had the purchase closed as planned and not been delayed by circumstances beyond the company's control, International Affiliate would have acquired Target instead of holding cash that it could not otherwise employ while waiting for regulatory approval. Because of these delays, International Affiliate's resources have been locked up in cash form, and U.S. Parent will be taxed at the higher rates applicable to cash holdings. We feel that this is an unfair and unintended result of Section 965. Section 965 was not enacted to tax illiquid assets at the higher rates. A narrowly tailored regulation could ameliorate this issue. Excluding the amount of cash committed for the acquisition of Target from the cash position definition is a reasonable and fair way for Treasury to provide transition relief. Below we include sample language that would provide a fairer and more equitable result consistent with the purpose of the law:

Cash held by a specified foreign corporation on a measurement date that is effectively unavailable and earmarked for transfer to a third-party in connection with closing the acquisition of a foreign target after such measurement date pursuant to a binding written contract may inflate the aggregate foreign cash position of a United States shareholder. Accordingly, for purposes of determining the cash position of a specified foreign corporation, the Treasury Department and the IRS intend to issue regulations providing that any cash held by a specified foreign corporation that is effectively unavailable and earmarked for payment to a third party to acquire a foreign target corporation pursuant to a binding contract entered into and disclosed in a filing with the Securities and Exchange Commission prior to November 2, 2017 shall be excluded from the cash position of the United States shareholder if payment of such amount occurs on or prior to December 31, 2018. However, for purposes of determining the cash position of the United States shareholder, any cash held by the foreign target corporation as of the acquisition date shall be treated as if it were held by the specified foreign corporation on the measurement date.

This proposed relief is the correct outcome from a policy perspective, because the cash was effectively illiquid and unavailable to be used for other purposes. This is also the equitable answer, given that the transaction was signed far before legislative consideration of the TCJA. Finally, we believe this regulation is well within Treasury's regulatory authority, as discussed at the end of this letter.

Alternative Relief

While we firmly believe that the above relief should be granted with respect to the entire amount of the purchase price, we also believe the facts and underlying policy considerations support more limited relief with respect to at least the amount held in reserve for the $2 billion portion of the purchase price. This $2 billion must be paid to Target even if the transaction does not close because regulatory approval cannot be obtained. Further, under irrevocable letters of credit agreements with major financial institutions, as required by the Purchase Agreement, this $2 billion is legally unavailable to be used (actually or as collateral for other transactions), must remain as collateral in accounts at the letter of credit providers, and is treated for U.S. GAAP purposes as restricted. Under SEC rules, U.S. Parent was required to and disclosed the amount as restricted on its Form 10-K. U.S. Parent also included the cash on the group's publicly filed balance sheets as part of the “Other Assets” category, not as “Cash.” Target can draw upon the letters of credit in the event that the transaction is not consummated or for other damages related to the Purchase Agreement. Reducing the cash position amount by the amount of cash restricted for the acquisition of Target is a reasonable and fair way for Treasury to provide transition relief. Below we include sample language that would provide this more limited relief within the purpose of the law:

Cash held by a specified foreign corporation on a measurement date that is restricted from use other than for transfer to a third-party in connection with closing the acquisition of a foreign target after such measurement date pursuant to a binding written contract may inflate the aggregate foreign cash position of a United States shareholder. Accordingly, for purposes of determining the cash position of a specified foreign corporation, the Treasury Department and the IRS intend to issue regulations excluding cash held that is (i) legally restricted from use; (ii) treated as restricted for U.S. GAAP purposes; (iii) earmarked and held for payment to a third-party to acquire a foreign target corporation (or a payment of a fee in lieu of such acquisition) pursuant to a binding contract entered into and disclosed in a filing with the Securities and Exchange Commission prior to November 2, 2017; and (iv) so paid on or prior to December 31, 2018.

Authority to Grant Regulatory Relief

Treasury has the legal authority to grant the requested relief. Section 965(o) expressly authorizes the Treasury Secretary to prescribe regulations and guidance as may be “necessary or appropriate to carry out the provisions of this section.” Section 7805(a) also authorizes and instructs the Treasury Secretary to “prescribe all needful rules and regulations for the enforcement of [the Code], including all rules and regulations as may be necessary by reason of any alteration of law in relation to internal revenue.” The policy behind Section 965 was to tax cash and non-cash investments at different rates because controlled foreign corporations could immediately repatriate liquid cash to U.S. Shareholders. However, Congress did not provide guidance as to whether cash subject to a binding commitment should be considered a cash position even though such cash cannot be used for other purposes. Guidance from Treasury would be necessary and appropriate to address situations in which a cash position on a measurement date may not fairly represent the taxpayer's true liquidity position or accomplish the goals of the statute. Congress clearly contemplated that a taxpayer's cash position might not accurately be understood simply by measuring the amount of cash on the taxpayer's balance sheet, as shown by the look-back provision and the exclusion of certain amounts to prevent double counting in Section 965(c)(3). The relief requested above would be consistent with the intent and policies of the statute as well as the economic realities of large transactions.

In both proposals for relief, we have narrowly tailored the provisions to ensure consistency with Congressional intent and the policy behind Section 965. We welcome any further discussion to address the concerns we have raised, as well as the concerns of similar taxpayers with respect to the determination of the aggregate foreign cash position in the context of pending transactions.

Thank you for your consideration. Please let us know if you have any questions or would like us to provide further information.

Sincerely,

Geoffrey K. Verhoff, Senior Advisor
Akin Gump
STRAUSS HAUER & FELD LLP
Washington, DC
gverhoff@akingump.com
+1 202.416.5012

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Appendix

Section 965(o) Regulations. The Secretary shall prescribe such regulations or other guidance as may be necessary or appropriate to carry out the provisions of this section, including —

Section 7805(a) Authorization

Except where such authority is expressly given by this title to any person other than an officer or employee of the Treasury Department, the Secretary shall prescribe all needful rules and regulations for the enforcement of this title, including all rules and regulations as may be necessary by reason of any alteration of law in relation to internal revenue.