Notice 2014-52: The Treasury’s Response to Corporate Tax Inversions

Nov. 19, 2014
By A’Dair Flynt, Senior Associate

In a letter dated July 15, 2014, Treasury Secretary Jacob J. Lew asked Congress to pass retroactive legislation that would halt United States companies from engaging in inversion transactions.[1] A corporate tax inversion or expatriation is a “transaction in which a U.S. based multinational restructures so that the U.S. parent is replaced by a foreign parent.”[2]  As a result, the corporation no longer has a U.S. corporate residence and can avoid the 35% U.S. corporate tax, which is currently the highest in the world.[3] Additionally, the corporation pays no tax on its foreign source income to its new foreign country. The Joint Committee on Taxation has estimated that over the course of 10 years, corporate inversions cost the U.S. $20 billion in lost revenue.[4] Between 2004 and 2014, estimates indicate that over 47 U.S. companies have inverted.[5]

Whether a corporation is considered a domestic corporation depends solely on whether it is organized under U.S. federal or state law.[6] The U.S. makes no distinction between income earned domestically or internationally.[7] Thus, the U.S. has a “worldwide” system such that all income of U.S. corporations is taxed alike.[8] As a result, as long as the corporation has a U.S. residence, any income earned is taxable.[9] Additionally, foreign corporations pay U.S. tax on income earned within the United States.[10] Income earned outside the U.S. by a U.S. corporation is still subject to taxation; however, a corporation can defer the tax earned by its foreign subsidiaries until the foreign subsidiary pays its U.S. parent a dividend.[11] Corporations receive tax credits for this income that is “repatriated” to guarantee that corporations are paying no more and no less than the U.S. income tax rate on its foreign income.[12] Other countries have a “territorial” taxation system in which income is only taxed if its source is the country of incorporation.[13] As a result, the territorial system avoids the “double taxation” issue in which foreign-source income is taxed both by the company’s home nation and the foreign nation where the income is earned.[14]

Section 7874 is the primary section of the United States Tax Code that currently addresses inversion transactions.[15] This section was passed as part of the American JOBS Act of 2004 in response to the Treasury’s perceived problems: (1) degradation of the U.S. tax base; (2) cost advantages of multi-national companies; and (3) a national feeling of unfairness.[16] Section 7874 applies to corporations that have engaged in inversions if: (1) a certain percentage of the shareholders of the original U.S. parent remain shareholders of the new foreign parent company; and (2) after the transaction, the corporation does not have substantial business activities in its country of incorporation compared to the total business activities of the entire “expanded affiliated group.”[17] The Code does not define what constitutes “substantial business activities,” but a treasury regulation dictates that the relevant percentage is 25%.[18] The relevant percentages of ownership are 60% and 80%.[19] Inverted corporations in which the new foreign parent is composed of 80% of the original U.S. parent’s shareholders are treated as a U.S. company.[20] As such, the inversion transaction essentially has no effect.[21]

Between 60% and 80% is the current “gray zone,” and the Treasury has noted that this range makes up the majority of current corporate inversion transactions.[22] Currently, if the result of a corporate inversion is in this 60% to 80% range, the “inversion gain” of the corporation must be greater than or equal to the taxable income of the U.S. company for the inversion transaction to be respected by the United States.[23] Inversion gain is the gain recognized from a transfer of stock and properties by an inverted company, as well as any income received or accrued through a license of an inverted corporation.[24]

Subsequent to the passing of the JOBS Act, loopholes remained for corporations who still wished to engage in inversion transactions, and the Treasury noted a continued erosion of the U.S. tax base.[25] According to one source, 20 U.S. companies have moved their corporate residence to a foreign country in pursuit of lower tax rates since 2012.[26] In a $54.8 billion transaction, AbbVie, Inc., a manufacturer of pharmaceuticals, became the largest U.S. company to move its corporation abroad when it merged with the U.K. company Shire Plc., another pharmaceutical company.[27] AbbVie’s CEO stated that the deal was primarily strategic to diversify AbbVie’s portfolio.[28] However, the CEO noted that AbbVie was at a significant disadvantage compared to its foreign competitors due to the high U.S. corporate tax rate and lack of global cash flow.[29] By 2016, it is forecasted that AbbVie will lower its tax liability from 22% to 13% as a result of this merger.[30] Significantly, Canada and countries in the U.K. have become increasingly popular choices as locations of foreign parents. The U.K. has lowered its corporate tax rate and has adopted a territorial system in recent years while Canada has kept its territorial system and lowered its tax rates.[31]

In a July 27, 2014, op-ed in The Washington Post, Secretary Lew again requested that Congress adopt legislation that would follow President Obama’s 2012 framework for business tax reform.[32] Secretary Lew asked for a “new sense of economic patriotism,” imploring the House of Representatives Chairman of the Committee on Ways and Means to pass legislation and thus “prevent companies from effectively renouncing their citizenship to get out of paying taxes.”[33] With the 2016 presidential election nearing, it became clear that Congress would not reach an agreement on tax reform.[34] On September 22, 2014, the Department of the Treasury stepped in by issuing Notice 2014-52 Rules Regarding Inversions and Related Transactions.[35] Although regulations are not a form of positive law and are subject to judicial review, the Treasury has broad authority to issue regulations needed to enforce the Internal Revenue Code [36]

Notice 2014-52 touches five separate sections of the Internal Revenue Code: sections 304(b)(5)(B), 367, 956(e), 770(l), and 7874.[37] As mandated by section 7874, a corporation with at least 60% but less than 80% of original U.S. shareholders will have its foreign residence respected by the United States; however, “other potentially adverse tax consequences may follow.”[38] The new regulations address several post-inversion techniques including hopscotch loans, de-controlling strategies, repatriation of cash or property.[39] The regulations also address several pre-inversion tactical moves including cash-box techniques, skinny-down techniques, and spin-versions.[40] The post-inversion strategies relate to deferred earnings. The pre-inversion strategies relate to the ownership requirements.

The new regulation first addresses post-inversion transactions by curtailing the ability to access accumulated deferred earnings of the subsidiaries of inverted corporations.[41] Currently under section 956, a multi-national corporation cannot avoid paying a dividend to its U.S. parent or subsidiary by making a loan to or purchasing stock in its U.S. parent.[42] According to the Treasury, inverted corporations have skirted this rule through “hopscotch” loans in which the U.S. subsidiary loans money to its foreign parent.[43] The new regulation will treat these loans as U.S. property and are considered as if the corporation had made the loan to its U.S. parent.[44] Additionally, under section 7701(l) the Treasury addresses the “de-controlling” strategy.[45] After an inversion transaction, multi-national corporations can purchase sufficient stock in the former U.S. parent to strip the former U.S. parent from its control of the corporation as a whole.[46] As such, the new foreign parent has control of the corporation’s deferred earnings and avoids paying taxes under subpart F that taxes passive income.[47] Finally, section 304(b)(5)(B) is utilized to stop “repatriation” of cash or property.[48] Typically, the new foreign parent of an inverted company with deferred earnings can sell its stock in the original U.S. parent in exchange for cash or property of the company to avoid paying taxes on that cash or property.[49] The regulation prevents this repatriation by designating the transfer as U.S. property.

Under section 7874 the Treasury attempts to stop what it sees as an evasion of the 80% rule or to put a stop to a “cash box” or “skinny-down” strategy.[50] With a cash-box strategy, a U.S. company engaging in an inversion transaction counts “passive assets” to make the size of the foreign entity appear larger.[51] Accordingly, prior to the inversion transaction, the percentage of the company held by the U.S. parent will not reach the 80% threshold. With the Treasury’s Notice, the stock of the U.S. parent that is a passive asset will be ignored for determining whether the 80% requirement is met.[52] In a “skinny-down” transaction, a U.S. company will pay large amounts to its foreign entity in the form of dividends to reduce the U.S. entity’s size. The new regulation will ignore these dividends to determine the ownership requirement in inversion transactions.[53] Finally, the new regulations address “spin-versions” under section 7874 of the Code.[54] In a spin-version, a U.S. corporation forms a new foreign entity, transferring assets to the foreign entity and then spinning the foreign entity off to its shareholders.[55] For the separated unit, shareholders reap the benefits of the lower tax rates. Under the new regulations, the spun-off corporation would be treated as a domestic corporation.[56]

After the regulations were passed, practitioners and academic commentators believed that the rate of inversions might be slowed but that inversions would not be entirely eliminated.[57] Moreover, some believe that the Treasury interpreted its authority rather broadly in issuing Notice 2014-52.[58] Admittedly, the Treasury acknowledged that its Notice is an incomplete solution and that legislation is needed to completely disable corporate inversion transactions.[59] Accounting firms have similarly recognized that inversion transactions are still beneficial despite the new regulations.[60]

Overall, uncertainty lies ahead in the viability of the regulations as well as their ability to put an end to corporate tax inversions.[61] Corporate inversion transactions are continuing despite the new anti-inversion regulations. An example of this is Burger King’s highly publicized merger with Tim Hortons of Canada.[62] However, Notice 2014-52 did put a halt to at least one corporate inversion transaction—a $2.7 billion merger between Salix Pharmaceuticals Ltd. and Italy’s Cosmo Pharmaceuticals SpA.[63]

At this point there are several possibilities of either curbing corporate tax inversion or making the U.S. a more attractive country for corporations to retain their U.S. residence. There is the possibility of a complete tax reform whereby Congress revisits the corporate tax rate and a territorial system of taxation.[64] In fact, there are currently two proposals in the legislature—one from the Senate (Wyden, Coats, and Begich) and one from Chairman Camp of the Ways and Means Committee.[65] The Senate proposal would reduce the corporate rate to 24% and would shift the U.S. to a territorial tax system.[66] Chairman Camp’s proposal lowers the corporate tax rate to 25% and shifts to a territorial system by means of ending deferral.[67] Another possibility is that Congress could directly restrict inversions or curtail the benefit associated in inversion transactions.[68] There are currently a number of proposed bills that would either directly target inversions or reduce their benefits.[69] Additionally, the Treasury could continue to issue regulations to combat inversions and their effects.[70] Commentators have recognized that the Treasury should “[act] sooner rather than later [to] help guard against such regulations being set aside by a new administration unsympathetic to the rules and contrarians in Congress.”[71] As such, the Treasury could continue to take regulatory action to combat inversions and their benefits before the end of President Obama’s term.[72] Although un-doing a final regulation is possible, it has been noted that it has only happened one time to eliminate a regulation issued at the end of President Clinton’s final term.[73] Some commentators have also suggested that the lack of guidance from the federal government leaves the states in a prime position to take action, particularly through the use of tax-haven legislation and related-party addbacks.[74] However, these state actions have received mixed responses.[75]

As such, Notice 2014-52, as well as the heavy congressional activity concerning corporate inversions, indicates that corporate tax inversions will be a hot and formidable topic for the remainder of President Obama’s term and into the next president’s term. Whether more regulations, direct targeting of inversions, or a complete corporate tax reform overhaul occur, it is clear that the solutions will have resounding effects for corporations and the economy on both the national and global stage.


[1] Richard Rubin, Obama Administration, Senate Democrats Seek Urgent Curb on Offshore Inversion Deals, Daily Tax Rep. (BNA) No. 137, at G-6 (July 17, 2014); Letter from Jacob Lew, Sec’y of the Treasury, to Dave Camp, Chairman of the Ways and Means Comm., U.S. House of Representatives (July 16, 2014), available at, archived at

[2] Fact Sheet: Treasury Actions to Rein in Corporate Tax Inversions, U.S. Dep’t of the Treasury (Sept. 22, 2014),, archived at   [hereinafter Fact Sheet]. An inversion is also known as an “expatriation.” While an inversion refers to the change of the corporate structure from a U.S. company with foreign subsidiaries to the foreign company as the parent company, expatriation refers to the change of the corporation’s place of incorporation. However, these terms are often used interchangeably. Michael S. Kirsch, The Congressional Response to Corporate Expatriation: The Tension Between Symbols and Substance in the Taxation of Multinational Corporations, 24 Va. Tax Rev. 465, 478 & n.2 (2005).

[3]See Corporate and Capital Income Taxes, OECD Tax Database,, archived at (last visited Oct. 31, 2014); see also 26 U.S.C. §11(b) (2012). The 35% tax rate applies to corporations whose taxable income exceeds $10,000,000.

[4] Aaron E. Lorenzo, Lawmakers Getting Noisy Over Inversion Bill But Harmony Has Yet to Emerge in Congress, Daily Tax Rep. (BNA) No. 141, at G-7 (July 22, 2014).

[5] Radha Mohan, States Examine Corporate Inversion Strategies in Effort to Preserve Tax Base, Daily Tax Rep. (BNA), No. 198, at J-1 (Oct. 14, 2014).

[6] See 26 U.S.C. §7701(a)(4), (5) (2012).

[7] Kirsch, supra note 2, at 484−85.

[8] Id. at 485.

[9] Tyler M. Dumler, Charging Less to Make More: The Causes and Effects of the Corporate Inversion Trend in the U.S. and the Implications of Lowering the Corporate Tax Rate, 13 U.C. Davis Bus. L.J. 89, 91−92 (2012).

[10] See 26 U.S.C. § 882 (2012); Donald J. Marples & Jane G. Gravelle, Cong. Research Serv., Corporate Expatriation, Inversions, and Mergers: Tax Issues (2014), available at, archived at

[11] Marples & Gravelle, supra note 10, at 3.

[12] See id.

[13] Kirsch, supra note 2, at 484 & n.21 (noting that “[a] territorial system also is referred to as an ‘exemption’ system, because the country exempts income arising outside of its borders”).

[14] Id. at 478 & n.2.

[15] See 26 U.S.C. § 7874 (2012). This section was enacted to combat “naked inversions” or inversions in which a corporation would move its residence overseas but would conduct no operations in that foreign state. Typical countries included tax havens such as Bermuda. Marples & Gravelle, supra note 10, at 6.

[16] American Jobs Creation Act of 2004, Pub. L. No. 108-357, § 801, 118 Stat. 1418 (2004); Marples & Gravelle, supra note 10, at 6.

[17] 26 U.S.C. § 7874(2)(B) (2012).

[18] Id. § 7874(a)(2)(B).

[19] Id. § 7874(a)(2)(B), (b).

[20] Id. § 7874(d).

[21] Id. § 7874(b).

[22] Fact Sheet, supra note 2.

[23] 26 U.S.C. § 7874(a)(1) (2012).

[24] Id. § 7874(d).

[25] Marples & Gravelle, supra note 10, at 2.

[26] Simeon Bennett & Caroline Chen, AbbVie Becomes Biggest U.S. Company To Move Domestic Address in $55 Billion Deal, Daily Tax Rep. (BNA) No. 139, at G-2 (July 18, 2014).

[27] Id.

[28] Id.

[29] Id.

[30] Id.

[31] Marples & Gravelle, supra note 10; Scott Deveau & Eric Lam, Canadian Inversions Expected to Grow; May Be Less About Canada Than U.S. Code, Daily Tax Rep. (BNA) No. 166, at G-2 (Aug. 26, 2014).

[32] Jacob J. Lew, Close the Tax Loophole on Inversions, Wash. Post (July 27, 2014),, archived at See generally The White House & The Dep’t of the Treasury, The President’s Framework for Business Tax Reform (2012) available at, archived at

[33] Richard Rubin, Obama Administration, Senate Democrats Seek Urgent Curb on Offshore Inversion Deals, Daily Tax Rep. (BNA) No. 137, at G-6 (July 17, 2014).

[34] See Alison Bennett, Careful Assessment of Treasury Inversions Guidance Needed, Tax Services Firms Say, Daily Tax Rep. (BNA) No. 193, at G-2 (Oct. 3, 2014) [hereinafter Guidance Needed].

[35] Notice 2014-52, Rules Regarding Inversions and Related Transactions, IRS (Sept. 22, 2014),, archived at Notice 2014-52 was published as I.R.B. 2014-42 on October 14, 2014. See I.R.B. 2014-42, available at, archived at

[36] James J. Freeland, et al. Fundamentals of Federal Income Taxation 22 (17th ed. 2011). Section 7805 of the Internal Revenue Code grants the Secretary of the Treasury the authority to enact rules and regulations necessary to enforce the Code. Id. at 21. Pursuant to this authority, “the final regulations promulgated…become a kind of proliferation of the statute”, but they must “conform to the statute enacted by the legislature.” 21−22.

[37] Fact Sheet, supra note 2.

[38] Id.

[39] Id. See also I.R.S. Notice 2014-42, I.R.B. 712.

[40] Fact Sheet, supra note 2.

[41] Id.

[42] Id.

[43] Id.

[44] Id.

[45] Id.

[46] Id.

[47] Id.

[48] Id.

[49] Id.

[50] Id. For a thorough discussion of Cash Box transactions, see Lee A. Sheppard, No More Cash Box Inversions, Tax Analysts, Sept. 29, 2014.

[51] Fact Sheet, supra note 2. Passive Assets are those such as cash or securities not used by the company in its daily business activities.

[52] Id. However, this new regulation only applies if at least 50% of the foreign entity’s assets are passive.

[53] Id.

[54] Id.

[55] Id.

[56] Id.

[57] Alison Bennett, Casey Wooten, Alex Parker & Aaron E. Lorenzo, Treasury Inversions Guidance May Slow Deals, But Some See Only Limited Impact, Daily Tax Rep. (BNA) No. 185, at G-8 (Sept. 24, 2014).

[58] Id.

[59] Fact Sheet, supra note 2.

[60] Guidance Needed, supra note 34.

[61] Bennett et al., supra note 57.

[62] Richard Rubin, Burger King Deal Moving Ahead Amid U.S. Inversion Crackdown, Daily Tax Rep. (BNA) No. 185, at G-5 (Sept. 24, 2014).

[63] Simeon Bennett, Tougher U.S. Inversions Rules Cited as Salix Ends $2.7 Billion Merger Deal, Daily Tax Rep. (BNA) No. 193, at G-1 (Oct. 3, 2014) (noting that “[t]he scrapped deal is the first evidence that guidance released last month by the U.S. Treasury Department is succeeding”).

[64] Marples & Gravelle, supra note 10, at 13.

[65] Id.

[66] Id. at 13−14.

[67] Id.

[68] Id.

[69] Id. at 15.

[70] See Stephen E. Shay, Mr. Secretary, Take the Tax Juice Out of Corporate Expatriations, Tax Notes, July 28, 2014.

[71] Aaron E. Lorenzo, Future Inversion Rules May Get Snagged By Regulatory Check Available to Congress, Daily Tax Rep. (BNA) No. 191, at G-3 (Oct. 2, 2014) (quoting Sally Katzen, a visiting professor at NYU’s school of law). The Clinton administration’s ergonomics rule was overturned in 2001 by Congress. Id.

[72] Id.

[73] Id.

[74] Mohan, supra note 5.

[75] Id. Tax haven statutes involve enacting a statutory list of countries or a set of criteria deemed “tax havens,” so that countries incorporated in or deriving profits from must report this income in the water’s edge group. Related party addbacks “involve corporations that use related party financing to deduct interest and royalty expenses paid to related parties.” Id.