32524 Federal Register / Vol. 83, No. 134 / Thursday, July 12, 2018 / Rules and Regulations 

DEPARTMENT OF THE TREASURY 

Internal Revenue Service 

26 CFR Part 1 

[TD 9834] 

RIN 1545–BO20; 1545–BO22 

Inversions and Related Transactions 

AGENCY: Internal Revenue Service (IRS), 

Treasury. 

ACTION: Final regulations, temporary 

regulations, and removal of temporary 

regulations. 

SUMMARY: This document contains final 

regulations that address transactions 

that are structured to avoid the purposes 

of sections 7874 and 367 of the Internal 

Revenue Code (the Code) and certain 

post-inversion tax avoidance 

transactions. These regulations affect 

certain domestic corporations and 

domestic partnerships whose assets are 

directly or indirectly acquired by a 

foreign corporation and certain persons 

related to such domestic corporations 

and domestic partnerships. This 

document finalizes proposed 

regulations, and removes temporary 

regulations, published on April 8, 2016. 

DATES: 

Effective date: These regulations are 

effective on July 12, 2018. 

Applicability dates: For dates of 

applicability, see §§ 1.304–7(e), 

1.367(a)–3(c)(11)(ii), 1.367(b)–4(h), 

1.956–2(i), 1.7701(l)–4(h), 1.7874– 

1(i)(2), 1.7874–2(l)(2), 1.7874–3(f)(2), 

1.7874–6(h), 1.7874–7(g), 1.7874–8(i), 

1.7874–9(g), 1.7874–10(l), 1.7874–11(f), 

and 1.7874–12(b). 

FOR FURTHER INFORMATION CONTACT: 

Regarding the regulations under 

sections 304, 367, and 7874, Shane M. 

McCarrick, (202) 317–6937; regarding 

the regulations under sections 956 and 

7701(l), Rose E. Jenkins, (202) 317–6934 

(not toll-free numbers). 

SUPPLEMENTARY INFORMATION: 

Background 

I. Overview 

On April 8, 2016, the Department of 

the Treasury (the Treasury Department) 

and the IRS published final and 

temporary regulations under sections 

304, 367, 956, 7701(l), and 7874 (TD 

9761) in the Federal Register (81 FR 

20858, as corrected at 81 FR 40810 and 

81 FR 46832). On the same date, the 

Treasury Department and the IRS 

published a notice of proposed 

rulemaking (REG–135734–14) in the 

Federal Register (81 FR 20588, as 

corrected at 81 FR 35275) by crossreference to the temporary regulations 

(the 2016 proposed regulations) 

(together with the final and temporary 

regulations described in the preceding 

sentence, the 2016 regulations). No 

public hearing was requested or held. 

Numerous written comments were 

received with respect to the proposed 

regulations and are available at 

www.regulations.gov or upon request. A 

comment was also received with respect 

to a notice that preceded the 2016 

regulations (Notice 2015–79, 2015–49 

I.R.B. 775) and, as explained in the 

preamble to those regulations, the 

comment has been included in the 

administrative record for the proposed 

regulations. The majority of the 

comments supported the 2016 

regulations. 

On January 18, 2017, the Treasury 

Department and the IRS published final 

and temporary regulations under section 

7874 (TD 9812) in the Federal Register 

(82 FR 5388, as corrected at 82 FR 

42233), which adopted as final 

regulations the proposed regulations in 

§ 1.7874–4 (including the portions 

included in the 2016 regulations) and 

modified certain portions of the 2016 

regulations (see 82 FR 5476–01). This 

Treasury decision adopts the remaining 

2016 proposed regulations, with the 

changes generally described in the 

Summary of Comments and Explanation 

of Revisions section of this preamble, as 

final regulations and removes the 

corresponding temporary regulations. 

II. Section 7874 Background 

A foreign corporation (foreign 

acquiring corporation) generally is 

treated as a surrogate foreign 

corporation under section 7874(a)(2)(B) 

if, pursuant to a plan (or a series of 

related transactions), three conditions 

are satisfied. First, the foreign acquiring 

corporation completes, after March 4, 

2003, the direct or indirect acquisition 

of substantially all of the properties held 

directly or indirectly by a domestic 

corporation (domestic entity 

acquisition). Second, after the domestic 

entity acquisition, at least 60 percent of 

the stock (by vote or value) of the 

foreign acquiring corporation is held by 

former shareholders of the domestic 

corporation (former domestic entity 

shareholders) by reason of holding stock 

in the domestic corporation (such 

percentage, the ownership percentage, 

and the fraction used to calculate the 

ownership percentage, the ownership 

fraction). And third, after the domestic 

entity acquisition, the expanded 

affiliated group (as defined in section 

7874(c)(1)) that includes the foreign 

acquiring corporation (EAG) does not 

have substantial business activities in 

the foreign country in which, or under 

the law of which, the foreign acquiring 

corporation is created or organized 

when compared to the total business 

activities of the EAG. Similar provisions 

apply if a foreign acquiring corporation 

acquires substantially all of the 

properties constituting a trade or 

business of a domestic partnership. The 

domestic corporation or the domestic 

partnership described in this paragraph 

is referred to at times in this preamble 

as the ‘‘domestic entity.’’ For other 

definitions used throughout this 

preamble but not defined in this 

preamble, see § 1.7874–12 (providing 

common definitions for purposes of 

certain regulations under sections 

367(b), 956, 7701(l), and 7874). 

The tax treatment of a domestic entity 

acquisition in which the EAG does not 

have substantial business activities in 

the relevant foreign country varies 

depending on the level of owner 

continuity. If the ownership percentage 

is at least 80, the foreign acquiring 

corporation is treated as a domestic 

corporation for all purposes of the Code 

pursuant to section 7874(b). 

If, instead, the ownership percentage 

is at least 60 but less than 80 (in which 

case the domestic entity acquisition is 

referred to in this preamble as an 

‘‘inversion transaction’’), the foreign 

acquiring corporation is respected as a 

foreign corporation but the domestic 

entity and certain other persons are 

subject to special rules that reduce the 

tax benefits of the inversion transaction. 

For example, section 7874(a)(1) prevents 

the use of certain tax attributes to 

reduce the U.S. federal income tax owed 

on certain income or gain (inversion 

gain) recognized in transactions 

intended to remove foreign operations 

from the U.S. taxing jurisdiction. ‘‘An 

Act to provide for reconciliation 

pursuant to titles II and V of the 

concurrent resolution on the budget for 

fiscal year 2018’’ (the Act), Public Law 

115–97, amended certain sections of the 

Code to further reduce the tax benefits 

of inversion transactions. See section 

1(h)(11)(C)(iii) (shareholders of 

surrogate foreign corporations not 

eligible for reduced rate on dividends); 

section 59A (for inverted groups, 

generally treating costs of goods sold as 

a base erosion payment for purposes of 

the base erosion and anti-abuse tax); 

section 965 (upon certain inversions, 

recapturing the benefit of a deduction 

related to a transition tax); and section 

4985 (increasing the rate of the excise 

tax imposed on certain holders of stock 

options and other stock-based 

compensation). 

Section 7874(c)(6) grants the Secretary 

authority to prescribe regulations as 


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may be appropriate to determine 

whether a corporation is a surrogate 

foreign corporation, including 

regulations to treat stock as not stock. In 

addition, section 7874(g) grants the 

Secretary authority to provide 

regulations necessary to carry out 

section 7874, including regulations 

providing for such adjustments to the 

application of section 7874 as are 

necessary to prevent the avoidance of 

the purposes of section 7874. 

Summary of Comments and 

Explanation of Revisions 

I. Rules Addressing Certain 

Transactions That Are Structured To 

Avoid the Purposes of Section 7874 

To address certain transactions that 

are structured to avoid the purposes of 

section 7874, the 2016 regulations 

provided rules for (i) identifying 

domestic entity acquisitions and foreign 

acquiring corporations in certain 

multiple-step transactions; (ii) 

calculating the ownership percentage 

and, more specifically, disregarding 

certain stock of the foreign acquiring 

corporation for purposes of computing 

the denominator of the ownership 

fraction and, in addition, taking into 

account certain non-ordinary course 

distributions (NOCDs) made by a 

domestic entity for purposes of 

computing the numerator of the 

ownership fraction; (iii) determining 

when certain stock of a foreign 

acquiring corporation is treated as held 

by a member of the EAG; and (iv) 

determining when an EAG has 

substantial business activities in a 

relevant foreign country. The comments 

and modifications with respect to these 

rules are discussed in this Part I. 

A. Calculation of the Ownership 

Percentage 

1. Passive Assets Rule 

Section 1.7874–7T of the 2016 

regulations provides a rule (the passive 

assets rule) that excludes from the 

denominator of the ownership fraction 

stock of the foreign acquiring 

corporation attributable to certain 

passive assets. In general, the rule 

applies with respect to a domestic entity 

acquisition if, on the completion date, 

more than 50 percent of the gross value 

of all foreign group property constitutes 

foreign group nonqualified property. 

The amount of stock that is excluded is 

equal to the product of (i) the value of 

the stock of the foreign acquiring 

corporation, other than stock that is 

described in section 7874(a)(2)(B)(ii) 

and stock that is excluded from the 

denominator of the ownership fraction 

under either § 1.7874–1(b) or § 1.7874– 

4(b) (the multiplicand), and (ii) the 

proportion of foreign group property 

that is foreign group nonqualified 

property, determined based on gross 

value (the foreign group nonqualified 

property fraction). For purposes of 

determining the foreign group 

nonqualified property fraction, property 

received by the EAG that gives rise to 

stock excluded from the ownership 

fraction under § 1.7874–4(b) is not taken 

into account. 

Under the 2016 regulations, the 

passive assets rule applies for purposes 

of determining the ownership 

percentage by vote and value. The 

Treasury Department and the IRS have 

determined that applying the rule for 

purposes of determining the ownership 

percentage by vote could give rise to 

administrative complexities, because 

the rule does not exclude particular 

shares of stock but instead excludes an 

amount of stock. In particular, when 

classes of stock of the foreign acquiring 

corporation have different voting power, 

a special rule would be needed to 

allocate the excluded amount among the 

shares. Consistent with other rules 

under section 7874, the Treasury 

Department and the IRS have concluded 

that the rule should apply only for 

purposes of determining the ownership 

percentage by value. See § 1.7874–8 

(excluding an amount of stock for 

purposes of determining the ownership 

percentage by value); § 1.7874–10 

(treating an amount as additional stock 

described in section 7874(a)(2)(B)(ii) for 

purposes of determining the ownership 

percentage by value). The final 

regulations therefore contain this 

modification. See § 1.7874–7(b). 

The Treasury Department and the IRS 

have also determined that the passive 

assets rule should be modified to take 

into account the other stock exclusion 

rules. For example, stock excluded 

under § 1.7874–8(b) (disregard of certain 

stock attributable to serial acquisitions) 

or § 1.7874–9(b) (disregard of certain 

stock in third-country transactions) 

should not be taken into account when 

determining the multiplicand. In 

addition, property of an entity the 

acquisition of which gives rise to stock 

excluded under § 1.7874–8(b) or 

§ 1.7874–9(b) generally should not be 

taken into account when determining 

the foreign group nonqualified property 

fraction. The final regulations thus 

modify the multiplicand so that stock 

excluded under any of the stock 

exclusion rules is not taken into 

account. See § 1.7874–7(b)(1). Further, 

the final regulations modify the foreign 

group nonqualified property fraction so 

that, in general, property that gives rise 

to stock excluded under any of the stock 

exclusion rules is not taken into 

account. See § 1.7874–7(e)(3). The final 

regulations also include an example 

illustrating these rules. See § 1.7874–7(f) 

Example 4. 

Further, in response to a comment, 

the final regulations clarify that the 

passive assets rule is subject to section 

7874(c)(4). See § 1.7874–7(a) 

(penultimate sentence). For example, 

section 7874(c)(4) can apply to the 

transfer of properties or liabilities as 

part of a plan a principal purpose of 

which is to prevent the more-than-50- 

percent threshold of the passive assets 

rule from being satisfied with respect to 

a domestic entity acquisition. In these 

cases, section 7874(c)(4) would 

disregard the transaction and, as a 

result, the passive assets rule (including 

the more-than-50-percent threshold) 

would be applied as if the transfer did 

not occur. 

Lastly, and also in response to a 

comment, the Treasury Department and 

the IRS clarify § 1.7874–7(e)(1)(i)(C), 

which excludes property that gives rise 

to income described in section 

1297(b)(2)(A) or (B) from the definition 

of foreign group nonqualified property. 

Under section 1297(b)(2)(A) and (B), for 

certain purposes of the passive foreign 

investment company rules, passive 

income does not include certain income 

derived in the active conduct of a 

banking or insurance business. The final 

regulations clarify that for purposes of 

determining whether property qualifies 

for the exclusion under § 1.7874– 

7(e)(1)(i)(C), other passive foreign 

investment company rules do not apply. 

See § 1.7874–7(e)(1)(i)(C) (parenthetical 

language). Thus, for example, the rules 

in section 1298(b)(2) or (3) that except 

certain corporations from being treated 

as passive foreign investment 

companies during a start-up year or 

following a change in business do not 

apply for this purpose. 

2. Serial Acquisitions of Domestic 

Entities 

Section 1.7874–8T of the 2016 

regulations provides a rule (the serial 

acquisition rule) that, with respect to a 

domestic entity acquisition (a relevant 

domestic entity acquisition), excludes 

from the denominator of the ownership 

fraction stock of the foreign acquiring 

corporation attributable to certain 

domestic entity acquisitions previously 

completed by the foreign acquiring 

corporation (or a predecessor). 

Consistent with the explanation in the 

preamble to the 2016 regulations, this 

rule addresses a concern that domestic 

entity acquisitions previously 

completed by the foreign acquiring 

corporation serve as a platform for 


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additional and even larger domestic 

entity acquisitions. 

For administrability purposes, the 

serial acquisition rule under the 2016 

regulations looks only to whether the 

foreign acquiring corporation completed 

a domestic entity acquisition within the 

36-month period ending on the signing 

date of the relevant domestic entity 

acquisition (such acquisition, in general, 

a ‘‘prior domestic entity acquisition’’). 

Absent this 36-month look-back period, 

the rule could be difficult to administer, 

as all domestic entity acquisitions 

previously completed by the foreign 

acquiring corporation would need to be 

identified. In addition, as the period 

between a relevant domestic entity 

acquisition and a previous domestic 

entity acquisition increases, it may 

become more difficult to determine 

which stock of the foreign acquiring 

corporation is attributable to the 

previous domestic entity acquisition (for 

example, due to changes in the capital 

structure of the foreign acquiring 

corporation resulting from divisive or 

acquisitive transactions). The use of a 

36-month look-back period provides an 

administrable standard and is consistent 

with other look-back periods under the 

Code and regulations. See, e.g., section 

865(f) (sourcing rule for sales of stock in 

a foreign affiliate); section 2035 

(transfers before death); section 

7701(b)(3) (substantial presence test for 

residency); and § 1.7874–10 (NOCD 

rule). The final regulations therefore 

retain the 36-month look-back period. 

The majority of the comments 

received on the 2016 regulations 

involved the serial acquisition rule. Of 

those comments, nearly every one 

supported the rule. 

One comment, however, while 

generally supporting the prevention of 

inversions, asserted that the serial 

acquisition rule targets a specific 

transaction that was pending when the 

2016 regulations were issued. The 

comment suggested that this would 

cause mistrust of federal agencies and 

could ultimately harm U.S. businesses. 

The Treasury Department and the IRS 

disagree with the comment. The serial 

acquisition rule does not target a 

specific transaction. Instead, and as 

explained in the preamble to the 2016 

regulations, it addresses a particular 

practice occurring in the marketplace in 

which a foreign acquiring corporation 

completes multiple domestic entity 

acquisitions over a span of just a few 

years, with the corporation’s increased 

value serving as a platform to complete 

still larger domestic entity acquisitions 

that avoid the application of section 

7874. The Treasury Department and the 

IRS have concluded that such serial 

acquisitions, which in effect permit a 

single foreign acquiring corporation to 

facilitate the inversion of multiple 

domestic entities over time, are 

inconsistent with the policies 

underlying section 7874. As also 

explained in the preamble to the 2016 

regulations, the Treasury Department 

and the IRS have determined that the 

rule appropriately addresses this 

practice. See Part I.B.3.a of the 

Explanation of Provisions of the 

preamble to the 2016 regulations; see 

also S. Rep. No. 192, at 142 (2003) 

(expressing concern that certain 

inversions ‘‘permit corporations and 

other entities to continue to conduct 

business in the same manner as they did 

prior to the inversion, but with the 

result that the inverted entity avoids 

U.S. tax on foreign operations and may 

engage in earnings-stripping techniques 

to avoid U.S. tax on domestic 

operations.’’). 

One other comment asserted that the 

serial acquisition rule exceeds statutory 

authority and lacks a reasoned 

explanation. Those same claims were 

subsequently asserted in Chamber of 

Commerce of the United States v. 

Internal Revenue Serv., No. 1:16–CV– 

944–LY (W.D. Tex. Sept. 29, 2017), 

appeal docketed, No. 17–51063 (5th Cir. 

Dec. 1, 2017), in which the serial 

acquisition rule in the temporary 

regulations was challenged. While the 

district court invalidated the temporary 

regulation on procedural grounds 

because it was not subjected to prior 

notice and comment, the court found 

that the serial acquisition rule was 

substantively valid under sections 

7874(c)(6) and (g) (the Code sections 

under which the Treasury Department 

and the IRS promulgated the rule). The 

court concluded that the rule did not 

exceed the statutory authority of the 

Treasury Department and the IRS 

because it was within their broad 

authority under section 7874 to ‘‘treat 

stock as not stock’’—the exercise of 

which, the court noted, could in certain 

cases ‘‘substantially alter a calculation 

under the statute’’—and to prevent the 

avoidance of the purposes of section 

7874. The court also ‘‘reviewed the full 

analysis by which the Agencies 

determined the Rule is necessary’’ and 

concluded that the Treasury Department 

and the IRS provided a sufficient 

explanation in issuing the serial 

acquisition rule in the temporary 

regulation, and did not engage in 

arbitrary and capricious rulemaking. 

The final regulations adopt the rule 

with three technical clarifications or 

modifications, in response to comments. 

First, the final regulations clarify that 

the determination of stock of the foreign 

acquiring corporation attributable to a 

prior domestic entity acquisition does 

not take into account stock of the 

foreign acquiring corporation deemed 

under § 1.7874–10(b) (the NOCD rule) or 

section 7874(c)(4) more broadly to have 

been received in the prior domestic 

entity acquisition. See § 1.7874–8(g)(3) 

(excluding such stock from the 

definition of total number of prior 

acquisition shares). 

Second, the final regulations provide 

an exception to the definition of the 

term prior domestic entity acquisition in 

addition to the one under the 2016 

regulations (relating to certain de 

minimis acquisitions). Under this 

additional exception, the term does not 

include a domestic entity acquisition 

that occurs within a foreign-parented 

group and qualifies for the internal 

group restructuring exception of 

§ 1.7874–1(c)(2). See § 1.7874– 

8(g)(4)(ii)(B). In these cases, the 

Treasury Department and the IRS have 

determined that because the domestic 

entity remains (or is considered to 

remain) within the same foreignparented group, the acquisition should 

not be viewed as creating a platform to 

complete larger domestic entity 

acquisitions. As a result, the Treasury 

Department and the IRS have concluded 

that these acquisitions do not give rise 

to the policy concerns underlying the 

serial acquisition rule. Accordingly, like 

under the 2016 regulations, the term 

prior domestic entity acquisition under 

the final regulations means any 

domestic entity acquisition completed 

by the foreign acquiring corporation (or 

a predecessor) within a 36-month lookback period, except for those 

acquisitions that, for administrative or 

policy reasons, qualify for an exception. 

Third, the final regulations define a 

predecessor of a foreign acquiring 

corporation for purposes of the serial 

acquisition rule. See § 1.7874–8(b) 

(defining predecessor by cross-reference 

to the definition in the NOCD rule 

under § 1.7874–10(f)(1)). 

3. Third-Country Rule 

Section 1.7874–9T of the 2016 

regulations provides a rule (the thirdcountry rule) that excludes stock of the 

foreign acquiring corporation from the 

denominator of the ownership fraction 

when a domestic entity acquisition is a 

‘‘third-country transaction,’’ which 

occurs when three requirements are 

satisfied. First, the foreign acquiring 

corporation must complete a ‘‘covered 

foreign acquisition’’ in a transaction 

related to the domestic entity 

acquisition. In general, a covered foreign 

acquisition is an acquisition by the 

foreign acquiring corporation of another 


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foreign corporation (such acquisition, a 

‘‘foreign acquisition,’’ and such 

corporation, an ‘‘acquired foreign 

corporation’’), provided that an 

ownership continuity requirement is 

satisfied. Second, after all related 

transactions are complete, the foreign 

acquiring corporation must be a tax 

resident in a ‘‘third country’’—that is, a 

foreign country other than the foreign 

country in which, before the foreign 

acquisition and any related transaction, 

the acquired foreign corporation was a 

tax resident. (The 2016 regulations refer 

to the country in which a corporation is 

‘‘subject to tax as a resident,’’ rather 

than the country in which a corporation 

is ‘‘tax resident.’’ However, similar to 

the reasons discussed in Part I.C. of this 

Summary of Comments and Explanation 

of Revisions section (concerning the 

substantial business activities test), the 

final regulations refer to ‘‘tax resident.’’) 

And third, the ownership percentage, 

determined without regard to the third 

country rule, must be at least 60 (by vote 

or value). 

As explained in Notice 2015–79, the 

Treasury Department and the IRS have 

determined that when a domestic entity 

acquisition is a third-country 

transaction, the decision to locate the 

tax residence of the foreign acquiring 

corporation in the third country 

generally is driven by tax planning, 

including the facilitation of U.S. tax 

avoidance following the acquisition, 

and, as a result, generally is contrary to 

the policies underlying section 7874. 

Accordingly, the third country rule 

provides that stock of the foreign 

acquiring corporation held by former 

shareholders of the acquired foreign 

corporation by reason of holding stock 

in the acquired foreign corporation is 

excluded from the denominator of the 

ownership fraction. 

a. Exceptions to Rule’s Application 

A comment suggested that the 

Treasury Department and the IRS 

consider adding one or more exceptions 

to the third-country rule, so as to better 

tailor the rule’s application to domestic 

entity acquisitions in which the use of 

a third country is likely driven by tax 

planning. The comment recommended 

against an exception based on the 

subjective criterion of whether a non-tax 

business purpose exists for the foreign 

acquiring corporation’s use of the third 

country. Instead, the comment 

suggested that any exception should be 

based on objective criteria. In particular, 

the comment proposed exceptions based 

on (i) the foreign group’s business 

activities in the third country, and (ii) 

a comparison of the treaty benefits 

(specifically, the withholding tax rate 

with respect to dividends, interest, and 

royalties) available to the foreign 

acquiring corporation in the third 

country as compared to the benefits that 

would be available in the country in 

which the acquired foreign corporation 

is a tax resident. 

In response to the comment, the final 

regulations provide that the thirdcountry rule generally does not apply if 

the EAG has substantial business 

activities in the third country compared 

to the total business activities of the 

EAG. See § 1.7874–9(d)(4)(ii) (providing 

an exception to the definition of a 

covered foreign acquisition). For this 

purpose, the principles of § 1.7874–3 

apply, and the determination of whether 

there are substantial business activities 

is made without regard to the domestic 

entity acquisition. 

The final regulations also generally 

provide that the third-country rule does 

not apply if (i) both the foreign 

acquiring corporation and the acquired 

foreign corporation are created or 

organized in, or under the law of, a 

foreign country that does not impose 

corporate income tax, and (ii) neither 

the foreign acquiring corporation nor 

the acquired foreign corporation is a tax 

resident of any other foreign country. 

See § 1.7874–9(d)(4)(iii) (providing an 

exception to the definition of a covered 

foreign acquisition). In these cases, the 

Treasury Department and the IRS have 

determined that the migration from one 

no-income-tax jurisdiction to another 

such jurisdiction is unlikely to be 

driven by tax planning, as the countries 

would generally be equally favorable 

from a tax perspective. 

The Treasury Department and the IRS 

decline, however, to provide an 

additional exception based on a 

comparison of treaty benefits. Even if 

the withholding rates with respect to 

certain categories of income are at least 

as high under the U.S. tax treaty with 

the third country as compared to the 

U.S. tax treaty with the country in 

which the acquired foreign corporation 

is a tax resident, the use of the third 

country may nevertheless be motivated 

by tax planning. For example, there 

could be tax-related features other than 

withholding rates that make the third 

country more advantageous; and, 

significant administrative difficulties 

could arise if the comparison were to 

include those features. Moreover, the 

third country might have a less 

restrictive regime for controlled foreign 

corporations, which could facilitate the 

use of low- or no-taxed entities to erode 

the U.S. tax base following the domestic 

entity acquisition. Consistent with the 

explanation in Notice 2015–79, the 

Treasury Department and the IRS have 

concluded that it is appropriate for the 

third-country rule to address this 

concern. 

b. Other Issues 

A comment observed that, in a 

transaction related to a domestic entity 

acquisition, the foreign acquiring 

corporation could change its tax 

residency by simply changing the 

country in which it is considered 

managed and controlled. The comment 

noted that, in such a case, the foreign 

acquiring corporation might not be 

viewed as having completed a foreign 

acquisition and, as a result, the thirdcountry rule could inappropriately be 

circumvented. The Treasury Department 

and the IRS agree with this comment 

and the final regulations are modified 

accordingly. See § 1.7874–9(e)(5). 

Finally, a comment recommended 

clarifying that the third-country rule 

compares only the tax residency of the 

foreign acquiring corporation and 

acquired foreign corporation, and thus 

does not consider the countries in 

which the corporations are created or 

organized. The Treasury Department 

and the IRS have determined that this 

is clear under the 2016 regulations; 

therefore the text of § 1.7874–9(c)(2) is 

unchanged from the corresponding 

provision in the 2016 regulations. 

4. NOCD Rule 

Section 1.7874–10T of the 2016 

regulations provides a rule (the NOCD 

rule) that, for purposes of determining 

the ownership percentage by value, 

deems former domestic entity 

shareholders or former domestic entity 

partners to receive, by reason of holding 

stock or an interest in the domestic 

entity, an amount of stock of the foreign 

acquiring corporation with a fair market 

value equal to the aggregate value of 

NOCDs made by the domestic entity 

(such stock, ‘‘NOCD stock’’). The rule 

provides mechanics for determining 

NOCDs. 

The final regulations include seven 

clarifications or modifications to the 

NOCD rule, in response to comments. 

First, the regulations clarify and refine 

the definition of distribution. The 2016 

regulations define the term broadly but 

provide several exclusions, including, 

in general, an exclusion for a 

distribution that occurs pursuant to an 

asset reorganization. The final 

regulations clarify that the exclusion 

does not apply to a distribution to 

which section 355 applies, regardless of 

whether in connection with a 

reorganization described in section 

368(a)(1)(D). See § 1.7874–10(k)(1)(i)(C). 

That is, a distribution of stock of a 

controlled corporation pursuant to a 


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divisive reorganization is a distribution 

for purposes of the NOCD rule, but a 

distribution of an acquiring 

corporation’s stock pursuant to an 

acquisitive reorganization (such as a 

merger described in section 

368(a)(1)(A)) is not a distribution for 

this purpose. In addition, the final 

regulations refine the definition of 

distribution such that, in the case of a 

partnership, a distribution does not 

include a deemed distribution pursuant 

to section 752(b) to the extent that the 

transaction giving rise to the deemed 

distribution does not reduce the 

partnership’s value. 

Second, the final regulations modify a 

special rule that applies when a 

domestic corporation (distributing 

corporation) distributes stock of another 

domestic corporation (controlled 

corporation) pursuant to a transaction 

described in section 355 and, 

immediately before the distribution, the 

fair market value of the controlled 

corporation represents more than 50 

percent of the fair market value of the 

stock of the distributing corporation. 

When the special rule applies, the 

controlled corporation is deemed for 

purposes of the NOCD rule to have 

distributed the stock of the distributing 

corporation. The final regulations 

modify the condition for the rule to 

apply: As modified, the rule considers 

the fair market value of the stock of the 

controlled corporation owned by the 

distributing corporation and any related 

person. See § 1.7874–10(g). Accordingly, 

the special rule would not apply, for 

example, if the fair market value of the 

stock of the distributing corporation 

were $100x (not taking into account the 

fair market value of the stock of the 

controlled corporation), the fair market 

value of the stock of the controlled 

corporation were $110x, and $100x or 

less of the stock of the controlled 

corporation were owned by the 

distributing corporation (with the 

balance owned by a person unrelated to 

the distributing corporation). 

Third, the final regulations clarify 

how the NOCD rule relates to the 

expanded affiliated group rules of 

section 7874(c)(2)(A) and § 1.7874–1 

(the EAG rules). The preamble to the 

2016 regulations indicates that the 

NOCD rule applies only for purposes of 

determining the ownership percentage 

by value and that it does not apply for 

any other purpose, including the loss of 

control exception of § 1.7874–1(c)(3) 

(one of the EAG rules). The final 

regulations clarify that NOCD stock is 

not taken into account for purposes of 

the EAG rules. See § 1.7874–1(d)(2) 

(providing that NOCD stock is not taken 

into account for purposes of 

determining the members of an EAG or 

whether a domestic entity acquisition 

qualifies for the internal group 

restructuring or loss of control 

exception). As a result, the 

determination of the EAG and whether 

a domestic entity acquisition qualifies 

for the internal group restructuring or 

loss of control exception is based on the 

stock of the foreign acquiring 

corporation that actually exists. See also 

Part I.B of this Summary of Comments 

and Explanation of Revisions section 

(discussing the interaction of the stock 

exclusion rules and the EAG rules). 

Fourth, the final regulations provide 

guidance regarding how to allocate 

NOCD stock among the former domestic 

entity shareholders. Because the NOCD 

rule provides that NOCD stock is treated 

as stock described in section 

7874(a)(2)(B)(ii), in most cases the 

NOCD stock will simply be included in 

both the numerator and denominator of 

the ownership fraction and, as a result, 

it will be irrelevant which former 

domestic entity shareholders or former 

domestic entity partners are considered 

to hold such stock. However, in certain 

cases involving the application of the 

EAG rules, the allocation of the NOCD 

stock among the former domestic entity 

shareholders or former domestic entity 

partners may affect whether the stock is 

included in the numerator and 

denominator of the ownership fraction. 

For example, assume two foreign 

corporations, F1 and F2, each own 50% 

of the stock of a domestic corporation, 

DT. During year y, DT makes a $10x 

distribution to each of F1 and F2 and, 

thereafter, distributes $40x to F2 in 

redemption of all of F2’s stock of DT. 

Then, on December 31 of year y, and in 

a transaction related to the redemption, 

F1 contributes all of the stock of DT to 

a newly-formed foreign corporation, FA, 

in exchange for all the stock of FA (DT 

acquisition). Assume that there are $36x 

of NOCDs with respect to the look-back 

year ending on December 31 of year y 

and that there are no NOCDs with 

respect to the other look-back years. An 

EAG exists (for this purpose, NOCD 

stock is not taken into account), 

composed of F1, FA, and DT, but the DT 

acquisition does not qualify for the 

internal group restructuring exception 

because F1 did not own 80 percent or 

more of the stock of DT before the DT 

acquisition and any related transaction. 

See § 1.7874–1(c)(2)(i) and (g). 

Moreover, the acquisition does not 

qualify for the loss of control exception 

because after the acquisition F1 (a 

former domestic entity shareholder) 

holds more than 50 percent of the stock 

of a member of the EAG. See § 1.7874– 

1(c)(3). Thus, all FA stock held by F1, 

including any NOCD stock considered 

held by F1, is excluded from the 

numerator and denominator of the 

ownership fraction. See § 1.7874–1(b). 

Any NOCD stock considered held by F2, 

however, is included in both the 

numerator and the denominator of the 

ownership fraction. 

To address this allocation issue, the 

final regulations provide that NOCD 

stock is allocated among the former 

domestic entity shareholders or former 

domestic entity partners based on the 

amount of NOCDs that the persons are 

treated as receiving. See § 1.7874–10(h). 

For this purpose, and for ease of 

administration, the regulations provide 

that a pro rata portion of each 

distribution during a look-back year is 

treated as comprising an NOCD with 

respect to the look-back year, based on 

the amount of NOCDs during the year 

relative to the total amount of 

distributions during the year. Thus, in 

the example above, because 60 percent 

of the distributions during year y 

constituted NOCDs ($36x/$60x), 60 

percent of each of the $10x dividend 

distributions to F1 and F2, as well as 60 

percent of the $40x distribution to F2 as 

part of the redemption, are treated as 

comprising the NOCD. Accordingly, 

under § 1.7874–10(h), F1 and F2 are 

treated as having received $6x and $30x 

of distributions comprising the NOCD, 

respectively. F1 and F2 are therefore 

treated as holding $6x and $30x of 

NOCD stock, respectively. As a result, 

the ownership percentage (by value) 

with respect to the DT acquisition is 100 

($30x/$30x). 

Fifth, the final regulations provide 

guidance when multiple foreign 

acquiring corporations complete a 

domestic entity acquisition, as to which 

corporation’s or corporations’ stock the 

NOCD stock is considered comprised. In 

general, the final regulations provide 

that the NOCD stock is considered 

comprised, on a pro rata basis, of stock 

of each foreign acquiring corporation 

that directly or indirectly provided 

consideration in the domestic entity 

acquisition. For this purpose, 

consideration is not considered directly 

provided by a foreign acquiring 

corporation if it was indirectly provided 

by another foreign acquiring 

corporation. See § 1.7874–10(i). For 

example, assume FP, a foreign 

corporation, owns all the stock of FS, 

also a foreign corporation, and FS 

acquires all the stock of DT, a domestic 

corporation, solely in exchange for FP 

stock. Pursuant to § 1.7874–2(c)(1)(i) 

and (iii), both FS and FP are treated as 

having completed a domestic entity 

acquisition. Under § 1.7874–10(i), 

because FP indirectly provided 100 


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percent of the consideration in the 

domestic entity acquisition, stock of FP 

is considered to comprise 100 percent of 

any NOCD stock. 

Sixth, the final regulations address 

how the NOCD rule applies when, 

pursuant to § 1.7874–2(e), two or more 

domestic entities are treated as a single 

domestic entity. Specifically, the 

regulations provide that the NOCD rule 

is initially applied to each domestic 

entity on a separate basis, and then the 

amount of NOCDs treated as made by 

the single domestic entity is the sum of 

the separately computed NOCDs made 

by each domestic entity. See § 1.7874– 

10(j). 

Finally, the final regulations confirm 

that NOCD stock is included in both the 

numerator and the denominator of the 

ownership fraction, except to the extent 

that the stock is treated as held by a 

member of the EAG and excluded from 

the numerator or both the numerator 

and denominator, as applicable, under 

the EAG rules. See § 1.7874–1(d)(2). 

5. De Minimis Exceptions 

Certain stock exclusion rules under 

section 7874 contain a de minimis 

exception. See § 1.7874–4(b) 

(disqualified stock rule); § 1.7874–7T(b) 

(passive assets rule); and 1.7874–10T(b) 

(NOCD rule). As explained in the 

preamble to TD 9812 (final regulations 

regarding the disqualified stock rule), 

together the de minimis exceptions 

generally prevent one or more of the 

disqualified stock rule, the passive 

assets rule, and NOCD rule from causing 

section 7874 to apply to a domestic 

entity acquisition that, given minimal 

actual ownership continuity, largely 

resembles a cash purchase by the 

foreign acquiring corporation of the 

stock of (or interests in) the domestic 

entity. 

Each of the de minimis exceptions is 

satisfied when two requirements are 

met. First, the ownership percentage— 

determined without regard to the 

application of the disqualified stock 

rule, the passive assets rule, and the 

NOCD rule—must be less than five (by 

vote and value). Second, after the 

domestic entity acquisition and all 

related transactions, each former 

domestic entity shareholder or former 

domestic entity partner, as applicable, 

must own (applying the attribution rules 

of section 318(a) with the modifications 

described in section 304(c)(3)(B)) less 

than five percent (by vote and value) of 

the stock of (or a partnership interest in) 

each member of the EAG. Originally, 

this second requirement considered the 

ownership by the former domestic 

entity shareholders or former domestic 

entity partners collectively. However, in 

response to a comment, TD 9812 

modified the requirement so that it 

considers only the ownership by the 

former domestic entity shareholders or 

former domestic entity partners 

individually. 

Similar to a comment submitted with 

respect to the disqualified stock rule 

and addressed in TD 9812, a comment 

recommended additional modifications 

to the second requirement. The 

comment stated that, particularly in 

cases involving a publicly-traded 

domestic entity or a complex ownership 

structure, it could be difficult or 

burdensome to identify each former 

domestic entity shareholder or former 

domestic entity partner (including a de 

minimis former domestic entity 

shareholder or former domestic entity 

partner), as applicable, and then 

determine (taking into account the 

applicable attribution rules) the person’s 

ownership of the foreign acquiring 

corporation and each member of the 

EAG. 

The Treasury Department and the IRS 

agree that it is appropriate to modify the 

second requirement in order to make the 

de minimis exceptions easier for 

taxpayers to comply with and for the 

IRS to administer. Accordingly, under 

the final regulations, only former 

domestic entity shareholders or former 

domestic entity partners, as applicable, 

that own (taking into account the 

applicable attribution rules) at least five 

percent of the stock of (or a partnership 

interest in) the domestic entity need be 

identified. If none of those former 

domestic entity shareholders or former 

domestic entity partners owns (taking 

into account the applicable attribution 

rules) at least five percent of the foreign 

acquiring corporation or a member of 

the EAG, then the second requirement is 

satisfied. 

B. Coordination of Rules Affecting the 

Ownership Fraction With the EAG Rules 

Existing regulations under section 

7874 coordinate the application of (i) 

rules that disregard certain stock of the 

foreign acquiring corporation for 

purposes of determining the ownership 

fraction, with (ii) the EAG rules. See 

§ 1.7874–4(h) (regarding the interaction 

of the EAG rules with the rule that 

disregards disqualified stock) and 

§ 1.7874–7T(e) (regarding the interaction 

of the EAG rules with the rule that 

disregards certain stock attributable to 

passive assets). The final regulations 

broaden this coordination to other rules 

that similarly disregard certain stock of 

the foreign acquiring corporation for 

purposes of determining the ownership 

fraction—namely, the serial acquisition 

rule and the third-country rule, as well 

as section 7874(c)(4) generally, the 

application of which in certain cases 

would similarly disregard stock of the 

foreign acquiring corporation. The final 

regulations provide a general 

coordination rule in § 1.7874–1(d)(1) to 

coordinate the stock exclusion rules and 

the EAG rules, and remove provisions of 

the existing regulations that are 

duplicative of this rule. See § 1.7874– 

4(i), Example 8 and Example 9 for 

illustrations involving the general 

coordination rule. 

C. The Substantial Business Activities 

Test 

Section 1.7874–3T(b)(4) of the 2016 

regulations provides that, for an EAG to 

be considered to have substantial 

business activities in the relevant 

foreign country, the foreign acquiring 

corporation must be subject to tax as a 

resident of the ‘‘relevant foreign 

country’’ (the tax residence 

requirement). The relevant foreign 

county means the foreign country in 

which, or under the law of which, the 

foreign acquiring corporation was 

created or organized (country of 

organization). The tax residence 

requirement is in addition to the three 

qualitative requirements relating to the 

percentage of employees, assets, and 

income in the relevant foreign country. 

See § 1.7874–3(b)(1) through (3). 

One comment made several 

recommendations with respect to the 

substantial business activities test. First, 

the comment recommended providing 

standards for determining when the tax 

residence requirement is considered 

satisfied, including in cases in which 

the relevant foreign country is a noincome-tax jurisdiction. The comment 

suggested that the standards be based on 

the definition of residence under the 

United States’ income tax treaties with 

foreign countries. It further suggested 

providing guidance on when a foreign 

acquiring corporation is considered to 

be fiscally-transparent in, and thus not 

a tax resident of, the relevant foreign 

country. 

The Treasury Department and the IRS 

generally agree with these 

recommendations. The final regulations 

thus define a tax resident of a country 

as a body corporate liable to tax under 

the laws of the country as a resident. 

See § 1.7874–3(d)(11). The Treasury 

Department and the IRS have concluded 

that defining tax resident in this manner 

obviates the need to provide specific 

guidance on when a foreign acquiring 

corporation is treated as fiscallytransparent under the laws of the 

relevant foreign country. In addition, 

the Treasury Department and the IRS 

have determined that when the relevant 


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foreign country is a country that does 

not impose corporate income tax, the 

tax residency requirement should not 

apply. See § 1.7874–3(b)(4) (second 

sentence). 

The comment also suggested that the 

Treasury Department and the IRS 

consider changing the definition of 

relevant foreign country from the 

country of organization to the country in 

which the foreign acquiring corporation 

is a tax resident. Under this approach, 

the substantial business activities test 

would look to the percentage of the 

EAG’s employees, assets, and income in 

the foreign country where the foreign 

acquiring corporation is a tax resident, 

without regard to the corporation’s 

country of organization. The Treasury 

Department and the IRS have concluded 

that section 7874(a)(2)(B)(iii) requires 

substantial business activities in the 

country of organization, with tax 

residency in that country serving as a 

necessary component for establishing 

substantial business activities. 

Accordingly, the final regulations do not 

adopt this comment. 

II. Rules Addressing Certain PostInversion Tax Avoidance Transactions 

As described in the preamble to the 

2016 regulations, as well as in Notice 

2015–79 and Notice 2014–52 (2014–42 

I.R.B. 712), certain inversion 

transactions are motivated in substantial 

part by the ability to engage in tax 

avoidance transactions after the 

inversion transaction that would not be 

possible in the absence of the inversion 

transaction. To reduce the tax benefits 

of certain post-inversion tax avoidance 

transactions, the 2016 regulations 

provided rules under sections 

304(b)(5)(B), 367, 956(e), 7701(l), and 

7874. The comments and modifications 

with respect to these rules are discussed 

in this Part II. 

A. United States Property Rule 

Section 1.956–2T(a)(4)(i) of the 2016 

regulations provides that, generally, for 

purposes of section 956 and § 1.956– 

2(a), United States property includes an 

obligation of a foreign person and stock 

of a foreign corporation if (i) the 

obligation or stock is held by a CFC that 

is an expatriated foreign subsidiary 

(EFS), (ii) the foreign person or foreign 

corporation is a non-CFC foreign related 

person, and (iii) the obligation or stock 

was acquired either during the 

applicable period or in a transaction 

related to the inversion transaction. 

Similarly, § 1.956–2T(c)(5) extends the 

pledge and guarantee rule in § 1.956– 

2(c) to apply to obligations of non-CFC 

foreign related persons. 

Comments requested that the rules in 

§ 1.956–2T of the 2016 regulations (the 

United States property rule) be extended 

to apply to all foreign-parented groups, 

and not only those that are foreignparented as a result of an inversion 

transaction. The Treasury Department 

and the IRS continue to study those 

comments, but do not adopt them in 

these final regulations. 

B. Nomenclature and Other Changes 

For clarity, the final regulations use 

the term ‘‘non-EFS foreign related 

person’’ instead of the term ‘‘non-CFC 

foreign related person.’’ 

In addition, the final regulations 

modify various examples involving 

foreign corporations that were not 

controlled foreign corporations before 

the effective date of section 14214 of the 

Act (amending section 958(b) so as to 

provide ‘‘downward attribution’’ of 

stock from foreign persons to United 

States persons). In general, the final 

regulations now refer to those foreign 

corporations as CFCs, as appropriate, 

and otherwise retain the regulations 

under sections 367(b), 956, and 7701(l). 

Although the recent amendment to 

section 958(b)(4) makes it more difficult 

for post-inversion planning to cause an 

EFS to cease to be a CFC, such planning 

could still substantially dilute a United 

States shareholder’s interest in the EFS. 

Accordingly, the recharacterization 

rules under § 1.7701(l)–4T concerning 

post-inversion dilution are finalized. 

The Treasury Department and the IRS 

decline at this time to extend the 

application of § 1.7701(l)–4 to all 

foreign-parented groups, in part, 

because other provisions may address 

such planning, including the fast-pay 

arrangement rules under § 1.7701(l)–3. 

Further, for purposes of determining 

whether an entity is an EFS, the final 

regulations provide that downward 

attribution from a non-United States 

person to a United States person does 

not apply. Absent this modification, in 

certain cases the term EFS would be 

over-inclusive and, as a result, the term 

non-EFS foreign related person would 

be under-inclusive; this could result in 

the regulations under sections 367(b), 

956, and 7701(l) inappropriately not 

applying in certain cases. Similarly, the 

final regulations provide that, when 

determining if an entity is a CFC for 

purposes of § 1.304–7, downward 

attribution from a non-United States 

person to a United States person does 

not apply. The Treasury Department 

and the IRS have determined that these 

modifications—the effect of which is 

that the determination of whether an 

entity is an EFS, as well as whether an 

entity is a CFC for purposes of § 1.304– 

7, is the same under pre- and post-Act 

law—are necessary to carry out the 

purposes of the provisions. 

III. Miscellaneous Rules 

A. New Definitions Section in Section 

7874 Regulations 

Section 1.7874–12T of the 2016 

regulations provides definitions for 

certain terms commonly used in 

§§ 1.367(b)–4, 1.956–2, 1.7701(l)–4, and 

certain of the section 7874 regulations. 

These final regulations adopt this 

definitions section. They also update 

other portions of the section 7874 

regulations to conform those sections 

with the nomenclature used in 

§ 1.7874–12. 

B. Rules Under Section 956 Relating to 

the Definition of Obligation 

Section 1.956–2T(d)(2)(iv) of the 2016 

regulations provides the short-term 

obligation exception described in Notice 

88–108, 1988–2 C.B. 446, and § 1.956– 

2T(d)(2)(v) provides the alternative 

short-term obligation exception 

described in Notice 2008–91, 2008–43 

I.R.B. 1001, as modified by Notice 2009– 

10, 2009–5 I.R.B. 419, and Notice 2010– 

12, 2010–4 I.R.B. 326. No comments 

were received on these rules; 

accordingly, § 1.956–2(d)(2)(iv) is 

adopted as proposed. However, these 

final regulations do not contain the rule 

contained in proposed § 1.956– 

2(d)(2)(v), which applied only for 

certain taxable years beginning before 

2011. 

C. Applicability Dates 

Section 7805(b)(1)(B) and (C) provide 

that a final regulation may apply to a 

taxable period ending on or after the 

date on which a proposed or temporary 

regulation to which the final regulation 

relates was filed with the Federal 

Register or the date on which a notice 

substantially describing the expected 

contents of the regulation was issued to 

the public. The applicability dates of the 

rules in the final regulations are 

generally the same as the applicability 

dates of the rules as set forth in the 2016 

regulations, which were issued as 

temporary regulations to address 

transactions that are structured to avoid 

the purposes of sections 7874 and 367 

and certain post-inversion tax avoidance 

transactions. Accordingly, the 

applicability date of some provisions in 

the final regulations corresponds to the 

date the 2016 regulations were filed 

with the Federal Register, and the 

applicability dates of other provisions in 

the final regulations predate the filing of 

the 2016 regulations and correspond to 

the issuance of Notice 2014–52, 2014– 


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42 I.R.B. 712, which was issued on 

September 22, 2014, or Notice 2015–79, 

2015–49 I.R.B. 775, which was issued 

on November 19, 2015. 

However, differences between the 

final regulations and the 2016 

regulations generally apply on a 

prospective basis, with an option for 

taxpayers to apply the differences 

retroactively. Moreover, because 

taxpayers may have relied on the 2016 

regulations, the modifications to the 

final regulations generally apply 

prospectively. However, domestic entity 

acquisitions completed before July 12, 

2018 continue to be subject to those 

rules as set forth in the 2016 regulations 

(but generally with an option for 

taxpayers to apply the differences 

retroactively). 

Statement of Availability of IRS 

Documents 

IRS Revenue Procedures, Revenue 

Rulings, notices, and other guidance 

cited in this document are published in 

the Internal Revenue Bulletin (or 

Cumulative Bulletin) and are available 

from the Superintendent of Documents, 

U.S. Government Publishing Office, 

Washington, DC 20402, or by visiting 

the IRS website at http://www.irs.gov. 

Special Analyses 

Regulatory Planning and Review— 

Economic Analysis 

Executive Orders 13563 and 12866 

direct agencies to assess costs and 

benefits of available regulatory 

alternatives and, if regulation is 

necessary, to select regulatory 

approaches that maximize net benefits 

(including potential economic, 

environmental, public health and safety 

effects, distributive impacts, and 

equity). Executive Order 13563 

emphasizes the importance of 

quantifying both costs and benefits, of 

reducing costs, of harmonizing rules, 

and of promoting flexibility. This rule 

has been designated a ‘‘significant 

regulatory action’’ although not 

economically significant, under section 

3(f) of Executive Order 12866. 

Accordingly, the rule has been reviewed 

by the Office of Management and 

Budget. This final rule is considered an 

E.O. 13771 deregulatory action. For 

more detail on the economic analysis, 

please refer to the analysis below. 

Need for the Final Regulations 

These final regulations refine and 

clarify certain aspects of the proposed 

and temporary regulations published in 

2016 (collectively referred to as the 2016 

regulations, as explained in the 

preamble). The changes finalized in this 

set of regulations help to ensure that the 

regulations do not impact mergers that 

provide market benefits independent of 

tax avoidance; for example, those that 

increase efficiencies within the 

corporation or provide other growth 

opportunities or that contribute to social 

welfare. These regulations still maintain 

the thresholds and substantiation 

requirements of the 2016 regulations 

aimed at discouraging tax-motivated 

inversions. 

Background 

Cross-border mergers can make the 

U.S. economy stronger by enabling U.S. 

companies to invest overseas and 

encouraging foreign investment to flow 

into the United States. In order for these 

benefits to be realized, these 

transactions should be driven by 

underlying economic considerations 

rather than by a desire to avoid U.S. 

taxes. One way for a U.S.-based 

multinational to avoid or reduce U.S. 

tax is for the company to expatriate by 

changing its tax residence from the U.S. 

to another country through an inversion 

transaction. Though there are some 

limitations, the transaction allows the 

inverted company to reduce future taxes 

on U.S.-source earnings, for example, by 

deducting interest paid on loans from 

the new foreign parent. In addition to 

potentially eroding the U.S. tax base, 

inversions may impose other costs on 

the U.S. economy. For instance, as a 

result of the inversion, a company’s 

headquarters may move overseas. This 

loss of a U.S. corporate identity or 

location of headquarters for the 

company may reduce employment in 

the United States. 

To limit inversions that are taxmotivated, section 7874 (enacted in 

2004), in general, targets transactions in 

which a foreign corporation acquires a 

domestic corporation and, immediately 

after the transaction, the former 

shareholders of the domestic 

corporation make up a significant 

portion of the shareholders of the 

acquiring foreign corporation. If the 

former shareholders of the domestic 

corporation hold 80 percent or more of 

the stock of the foreign corporation after 

the transaction, the foreign corporation 

is treated as a domestic corporation for 

U.S. tax purposes. If the former 

shareholders hold at least 60 percent but 

less than 80 percent of the stock of the 

foreign acquiring corporation after the 

transaction, then the transaction is 

respected but use of tax attributes such 

as net operating losses and foreign tax 

credits is limited. Transactions where 

the former shareholders of the domestic 

corporation hold less than 60 percent of 

the stock of the foreign acquiring 

corporation are generally not limited. 

Since the enactment of section 7874, 

multiple sets of regulations have been 

issued interpreting the statute and 

restricting the ability of domestic 

corporations to undertake an inversion 

transaction. 

The Tax Cuts and Jobs Act of 2017 

(TCJA) reduced, but did not completely 

eliminate, the tax-motivated incentives 

to invert. Particular TCJA provisions 

that reduced those incentives include 

the reduction in the maximum U.S. 

statutory corporate tax rate from 35 

percent to 21 percent, the exemption 

from U.S. tax of dividends received 

from certain foreign corporations, the 

strengthening of Internal Revenue Code 

Section 163(j) on interest stripping, and 

the adoption of four punitive 

disincentives for new inversions in the 

60 percent to 80 percent range. While 

the TCJA also included provisions that 

may increase incentives to invert, 

including the tax imposed on Global 

Intangible Low Tax Income (GILTI) of 

foreign subsidiaries, overall taxmotivated incentives to invert were 

reduced. 

The following qualitative analysis 

provides further detail regarding the 

anticipated impacts of this rulemaking. 

Baseline 

The 2016 regulations serve as the noaction baseline for our tax regulatory 

review. The 2016 regulations, which 

were issued pursuant to authority under 

sections 7874 and 7805 (as well as other 

sections), restrict the ability of U.S. 

companies to invert and reduce the 

incentives to invert. 

Alternatives 

As an alternative to these final 

regulations, Treasury considered 

retaining the 2016 regulations without 

amendment. Given public comment and 

the agency’s desire to provide 

transparency and clarity to the public, 

Treasury decided against this approach 

and moved forward with the final 

regulations as drafted. 

Anticipated Impacts 

These final regulations maintain the 

thresholds and substantiation 

requirements of the 2016 regulations 

aimed at discouraging tax-motivated 

inversions. In response to public 

comments, the final regulations make 

certain limited changes to the 2016 

regulations that are designed to improve 

clarity, provide additional exceptions to 

their application, and reduce 

unnecessary burdens on taxpayers, 

including by providing guidance on 

how to apply particular mechanical 


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rules. Specifically, clarifying changes 

were made to certain of the stock 

exclusion rules, and in particular, the 

passive assets rule, the serial acquisition 

rule, and the third country rule, as well 

as to the substantial business activities 

rule. Additional exceptions were added 

to the serial acquisition rule and the 

third country rule that narrowed their 

scope on the margins. Finally, changes 

to the passive assets rule, the NOCD 

rule, and the rules coordinating the 

application of the stock exclusion rules 

with the expanded affiliated group 

(EAG) rules were made to reduce 

complexity and ambiguity associated 

with these provisions. 

Given the limited nature of the 

changes made by these final regulations 

relative to the no-action baseline, 

Treasury estimates that collectively, 

these final regulations are not 

economically significant under 

Executive Order 12866. 

Revenue Impacts 

Due to the narrow scope of 

clarifications and refinements in the 

final regulations and the small number 

of taxpayers subject to these regulations, 

Treasury does not anticipate any 

meaningful change to revenues. 

Anticipated Benefits 

At the margin, the final regulations 

may increase the incentive for crossborder mergers that are economically 

beneficial and not tax-motivated. The 

regulations are designed to help ensure 

that the regulations do not impact 

mergers that provide market benefits. 

Economically beneficial mergers make 

the U.S. economy stronger by enabling 

U.S. companies to invest overseas and 

encouraging foreign investment to flow 

into the U.S. 

Anticipated Costs 

The changes made by the final 

regulations are designed generally to 

reduce unnecessary burdens on 

taxpayers, an action that may lead to 

increased merger activity, and some of 

these additional mergers may 

potentially be tax-motivated at least in 

part. Due to the narrow scope of these 

changes, however, Treasury anticipates 

that any increase in tax-motivated crossborder merger activity will be relatively 

small relative to the no-action baseline 

and will not result in any meaningful 

adverse effects on economic activity 

relative to the no-action baseline. In 

particular, additional exceptions added 

to the serial acquisition rule and the 

third country rule are designed to 

narrow their role in defining crossborder mergers that are subject to 

targeted tax treatment. 

Effects on Compliance Costs 

The final regulations narrow the 

scope of regulated activities and reduce 

compliance costs relative to the 2016 

regulations. The regulations also aim to 

reduce required paperwork burden, 

complexity, and ambiguities that may 

unintentionally discourage legitimate 

merger activity. In particular, changes 

that reduce complexity and ambiguity 

were made to the passive assets rule, the 

NOCD rule, and the rules coordinating 

the application of the stock exclusion 

rules with the expanded affiliated group 

(EAG) rules. Clarifying changes were 

made to the passive assets rule, the 

serial acquisition rule, the third country 

rule, and the substantial business 

activities rule. 

Regulatory Flexibility Act 

The Regulatory Flexibility Act (5 

U.S.C. chapter 6) does not apply 

because the regulations do not impose a 

collection of information on small 

entities. Pursuant to section 7805(f) of 

the Internal Revenue Code, the notice of 

proposed rulemaking preceding these 

regulations was submitted to the Chief 

Counsel for Advocacy of the Small 

Business Administration for comment 

on its impact on small business. No 

comments were received. 

Drafting Information 

The principal authors of these 

regulations are Rose E. Jenkins and 

Shane M. McCarrick of the Office of 

Associate Chief Counsel (International). 

However, other personnel from the 

Treasury Department and the IRS 

participated in their development. 

List of Subjects in 26 CFR Part 1 

Income taxes, Reporting and 

recordkeeping requirements. 

Adoption of the Amendments to the 

Regulations 

Accordingly, 26 CFR part 1 is 

amended as follows: 

PART 1—INCOME TAXES 

■ Paragraph 1. The authority citation 

for part 1 is amended by removing the 

entries for §§ 1.304–7T, 1.367(b)–4T, 

1.956–2T, 1.7701(l)–4T, 1.7874–2T, 

1.7874–3T, 1.7874–6T, 1.7874–7T, 

1.7874–8T, 1.7874–9T, 1.7874–10T, 

1.7874–11T, 1.7874–12T and adding 

entries for §§ 1.304–7, 1.7701(l)–4, 

1.7874–2, 1.7874–6, 1.7874–7, 1.7874–8, 

1.7874–9, 1.7874–10, 1.7874–11, and 

1.7874–12 in numerical order and 

revising the entry for § 1.367(b)–4 to 

read in part as follows: 

Authority: 26 U.S.C. 7805 * * * 

Section 1.304–7 also issued under 26 

U.S.C. 304(b)(5)(C). 

* * * * * 

Section 1.367(b)–4 also issued under 26 

U.S.C. 367(a) and (b) and 954(c)(6)(A). 

* * * * * 

Section 1.7701(l)-4 also issued under 26 

U.S.C. 7701(l) and 954(c)(6)(A). 

* * * * * 

Section 1.7874–2 also issued under 26 

U.S.C. 7874(c)(6) and (g). 

* * * * * 

Section 1.7874–6 also issued under 26 

U.S.C. 7874(c)(6) and (g). 

Section 1.7874–7 also issued under 26 

U.S.C. 7874(c)(6) and (g). 

Section 1.7874–8 also issued under 26 

U.S.C. 7874(c)(6) and (g). 

Section 1.7874–9 also issued under 26 

U.S.C. 7874(c)(6) and (g). 

Section 1.7874–10 also issued under 26 

U.S.C. 7874(c)(4) and (g). 

Section 1.7874–11 also issued under 26 

U.S.C. 7874(g). 

Section 1.7874–12 also issued under 26 

U.S.C. 7874(g). 

* * * * * 

■ Par. 2. Section 1.304–7 is added to 

read as follows: 

§ 1.304–7 Certain acquisitions by foreign 

acquiring corporations. 

(a) Scope. This section provides rules 

regarding the application of section 

304(b)(5)(B) to an acquisition of stock 

described in section 304 by an acquiring 

corporation that is foreign (foreign 

acquiring corporation). Paragraph (b) of 

this section provides the rule for 

determining which earnings and profits 

are taken into account for purposes of 

applying section 304(b)(5)(B). Paragraph 

(c) of this section provides rules 

addressing the use of a partnership, 

option (or similar interest), or other 

arrangement. Paragraph (d) of this 

section provides examples that illustrate 

the rules of this section. Paragraph (e) of 

this section provides the applicability 

date. 

(b) Earnings and profits taken into 

account. For purposes of applying 

section 304(b)(5)(B), only the earnings 

and profits of the foreign acquiring 

corporation are taken into account in 

determining whether more than 50 

percent of the dividends arising from 

the acquisition (determined without 

regard to section 304(b)(5)(B)) would 

neither be subject to tax under chapter 

1 of subtitle A of the Internal Revenue 

Code for the taxable year in which the 

dividends arise (subject to tax) nor be 

includible in the earnings and profits of 

a controlled foreign corporation 

(includible by a controlled foreign 

corporation). For purposes of this 

section, a controlled foreign corporation 

has the meaning provided in section 957 

and without regard to section 953(c), 


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determined without applying 

subparagraphs (A), (B), and (C) of 

section 318(a)(3) so as to consider a 

United States person as owning stock 

which is owned by a person who is not 

a United States person. 

(c) Use of a partnership, option (or 

similar interest), or other arrangement. 

If a partnership, option (or similar 

interest), or other arrangement, is used 

with a principal purpose of avoiding the 

application of this section (for example, 

to treat a transferor as a controlled 

foreign corporation), then the 

partnership, option (or similar interest), 

or other arrangement will be 

disregarded for purposes of applying 

this section. 

(d) Examples. The following examples 

illustrate the rules of this section. For 

purposes of the examples, assume the 

following facts in addition to the facts 

stated in the examples: 

(1) FA is a foreign corporation that is 

not a controlled foreign corporation; 

(2) FA wholly owns DT, a domestic 

corporation; 

(3) DT wholly owns FS1, a controlled 

foreign corporation; and 

(4) No portion of a dividend from FS1 

would be treated as from sources within 

the United States under section 861. 

Example 1—(i) Facts. DT has earnings and 

profits of $51x, and FS1 has earnings and 

profits of $49x. FA transfers DT stock with 

a fair market value of $100x to FS1 in 

exchange for $100x of cash. 

(ii) Analysis. Under section 304(a)(2), the 

$100x of cash is treated as a distribution in 

redemption of the stock of DT. The 

redemption of the DT stock is treated as a 

distribution to which section 301 applies 

pursuant to section 302(d), which ordinarily 

would be sourced first from FS1 under 

section 304(b)(2)(A). Without regard to the 

application of section 304(b)(5)(B), more than 

50 percent of the dividend arising from the 

acquisition, taking into account only the 

earnings and profits of FS1 pursuant to 

paragraph (b) of this section, would neither 

be subject to tax nor includible by a 

controlled foreign corporation. In particular, 

no portion of a dividend from FS1 would be 

subject to tax or includible by a controlled 

foreign corporation. Accordingly, section 

304(b)(5)(B) and paragraph (b) of this section 

apply to the transaction, and no portion of 

the distribution of $100x is treated under 

section 301(c)(1) as a dividend out of the 

earnings and profits of FS1. Furthermore, the 

$100x of cash is treated as a dividend to the 

extent of the earnings and profits of DT 

($51x). 

Example 2—(i) Facts. FA and DT own 40 

percent and 60 percent, respectively, of the 

capital and profits interests of PRS, a foreign 

partnership. PRS wholly owns FS2, a 

controlled foreign corporation. The FS2 stock 

has a fair market value of $100x. FS1 has 

earnings and profits of $150x. PRS transfers 

all of its FS2 stock to FS1 in exchange for 

$100x of cash. DT enters into a gain 

recognition agreement that complies with the 

requirements set forth in section 4.01 of 

Notice 2012–15, 2012–9 I.R.B 424, with 

respect to the portion (60 percent) of the FS2 

stock that DT is deemed to transfer to FS1 in 

an exchange described in section 367(a)(1). 

See § 1.367(a)–1T(c)(3)(i)(A). 

(ii) Analysis. Under section 304(a)(1), PRS 

and FS1 are treated as if PRS transferred its 

FS2 stock to FS1 in an exchange described 

in section 351(a) solely for FS1 stock, and, in 

turn, FS1 redeemed such FS1 stock in 

exchange for $100x of cash. The redemption 

of the FS1 stock is treated as a distribution 

to which section 301 applies pursuant to 

section 302(d). Without regard to the 

application of section 304(b)(5)(B), more than 

50 percent of a dividend arising from the 

acquisition, taking into account only the 

earnings and profits of FS1 pursuant to 

paragraph (b) of this section, would be 

subject to tax. In particular, 60 percent of a 

dividend from FS1 would be included in 

DT’s distributive share of PRS’s partnership 

income and therefore would be subject to tax. 

Accordingly, section 304(b)(5)(B) does not 

apply, and the entire distribution of $100x is 

treated under section 301(c)(1) as a dividend 

out of the earnings and profits of FS1. 

(e) Applicability date. This section 

applies to acquisitions that are 

completed on or after September 22, 

2014. 

§ 1.304–7T [Removed] 

■ Par. 3. Section 1.304–7T is removed. 

■ Par. 4. Section 1.367(a)–3 is amended 

by revising paragraphs (c)(3)(iii)(C) and 

(c)(11)(ii) to read as follows: 

§ 1.367(a)–3 Treatment of transfers of 

stock or securities to foreign corporations. 

* * * * * 

(c) * * * 

(3) * * * 

(iii) * * * 

(C) Special rule for U.S. target 

company value. For purposes of 

§ 1.367(a)–3(c)(3)(iii)(A), the fair market 

value of the U.S. target company 

includes the aggregate amount of nonordinary course distributions (NOCDs) 

made by the U.S. target company. To 

calculate the aggregate value of NOCDs, 

the principles of § 1.7874–10, including 

the rule regarding predecessors in 

§ 1.7874–10(e) and the rule regarding a 

deemed distribution of stock in certain 

cases in § 1.7874–10(g), apply. However, 

this paragraph (c)(3)(iii)(C) does not 

apply if the principles of the de minimis 

exception in § 1.7874–10(d) are 

satisfied. 

* * * * * 

(11) * * * 

(ii) Applicability date of certain 

provisions of this paragraph (c). The 

first and second sentence of paragraph 

(c)(3)(iii)(C) of this section apply to 

transfers completed on or after 

September 22, 2014. The third sentence 

of paragraph (c)(3)(iii)(C) of this section 

applies to transfers completed on or 

after November 19, 2015. Taxpayers 

may, however, elect to apply the third 

sentence of paragraph (c)(3)(iii)(C) of 

this section to transfers completed on or 

after September 22, 2014, and before 

November 19, 2015. 

* * * * * 

§ 1.367(a)–3T [Removed] 

■ Par. 5. Section 1.367(a)–3T is 

removed. 

■ Par. 6. Section 1.367(b)–4 is amended 

by revising paragraph (a), paragraph (b) 

introductory text, and paragraphs 

(b)(1)(i)(C), (d)(1), (e), (f), (g), and (h) to 

read as follows: 

§ 1.367(b)–4 Acquisition of foreign 

corporate stock or assets by a foreign 

corporation in certain nonrecognition 

transactions. 

(a) Scope. This section applies to 

certain acquisitions by a foreign 

corporation of the stock or assets of a 

foreign corporation in an exchange 

described in section 351 or in a 

reorganization described in section 

368(a)(1). Paragraph (b) of this section 

provides a rule regarding when an 

exchanging shareholder is required to 

include in income as a deemed 

dividend the section 1248 amount 

attributable to the stock that it 

exchanges. Paragraph (c) of this section 

provides a rule excluding deemed 

dividends from foreign personal holding 

company income. Paragraph (d) of this 

section provides rules for subsequent 

sales or exchanges. Paragraphs (e) and 

(f) of this section provide rules 

regarding certain exchanges following 

inversion transactions. Paragraph (g) of 

this section provides definitions and 

special rules, including special rules 

regarding triangular reorganizations and 

recapitalizations. Paragraph (h) of this 

section provides the applicability dates 

for certain paragraphs of this section. 

See also § 1.367(a)–3(b)(2) for 

transactions subject to the concurrent 

application of sections 367(a) and (b) 

and § 1.367(b)–2 for additional 

definitions that apply. 

(b) Income inclusion. If a foreign 

corporation (the transferee foreign 

corporation) acquires the stock of a 

foreign corporation in an exchange 

described in section 351 or the stock or 

assets of a foreign corporation in a 

reorganization described in section 

368(a)(1) (in either case, the foreign 

acquired corporation), then an 

exchanging shareholder must, if its 

exchange is described in paragraph 

(b)(1)(i), (b)(2)(i), or (b)(3) of this section, 

include in income as a deemed 

dividend the section 1248 amount 


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attributable to the stock that it 

exchanges. 

(1) * * * 

(i) * * * 

(C) The exchange is not a specified 

exchange to which paragraph (e)(1) of 

this section applies. 

* * * * * 

(d) * * * 

(1) Rule. If an exchanging shareholder 

(as defined in § 1.1248–8(b)(1)(iv)) is not 

required to include in income as a 

deemed dividend the section 1248 

amount under paragraph (b) or 

paragraph (e)(1) of this section (noninclusion exchange), then, for purposes 

of applying section 367(b) or 1248 to 

subsequent sales or exchanges, and 

subject to the limitation of § 1.367(b)– 

2(d)(3)(ii) (in the case of a transaction 

described in § 1.367(b)–3), the 

determination of the earnings and 

profits attributable to the stock an 

exchanging shareholder receives in the 

non-inclusion exchange is determined 

pursuant to the rules of section 1248 

and the regulations under that section. 

* * * * * 

(e) Income inclusion and gain 

recognition in certain exchanges 

following an inversion transaction—(1) 

General rule. If a foreign corporation 

(the transferee foreign corporation) 

acquires stock of a foreign corporation 

in an exchange described in section 351 

or stock or assets of a foreign 

corporation in a reorganization 

described in section 368(a)(1) (in either 

case, the foreign acquired corporation), 

then an exchanging shareholder must, if 

its exchange is a specified exchange and 

the exception in paragraph (e)(3) of this 

section does not apply— 

(i) Include in income as a deemed 

dividend the section 1248 amount 

attributable to the stock that it 

exchanges; and 

(ii) After taking into account the 

increase in basis provided in § 1.367(b)– 

2(e)(3)(ii) resulting from the deemed 

dividend (if any), recognize all realized 

gain with respect to the stock that 

would not otherwise be recognized. 

(2) Specified exchanges. An exchange 

is a specified exchange if— 

(i) Immediately before the exchange, 

the foreign acquired corporation is an 

expatriated foreign subsidiary and the 

exchanging shareholder is either an 

expatriated entity described in 

paragraph (b)(1)(i)(A)(1) of this section 

or an expatriated foreign subsidiary 

described in paragraph (b)(1)(i)(A)(2) of 

this section; 

(ii) The stock received in the 

exchange is stock of a foreign 

corporation; and 

(iii) The exchange occurs during the 

applicable period. 

(3) De minimis exception. The 

exception in this paragraph (e)(3) 

applies if— 

(i) Immediately after the exchange, the 

foreign acquired corporation (in the case 

of an acquisition of stock of the foreign 

acquired corporation) or the transferee 

foreign corporation (in the case of an 

acquisition of assets of the foreign 

acquired corporation) is a controlled 

foreign corporation; 

(ii) The post-exchange ownership 

percentage with respect to the foreign 

acquired corporation (in the case of an 

acquisition of stock of the foreign 

acquired corporation) or the transferee 

foreign corporation (in the case of an 

acquisition of assets of the foreign 

acquired corporation) is at least 90 

percent of the pre-exchange ownership 

percentage with respect to the foreign 

acquired corporation; and 

(iii) The post-exchange ownership 

percentage with respect to each lowertier expatriated foreign subsidiary of the 

foreign acquired corporation is at least 

90 percent of the pre-exchange 

ownership percentage with respect to 

the lower-tier expatriated foreign 

subsidiary. 

(4) Certain exceptions from foreign 

personal holding company not 

available. An income inclusion of a 

foreign corporation under paragraph 

(e)(1) of this section does not qualify for 

the exceptions from foreign personal 

holding company income provided by 

sections 954(c)(3)(A)(i) and 954(c)(6) (to 

the extent in effect). 

(5) Examples. The following examples 

illustrate the application of this 

paragraph (e). For purposes of all of the 

examples, unless otherwise indicated: 

FP, a foreign corporation, owns all of 

the stock of USP, a domestic 

corporation, and all 40 shares of stock 

of FS, a controlled foreign corporation 

for its taxable year beginning January 1, 

2017, but not for prior taxable years, 

except as a result of a transaction 

described in the facts of an example. 

USP owns all 50 shares of stock of FT1, 

a controlled foreign corporation, which, 

in turn, owns all 50 shares of FT2, a 

controlled foreign corporation. FP 

acquired all of the stock of USP in an 

inversion transaction that was 

completed on July 1, 2016. Therefore, 

with respect to that inversion 

transaction, USP is an expatriated 

entity; FT1 and FT2 are expatriated 

foreign subsidiaries; and FP and FS are 

each a non-EFS foreign related person. 

All entities have a calendar year tax year 

for U.S. tax purposes. All shares of stock 

have a fair market value of $1x, and 

each corporation has a single class of 

stock outstanding. 

Example 1. Specified exchange to which 

general rule applies—(i) Facts. During the 

applicable period, and pursuant to a 

reorganization described in section 

368(a)(1)(B), FT1 transfers all 50 shares of 

FT2 stock to FS in exchange solely for 50 

newly issued voting shares of FS. 

Immediately before the exchange, USP is a 

section 1248 shareholder with respect to FT1 

and FT2. At the time of the exchange, the 

FT2 stock owned by FT1 has a fair market 

value of $50x and an adjusted basis of $5x, 

such that the FT2 stock has a built-in gain 

of $45x. In addition, the earnings and profits 

of FT2 attributable to FT1’s stock in FT2 for 

purposes of section 1248 is $30x, taking into 

account the rules of § 1.367(b)–2(c)(1)(i) and 

(ii), and therefore the section 1248 amount 

with respect to the FT2 stock is $30x (the 

lesser of the $45x of built-in gain and the 

$30x of earnings and profits attributable to 

the stock). 

(ii) Analysis. FT1’s exchange is a specified 

exchange because the requirements set forth 

in paragraphs (e)(2)(i) through (iii) of this 

section are satisfied. The requirement set 

forth in paragraph (e)(2)(i) of this section is 

satisfied because, immediately before the 

exchange, FT2 (the foreign acquired 

corporation) is an expatriated foreign 

subsidiary and FT1 (the exchanging 

shareholder) is an expatriated foreign 

subsidiary that is described in paragraph 

(b)(1)(i)(A)(2) of this section. The 

requirement set forth in paragraph (e)(2)(ii) of 

this section is also satisfied because the stock 

received in the exchange (FS stock) is stock 

of a foreign corporation. The requirement set 

forth in paragraph (e)(2)(iii) of this section is 

satisfied because the exchange occurs during 

the applicable period. Accordingly, under 

paragraph (e)(1)(i) of this section, FT1 must 

include in income as a deemed dividend 

$30x, the section 1248 amount with respect 

to its FT2 stock. In addition, under paragraph 

(e)(1)(ii) of this section, FT1 must, after 

taking into account the increase in basis 

provided in § 1.367(b)–2(e)(3)(ii) resulting 

from the deemed dividend (which increases 

FT1’s basis in its FT2 stock from $5x to 

$35x), recognize $15x ($50x amount realized 

less $35x basis), the realized gain with 

respect to the FT2 stock that would not 

otherwise be recognized. 

Example 2. De minimis shift to non-EFS 

foreign related persons—(i) Facts. The facts 

are the same as in the introductory sentences 

of this paragraph (e)(5), except as follows. 

FT1 does not own any shares of FT2, and all 

40 shares of FS are owned by DX, a domestic 

corporation wholly owned by individual A, 

and thus FS is not a non-EFS foreign related 

person. During the applicable period and 

pursuant to a reorganization described in 

section 368(a)(1)(D), FT1 transfers all of its 

assets to FS in exchange for 50 newly issued 

FS shares, FT1 distributes the 50 FS shares 

to USP in liquidation under section 361(c)(1), 

and USP exchanges its 50 shares of FT1 stock 

for the 50 FS shares under section 354. 

Further, immediately after the exchange, FS 

is a controlled foreign corporation. 

(ii) Analysis. Although USP’s exchange is 

a specified exchange, paragraph (e)(1) of this 

section does not apply to the exchange 

because, as described in paragraphs (ii)(A) 


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through (C) of this Example 2, the 

requirements of paragraph (e)(3) of this 

section are satisfied. 

(A) Because the assets, rather than the 

stock, of FT1 (the foreign acquired 

corporation) are acquired, the requirement 

set forth in paragraph (e)(3)(i) of this section 

is satisfied if FS (the transferee foreign 

corporation) is a controlled foreign 

corporation immediately after the exchange. 

As stated in the facts, FS is a controlled 

foreign corporation immediately after the 

exchange. 

(B) The requirement set forth in paragraph 

(e)(3)(ii) of this section is satisfied if the postexchange ownership percentage with respect 

to FS is at least 90% of the pre-exchange 

ownership percentage with respect to FT1. 

Because USP, a domestic corporation that is 

an expatriated entity, directly owns 50 shares 

of FT1 stock immediately before the 

exchange, none of those shares are treated as 

indirectly owned by FP (a non-EFS foreign 

related person) for purposes of calculating 

the pre-exchange ownership percentage with 

respect to FT1. See paragraph (g)(1) of this 

section. Thus, for purposes of calculating the 

pre-exchange ownership percentage with 

respect to FT1, FP is treated as directly or 

indirectly owning 0%, or 0 of 50 shares, of 

the stock of FT1. Accordingly, the preexchange ownership percentage with respect 

to FT1 is 100 (calculated as 100% less 0%, 

the percentage of FT1 stock that non-EFS 

foreign related persons are treated as directly 

or indirectly owning immediately before the 

exchange). Consequently, for the requirement 

set forth in paragraph (e)(3)(ii) of this section 

to be satisfied, the post-exchange ownership 

percentage with respect to FS must be at least 

90. Because USP, a domestic corporation that 

is an expatriated entity, directly owns 50 

shares of FS stock immediately after the 

exchange, none of those shares are treated as 

indirectly owned by FP (a non-EFS foreign 

related person) for purposes of calculating 

the post-exchange ownership percentage 

with respect to FS. See paragraph (g)(1) of 

this section. Thus, for purposes of calculating 

the post-exchange ownership percentage 

with respect to FS, FP is treated as directly 

or indirectly owning 0%, or 0 of 90 shares, 

of the stock of FS. As a result, the postexchange ownership percentage with respect 

to FS is 100 (calculated as 100% less 0%, the 

percentage of FS stock that non-EFS foreign 

related persons are treated as directly or 

indirectly owning immediately after the 

exchange). Therefore, because the postexchange ownership percentage with respect 

to FS (100) is at least 90, the requirement set 

forth in paragraph (e)(3)(ii) of this section is 

satisfied. 

(C) Because there is not a lower-tier 

expatriated foreign subsidiary of FT1, the 

requirement set forth in paragraph (e)(3)(iii) 

of this section does not apply. 

(f) Gain recognition upon certain 

transfers of property described in 

section 351 following an inversion 

transaction—(1) General rule. If, during 

the applicable period, an expatriated 

foreign subsidiary transfers specified 

property to a foreign corporation (the 

transferee foreign corporation) in an 

exchange described in section 351, then 

the expatriated foreign subsidiary must 

recognize all realized gain with respect 

to the specified property transferred that 

would not otherwise be recognized, 

unless the exception in paragraph (f)(2) 

of this section applies. 

(2) De minimis exception. The 

exception in this paragraph (f)(2) 

applies if— 

(i) Immediately after the transfer, the 

transferee foreign corporation is a 

controlled foreign corporation; and 

(ii) The post-exchange ownership 

percentage with respect to the transferee 

foreign corporation is at least 90 percent 

of the pre-exchange ownership 

percentage with respect to the 

expatriated foreign subsidiary. 

(3) Examples. The following examples 

illustrate the application of this 

paragraph (f). For purposes of all of the 

examples, unless otherwise indicated: 

FP, a foreign corporation, owns all of 

the stock of USP, a domestic 

corporation, and all 10 shares of stock 

of FS, a controlled foreign corporation 

for its taxable year beginning January 1, 

2017, but not for prior taxable years, 

except as a result of a transaction 

described in the facts of an example. 

USP owns all 50 shares of stock of FT, 

a controlled foreign corporation. FT 

owns Asset A, which is specified 

property with a fair market value of 

$50x and an adjusted basis of $10x. FP 

acquired all of the stock of USP in an 

inversion transaction that was 

completed on or after September 22, 

2014. Accordingly, with respect to that 

inversion transaction, USP is an 

expatriated entity, FT is an expatriated 

foreign subsidiary, and FP and FS are 

each a non-EFS foreign related person. 

All entities have a calendar year tax year 

for U.S. tax purposes. All shares of stock 

have a fair market value of $1x, and 

each corporation has a single class of 

stock outstanding. 

Example 1. Transfer to which general rule 

applies—(i) Facts. In addition to the stock of 

USP and FS, FP owns Asset B, which has a 

fair market value of $40x. During the 

applicable period, and pursuant to an 

exchange described in section 351, FT 

transfers Asset A to FS in exchange for 50 

newly issued shares of FS stock, and FP 

transfers Asset B to FS in exchange for 40 

newly issued shares of FS stock. 

(ii) Analysis. Paragraph (f)(1) of this section 

applies to the transfer by FT (an expatriated 

foreign subsidiary) of Asset A, which is 

specified property, to FS (the transferee 

foreign corporation). Thus, FT must 

recognize gain of $40x under paragraph (f)(1) 

of this section, which is the realized gain 

with respect to Asset A that would not 

otherwise be recognized ($50x amount 

realized less $10x basis). For rules regarding 

whether the FS stock held by FT is treated 

as United States property for purposes of 

section 956, see § 1.956–2(a)(4)(i). 

Example 2. De minimis shift to non-EFS 

foreign related persons—(i) Facts. Individual, 

a United States person, owns Asset B, which 

has a fair market value of $40x. During the 

applicable period, and pursuant to an 

exchange described in section 351, FT 

transfers Asset A to FS in exchange for 50 

newly issued shares of FS stock, and 

Individual transfers Asset B to FS in 

exchange for 40 newly issued shares of FS 

stock. 

(ii) Analysis. Paragraph (f)(1) of this section 

does not apply to the transfer by FT (an 

expatriated foreign subsidiary) of Asset A, 

which is specified property, to FS (the 

transferee foreign corporation)) because the 

requirements set forth in paragraph (f)(2) of 

this section are satisfied. The requirement set 

forth in paragraph (f)(2)(i) of this section is 

satisfied because FS is a controlled foreign 

corporation immediately after the transfer. 

The requirement set forth in paragraph 

(f)(2)(ii) of this section is satisfied if the postexchange ownership percentage with respect 

to FS is at least 90 percent of the preexchange ownership percentage with respect 

to FT. Because USP, a domestic corporation 

that is an expatriated entity, directly owns 50 

shares of FT stock immediately before the 

transfer, none of those shares are treated as 

indirectly owned by FP (a non-EFS foreign 

related person) for purposes of calculating 

the pre-exchange ownership percentage with 

respect to FT. See paragraph (g)(1) of this 

section. Thus, for purposes of calculating the 

pre-exchange ownership percentage with 

respect to FT, FP is treated as directly or 

indirectly owning 0 percent, or 0 of 50 

shares, of the stock of FT. Accordingly, the 

pre-exchange ownership percentage with 

respect to FT is 100 (calculated as 100 

percent less 0 percent, the percentage of FT 

stock that non-EFS foreign related persons 

are treated as directly or indirectly owning 

immediately before the transfer). 

Consequently, for the requirement set forth in 

paragraph (f)(2)(ii) of this section to be 

satisfied, the post-exchange ownership 

percentage with respect to FS must be at least 

90. Although FP directly owns 10 FS shares, 

none of the 50 FS shares that FP owns 

through USP (a domestic corporation that is 

an expatriated entity) are treated as indirectly 

owned by FP for purposes of calculating the 

post-exchange ownership percentage with 

respect to FS because USP directly owns 

them. See paragraph (g)(1) of this section. 

Thus, for purposes of calculating the postexchange ownership percentage with respect 

to FS, FP is treated as directly or indirectly 

owning 10 percent, or 10 of 100 shares, of the 

stock of FS. As a result, the post-exchange 

ownership percentage with respect to FS is 

90 (calculated as 100 percent less 10 percent, 

the percentage of FS stock that non-EFS 

foreign related persons are treated as directly 

or indirectly owning immediately after the 

transfer). Therefore, because the postexchange ownership percentage with respect 

to FS (90) is at least 90, the requirement set 

forth in paragraph (f)(2)(ii) of this section is 

satisfied. 

(g) Definitions and special rules. In 

addition to the definitions and special 


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rules in §§ 1.367(b)–2 and 1.7874–12, 

the following definitions and special 

rules apply for purposes of this section. 

(1) Indirect ownership. To determine 

indirect ownership of the stock of a 

corporation for purposes of calculating 

a pre-exchange ownership percentage or 

post-exchange ownership percentage 

with respect to that corporation, the 

principles of section 958(a) apply 

without regard to whether an 

intermediate entity is foreign or 

domestic. For this purpose, stock of the 

corporation that is directly or indirectly 

(applying the principles of section 

958(a) without regard to whether an 

intermediate entity is foreign or 

domestic) owned by a domestic 

corporation that is an expatriated entity 

is not treated as indirectly owned by a 

non-EFS foreign related person. 

(2) A lower-tier expatriated foreign 

subsidiary means an expatriated foreign 

subsidiary whose stock is directly or 

indirectly owned (under the principles 

of section 958(a)) by an expatriated 

foreign subsidiary. 

(3) Pre-exchange ownership 

percentage means, with respect to a 

corporation, 100 percent less the 

percentage of stock (by value) in the 

corporation that, immediately before an 

exchange, is owned, in the aggregate, 

directly or indirectly by non-EFS foreign 

related persons. 

(4) Post-exchange ownership 

percentage means, with respect to a 

corporation, 100 percent less the 

percentage of stock (by value) in the 

corporation that, immediately after the 

exchange, is owned, in the aggregate, 

directly or indirectly by non-EFS foreign 

related persons. 

(5) Specified property means any 

property other than stock of a lower-tier 

expatriated foreign subsidiary. 

(6) Recapitalizations. A foreign 

corporation that undergoes a 

reorganization described in section 

368(a)(1)(E) is treated as both the foreign 

acquired corporation and the transferee 

foreign corporation. 

(7) Triangular reorganizations—(i) 

Definition. A triangular reorganization 

means a reorganization described in 

§ 1.358–6(b)(2)(i) (forward triangular 

merger), (ii) (triangular C 

reorganization), (iii) (reverse triangular 

merger), (iv) (triangular B 

reorganization), and (v) (triangular G 

reorganization). 

(ii) Special rules—(A) Triangular 

reorganizations other than a reverse 

triangular merger. In the case of a 

triangular reorganization other than a 

reverse triangular merger, the surviving 

corporation is the transferee foreign 

corporation that acquires the assets or 

stock of the foreign acquired 

corporation, and the reference to 

controlling corporation (foreign or 

domestic) is to the corporation that 

controls the surviving corporation. 

(B) Reverse triangular merger. In the 

case of a reverse triangular merger, the 

surviving corporation is the entity that 

survives the merger, and the controlling 

corporation (foreign or domestic) is the 

corporation that before the merger 

controls the merged corporation. In the 

case of a reverse triangular merger, this 

section applies only if stock of the 

foreign surviving corporation is 

exchanged for stock of a foreign 

corporation in control of the merging 

corporation; in such a case, the foreign 

surviving corporation is treated as a 

foreign acquired corporation. 

(h) Applicability date of certain 

paragraphs in this section. Except as 

otherwise provided in this paragraph 

(h), paragraphs (a), (b) introductory text, 

(b)(1)(i)(C), (d)(1), (e), (f), and (g) of this 

section apply to exchanges completed 

on or after September 22, 2014, but only 

if the inversion transaction was 

completed on or after September 22, 

2014. Paragraph (e)(1)(ii) of this section 

applies to exchanges completed on or 

after November 19, 2015, but only if the 

inversion transaction was completed on 

or after September 22, 2014. The portion 

of paragraph (e)(2)(i) of this section that 

requires the exchanging shareholder to 

be an expatriated entity or an 

expatriated foreign subsidiary apply to 

exchanges completed on or after April 4, 

2016, but only if the inversion 

transaction was completed on or after 

September 22, 2014. For inversion 

transactions completed on or after 

September 22, 2014, however, taxpayers 

may elect to apply the portion of 

paragraph (e)(2)(i) of this section that 

requires the exchanging shareholder to 

be an expatriated entity or an 

expatriated foreign subsidiary to 

exchanges completed on or after 

September 22, 2014, and before April 4, 

2016. Paragraphs (f) and (g)(5) of this 

section apply to transfers completed on 

or after April 4, 2016, but only if the 

inversion transaction was completed or 

after September 22, 2014. See 

§ 1.367(b)–4, as contained in 26 CFR 

part 1 revised as of April 1, 2016, for 

exchanges completed before September 

22, 2014. 

§ 1.367(b)–4T [Removed] 

■ Par. 7. Section 1.367(b)–4T is 

removed. 

§ 1.367(b)–6 [Amended] 

■ Par. 8. Section 1.367(b)–6 is amended 

by: 

■ 1. Removing paragraph (a)(1)(iii). 

■ 2. Redesignating paragraphs (a)(1)(iv) 

and (v) as (a)(1)(iii) and (iv), 

respectively. 

■ 3. In newly redesignated paragraph 

(a)(1)(iv), removing the language 

‘‘1.367(b)–4(a), §’’ in the first sentence 

and removing the language ‘‘§ 1.367(b)– 

4(a)’’ in the second sentence. 

■ Par. 9. Section 1.956–2 is amended 

by: 

■ 1. Revising paragraphs (a)(4), (c)(5), 

and (d)(2). 

■ 2. Adding paragraphs (f) and (h)(3) 

through (6). 

■ 3. Removing paragraph (i). 

The revisions and additions read as 

follows: 

§ 1.956–2 Definition of United States 

property. 

(a) * * * 

(4) Certain foreign stock and 

obligations held by expatriated foreign 

subsidiaries following an inversion 

transaction—(i) General rule. Except as 

provided in paragraph (a)(4)(ii) of this 

section, for purposes of section 956 and 

paragraph (a) of this section, United 

States property includes an obligation of 

a foreign person and stock of a foreign 

corporation when the following 

conditions are satisfied— 

(A) The obligation or stock is held by 

a controlled foreign corporation that is 

an expatriated foreign subsidiary, 

regardless of whether, when the 

obligation or stock was acquired, the 

acquirer was a controlled foreign 

corporation or an expatriated foreign 

subsidiary; 

(B) The foreign person or foreign 

corporation is a non-EFS foreign related 

person, regardless of whether, when the 

obligation or stock was acquired, the 

foreign person or foreign corporation 

was a non-EFS foreign related person; 

and 

(C) The obligation or stock was 

acquired— 

(1) During the applicable period; or 

(2) In a transaction related to the 

inversion transaction. 

(ii) Exceptions. For purposes of 

section 956 and paragraph (a) of this 

section, United States property does not 

include— 

(A) Any obligation of a non-EFS 

foreign related person arising in 

connection with the sale or processing 

of property if the amount of the 

obligation at no time during the taxable 

year exceeds the amount that would be 

ordinary and necessary to carry on the 

trade or business of both the other party 

to the sale or processing transaction and 

the non-EFS foreign related person had 

the sale or processing transaction been 

made between unrelated persons; and 

(B) Any obligation of a non-EFS 

foreign related person to the extent the 


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principal amount of the obligation does 

not exceed the fair market value of 

readily marketable securities sold or 

purchased pursuant to a sale and 

repurchase agreement or otherwise 

posted or received as collateral for the 

obligation in the ordinary course of its 

business by a United States or foreign 

person which is a dealer in securities or 

commodities. 

(iii) Definitions. The definitions in 

§ 1.7874–12 apply for the purposes of 

the application of paragraphs (a)(4), 

(c)(5), and (d)(2) of this section. 

(iv) Examples. The following 

examples illustrate the rules of this 

paragraph (a)(4). For purposes of the 

examples, FA, a foreign corporation, 

wholly owns DT, a domestic 

corporation, which, in turn, wholly 

owns FT, a foreign corporation that is a 

controlled foreign corporation. FA also 

wholly owns FS, a foreign corporation 

that is a controlled foreign corporation 

for its taxable year beginning January 1, 

2017, but not for prior taxable years 

except as a result of a transaction 

described in the facts of an example. All 

entities have a calendar year tax year for 

U.S. tax purposes. FA acquired DT in an 

inversion transaction that was 

completed on January 1, 2015. 

Example 1. (A) Facts. FT acquired an 

obligation of FS on January 31, 2015. 

(B) Analysis. Pursuant to § 1.7874–12, DT 

is a domestic entity, FT is an expatriated 

foreign subsidiary, and FS is a non-EFS 

foreign related person. In addition, FT 

acquired the FS obligation during the 

applicable period. Thus, as of January 31, 

2015, the obligation of FS is United States 

property with respect to FT for purposes of 

section 956(a) and this paragraph (a). 

Example 2. (A) Facts. The facts are the 

same as in Example 1 of this paragraph 

(a)(4)(iv), except that on February 15, 2015, 

FT contributed assets to FS in exchange for 

60% of the stock of FS, by vote and value. 

(B) Analysis. As a result of the transaction 

on February 15, 2015, FS became a controlled 

foreign corporation with respect to which an 

expatriated entity, DT, is a United States 

shareholder. Accordingly, under § 1.7874– 

12(a)(9), FS is an expatriated foreign 

subsidiary, and is therefore not a non-EFS 

foreign related person. Thus, as of February 

15, 2015, the stock and obligation of FS are 

not United States property with respect to FT 

for purposes of section 956(a) and this 

paragraph (a). FS is not excluded from the 

definition of expatriated foreign subsidiary 

pursuant to § 1.7874–12(a)(9)(ii) because FS 

was not a CFC on the completion date. 

Example 3. (A) Facts. Before the inversion 

transaction, FA also wholly owns USP, a 

domestic corporation, which, in turn, wholly 

owns, LFS, a foreign corporation that is a 

controlled foreign corporation. DT was not a 

United States shareholder of LFS on or before 

the completion date. On January 31, 2015, FT 

contributed assets to LFS in exchange for 

60% of the stock of LFS, by vote and value. 

FT acquired an obligation of LFS on February 

15, 2015. 

(B) Analysis. LFS is a foreign related 

person. Because LFS was a controlled foreign 

corporation and a member of the EAG with 

respect to the inversion transaction on the 

completion date, and DT was not a United 

States shareholder with respect to LFS on or 

before the completion date, LFS is excluded 

from the definition of expatriated foreign 

subsidiary pursuant to § 1.7874–12(a)(9)(ii). 

Thus, pursuant to § 1.7874–12(a)(16), LFS is 

a non-EFS foreign related person, and the 

stock and obligation of LFS are United States 

property with respect to FT for purposes of 

section 956(a) and this paragraph (a). The fact 

that FT contributed assets to LFS in exchange 

for 60% of the stock of LFS does not change 

this result. 

Example 4. (A) Facts. The facts are the 

same as in Example 3 of this paragraph 

(a)(4)(iv), except that on February 10, 2015, 

LFS organized a new foreign corporation 

(LFSS), transferred all of its assets to LFSS, 

and liquidated, in a transaction treated as a 

reorganization described in section 

368(a)(1)(F), and FT acquired an obligation of 

LFSS, instead of LFS, on February 15, 2015. 

On March 1, 2015, LFSS acquired an 

obligation of FS. 

(B) Analysis. LFS is a controlled foreign 

corporation with respect to which USP, an 

expatriated entity, is a United States 

shareholder. USP is an expatriated entity 

because on the completion date, USP and DT 

became related to each other within the 

meaning of section 267(b). Because LFSS was 

not a member of the EAG with respect to the 

inversion transaction on the completion date, 

LFSS is not excluded from the definition of 

expatriated foreign subsidiary pursuant to 

§ 1.7874–12(a)(9)(ii). Accordingly, under 

§ 1.7874–12(a)(9)(i), LFFS is an expatriated 

foreign subsidiary and is therefore not a nonEFS foreign related person. Thus, the stock 

and obligation of LFSS are not United States 

property with respect to FT for purposes of 

section 956(a) and paragraph (a) of this 

section. However, because LFSS is an 

expatriated foreign subsidiary, pursuant to 

§ 1.7874–12(a)(9), the obligation of FS, a nonEFS foreign related person, is United States 

property with respect to LFSS for purposes 

of section 956(a) and this paragraph (a). 

* * * * * 

(c) * * * 

(5) Special guarantee and pledge rule 

for expatriated foreign subsidiaries—(i) 

General rule. In applying paragraphs 

(c)(1) and (2) of this section to a 

controlled foreign corporation that is an 

expatriated foreign subsidiary, the 

phrase ‘‘of a United States person or a 

non-EFS foreign related person’’ is 

substituted for the phrase ‘‘of a United 

States person’’ each place it appears. 

(ii) Additional rules. The rule in 

paragraph (c)(5)(i) of this section— 

(A) Applies regardless of whether, 

when the pledge or guarantee was 

entered into or treated as entered into, 

the controlled foreign corporation was a 

controlled foreign corporation or an 

expatriated foreign subsidiary, or a 

foreign person whose obligation is 

subject to the pledge or guarantee, or 

deemed pledge or guarantee, was a nonEFS foreign related person; and 

(B) Applies to pledges or guarantees 

entered into, or treated pursuant to 

paragraph (c)(2) of this section as 

entered into— 

(1) During the applicable period; or 

(2) In a transaction related to the 

inversion transaction. 

(d) * * * 

(2) Obligation defined. For purposes 

of section 956 and this section, the term 

‘‘obligation’’ includes any bond, note, 

debenture, certificate, bill receivable, 

account receivable, note receivable, 

open account, or other indebtedness, 

whether or not issued at a discount and 

whether or not bearing interest, except 

that the term does not include— 

(i) Any indebtedness arising out of the 

involuntary conversion of property 

which is not United States property 

within the meaning of paragraph (a) of 

this section; 

(ii) Any obligation of a United States 

person (as defined in section 957(c)) 

arising in connection with the provision 

of services by a controlled foreign 

corporation to the United States person 

if the amount of the obligation 

outstanding at any time during the 

taxable year of the controlled foreign 

corporation does not exceed an amount 

which would be ordinary and necessary 

to carry on the trade or business of the 

controlled foreign corporation and the 

United States person if they were 

unrelated. The amount of the 

obligations shall be considered to be 

ordinary and necessary to the extent of 

such receivables that are paid within 60 

days; 

(iii) Any obligation of a non-EFS 

foreign related person arising in 

connection with the provision of 

services by an expatriated foreign 

subsidiary to the non-EFS foreign 

related person if the amount of the 

obligation outstanding at any time 

during the taxable year of the 

expatriated foreign subsidiary does not 

exceed an amount which would be 

ordinary and necessary to carry on the 

trade or business of the expatriated 

foreign subsidiary and the non-EFS 

foreign related person if they were 

unrelated. The amount of the 

obligations shall be considered to be 

ordinary and necessary to the extent of 

such receivables that are paid within 60 

days; or 

(iv) Any obligation of a United States 

person (as defined in section 957(c)) 

that is collected within 30 days from the 

time it is incurred (a 30-day obligation), 

unless the controlled foreign 

corporation that holds the 30-day 


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obligation holds for 60 or more calendar 

days during the taxable year in which it 

holds the 30-day obligation any 

obligations which, without regard to the 

exclusion described in this paragraph 

(d)(2)(iv), would constitute United 

States property within the meaning of 

section 956 and paragraph (a) of this 

section. 

* * * * * 

(f) [Reserved]. For further guidance, 

see § 1.956–2T(f). 

* * * * * 

(h) * * * 

(3) Except as otherwise provided in 

this paragraph (h)(3), paragraphs (a)(4) 

and (c)(5) of this section apply to 

obligations or stock acquired or to 

pledges or guarantees entered into, or 

treated as entered into, on or after 

September 22, 2014, but only if the 

inversion transaction was completed on 

or after September 22, 2014. The phrase 

‘‘, regardless of whether, when the 

obligation or stock was acquired, the 

acquirer was a controlled foreign 

corporation or an expatriated foreign 

subsidiary’’ in paragraph (a)(4)(i)(A) of 

this section, the phrase ‘‘regardless of 

whether, when the obligation or stock 

was acquired, the foreign person or 

foreign corporation was a non-EFS 

foreign related person’’ in paragraph 

(a)(4)(i)(B) of this section, and 

paragraphs (a)(4)(i)(C)(2), (c)(5)(ii)(A), 

and (c)(5)(ii)(B)(2) of this section apply 

to obligations or stock acquired or 

pledges or guarantees entered into or 

treated as entered into on or after April 

4, 2016, but only if the inversion 

transaction was completed on or after 

September 22, 2014. Paragraph (a)(4)(ii) 

of this section applies to obligations 

acquired on or after April 4, 2016. For 

inversion transactions completed on or 

after September 22, 2014, however, 

taxpayers may elect to apply paragraph 

(a)(4)(ii) of this section to an obligation 

acquired before April 4, 2016. For 

purposes of paragraph (a)(4)(i) of this 

section and this paragraph (h)(3), a 

deemed exchange of an obligation or 

stock pursuant to section 1001 

constitutes an acquisition of the 

obligation or stock. For purposes of 

paragraph (c)(5) of this section and this 

paragraph (h)(3), a pledgor or guarantor 

or deemed pledgor or guarantor is 

treated as entering into a pledge or 

guarantee when there is a significant 

modification, within the meaning of 

§ 1.1001–3(e), of an obligation with 

respect to which it is a pledgor or 

guarantor or is treated as a pledgor or 

guarantor. 

(4) Paragraphs (d)(2)(i) and (ii) of this 

section are effective June 14, 1988, with 

respect to investments made on or after 

June 14, 1988. 

(5) Paragraph (d)(2)(iii) of this section 

applies to obligations acquired on or 

after April 4, 2016, but only if the 

inversion transaction was completed on 

or after September 22, 2014. For 

inversion transactions completed on or 

after September 22, 2014, however, 

taxpayers may elect to apply paragraph 

(d)(2)(iii) of this section to an obligation 

acquired on or after September 22, 2014, 

and before April 4, 2016. For purposes 

of paragraph (d)(2)(iii) of this section 

and this paragraph (h)(5), a significant 

modification, within the meaning of 

§ 1.1001–3(e), of an obligation on or 

after April 4, 2016, constitutes an 

acquisition of an obligation on or after 

April 4, 2016. 

(6) Paragraph (d)(2)(iv) of this section 

applies to obligations held on or after 

September 16, 1988. See § 1.956– 

2T(d)(2)(v), as contained in 26 CFR part 

1 revised as of April 1, 2017, for 

additional rules applicable to certain 

taxable years of a foreign corporation 

beginning before January 1, 2011. 

■ Par. 10. Section 1.956–2T is amended 

by: 

■ 1. Removing and reserving paragraph 

(a)(4). 

■ 2. Revising paragraphs (b)(2) through 

(c)(4). 

■ 3. Removing and reserving paragraphs 

(c)(5) and (d)(2). 

■ 4. Removing paragraphs (i) and (j). 

The revisions read as follows: 

§ 1.956–2T Definition of United States 

property (temporary). 

* * * * * 

(b)(2) through (c)(4). [Reserved] For 

further guidance, see § 1.956–2(b)(2) 

through (c)(4). 

* * * * * 

■ Par. 11. Section 1.7701(l)–4 is added 

to read as follows: 

§ 1.7701(l)–4 Rules regarding inversion 

transactions. 

(a) Overview. This section provides 

rules applicable to United States 

shareholders of controlled foreign 

corporations after certain inversion 

transactions. Paragraph (b) of this 

section defines specified transactions 

and provides the scope of the rules in 

this section. Paragraph (c) of this section 

provides rules recharacterizing certain 

specified transactions. Paragraph (d) of 

this section sets forth rules governing 

transactions that affect the stock of an 

expatriated foreign subsidiary following 

a recharacterized specified transaction. 

Paragraph (e) of this section sets forth a 

rule concerning the treatment of 

amounts included in income as a result 

of a specified transaction as foreign 

personal holding company income. 

Paragraph (f) of this section sets forth 

definitions that apply for purposes of 

this section. Paragraph (g) of this section 

sets forth examples illustrating these 

rules. Paragraph (h) of this section 

provides applicability dates. See 

§ 1.367(b)–4(e) and (f) for rules 

concerning certain other exchanges after 

an inversion transaction. See also 

§ 1.956–2(a)(4), (c)(5), and (d)(2) for 

additional rules applicable to United 

States property held by controlled 

foreign corporations after an inversion 

transaction. 

(b) Specified transaction—(1) In 

general. Except as provided in 

paragraph (b)(2) of this section, 

paragraph (c) of this section applies to 

specified transactions. For purposes of 

this section, a specified transaction is, 

with respect to an expatriated foreign 

subsidiary, a transaction in which stock 

of the expatriated foreign subsidiary is 

issued or transferred to a person that 

immediately before the issuance or 

transfer is a specified related person, 

provided the transaction occurs during 

the applicable period. However, a 

specified transaction does not include a 

transaction in which stock of the 

expatriated foreign subsidiary is deemed 

issued pursuant to section 304. 

(2) Exceptions. Paragraph (c) of this 

section does not apply to a specified 

transaction— 

(i) That is a fast-pay arrangement that 

is recharacterized under § 1.7701(l)– 

3(c)(2); 

(ii) In which the specified stock was 

transferred by a shareholder of the 

expatriated foreign subsidiary, and the 

shareholder either— 

(A) Pursuant to § 1.367(b)–4(e)(1), 

both— 

(1) Included in gross income as a 

deemed dividend the section 1248 

amount attributable to the specified 

stock; and 

(2) After taking into account the 

increase in basis provided in § 1.367(b)– 

2(e)(3)(ii) resulting from the deemed 

dividend (if any), recognized all realized 

gain with respect to the stock that 

otherwise would not have been 

recognized; or 

(B) Included in gross income all of the 

gain recognized on the transfer of the 

specified stock (including gain included 

in gross income as a dividend pursuant 

to section 964(e), section 1248(a), or 

section 356(a)(2)); or 

(iii) In which— 

(A) Immediately after the specified 

transaction and any related transaction, 

the expatriated foreign subsidiary is a 

controlled foreign corporation; 

(B) The post-transaction ownership 

percentage with respect to the 


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expatriated foreign subsidiary is at least 

90 percent of the pre-transaction 

ownership percentage with respect to 

the expatriated foreign subsidiary; and 

(C) The post-transaction ownership 

percentage with respect to any lowertier expatriated foreign subsidiary is at 

least 90 percent of the pre-transaction 

ownership percentage with respect to 

the lower-tier expatriated foreign 

subsidiary. See Example 3 and Example 

4 of paragraph (g) of this section. 

(c) Recharacterization of specified 

transactions—(1) In general. Except as 

otherwise provided, a specified 

transaction that is recharacterized under 

this paragraph (c) is recharacterized for 

all purposes of the Internal Revenue 

Code as of the date on which the 

specified transaction occurs, unless and 

until the rules of paragraph (d) of this 

section apply to alter or terminate the 

recharacterization. For purposes of 

paragraphs (c)(2) and (3) and (d) of this 

section, stock is considered owned by a 

section 958(a) U.S. shareholder if it is 

owned within the meaning of section 

958(a) by the section 958(a) U.S. 

shareholder. 

(2) Specified transactions through 

stock issuance. A specified transaction 

in which the specified stock is issued by 

an expatriated foreign subsidiary to a 

specified related person is 

recharacterized as follows— 

(i) The transferred property is treated 

as having been transferred by the 

specified related person to the persons 

that were section 958(a) U.S. 

shareholders of the expatriated foreign 

subsidiary immediately before the 

specified transaction, in proportion to 

the stock of the expatriated foreign 

subsidiary owned by each section 958(a) 

U.S. shareholder, in exchange for 

deemed instruments in the section 

958(a) U.S. shareholders; and 

(ii) The transferred property treated as 

transferred to the section 958(a) U.S. 

shareholders pursuant to paragraph 

(c)(2)(i) of this section is treated as 

having been contributed by the section 

958(a) U.S. shareholders (through 

intermediate entities, if any, in 

exchange for equity in the intermediate 

entities) to the expatriated foreign 

subsidiary in exchange for deemed 

issued stock in the expatriated foreign 

subsidiary. See Example 1, Example 2, 

and Example 6 of paragraph (g) of this 

section. 

(3) Specified transactions through 

shareholder transfer. A specified 

transaction in which specified stock is 

transferred by shareholders of the 

expatriated foreign subsidiary to a 

specified related person is 

recharacterized as follows— 

(i) The transferred property is treated 

as having been transferred by the 

specified related person to the persons 

that were section 958(a) U.S. 

shareholders of the expatriated foreign 

subsidiary immediately before the 

specified transaction, in proportion to 

the specified stock owned by each 

section 958(a) U.S. shareholder, in 

exchange for deemed instruments in the 

section 958(a) U.S. shareholders; and 

(ii) To the extent the section 958(a) 

U.S. shareholders are not the 

transferring shareholders, the 

transferred property treated as 

transferred to the section 958(a) U.S. 

shareholders pursuant to paragraph 

(c)(3)(i) of this section is treated as 

having been contributed by the section 

958(a) U.S. shareholders (through 

intermediate entities, if any, in 

exchange for equity in the intermediate 

entities) to the transferring shareholder 

in exchange for equity in the 

transferring shareholder. See Example 5 

of paragraph (g) of this section. 

(4) Treatment of deemed instruments 

following a recharacterized specified 

transaction—(i) Deemed instruments. 

The deemed instruments described in 

paragraphs (c)(2) and (3) of this section 

have the same terms as the specified 

stock issued or transferred pursuant to 

the specified transaction (that is, the 

disregarded specified stock), other than 

the issuer. When a distribution is made 

with respect to the disregarded specified 

stock, matching seriatim distributions 

with respect to the deemed issued stock 

are treated as made by the expatriated 

foreign subsidiary, through intermediate 

entities, if any, to the section 958(a) U.S. 

shareholders, which, in turn, then are 

treated as making corresponding 

payments with respect to the deemed 

instruments to the specified related 

person. 

(ii) Paying agent. The expatriated 

foreign subsidiary is treated as the 

paying agent of the section 958(a) U.S. 

shareholder with respect to the deemed 

instruments treated as issued by the 

section 958(a) U.S. shareholder to the 

specified related person. 

(d) Transactions affecting ownership 

of stock of an expatriated foreign 

subsidiary following a recharacterized 

specified transaction—(1) Transfers of 

stock other than specified stock. When, 

after a specified transaction with respect 

to an expatriated foreign subsidiary that 

is recharacterized under paragraph (c)(2) 

or (3) of this section, stock of the 

expatriated foreign subsidiary, other 

than disregarded specified stock, that is 

owned by a section 958(a) U.S. 

shareholder is transferred, the deemed 

issued stock treated as owned by the 

section 958(a) U.S. shareholder as a 

result of the specified transaction 

continues to be treated as directly 

owned by the holder, as are the deemed 

instruments treated as issued to the 

specified related person as a result of 

the specified transaction. 

(2) Transactions in which the 

expatriated foreign subsidiary ceases to 

be a foreign related person. When, after 

a specified transaction with respect to 

an expatriated foreign subsidiary that is 

recharacterized under paragraph (c)(2) 

or (3) of this section, there is a 

transaction that affects the ownership of 

the stock (including disregarded 

specified stock) of the expatriated 

foreign subsidiary, and, immediately 

after the transaction, the expatriated 

foreign subsidiary is not a foreign 

related person (determined without 

taking into account the 

recharacterization under paragraph 

(c)(2) or (3) of this section), then, 

immediately before the transaction— 

(i) Each section 958(a) U.S. 

shareholder that is treated as owning 

deemed issued stock in the expatriated 

foreign subsidiary under paragraph 

(c)(2) or (3) of this section is treated as 

transferring the deemed issued stock 

(after the deemed issued stock is 

deemed to be transferred to the section 

958(a) U.S. shareholder through 

intermediate entities, if any, in 

redemption of equity deemed issued by 

the intermediate entities pursuant to 

paragraph (c)(2) or (3) of this section) to 

the specified related person that is 

treated as holding the deemed 

instruments issued by the section 958(a) 

U.S. shareholder under paragraph (c)(2) 

or (3) of this section, in redemption of 

the deemed instruments; and 

(ii) The deemed issued stock that is 

treated as transferred pursuant to 

paragraph (d)(2)(i) of this section is 

treated as recapitalized into the 

disregarded specified stock actually 

held by the specified related person, 

which immediately thereafter is treated 

as specified stock owned by the 

specified related person for all purposes 

of the Internal Revenue Code. See 

Example 8, Example 9, and Example 12 

of paragraph (g) of this section. 

(3) Transfers in which disregarded 

specified stock ceases to be held by a 

foreign related person, specified related 

person, or expatriated entity. When, 

after a specified transaction with respect 

to an expatriated foreign subsidiary that 

is recharacterized under paragraph (c)(2) 

or (3) of this section, there is a direct or 

indirect transfer of the disregarded 

specified stock in the expatriated 

foreign subsidiary, and immediately 

after the transfer, the expatriated foreign 

subsidiary is a foreign related person, 

then, to the extent that, as a result of the 


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transfer, the disregarded specified stock 

is actually held (determined without 

taking into account the 

recharacterization under paragraph 

(c)(2) or (3) of this section) by a person 

that is not a foreign related person, a 

specified related person, or an 

expatriated entity, immediately before 

the transfer— 

(i) Each section 958(a) U.S. 

shareholder that is treated as owning all 

or a portion of the deemed issued stock 

in the expatriated foreign subsidiary is 

treated as transferring the deemed 

issued stock that is allocable to the 

transferred disregarded specified stock 

that is out-of-group transferred 

disregarded specified stock (after the 

deemed issued stock is deemed to be 

transferred to the section 958(a) U.S. 

shareholder through intermediate 

entities, if any, in redemption of equity 

deemed issued by the intermediate 

entities pursuant to paragraph (c)(2) or 

(3) of this section) to the specified 

related person that is treated as holding 

the deemed instruments allocable to the 

out-of-group transferred disregarded 

specified stock, in redemption of the 

deemed instruments that are allocable to 

the out-of-group transferred disregarded 

specified stock; and 

(ii) The deemed issued stock that is 

treated as transferred pursuant to 

paragraph (d)(3)(i) of this section is 

treated as recapitalized into the 

disregarded specified stock actually 

held by the specified related person, 

which immediately thereafter is treated 

as specified stock owned by the 

specified related person for all purposes 

of the Internal Revenue Code. See 

Example 7 and Example 11 of paragraph 

(g) of this section. 

(4) Certain direct transfers of 

disregarded specified stock to which 

unwind rules do not apply. When a 

specified related person directly 

transfers the disregarded specified stock 

of the expatriated foreign subsidiary and 

paragraphs (d)(2) and (3) of this section 

do not apply with respect to the 

transfer, the specified related person is 

deemed to transfer the deemed 

instruments allocable to the transferred 

disregarded specified stock, whether it 

is in-group transferred disregarded 

specified stock or out-of-group 

transferred disregarded specified stock, 

to the transferee of the specified stock, 

in lieu of the disregarded specified 

stock, in exchange for the consideration 

provided by the transferee for the 

disregarded specified stock. See 

Example 10 of paragraph (g) of this 

section. 

(5) Determination of deemed issued 

stock and deemed instruments allocable 

to transferred disregarded specified 

stock—(i) Out-of-group transfers of 

disregarded specified stock. For 

purposes of paragraphs (d)(3) and (4) of 

this section, the portion of the deemed 

issued stock treated as owned, and of 

the deemed instruments treated as 

issued, by each section 958(a) U.S. 

shareholder as a result of the specified 

transaction that is allocable to out-ofgroup transferred disregarded specified 

stock is the amount that is proportionate 

to the ratio of the amount of the out-ofgroup transferred disregarded specified 

stock to the amount of disregarded 

specified stock of the expatriated foreign 

subsidiary that is actually held by the 

specified related person immediately 

before the transfer referred to in 

paragraph (d)(3) or (4) of this section as 

a result of the specified transaction. 

(ii) In-group direct transfers of 

disregarded specified stock. For 

purposes of paragraph (d)(4) of this 

section, the portion of the deemed 

issued stock treated as owned by each 

section 958(a) U.S. shareholder as a 

result of the specified transaction that is 

allocable to in-group transferred 

disregarded specified stock is the 

amount that is proportionate to the ratio 

of the amount of the in-group 

transferred disregarded specified stock 

to the amount of disregarded specified 

stock of the expatriated foreign 

subsidiary that is actually held by the 

specified related person immediately 

before the transfer described in 

paragraph (d)(4) of this section as a 

result of the specified transaction. 

(e) Certain exception from foreign 

personal holding company income not 

available. An amount included in the 

gross income of a controlled foreign 

corporation as a dividend with respect 

to stock transferred in a specified 

transaction does not qualify for the 

exception from foreign personal holding 

company income provided by section 

954(c)(6) (to the extent in effect). 

(f) Definitions. In addition to the 

definitions in § 1.7874–12, the following 

definitions and special rules apply for 

purposes of this section: 

(1) Deemed instruments mean, with 

respect to a specified transaction, 

instruments deemed issued by a section 

958(a) U.S. shareholder in exchange for 

transferred property in the specified 

transaction. 

(2) Deemed issued stock means, with 

respect to a specified transaction, stock 

of an expatriated foreign subsidiary 

deemed issued to a section 958(a) U.S. 

shareholder (or an intermediate entity) 

in the specified transaction. 

(3) Disregarded specified stock means, 

with respect to a specified transaction, 

specified stock that is actually held by 

a specified related person but that is 

disregarded for all purposes of the 

Internal Revenue Code pursuant to 

paragraph (c)(2) or (3) of this section. 

(4) Indirect ownership. To determine 

indirect ownership of the stock of a 

corporation for purposes of calculating 

a pre-transaction ownership percentage 

or post-transaction ownership 

percentage with respect to that 

corporation, the principles of section 

958(a) apply without regard to whether 

an intermediate entity is foreign or 

domestic. For this purpose, stock of the 

corporation that is directly or indirectly 

(applying the principles of section 

958(a) without regard to whether an 

intermediate entity is foreign or 

domestic) owned by a domestic 

corporation that is an expatriated entity 

is not treated as indirectly owned by a 

non-EFS foreign related person. 

(5) In-group transferred disregarded 

specified stock means disregarded 

specified stock that is directly 

transferred to a foreign related person, a 

specified related person, or an 

expatriated entity. 

(6) A lower-tier expatriated foreign 

subsidiary means an expatriated foreign 

subsidiary, stock of which is directly or 

indirectly owned by an expatriated 

foreign subsidiary. 

(7) Out-of-group transferred 

disregarded specified stock means 

disregarded specified stock that, as a 

result of a transfer of disregarded 

specified stock, is actually held by a 

person that is not a foreign related 

person, a specified related person, or an 

expatriated entity. 

(8) Pre-transaction ownership 

percentage means, with respect to a 

corporation, 100 percent less the 

percentage of stock (by value) in the 

corporation that, immediately before a 

specified transaction and any related 

transaction, is owned, in the aggregate, 

directly or indirectly by non-EFS foreign 

related persons. 

(9) Post-transaction ownership 

percentage means, with respect to a 

corporation, 100 percent less the 

percentage of stock (by value) in the 

corporation that, immediately after the 

specified transaction and any related 

transaction, is owned, in the aggregate, 

directly or indirectly by non-EFS foreign 

related persons. 

(10) A section 958(a) U.S. shareholder 

means, with respect to an expatriated 

foreign subsidiary, a United States 

shareholder with respect to the 

expatriated foreign subsidiary that owns 

(within the meaning of section 958(a)) 

stock of the expatriated foreign 

subsidiary and that is an expatriated 

entity. 

(11) Specified stock means the stock 

of the expatriated foreign subsidiary that 


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is issued or transferred to a specified 

related person in a specified transaction. 

(12) Transferred property means the 

property transferred by the specified 

related person in exchange for specified 

stock in a specified transaction. 

(g) Examples. The following examples 

illustrate the regulations described in 

this section. Except as otherwise 

provided, FA, a foreign corporation, 

wholly owns DT, a domestic 

corporation, which, in turn, wholly 

owns FT, a foreign corporation that is a 

controlled foreign corporation. FA also 

wholly owns FS, a foreign corporation 

that is a controlled foreign corporation 

for its taxable year beginning January 1, 

2017, but not for prior taxable years. FA 

acquired DT in an inversion transaction 

that was completed on January 1, 2015. 

Accordingly, DT is the domestic entity 

and a section 958(a) U.S. shareholder 

with respect to FT, FT is an expatriated 

foreign subsidiary, and FA and FS are 

non-EFS foreign related persons and 

specified related persons. All entities 

have a calendar year tax year for U.S. 

tax purposes. 

Example 1. (i) Facts. On February 1, 2015, 

FA acquires $6x of FT stock, representing 

60% of the total voting power and value of 

the stock of FT, from FT in a stock issuance, 

in exchange for $6x of cash. 

(ii) Analysis. (A) Under paragraph (b) of 

this section, FA’s acquisition of the FT 

specified stock from FT is a specified 

transaction because stock of an expatriated 

foreign subsidiary was issued to a specified 

related person (FA) during the applicable 

period. Furthermore, the exceptions to 

recharacterization in paragraph (b)(2) of this 

section do not apply to the transaction. 

(B) FA’s acquisition of the FT specified 

stock is recharacterized under paragraphs 

(c)(1) and (2) of this section as follows, with 

the result that FT continues to be a CFC even 

before its taxable year beginning January 1, 

2017: 

(1) DT is treated as having issued deemed 

instruments to FA in exchange for $6x of 

cash. 

(2) DT is treated as having contributed the 

$6x of cash to FT in exchange for deemed 

issued stock of FT. 

(C) Under paragraph (c)(4)(i) of this 

section, any distribution with respect to the 

FT specified stock issued to FA will be 

treated as a distribution to DT, which, in 

turn, will be treated as making a matching 

distribution with respect to the deemed 

instruments that DT is treated as having 

issued to FA. Under paragraph (c)(4)(ii) of 

this section, FT is treated as the paying agent 

of DT with respect to the deemed 

instruments issued by DT to FA. 

Example 2. (i) Facts. DT owns stock of FT 

representing 60% of the total voting power 

and value of the stock of FT, and the 

remaining stock of FT, representing 40% of 

the total voting power and value, is owned 

by USP, a domestic corporation that is not an 

expatriated entity. On February 1, 2015, FA 

acquires $6x of FT stock, representing 60% 

of the total voting power and value of the 

stock of FT, from FT in a stock issuance, in 

exchange for $6x of cash. 

(ii) Analysis. (A) Under paragraph (b) of 

this section, FA’s acquisition of the FT 

specified stock from FT is a specified 

transaction because stock of an expatriated 

foreign subsidiary was issued to a specified 

related person (FA) during the applicable 

period. Furthermore, the exceptions to 

recharacterization in paragraph (b)(2) of this 

section do not apply to the transaction. 

(B) FA’s acquisition of the FT specified 

stock is recharacterized under paragraphs 

(c)(1) and (2) of this section as follows, with 

the result that FT continues to be a CFC even 

before its taxable year beginning January 1, 

2017: 

(1) DT is treated as having issued deemed 

instruments to FA in exchange for $6x of 

cash. 

(2) DT is treated as having contributed the 

$6x of cash to FT in exchange for deemed 

issued stock of FT. 

(3) DT is treated as owning $8.40x of the 

stock of FT, representing 84% of the total 

voting power and value of the stock of FT. 

USP owns $1.60x of the stock of FT, 

representing 16% of the total voting power 

and value of the stock of FT. 

(C) Under paragraph (c)(4)(i) of this 

section, any distribution with respect to the 

FT specified stock issued to FA will be 

treated as a distribution to DT, which, in 

turn, will be treated as making a matching 

distribution with respect to the deemed 

instruments that DT is treated as having 

issued to FA. Under paragraph (c)(4)(ii) of 

this section, FT is treated as the paying agent 

of DT with respect to the deemed 

instruments issued by DT to FA. 

Example 3. (i) Facts. DT owns stock of FT 

representing 50% of the total voting power 

and value of the $8x of stock of FT 

outstanding, and the remaining stock of FT, 

representing 50% of the total voting power 

and value, is owned by USP, a domestic 

corporation that is not an expatriated entity. 

On April 30, 2016, FA and USP each 

simultaneously acquire $1x of FT stock from 

FT in a stock issuance, in exchange for $1x 

of cash each. 

(ii) Analysis. (A) Under paragraph (b) of 

this section, FA’s acquisition of the FT 

specified stock from FT is a specified 

transaction because stock of an expatriated 

foreign subsidiary was issued to a specified 

related person (FA) during the applicable 

period. 

(B) However, the specified transaction is 

not recharacterized under paragraphs (c)(1) 

and (2) of this section because the exception 

in paragraph (b)(2)(iii) of this section applies. 

The exception applies because FT remains a 

controlled foreign corporation immediately 

after the specified transaction and any related 

transaction, and the post-transaction 

ownership percentage with respect to FT is 

90% (90%/100%), or at least 90%, of the pretransaction ownership percentage with 

respect to FT. The rule in paragraph 

(b)(2)(iii)(C) of this section does not apply 

because there is no lower-tier expatriated 

foreign subsidiary. Although FA (a non-EFS 

foreign related person) indirectly owns $4x of 

FT stock both immediately before and after 

the specified transaction and any related 

transaction, all of that stock is directly owned 

by DT (a domestic corporation), and as a 

result, under paragraph (f)(4) of this section, 

none of that stock is treated as directly or 

indirectly owned by FA for purposes of 

calculating the pre-transaction ownership 

percentage and the post-transaction 

ownership percentage with respect to FT. 

Accordingly, under paragraph (f)(8) of this 

section, the pre-transaction ownership 

percentage with respect to FT (100% less the 

percentage of stock (by value) in FT that, 

immediately before the specified transaction 

with respect to FT and any related 

transaction, is owned by non-EFS foreign 

related persons) is 100 (100%¥0%). Under 

paragraph (f)(9) of this section, the posttransaction ownership percentage with 

respect to FT (100% less the percentage of 

stock (by value) in FT that, immediately after 

the specified transaction with respect to FT 

and any related transaction, is owned by nonEFS foreign related persons) is 90 

(100%¥10% ($1x/$10x)). 

Example 4. (i) Facts. On February 1, 2015, 

FA acquires 60% of the FT stock owned by 

DT in exchange for $2.40x of cash in a fully 

taxable transaction. DT recognizes and 

includes in income all of the gain (including 

any gain treated as a deemed dividend 

pursuant to section 1248(a)) with respect to 

the FT stock transferred to FA. 

(ii) Analysis. (A) Under paragraph (b) of 

this section, FA’s acquisition of the FT 

specified stock is a specified transaction 

because stock of an expatriated foreign 

subsidiary was transferred to a specified 

related person (FA) during the applicable 

period. 

(B) However, the specified transaction is 

not recharacterized under paragraphs (c)(1) 

and (c)(3) of this section because the 

exception in paragraph (b)(2)(ii) of this 

section applies. The exception applies 

because DT recognizes and includes in 

income all of the gain (including any gain 

treated as a deemed dividend pursuant to 

section 1248(a)) with respect to the FT 

specified stock transferred to FA. 

Example 5. (i) Facts. On February 1, 2015, 

DT and FA organize FPRS, a foreign 

partnership, with nominal capital. DT 

transfers all of the stock of FT to FPRS in 

exchange for 40% of the capital and profits 

interests in the partnership. Furthermore, FA 

contributes property to FPRS in exchange for 

the other 60% of the capital and profits 

interests. 

(ii) Analysis. (A) Under paragraph (b) of 

this section, DT’s transfer of the FT specified 

stock is a specified transaction, because stock 

of an expatriated foreign subsidiary was 

transferred to a specified related person 

(FPRS) during the applicable period. The 

exceptions to recharacterization in paragraph 

(b)(2) of this section do not apply to the 

transaction. 

(B) DT’s transfer of the FT specified stock 

is recharacterized under paragraphs (c)(1) 

and (c)(3) of this section as follows, with the 

result that FT continues to be a CFC even 

before its taxable year beginning January 1, 

2017: 

(1) FPRS is treated as having issued 40% 

of its capital and profits interests to DT in 


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exchange for deemed instruments treated as 

having been issued by DT. 

(2) DT is treated as continuing to own all 

of the stock of FT, as well as the FPRS 

interests. 

(C) Under paragraph (c)(4)(i) of this 

section, any distribution with respect to the 

FT specified stock transferred to FPRS will 

be treated as a distribution to DT, which, in 

turn, will be treated as making a matching 

distribution with respect to the deemed 

instruments that DT is treated as having 

issued to FPRS. Under paragraph (c)(4)(ii) of 

this section, FT is treated as the paying agent 

of DT with respect to the deemed 

instruments issued by DT to FPRS. 

Example 6. (i) Facts. DT wholly owns FT2, 

a foreign corporation that is a controlled 

foreign corporation. FT and FT2 each own 

50% of the capital and profits interests in 

DPRS, a domestic partnership. DPRS wholly 

owns FT3, a foreign corporation that is a 

controlled foreign corporation. FT2 and FT3 

are expatriated foreign subsidiaries. On April 

30, 2016, FS acquires $9x of the stock of each 

of FT and FT2, representing 9% of the total 

voting power and value of the stock of FT 

and FT2, from FT and FT2, respectively, in 

a stock issuance, in exchange for cash of $9x 

each. Also on April 30, 2016, in a related 

transaction, FS acquires $9x of the stock of 

FT3, representing 9% of the total voting 

power and value of the stock of FT3, from 

FT3 in a stock issuance, in exchange for cash 

of $9x. 

(ii) Analysis. (A) Under paragraph (b) of 

this section, the acquisitions by FS of the 

specified stock of each of FT, FT2, and FT3 

from FT, FT2, and FT3 are specified 

transactions with respect to each of FT, FT2, 

and FT3, respectively, because stock of an 

expatriated foreign subsidiary was issued to 

a specified related person (FS) during the 

applicable period. 

(B) If FS had acquired only stock of FT and 

FT2, and had not acquired stock of FT3 in 

a related transaction, the specified 

transactions resulting from the acquisitions 

with respect to FT and FT2 would not have 

been recharacterized under paragraphs (c)(1) 

and (2) of this section, because the exception 

from recharacterization in paragraph 

(b)(2)(iii) of this section would have applied. 

FT and FT2 remain controlled foreign 

corporations immediately after each specified 

transaction and any related transaction. 

Under paragraph (f)(9) of this section, the 

post-transaction ownership percentage with 

respect to each of FT, FT2, and FT3 (a lowertier expatriated foreign subsidiary of FT and 

FT2) would have been 91% ((100%¥9%)/ 

(100%¥0%)), or at least 90%, of the pretransaction ownership percentage 

determined under paragraph (f)(8) of this 

section with respect to each of FT, FT2, and 

FT3 (100%). 

(C) However, for the specified transactions 

with respect to FT, FT2, and FT3, the posttransaction ownership percentage 

determined under paragraph (f)(9) of this 

section with respect to FT3 (the lower-tier 

expatriated foreign subsidiary of FT and 

FT2), 100% less the percentage of stock (by 

value) in FT3 that, immediately after each of 

the specified transactions with respect to 

each of FT and FT2 and any related 

transaction, is owned by the non-EFS foreign 

related persons, is 82.81 (100% ¥ (9% × 

50% × 91%)¥(9% × 50% × 91%)¥9%). 

Accordingly, the post-transaction ownership 

percentage with respect to FT3 is 82.81% 

(82.81/(100%¥0%)), which is less than 90%, 

of the pre-transaction ownership percentage 

determined under paragraph (f)(8) of this 

section with respect to FT3. Thus, the 

exception from recharacterization in 

paragraph (b)(2)(iii) of this section does not 

apply with respect to the specified 

transactions with respect to FT, FT2, or FT3. 

(D) The specified transactions with respect 

to FT and FT2 are recharacterized under 

paragraphs (c)(1) and (2) of this section as 

follows: 

(1) DT is treated as having issued 2 deemed 

instruments worth $9x each to FA in 

exchange for $18x ($9x + $9x) of cash. 

(2) DT is treated as having contributed $9x 

of cash to each of FT and FT2 in exchange 

for deemed issued stock of FT and FT2. 

(3) DT is treated as continuing to own all 

of the stock of FT and FT2. 

(E) Under paragraph (c)(4)(i) of this section, 

any distribution with respect to the FT and 

FT2 specified stock issued to FS will be 

treated as a distribution to DT, which, in 

turn, will be treated as making a matching 

distribution with respect to the deemed 

instruments that DT is treated as having 

issued to FS. Under paragraph (c)(4)(ii) of 

this section, FT and FT2 are treated as the 

paying agents of DT with respect to the 

deemed instruments issued by DT to FS. 

(F) The specified transaction with respect 

to FT3 is recharacterized under paragraphs 

(c)(1) and (2) of this section as follows: 

(1) DPRS is treated as having issued a 

deemed instrument worth $9x to FA in 

exchange for $9x of cash. 

(2) DPRS is treated as having contributed 

$9x of cash to FT3 in exchange for deemed 

issued stock of FT3. 

(3) DPRS is treated as continuing to own 

all of the stock of FT3. 

(G) Under paragraph (c)(4)(i) of this 

section, any distribution with respect to the 

FT3 specified stock issued to FS will be 

treated as a distribution to DPRS, which, in 

turn, will be treated as making a matching 

distribution with respect to the deemed 

instruments that DPRS is treated as having 

issued to FS. Under paragraph (c)(4)(ii) of 

this section, FT3 is treated as the paying 

agent of DPRS with respect to the deemed 

instrument issued by DPRS to FS. 

Example 7. (i) Facts. The facts are the same 

as in Example 1 of this paragraph (g). On 

April 30, 2016, FA transfers $4x of the FT 

disregarded specified stock that it acquired 

on February 1, 2015 to USP, a domestic 

corporation that is not an expatriated entity, 

in exchange for $4x of cash. 

(ii) Results. After the transfer, FT remains 

a foreign related person. Therefore, paragraph 

(d)(2) of this section does not apply. 

However, the $4x of FT disregarded specified 

stock transferred to USP ceases to be held by 

a foreign related person, a specified related 

person, or an expatriated entity (determined 

without taking into account paragraph (c)(2) 

or (3) of this section). Therefore, under 

paragraph (d)(3) of this section, immediately 

before the transfer of the disregarded 

specified stock, DT is deemed to transfer $4x 

($6x × ($4x/$6x)) of the FT deemed issued 

stock that it is treated as owning to FA, the 

specified related person, in redemption of 

$4x ($6x × ($4x/$6x)) of the DT deemed 

instruments that FA is treated as owning, and 

the $4x of FT deemed issued stock deemed 

transferred to FA is deemed recapitalized 

into disregarded specified stock actually held 

by FA, which is thereafter treated as owned 

by FA for all purposes of the Code until the 

transfer to USP. 

Example 8. (i) Facts. The facts are the 

same as in Example 7 of this paragraph (g), 

except that on April 30, 2016, FA transfers 

all $6x of the FT disregarded specified stock 

to USP in exchange for $6x of cash. 

(ii) Results. After the transfer, FT ceases to 

be a foreign related person (determined 

without taking into account paragraph (c)(2) 

or (3) of this section). Therefore, under 

paragraph (d)(2) of this section, immediately 

before the transfer of the disregarded 

specified stock, DT is deemed to transfer the 

$6x of FT deemed issued stock that it is 

treated as owning to FA, the specified related 

person, in redemption of the $6x of DT 

deemed instruments that FA is treated as 

owning, and the $6x of FT deemed issued 

stock deemed transferred to FA is deemed 

recapitalized into disregarded specified stock 

actually held by FA, which is thereafter 

treated as owned by FA for all purposes of 

the Code until the transfer to USP. 

Example 9. (i) Facts. The facts are the 

same as in Example 7 of this paragraph (g), 

except that on April 30, 2016, FA transfers 

$5.5x of the FT disregarded specified stock 

to USP in exchange for $5.5x of cash. 

(ii) Results. After the transfer, FT ceases to 

be a foreign related person (determined 

without taking into account paragraph (c)(2) 

or (3) of this section). Therefore, under 

paragraph (d)(2) of this section, immediately 

before the transfer of the disregarded 

specified stock, DT is deemed to transfer the 

$6x of FT deemed issued stock that it is 

treated as owning to FA, the specified related 

person, in redemption of the $6x of DT 

deemed instruments that FA is treated as 

owning, and the $6x of FT deemed issued 

stock deemed transferred to FA is deemed 

recapitalized into disregarded specified stock 

actually held by FA, which is thereafter 

treated as owned by FA for all purposes of 

the Code and $5.5x of which is transferred 

to USP. The remaining $0.5x of the specified 

stock continues to be treated as owned by FA 

for all purposes of the Code. 

Example 10. (i) Facts. The facts are the 

same as in Example 1 of this paragraph (g). 

On April 30, 2016, FA transfers $5x of the 

FT disregarded specified stock that it 

acquired on February 1, 2015 to DS, a 

domestic corporation wholly owned by DT, 

in exchange for $5x of cash. 

(ii) Results. After the transfer, FT remains 

a foreign related person because DS is wholly 

owned by DT. Therefore, paragraph (d)(2) of 

this section does not apply. Furthermore, the 

$5x of FT disregarded specified stock is not, 

as a result of the transfer, held by a person 

that is not a foreign related person, a 

specified related person, or an expatriated 

entity. Therefore, paragraph (d)(3) of this 

section does not apply. Because FA, a 


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specified related person, directly transferred 

disregarded specified stock of FT in a 

transaction to which paragraphs (d)(2) and 

(3) of this section do not apply, under 

paragraph (d)(4) of this section, FA is treated 

as transferring the $5x of deemed 

instruments of DT allocable to the $5x of ingroup transferred disregarded specified stock 

($6x × ($5x/$6x)) to DS. 

Example 11. (i) Facts. On February 1, 

2015, FS acquires $6x of FT stock, 

representing 60% of the total voting power 

and value of the stock of FT, from FT in a 

stock issuance, in exchange for $6x of cash. 

The $6x of FT stock is specified stock, and 

the transaction is recharacterized under 

paragraph (c)(2) of this section. See Example 

1 of this paragraph (g). On April 30, 2016, FA 

transfers stock of FS representing 60% of the 

total voting power and value of the stock of 

FS to USP, a domestic corporation that is not 

an expatriated entity. As a result of the 

transfer, FS ceases to be a foreign related 

person. 

(ii) Results. After the February 1, 2015 

transfer, FT remains a foreign related person 

because the FT stock is acquired by FS, a 

foreign related person with respect to DT at 

that time. Therefore, paragraph (d)(2) of this 

section does not apply. However, after the 

April 30, 2016 transfer, because FS ceases to 

be a foreign related person, it ceases to be a 

specified related person. Furthermore, the 

$6x of disregarded specified stock held 

before the transaction continues to be held by 

FS after the transaction, and therefore is not 

held by a foreign related person, a specified 

related person, or an expatriated entity after 

the transaction. Accordingly, under 

paragraph (d)(3) of this section, immediately 

before the transfer of FS disregarded 

specified stock, DT is deemed to transfer $6x 

($6x × ($6x/$6x)) of the FT deemed issued 

stock that it is treated as owning to FS, the 

specified related person, in redemption of 

$6x ($6x × ($6x/$6x)) of the DT deemed 

instruments that FS is treated as owning, and 

the $6x of FT deemed issued stock deemed 

transferred to FS is deemed recapitalized into 

disregarded specified stock actually held by 

FS, which thereafter is treated as owned by 

FS for all purposes of the Code, including 

after the transfer of 60% of the FS stock to 

USP. 

Example 12. (i) Facts. The facts are the 

same as in Example 1 of this paragraph (g). 

On April 30, 2016, FP, a foreign corporation 

that is not a foreign related person acquires 

$15x of FT stock, representing 60% of the 

total voting power and value of the stock of 

FT, from FT in a stock issuance, in exchange 

for $15x of cash. 

(ii) Results. After the transaction, FT ceases 

to be a foreign related person. Therefore, 

under paragraph (d)(2) of this section, 

immediately before the issuance of FT stock 

to FP, DT is deemed to transfer the $6x of FT 

deemed issued stock that it is treated as 

owning to FA, the specified related person, 

in redemption of the $6x of DT deemed 

instruments that FA is treated as owning, and 

the $6x of FT deemed issued stock deemed 

transferred to FA is deemed recapitalized 

into disregarded specified stock actually held 

by FA, which thereafter is treated as owned 

by FA for all purposes of the Code. 

Example 13. (i) Facts. The facts are the 

same as in Example 1 of this paragraph (g). 

On April 30, 2016, FS acquires $4x of the FT 

stock owned by DT in exchange for $4x of 

cash in a fully taxable transaction. DT 

recognizes and includes in income all of the 

gain (including any gain treated as a deemed 

dividend pursuant to section 1248(a)) with 

respect to the FT stock transferred to FS. 

(ii) Results. (A) The transfer of FT stock by 

DT to FS is a specified transaction, but it is 

not recharacterized under paragraphs (c)(1) 

and (3) of this section because the exception 

in paragraph (b)(2)(ii) of this section applies. 

See Example 4 of this paragraph (g). 

(B) After the transfer, FT remains a foreign 

related person. Therefore, paragraph (d)(2) of 

this section does not apply. The disregarded 

specified stock of FT is not, as a result of the 

transfer, held by a person that is not a foreign 

related person, a specified related person, or 

an expatriated entity. Therefore, paragraph 

(d)(3) of this section does not apply. There 

has been no direct transfer of specified stock. 

Therefore, paragraph (d)(4) of this section 

also does not apply. 

(C) Under paragraph (d)(1) of this section, 

the $6x of deemed issued stock treated as 

owned by DT as a result of the specified 

transaction in which FA acquired FT stock 

continues to be treated as owned by DT, and 

the $6x of deemed instruments treated as 

issued by DT to FA continue to be treated as 

owned by FA. 

(h) Applicability date. Except as 

otherwise provided in this paragraph 

(h), this section applies to specified 

transactions completed on or after 

September 22, 2014, but only if the 

inversion transaction was completed on 

or after September 22, 2014. Paragraph 

(b)(2)(ii)(A)(2) of this section applies to 

specified transactions completed on or 

after November 19, 2015, but only if the 

inversion transaction was completed on 

or after September 22, 2014. Paragraphs 

(d) and (f)(5), (7), and (10) of this section 

apply to specified transactions 

completed on or after April 4, 2016, but 

only if the inversion transaction was 

completed on or after September 22, 

2014. For inversion transactions 

completed on or after September 22, 

2014, however, taxpayers may elect to 

apply paragraphs (d) and (f)(5), (7), and 

(10) of this section to specified 

transactions completed before April 4, 

2016. In addition, for inversion 

transactions completed on or after 

September 22, 2014, in lieu of applying 

paragraphs (d) and (f)(5) and (7) of this 

section to specified transactions 

completed on or after September 22, 

2014, and before April 4, 2016, 

taxpayers may elect to apply the 

principles of § 1.7701(l)–3(c)(3)(iii). 

Furthermore, for inversion transactions 

completed on or after September 22, 

2014, in lieu of applying paragraph 

(f)(10) of this section to specified 

transactions completed on or after 

September 22, 2014, and before April 4, 

2016, taxpayers may elect to define a 

section 958(a) U.S. shareholder as a 

United States shareholder with respect 

to the expatriated foreign subsidiary that 

owns (within the meaning of section 

958(a)) stock in the expatriated foreign 

subsidiary, but only if such United 

States shareholder is related (within the 

meaning of section 267(b) or 707(b)(1)) 

to the specified related person or is 

under the same common control (within 

the meaning of section 482) as the 

specified related person. 

§ 1.7701(l)–4T [Removed] 

■ Par. 12. Section 1.7701(l)–4T is 

removed. 

■ Par. 13. Section 1.7874–1 is amended 

by: 

■ 1. Adding a sentence at the end of 

paragraph (a). 

■ 2. Revising paragraph (c)(2)(iii). 

■ 2. Redesignating paragraphs (d) 

through (h) as paragraphs (e) through (i), 

respectively. 

■ 3. Adding a new paragraph (d). 

■ 4. Revising newly redesignated 

paragraphs (g) and (i)(2). 

■ 5. For each paragraph listed in the 

following table, removing the language 

in the ‘‘Remove’’ column and adding in 

its place the language in the ‘‘Add’’ 

column. 

Paragraph Remove Add 

(a), first sentence ............................................... foreign corporation referred to in section 

7874(a)(2)(B).

foreign acquiring corporation. 

(a), first sentence ............................................... expanded affiliated group (EAG) that includes 

such foreign corporation.

expanded affiliated group. 

(b) ....................................................................... the ownership percentage determination required by section 7874(a)(2)(B)(ii).determining the ownership percentage described in section 7874(a)(2)(B)(ii). 

(b) ....................................................................... fraction that determines such percentage 

(ownership fraction).

ownership fraction. 

(c)(1), first sentence ........................................... acquisition ........................................................ domestic entity acquisition. 


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Paragraph Remove Add 

(c)(1), second sentence ..................................... § 1.7874–4, see § 1.7874–4(h) ........................ other rules, see paragraph (d) of this section. 

(c)(2), introductory text ....................................... an acquisition ................................................... a domestic entity acquisition. 

(c)(2)(i) ................................................................ Before the acquisition ...................................... Before the domestic entity acquisition. 

(c)(2)(ii) ............................................................... acquisition ........................................................ domestic entity acquisition. 

(c)(2)(ii) ............................................................... acquiring foreign corporation ........................... foreign acquiring corporation. 

(c)(3) ................................................................... acquisition results in ........................................ domestic entity acquisition results in. 

(c)(3) ................................................................... former shareholders or partners of the domestic entity.former domestic entity shareholders or former 

domestic entity partners. 

newly redesignated (e)(2) ................................... acquisition ........................................................ domestic entity acquisition. 

newly redesignated (h), Example 6 (ii), third 

sentence.

(d)(2) ................................................................ (e)(2). 

newly redesignated (i)(1), first sentence ............ acquisitions ...................................................... domestic entity acquisitions. 

newly redesignated (i)(1), second sentence ...... an acquisition ................................................... a domestic entity acquisition. 

newly redesignated (i)(1), fourth sentence ......... prior acquisitions .............................................. domestic entity acquisitions completed before 

May 20, 2008. 

newly redesignated (i)(1), fifth sentence ............ (e) ..................................................................... (f). 

newly redesignated (i)(1), last sentence ............ acquisitions ...................................................... domestic entity acquisitions. 

The revisions and additions read as 

follows: 

§ 1.7874–1 Disregard of affiliate-owned 

stock. 

(a) * * * For definitions that apply 

for purposes of this section, see 1.7874– 

12. 

* * * * * 

(c) * * * 

(2) * * * 

(iii) Special rule. If § 1.7874–6(c)(2) 

applies for purposes of applying section 

7874(c)(2)(A) and this section, then, for 

purposes of paragraph (c)(2) of this 

section (and so much of paragraph (c)(1) 

of this section as relates to paragraph 

(c)(2) of this section), the determination 

of the EAG after the domestic entity 

acquisition, as well as the determination 

of stock held by one or more members 

of the EAG after the domestic entity 

acquisition, is made without regard to 

one or more transfers (other than by 

issuance), in a transaction (or series of 

transactions) after and related to the 

acquisition, of stock of the acquiring 

foreign corporation by one or more 

members of the foreign-parented group 

described in § 1.7874–6(c)(2)(i). 

* * * * * 

(d) Interaction of expanded affiliated 

group rules with other rules—(1) 

Exclusion rules. Stock that is excluded 

from the denominator of the ownership 

fraction pursuant to § 1.7874–4(b), 

1.7874–7(b), 1.7874–8(b), 1.7874–9(b), 

or section 7874(c)(4) is taken into 

account for purposes of determining 

whether an entity is a member of the 

expanded affiliated group for purposes 

of applying section 7874(c)(2)(A) and 

paragraph (b) of this section and 

determining whether a domestic entity 

acquisition qualifies as an internal 

group restructuring or results in a loss 

of control, as described in paragraphs 

(c)(2) and (3) of this section, 

respectively. However, such stock is 

excluded from the denominator of the 

ownership fraction regardless of 

whether it otherwise would be included 

in the denominator of the ownership 

fraction as a result of the application of 

paragraph (c) of this section. See 

Example 8 and Example 9 of § 1.7874– 

4(i) for illustrations of the application of 

this paragraph (d)(1). 

(2) NOCD rule. Stock of the foreign 

acquiring corporation treated as 

received by former domestic entity 

shareholders or former domestic entity 

partners, as applicable, under § 1.7874– 

10(b) is not taken into account for 

purposes of determining whether an 

entity is a member of the expanded 

affiliated group for purposes of applying 

section 7874(c)(2)(A) and paragraph (b) 

of this section and determining whether 

a domestic entity acquisition qualifies 

as an internal group restructuring or 

results in a loss of control, as described 

in paragraphs (c)(2) and (3) of this 

section, respectively. However, such 

stock is included in the numerator and 

denominator of the ownership fraction, 

except to the extent that it is treated as 

held by a member of the EAG and is 

excluded from the numerator or both 

the numerator and the denominator, as 

applicable, under section 7874(c)(2)(A) 

or paragraphs (b) or (c) of this section. 

* * * * * 

(g) Treatment of transactions related 

to the acquisition. Except as provided in 

paragraph (c)(2)(iii) of this section, all 

transactions that are related to an 

acquisition are taken into account in 

applying this section. 

* * * * * 

(i) * * * 

(2) Applicability date of certain 

provisions of this section. Except as 

provided in this paragraph (i)(2), 

paragraph (c)(2)(iii) of this section 

applies to domestic entity acquisitions 

completed on or after April 4, 2016. 

Except as provided in this paragraph 

(i)(2), paragraph (d) of this section 

(interaction of EAG rules with other 

rules) applies to domestic entity 

acquisitions completed on or after July 

12, 2018. See §§ 1.7874–4(h) and 

1.7874–7T(e), as contained in 26 CFR 

part 1 revised as of April 1, 2017, for 

certain coordination rules for domestic 

entity acquisitions completed before 

July 12, 2018. Except as provided in this 

paragraph (i)(2), paragraph (g) of this 

section applies to domestic entity 

acquisitions completed on or after 

September 22, 2014. For domestic entity 

acquisitions completed before April 4, 

2016, however, taxpayers may elect to 

consistently apply paragraphs (c)(2)(iii) 

and (g) of this section, and § 1.7874– 

6(c)(2), (d)(2), and (f)(2)(ii). In addition, 

for domestic entity acquisitions 

completed before July 12, 2018, 

taxpayers may elect to consistently 

apply paragraph (d) of this section. 

§ 1.7874–1T [Removed] 

■ Par. 14. Section 1.7874–1T is 

removed. 

■ Par. 15. Section 1.7874–2 is amended 

by: 

■ 1. Revising paragraph (a). 

■ 2. Removing the language ‘‘§ 1.7874– 

12T’’ in paragraph (b) introductory text, 

and adding the language ‘‘§ 1.7874–12’’ 

in its place. 

■ 3. Revising paragraphs (b)(7) through 

(13), (c)(2) and (4), (f)(1) introductory 

text, (f)(1)(iv), Example 21 of paragraph 

(k)(2), and paragraph (l)(2). 

The revisions read as follows: 

§ 1.7874–2 Surrogate foreign corporation. 

(a) Scope. This section provides rules 

for determining whether a foreign 

corporation is treated as a surrogate 

foreign corporation under section 

7874(a)(2)(B). Paragraph (b) of this 

section provides definitions and special 

rules. Paragraph (c) of this section 


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provides rules to determine whether a 

foreign corporation has acquired 

properties held by a domestic 

corporation (or a partnership). 

Paragraph (d) of this section provides 

rules that apply when two or more 

foreign corporations complete, in the 

aggregate, a domestic entity acquisition. 

Paragraph (e) of this section provides 

rules that apply when, pursuant to a 

plan, a single foreign corporation 

completes more than one domestic 

entity acquisition. Paragraph (f) of this 

section provides rules to identify the 

stock of a foreign corporation that is 

held by reason of holding stock in a 

domestic corporation (or an interest in 

a domestic partnership). Paragraph (g) of 

this section provides rules that treat 

certain publicly traded foreign 

partnerships as foreign corporations for 

purposes of section 7874. Paragraph (h) 

of this section provides rules concerning 

the treatment of certain options (or 

similar interests) for purposes of section 

7874. Paragraph (i) of this section 

provides rules that treat certain interests 

(including debt, stock, or a partnership 

interest) as stock of a foreign 

corporation for purposes of section 

7874. Paragraph (j) of this section 

provides rules concerning the 

conversion of a foreign corporation to a 

domestic corporation by reason of 

section 7874(b). Paragraph (k) of this 

section provides examples that illustrate 

the rules of this section. Paragraph (l) of 

this section provides the applicability 

dates of this section. For additional 

definitions that apply for purposes of 

this section, see § 1.7874–12. 

(b) * * * 

(7) A former initial acquiring 

corporation shareholder of an initial 

acquiring corporation means any person 

that held stock in the initial acquiring 

corporation before the subsequent 

acquisition, including any person that 

holds stock in the initial acquiring 

corporation both before and after the 

subsequent acquisition. 

(8) An initial acquisition means, with 

respect to a subsequent acquisition, a 

domestic entity acquisition occurring, 

pursuant to a plan that includes the 

subsequent acquisition (or a series of 

related transactions), before the 

subsequent acquisition. 

(9) An initial acquiring corporation 

means, with respect to an initial 

acquisition, the foreign acquiring 

corporation. 

(10) A subsequent acquisition means, 

with respect to an initial acquisition, a 

transaction occurring, pursuant to a 

plan that includes the initial acquisition 

(or a series of related transactions), after 

the initial acquisition in which a foreign 

corporation directly or indirectly 

acquires (within the meaning of 

paragraph (c)(4)(ii) of this section) 

substantially all of the properties held 

directly or indirectly by the initial 

acquiring corporation. 

(11) A subsequent acquiring 

corporation means, with respect to a 

subsequent acquisition, the foreign 

corporation that directly or indirectly 

acquires substantially all of the 

properties held directly or indirectly by 

the initial acquiring corporation. 

(12) Special rule regarding initial 

acquisitions. With respect to an initial 

acquisition, the determination of the 

ownership percentage described in 

section 7874(a)(2)(B)(ii) is made without 

regard to the subsequent acquisition and 

all related transactions occurring after 

the subsequent acquisition. 

(13) Special rule regarding subsequent 

acquisitions. With respect to a 

subsequent acquisition (or a similar 

acquisition under the principles of 

paragraph (c)(4)(i) of this section) that is 

an inversion transaction, the applicable 

period begins on the first date that 

properties are acquired as part of the 

initial acquisition. 

(c) * * * 

(2) Acquisition of stock of a foreign 

corporation. Except as provided in 

paragraph (c)(4) of this section, an 

acquisition of stock of a foreign 

corporation that owns directly or 

indirectly stock of a domestic 

corporation (or an interest in a 

partnership) shall not constitute an 

indirect acquisition of any properties 

held by the domestic corporation (or the 

partnership). See Example 4 of 

paragraph (k) of this section for an 

illustration of the rules of this paragraph 

(c)(2). 

* * * * * 

(4) Multiple-step acquisitions—(i) 

Rule. A subsequent acquisition is 

treated as a domestic entity acquisition, 

and the subsequent acquiring 

corporation is treated as a foreign 

acquiring corporation. See Example 21 

of paragraph (k) of this section for an 

illustration of this rule. See also 

paragraph (f)(1)(iv) of this section 

(treating certain stock of the subsequent 

acquiring corporation as stock of a 

foreign corporation that is held by 

reason of holding stock of, or a 

partnership interest in, the domestic 

entity). 

(ii) Acquisition of property pursuant 

to a subsequent acquisition. In 

determining whether a foreign 

corporation directly or indirectly 

acquires substantially all of the 

properties held directly or indirectly by 

an initial acquiring corporation, the 

principles of section 7874(a)(2)(B)(i) 

apply, including paragraph (c) of this 

section other than paragraph (c)(2) of 

this section. For this purpose, the 

principles of paragraph (c)(1) of this 

section, including paragraph (b)(5) of 

this section, apply by substituting the 

term ‘‘foreign’’ for ‘‘domestic’’ wherever 

it appears. 

(iii) Additional related transactions. 

If, pursuant to the same plan (or a series 

of related transactions), a foreign 

corporation directly or indirectly 

acquires (under the principles of 

paragraph (c)(4)(ii) of this section) 

substantially all of the properties 

directly or indirectly held by a 

subsequent acquiring corporation in a 

transaction occurring after the 

subsequent acquisition, then the 

principles of paragraph (c)(4)(i) of this 

section apply to such transaction (and 

any subsequent transaction or 

transactions occurring pursuant to the 

plan (or the series of related 

transactions)). 

* * * * * 

(f) * * * 

(1) Certain transactions. For purposes 

of section 7874(a)(2)(B)(ii), stock of a 

foreign corporation that is held by 

reason of holding stock in a domestic 

corporation (or an interest in a domestic 

partnership) includes, but is not limited 

to, the stock described in paragraphs 

(f)(1)(i) through (iv) of this section. 

* * * * * 

(iv) Stock of a subsequent acquiring 

corporation received by a former initial 

acquiring corporation shareholder 

pursuant to a subsequent acquisition in 

exchange for, or with respect to, stock 

of an initial acquiring corporation that 

is held by reason of holding stock of, or 

a partnership interest in, a domestic 

entity. 

* * * * * 

(k) * * * 

(2) * * * 

Example 21. Application of multiple-step 

acquisition rule—(i) Facts. Individual A 

owns all 70 shares of stock of DC1, a 

domestic corporation. Individual B owns all 

30 shares of stock of F1, a foreign corporation 

that is a tax resident (as described in 

§ 1.7874–3(d)(11)) of Country X. Pursuant to 

a reorganization described in section 

368(a)(1)(D), DC1 transfers all of its 

properties to F1 solely in exchange for 70 

newly issued voting shares of F1 stock (DC1 

acquisition) and distributes the F1 stock to 

Individual A in liquidation pursuant to 

section 361(c)(1). Pursuant to a plan that 

includes the DC1 acquisition, F2, a newly 

formed foreign corporation that is also a tax 

resident of Country X, acquires 100 percent 

of the stock of F1 solely in exchange for 100 

newly issued shares of F2 stock (F1 

acquisition). After the F1 acquisition, 

Individual A owns 70 shares of F2 stock, 

Individual B owns 30 shares of F2 stock, F2 


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32546 Federal Register / Vol. 83, No. 134 / Thursday, July 12, 2018 / Rules and Regulations 

owns all 100 shares of F1 stock, and F1 owns 

all the properties held by DC1 immediately 

before the DC1 acquisition. In addition, the 

form of the transaction is respected for U.S. 

federal income tax purposes. 

(ii) Analysis—(A) The DC1 acquisition is a 

domestic entity acquisition, and F1 is a 

foreign acquiring corporation, because F1 

directly acquires 100 percent of the 

properties of DC1. In addition, the 70 shares 

of F1 stock received by A pursuant to the 

DC1 acquisition in exchange for Individual 

A’s DC1 stock are stock of a foreign 

corporation that is held by reason of holding 

stock in DC1. As a result, those 70 shares are 

included in both the numerator and the 

denominator of the ownership fraction when 

applying section 7874 to the DC1 acquisition. 

(B) The DC1 acquisition is also an initial 

acquisition because it is a domestic entity 

acquisition that, pursuant to a plan that 

includes the F1 acquisition, occurs before the 

F1 acquisition (which, as described in 

paragraph (ii)(C) of this Example 21, is a 

subsequent acquisition). Thus, F1 is the 

initial acquiring corporation. 

(C) The F1 acquisition is a subsequent 

acquisition because it occurs, pursuant to a 

plan that includes the DC1 acquisition, after 

the DC1 acquisition and, pursuant to the F1 

acquisition, F2 acquires 100 percent of the 

stock of F1 and therefore is treated under 

paragraph (c)(4)(ii) of this section (which 

applies the principles of section 

7874(a)(2)(B)(i) with certain modifications) as 

indirectly acquiring substantially all of the 

properties held directly or indirectly by F1. 

Thus, F2 is the subsequent acquiring 

corporation. 

(D) Under paragraph (c)(4)(i) of this 

section, the F1 acquisition is treated as a 

domestic entity acquisition, and F2 is treated 

as a foreign acquiring corporation. In 

addition, under paragraph (f)(1)(iv) of this 

section, the 70 shares of F2 stock received by 

Individual A (a former initial acquiring 

corporation shareholder) pursuant to the F1 

acquisition in exchange for Individual A’s F1 

stock are stock of a foreign corporation that 

is held by reason of holding stock in DC1. As 

a result, those 70 shares are included in both 

the numerator and the denominator of the 

ownership fraction when applying section 

7874 to the F1 acquisition. 

(l) * * * 

(2) Applicability date of certain 

provisions of this section. Paragraphs 

(a), (b)(7) through (13), (c)(2) and (4), 

and (f)(1)(iv) of this section, as well as 

the introductory text of paragraph (f)(1) 

and Example 21 of paragraph (k)(2), 

apply to domestic entity acquisitions 

completed on or after April 4, 2016. 

§ 1.7874–2T [Removed] 

■ Par. 16. Section 1.7874–2T is 

removed. 

■ Par. 17. Section 1.7874–3 is amended 

by: 

■ 1. Revising paragraph (b)(4). 

■ 2. Revising the introductory text of 

paragraph (d). 

■ 3. Removing paragraphs (d)(1) and 

(d)(4). 

■ 4. Redesignating paragraphs (d)(2), 

(d)(3), (d)(5) through (12), and (d)(13) as 

paragraphs (d)(1), (d)(2), (d)(3) through 

(10), and (d)(12), respectively. 

■ 5. Revising newly redesignated 

paragraph (d)(8). 

■ 6. Adding paragraph (d)(11). 

■ 7. Revising paragraph (f)(2). 

■ 8. For each paragraph listed in the 

following table, removing the language 

in the ‘‘Remove’’ column and adding in 

its place the language in the ‘‘Add’’ 

column. 

Paragraph Remove Add 

(b), introductory text ........................................... after an acquisition described in section 

7874(a)(2)(B)(i).

on the completion date. 

(c)(1)(iii) .............................................................. acquisition described in section 

7874(a)(2)(B)(i).

domestic entity acquisition. 

newly redesignated (d)(1)(i) ............................... acquisition date ................................................ completion date. 

newly redesignated (d)(1)(ii) ............................... acquisition date ................................................ completion date. 

newly redesignated (d)(3), first, second, third, 

and fifth sentences.

acquisition date ................................................ completion date. 

newly redesignated (d)(9) ................................... foreign corporation described in section 

7874(a)(2)(B).

foreign acquiring corporation. 

(f)(1) .................................................................... acquisitions ...................................................... domestic entity acquisitions. 

The revisions and addition read as 

follows: 

§ 1.7874–3 Substantial business activities. 

* * * * * 

(b) * * * 

(4) Tax residence of foreign acquiring 

corporation. The foreign acquiring 

corporation is a tax resident of the 

relevant foreign country. However, this 

paragraph (b)(4) does not apply if the 

relevant foreign country does not 

impose corporate income tax. 

* * * * * 

(d) Definitions and special rules. In 

addition to the definitions in § 1.7874– 

12, the following definitions and special 

rules apply for purposes of this section. 

* * * * * 

(8) The term relevant financial 

statements means financial statements 

prepared consistently for all members of 

the expanded affiliated group in 

accordance with either U.S. Generally 

Accepted Accounting Principles (U.S. 

GAAP) or the International Financial 

Reporting Standards (IFRS) used for the 

expanded affiliated group’s 

consolidated financial statements, but, 

if, after the domestic entity acquisition, 

financial statements will not be 

prepared consistently for all members of 

the expanded affiliated group in 

accordance with either U.S. GAAP or 

IFRS, then, for each member, financial 

statements prepared in accordance with 

either U.S. GAAP or IFRS. The relevant 

financial statements must take into 

account all items of income generated 

by all members of the expanded 

affiliated group for the entire testing 

period. 

* * * * * 

(11) The term tax resident means, 

with respect to a foreign country, a body 

corporate liable to tax under the laws of 

the country as a resident. 

* * * * * 

(f) * * * 

(2) Paragraphs (b)(4), (d)(8), and 

(d)(11) of this section. The first sentence 

of paragraph (b)(4) of this section 

applies to domestic entity acquisitions 

completed on or after November 19, 

2015, and the second sentence applies 

to domestic entity acquisitions 

completed on or after July 12, 2018. 

Paragraph (d)(8) of this section applies 

to domestic entity acquisitions 

completed on or after April 4, 2016. 

Paragraph (d)(11) of this section applies 

to domestic entity acquisitions 

completed on or after July 12, 2018. For 

domestic entity acquisitions completed 

on or after June 3, 2015, and before 

April 4, 2016, however, taxpayers may 

elect to apply paragraph (d)(8) of this 

section. For domestic entity acquisitions 

completed on or after November 19, 

2015, and before July 12, 2018, 

taxpayers may elect to apply the second 

sentence of paragraph (b)(4) and 

paragraph (d)(11) of this section. 

§ 1.7874–3T [Removed] 

■ Par. 18. Section 1.7874–3T is 

removed. 


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■ Par. 19. Section 1.7874–4 is amended 

by: 

■ 1. Revising the seventh sentence of 

paragraph (a), and adding a sentence at 

the end of paragraph (a). 

■ 2. Revising paragraph (d)(1)(ii). 

■ 3. Removing paragraph (h). 

■ 4. Redesignating paragraphs (i), (j), 

and (k) as paragraphs (h), (i), and (j), 

respectively. 

■ 5. In newly redesignated paragraph 

(j)(1), removing the language ‘‘(d)(1)(ii),’’ 

from the fourth and seventh sentences 

and adding two sentences at the end of 

the paragraph. 

■ 6. For each paragraph listed in the 

following table, removing the language 

in the ‘‘Remove’’ column and adding in 

its place the language in the ‘‘Add’’ 

column. 

Paragraph Remove Add 

(a), eighth sentence ........................................... (i) ...................................................................... (h). 

(a), ninth sentence ............................................. (j) ...................................................................... (i). 

(a), tenth sentence ............................................. (k) ..................................................................... (j). 

(c)(1)(i), second sentence .................................. (j) ...................................................................... (i). 

(c)(1)(ii)(A), last sentence ................................... (j) ...................................................................... (i). 

(c)(2), last sentence ........................................... (j) ...................................................................... (i). 

(d)(1)(i) ................................................................ §§ 1.7874–7T(b) and 1.7874–10T(b) ............... §§ 1.7874–7(b) and 1.7874–10(b). 

(d)(1)(ii), last sentence ....................................... (j) ...................................................................... (i). 

newly redesignated (h), introductory text ........... § 1.7874–12T ................................................... § 1.7874–12. 

newly redesignated (h)(1), last sentence ........... (j) ...................................................................... (i). 

newly redesignated (h)(1), last sentence ........... (i)(1) .................................................................. (h)(1). 

newly redesignated (h)(2), introductory text, first 

sentence.

(i)(2)(i) .............................................................. (h)(2)(i). 

newly redesignated (h)(2), introductory text, 

second sentence.

(i)(2)(ii) .............................................................. (h)(2)(ii). 

newly redesignated (h)(2)(ii) ............................... (i)(1) .................................................................. (h)(1). 

newly redesignated (h)(2)(iii)(A), last sentence (j) ...................................................................... (i). 

newly redesignated (h)(2)(iii)(A), last sentence (i)(2)(iii)(A) ........................................................ (h)(2)(iii)(A). 

newly redesignated (h)(2)(iii)(C)(2) .................... (i)(2)(iii)(B) ........................................................ (h)(2)(iii)(B). 

newly redesignated (h)(2)(iv), first sentence ...... (i)(2)(i) .............................................................. (h)(2)(i). 

newly redesignated (h)(2)(iv), last sentence ...... (j) ...................................................................... (i).

newly redesignated (h)(2)(iv), last sentence ...... (i)(2)(iv) ............................................................. (h)(2)(iv). 

newly redesignated (i)(10) .................................. § 1.7874–7T(b) ................................................. § 1.7874–7(b). 

newly redesignated (i)(11) .................................. § 1.7874–10T(b) ............................................... § 1.7874–10(b). 

newly redesignated (i), Example 1 (i), second 

sentence.

(i)(1) .................................................................. (h)(1). 

newly redesignated (i), Example 1 (ii), first sentence.(i)(2)(ii) .............................................................. (h)(2)(ii). 

newly redesignated (i), Example 2 (i), second 

sentence.

(i)(1) .................................................................. (h)(1). 

newly redesignated (i), Example 2 (ii), first and 

fifth sentences.

(i)(2)(iv) ............................................................. (h)(2)(iv). 

newly redesignated (i), Example 3 (i), last sentence.(i)(2)(i) .............................................................. (h)(2)(i). 

newly redesignated (i), Example 3 (ii), first and 

fifth sentences.

(i)(2)(iv) ............................................................. (h)(2)(iv). 

newly redesignated (i), Example 4 (ii), first sentence.(i)(1) .................................................................. (h)(1). 

newly redesignated (i), Example 4 (ii), first sentence.(i)(2)(ii) .............................................................. (h)(2)(ii). 

newly redesignated (i), Example 4 (iii), sixth 

sentence.

(i)(2)(ii) .............................................................. (h)(2)(ii). 

newly redesignated (i), Example 5 (ii), first sentence.(i)(2)(i) .............................................................. (h)(2)(i). 

newly redesignated (i), Example 5 (ii), fourth 

sentence.

§§ 1.7874–7T(b) and 1.7874–10T(b) ............... §§ 1.7874–7(b) and 1.7874–10(b). 

newly redesignated (i), Example 6 (ii), first sentence.(i)(2)(iii)(A) ........................................................ (h)(2)(iii)(A). 

newly redesignated (i), Example 7 (ii), first sentence.(i)(2)(i) .............................................................. (h)(2)(i). 

newly redesignated (i), Example 8 (ii), first sentence.(i)(2)(i) .............................................................. (h)(2)(i). 

newly redesignated (i), Example 8 (ii), fifth sentence.paragraph (h) of this section ............................ § 1.7874–1(d)(1). 

newly redesignated (i), Example 9 (i), last sentence.(i)(1) .................................................................. (h)(1). 

newly redesignated (i), Example 9 (ii), first sentence.(i)(2)(ii) .............................................................. (h)(2)(ii). 

newly redesignated (i), Example 9 (ii), fifth sentence.paragraph (h) of this section ............................ § 1.7874–1(d)(1). 

newly redesignated (i), Example 9 (ii), penultimate sentence.paragraphs (b) and (h) of this section ............. paragraph (b) of this section and § 1.7874– 

1(d)(1). 

newly redesignated (i), Example 9 (iii), first sentence.(i)(1) .................................................................. (h)(1). 


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Paragraph Remove Add 

newly redesignated (i), Example 9 (iii), first sentence.(i)(2) .................................................................. (h)(2). 

newly redesignated (i), Example 9 (iii), fifth sentence.paragraph (h) of this section ............................ § 1.7874–1(d)(1). 

newly redesignated (i), Example 9 (iii), tenth 

sentence.

paragraphs (b) and (h) of this section ............. paragraph (b) of this section and § 1.7874– 

1(d)(1). 

newly redesignated (j)(1), first sentence ............ (k) ..................................................................... (j). 

newly redesignated (j)(1), second sentence ...... (i)(1) and (i)(2)(iv) ............................................. (h)(1) and (h)(2)(iv). 

newly redesignated (j)(1), fourth sentence ......... (i)(2)(iii), and (i)(3) ............................................ (h)(2)(iii), and (h)(3). 

newly redesignated (j)(1), fifth sentence ............ (i)(1) and (i)(2)(iv) ............................................. (h)(1) and (h)(2)(iv). 

newly redesignated (j)(1), last sentence ............ (i)(2)(iii) ............................................................. (h)(2)(iii). 

newly redesignated (j)(1), last sentence ............ (i)(3) .................................................................. (h)(3). 

newly redesignated (j)(2), introductory text ........ (k)(3) ................................................................. (j)(3). 

newly redesignated (j)(2)(i) ................................. (i)(2)(iii) ............................................................. (h)(2)(iii). 

newly redesignated (j)(2)(iv) ............................... paragraphs (d) and (h) of this section ............. Paragraph (d) of this section and § 1.7874– 

1(d)(1). 

newly redesignated (j)(3), first sentence ............ (k)(1) ................................................................. (j)(1). 

The revisions and addition read as 

follows: 

§ 1.7874–4 Disregard of certain stock 

related to the domestic entity acquisition. 

(a) * * * Paragraph (g) of this section 

provides rules for the treatment of 

partnerships, and paragraph (h) of this 

section provides definitions. * * * See 

§ 1.7874–1(d)(1) for rules addressing the 

interaction of this section with the 

expanded affiliated group rules of 

section 7874(c)(2)(A) and § 1.7874–1. 

* * * * * 

(d) * * * 

(1) * * * 

(ii) On the completion date, each five 

percent former domestic entity 

shareholder or five percent former 

domestic entity partner, as applicable, 

owns (applying the attribution rules of 

section 318(a) with the modifications 

described in section 304(c)(3)(B)) less 

than five percent (by vote and value) of 

the stock of (or a partnership interest in) 

each member of the expanded affiliated 

group. For this purpose, a five percent 

former domestic entity shareholder (or 

five percent former domestic entity 

partner) is a former domestic entity 

shareholder (or former domestic entity 

partner) that, before the domestic entity 

acquisition, owned (applying the 

attribution rules of section 318(a) with 

the modifications described in section 

304(c)(3)(B)) at least five percent (by 

vote and value) of the stock of (or a 

partnership interest in) the domestic 

entity. See Example 5 of this paragraph 

(i) for an illustration of this paragraph 

(d). 

* * * * * 

(j) * * * 

(1) * * * Paragraph (d)(1)(ii) of this 

section applies to domestic entity 

acquisitions completed on or after July 

12, 2018, though taxpayers may elect to 

consistently apply paragraph (d)(1)(ii) of 

this section to domestic entity 

acquisitions completed before July 12, 

2018. For domestic entity acquisitions 

completed before July 12, 2018, see 

§ 1.7874–4(d)(1)(ii) as contained in 26 

CFR part 1 revised as of April 1, 2017. 

* * * * * 

§ 1.7874–5 [Amended] 

■ Par. 20. For each paragraph listed in 

the following table, removing the 

language in the ‘‘Remove’’ column and 

adding in its place the language in the 

‘‘Add’’ column. 

Paragraph Remove Add 

(c) ....................................................................... § 1.7874–6T ..................................................... § 1.7874–6. 

(d) ....................................................................... § 1.7874–12T ................................................... § 1.7874–12. 

■ Par. 21. Section 1.7874–6 is added to 

read as follows: 

§ 1.7874–6 Stock transferred by members 

of the EAG. 

(a) Scope. This section provides rules 

regarding whether transferred stock is 

treated as held by members of the EAG 

for purposes of applying section 

7874(c)(2)(A) and § 1.7874–1. Paragraph 

(b) of this section sets forth the general 

rule under which transferred stock is 

not treated as held by members of the 

EAG for purposes of applying section 

7874(c)(2)(A) and § 1.7874–1. Paragraph 

(c) of this section provides exceptions to 

the general rule. Paragraph (d) of this 

section provides rules regarding the 

treatment of partnerships, and 

paragraph (e) of this section provides 

rules regarding transactions related to 

the acquisition. Paragraph (f) of this 

section provides definitions. Paragraph 

(g) of this section provides examples 

illustrating the application of the rules 

of this section. Paragraph (h) of this 

section provides dates of applicability. 

(b) General rule. Except as provided 

in paragraph (c) of this section, 

transferred stock is not treated as held 

by members of the EAG for purposes of 

applying section 7874(c)(2)(A) and 

§ 1.7874–1. Transferred stock that is not 

treated as held by members of the EAG 

for purposes of applying section 

7874(c)(2)(A) and § 1.7874–1 is included 

in the numerator and the denominator 

of the ownership fraction. See § 1.7874– 

5(a). 

(c) Exceptions. Transferred stock is 

treated as held by members of the EAG 

for purposes of applying section 

7874(c)(2)(A) and § 1.7874–1 if 

paragraph (c)(1) or (2) of this section 

applies. Transferred stock that is treated 

as held by members of the EAG for 

purposes of applying section 

7874(c)(2)(A) and § 1.7874–1 is 

excluded from the numerator of the 

ownership fraction and, depending 

upon the application of § 1.7874–1(c), 

may be excluded from the denominator 

of the ownership fraction. See § 1.7874– 

1(b) and (c). 

(1) Transfers involving a U.S.- 

parented group. This paragraph (c)(1) 

applies if the following conditions are 

satisfied: 

(i) Before the domestic entity 

acquisition, the transferring corporation 

is a member of a U.S.-parented group. 

(ii) After the domestic entity 

acquisition, each of the transferring 


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corporation (or its successor), any 

person that holds transferred stock, and 

the foreign acquiring corporation are 

members of a U.S.-parented group the 

common parent of which— 

(A) Before the domestic entity 

acquisition, was a member of the U.S.- 

parented group described in paragraph 

(c)(1)(i) of this section; or 

(B) Is a corporation that was formed 

in a transaction related to the domestic 

entity acquisition, provided that, 

immediately after the corporation was 

formed (and without regard to any 

related transactions), the corporation 

was a member of the U.S.-parented 

group described in paragraph (c)(1)(i) of 

this section. 

(2) Transfers involving a foreignparented group. This paragraph (c)(2) 

applies if the following conditions are 

satisfied: 

(i) Before the domestic entity 

acquisition, the transferring corporation 

and the domestic entity are members of 

the same foreign-parented group. 

(ii) After the domestic entity 

acquisition, the transferring 

corporation— 

(A) Is a member of the EAG; or 

(B) Would be a member of the EAG 

absent one or more transfers (other than 

by issuance), in a transaction (or series 

of transactions) after and related to the 

domestic entity acquisition, of stock of 

the foreign acquiring corporation by one 

or more members of the foreignparented group described in paragraph 

(c)(2)(i) of this section. 

(d) Treatment of partnerships—(1) 

Stock held by a partnership. For 

purposes of this section, each partner in 

a partnership, as determined without 

regard to the application of paragraph 

(d)(2) of this section, is treated as 

holding its proportionate share of the 

stock held by the partnership, as 

determined under the rules and 

principles of sections 701 through 777. 

(2) Partnership treated as corporation. 

For purposes of this section, if one or 

more members of an affiliated group, as 

determined after the application of 

paragraph (d)(1) of this section, own, in 

the aggregate, more than 50 percent (by 

value) of the interests in a partnership, 

the partnership will be treated as a 

corporation that is a member of the 

affiliated group. 

(e) Treatment of transactions related 

to the acquisition. Except as provided in 

paragraphs (c)(1)(ii)(B) and (c)(2)(ii)(B) 

of this section, all transactions that are 

related to a domestic entity acquisition 

are taken into account in applying this 

section. 

(f) Definitions. In addition to the 

definitions provided in § 1.7874–12, the 

following definitions apply for purposes 

of this section. 

(1) A foreign-parented group means 

an affiliated group that has a foreign 

corporation as the common parent 

corporation. A member of the foreignparented group is an entity included in 

the foreign-parented group. 

(2) Transferred stock—(i) In general. 

Transferred stock means stock of the 

foreign acquiring corporation described 

in section 7874(a)(2)(B)(ii) that is 

received by a transferring corporation 

and, in a transaction (or series of 

transactions) related to the domestic 

entity acquisition, is subsequently 

transferred. 

(ii) Special rule. This paragraph 

(f)(2)(ii) applies in certain cases in 

which a transferring corporation 

receives stock of the foreign acquiring 

corporation described in section 

7874(a)(2)(B)(ii) that has the same terms 

as other stock of the foreign acquiring 

corporation that is received by the 

transferring corporation in a transaction 

(or series of transactions) related to the 

domestic entity acquisition or that is 

owned by the transferring corporation 

prior to the domestic entity acquisition 

(the stock described in this sentence, 

collectively, fungible stock). Pursuant to 

this paragraph (f)(2)(ii), if, in a 

transaction (or series of transactions) 

related to the domestic entity 

acquisition, the transferring corporation 

subsequently transfers less than all of 

the fungible stock, a pro rata portion of 

the stock subsequently transferred is 

treated as consisting of stock of the 

foreign acquiring corporation described 

in section 7874(a)(2)(B)(ii). The pro rata 

portion is based, at the time of the 

subsequent transfer, on the relative fair 

market value of the fungible stock that 

is stock of the foreign acquiring 

corporation described in section 

7874(a)(2)(B)(ii) to the fair market value 

of all the fungible stock. 

(3) A transferring corporation means a 

corporation that is a former domestic 

entity shareholder or former domestic 

entity partner. 

(4) A U.S.-parented group means an 

affiliated group that has a domestic 

corporation as the common parent 

corporation. A member of the U.S.- 

parented group is an entity included in 

the U.S.-parented group, including the 

common parent corporation. 

(g) Examples. The following examples 

illustrate the application of this section. 

Example 1. U.S.-parented group exception 

not available—(i) Facts. USP, a domestic 

corporation wholly owned by Individual A, 

owns all the stock of DT, a domestic 

corporation, as well as other property. The 

DT stock does not represent substantially all 

of the property of USP for purposes of section 

7874. Pursuant to a reorganization described 

in section 368(a)(1)(D), USP transfers all the 

DT stock to FA, a newly formed foreign 

corporation, in exchange for 100 shares of FA 

stock (DT acquisition) and distributes the FA 

stock to Individual A pursuant to section 

361(c)(1). 

(ii) Analysis. The 100 FA shares received 

by USP are stock of a foreign acquiring 

corporation described in section 

7874(a)(2)(B)(ii) and, under § 1.7874–5(a), the 

shares retain their status as such even though 

USP subsequently distributes the shares to 

Individual A pursuant to section 361(c)(1). 

Thus, the 100 FA shares are included in the 

ownership fraction, unless the shares are 

treated as held by members of the EAG for 

purposes of applying section 7874(c)(2)(A) 

and § 1.7874–1 and are excluded from the 

ownership fraction under those rules. For 

purposes of applying section 7874(c)(2)(A) 

and § 1.7874–1, the 100 FA shares, which 

constitute transferred stock under paragraph 

(f)(2) of this section, are treated as held by 

members of the EAG only if an exception in 

paragraph (c) of this section applies. See 

paragraph (b) of this section. The U.S.- 

parented group exception described in 

paragraph (c)(1) of this section does not 

apply. Although before the DT acquisition, 

USP (the transferring corporation) is a 

member of a U.S.-parented group of which 

USP is the common parent, after the DT 

acquisition, and taking into account all 

transactions related to the acquisition, each 

of USP, Individual A (the person that holds 

the transferred stock), and FA (the foreign 

acquiring corporation) are not members of a 

U.S.-parented group described in paragraph 

(c)(1)(ii)(A) or (B) of this section. 

Accordingly, because the 100 FA shares are 

not treated as held by members of the EAG, 

those shares are included in the numerator 

and the denominator of the ownership 

fraction. Therefore, the ownership fraction is 

100/100. 

Example 2. U.S.-parented group exception 

available—(i) Facts. USP, a domestic 

corporation wholly owned by Individual A, 

owns all the stock of USS, a domestic 

corporation, and USS owns all the stock of 

FT, a foreign corporation. FT owns all the 

stock of DT, a domestic corporation. FT does 

not own any other property and has no 

liabilities. Pursuant to a reorganization 

described in section 368(a)(1)(F), FT transfers 

all of its DT stock to FA, a newly formed 

foreign corporation, in exchange for 100 

shares of FA stock (DT acquisition) and 

distributes the FA stock to USS in liquidation 

pursuant to section 361(c)(1). In a transaction 

after and related to the DT acquisition, USP 

sells 60 percent of the stock of USS (by vote 

and value) to Individual B. 

(ii) Analysis. The 100 FA shares received 

by FT are stock of a foreign acquiring 

corporation described in section 

7874(a)(2)(B)(ii) and, under § 1.7874–5(a), the 

shares retain their status as such even though 

FT subsequently distributes the shares to 

USS pursuant to section 361(c)(1). Thus, the 

100 FA shares are included in the ownership 

fraction, unless the shares are treated as held 

by members of the EAG for purposes of 

applying section 7874(c)(2)(A) and § 1.7874– 

1 and are excluded from the ownership 


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fraction under those rules. For purposes of 

applying section 7874(c)(2)(A) and § 1.7874– 

1, the 100 FA shares, which constitute 

transferred stock under paragraph (f)(2) of 

this section, are treated as held by members 

of the EAG only if an exception in paragraph 

(c) of this section applies. See paragraph (b) 

of this section. The U.S.-parented group 

exception described in paragraph (c)(1) of 

this section applies. The requirement set 

forth in paragraph (c)(1)(i) of this section is 

satisfied because before the DT acquisition, 

FT (the transferring corporation) is a member 

of a U.S.-parented group of which USP is the 

common parent (the USP group). The 

requirement set forth in paragraph (c)(1)(ii) of 

this section is satisfied because after the DT 

acquisition, and taking into account all 

transactions related to the acquisition, each 

of FA (which is both the successor to FT, the 

transferring corporation, and the foreign 

acquiring corporation) and USS (the person 

that holds the transferred stock) are members 

of a U.S.-parented group of which USS (a 

member of the USP group before the DT 

acquisition) is the common parent. Moreover, 

the DT acquisition qualifies as an internal 

group restructuring under § 1.7874–1(c)(2). 

The requirement set forth in § 1.7874– 

1(c)(2)(i) is satisfied because before the DT 

acquisition, 80 percent or more of the stock 

(by vote and value) of DT was held directly 

or indirectly by USS (the corporation that 

after the acquisition, and taking into account 

all transactions related to the acquisition, is 

the common parent of the EAG). The 

requirement set forth in § 1.7874–1(c)(2)(ii) is 

satisfied because after the acquisition, and 

taking into account all transactions related to 

the acquisition, 80 percent or more of the 

stock (by vote and value) of FA (the foreign 

acquiring corporation) is held directly or 

indirectly by USS. Therefore, the 100 FA 

shares are excluded from the numerator, but 

included in the denominator, of the 

ownership fraction. Accordingly, the 

ownership fraction is 0/100. 

Example 3. U.S.-parented group exception 

available—(i) Facts. USP, a domestic 

corporation wholly owned by Individual A, 

owns all the stock of USS, a domestic 

corporation, and USS owns all the stock of 

DT, also a domestic corporation. DT owns all 

the stock of FT, a foreign corporation. The FT 

stock represents substantially all of the 

property of DT for purposes of section 7874. 

Pursuant to a reorganization described in 

section 368(a)(1)(D), DT transfers all the FT 

stock to FA, a newly formed foreign 

corporation, in exchange for 100 shares of FA 

stock (DT acquisition) and distributes the FA 

stock to USS pursuant to section 361(c)(1). In 

a related transaction, USS distributes all the 

FA stock to USP under section 355(c)(1). 

Lastly, in another related transaction and 

pursuant to a divisive reorganization 

described in section 368(a)(1)(D), USP 

transfers all the stock of USS and FA to DP, 

a newly formed domestic corporation, in 

exchange for all the stock of DP and 

distributes the DP stock to Individual A 

pursuant to section 361(c)(1). 

(ii) Analysis. The 100 FA shares received 

by USS are stock of a foreign acquiring 

corporation described in section 

7874(a)(2)(B)(ii) and, under § 1.7874–5(a), the 

shares retain their status as such even though 

USS subsequently transfers the shares to 

USP. Thus, the 100 FA shares are included 

in the ownership fraction, unless the shares 

are treated as held by members of the EAG 

for purposes of applying section 

7874(c)(2)(A) and § 1.7874–1 and are 

excluded from the ownership fraction under 

those rules. For purposes of applying section 

7874(c)(2)(A) and § 1.7874–1, the 100 FA 

shares, which constitute transferred stock 

under paragraph (f)(2) of this section, are 

treated as held by members of the EAG only 

if an exception in paragraph (c) of this 

section applies. See paragraph (b) of this 

section. The U.S.-parented group exception 

described in paragraph (c)(1) of this section 

applies. The requirement set forth in 

paragraph (c)(1)(i) of this section is satisfied 

because before the DT acquisition, USS (the 

transferring corporation) is a member of a 

U.S.-parented group of which USP is the 

common parent (the USP group). The 

requirement set forth in paragraph (c)(1)(ii) of 

this section is satisfied because after the DT 

acquisition, and taking into account all 

transactions related to the acquisition, each 

of USS, DP (the person that holds the 

transferred stock), and FA (the foreign 

acquiring corporation) are members of a U.S.- 

parented group of which DP (a corporation 

that was formed in a transaction related to 

the DT acquisition and that, immediately 

after it was formed (but without regard to any 

related transactions) was a member of the 

USP group) is the common parent. Therefore, 

the 100 FA shares are excluded from the 

numerator and the denominator of the 

ownership fraction. Accordingly, the 

ownership fraction is 0/0. 

Example 4. Foreign-parented group 

exception—(i) Facts. Individual A owns all 

the stock of FT, a foreign corporation, and FT 

owns all the stock of DT, a domestic 

corporation. FT does not own any other 

property and has no liabilities. Pursuant to a 

reorganization described in section 

368(a)(1)(F), FT transfers all the stock of DT 

to FA, a newly formed foreign corporation, in 

exchange for 100 shares of FA stock (DT 

acquisition) and distributes the FA stock to 

Individual A in liquidation pursuant to 

section 361(c)(1). 

(ii) Analysis. The 100 FA shares received 

by FT are stock of a foreign acquiring 

corporation described in section 

7874(a)(2)(B)(ii) and, under § 1.7874–5(a), the 

shares retain their status as such even though 

FT subsequently distributes the shares to 

Individual A pursuant to section 361(c)(1). 

Thus, the 100 FA shares are included in the 

ownership fraction, unless the shares are 

treated as held by members of the EAG of 

purposes of applying section 7874(a)(2)(A) 

and § 1.7874–1 and are excluded from the 

ownership fraction under those rules. For 

purposes of applying section 7874(c)(2)(A) 

and § 1.7874–1, the 100 FA shares, which 

constitute transferred stock under paragraph 

(f)(2) of this section, are treated as held by 

members of the EAG only if an exception in 

paragraph (c) of this section applies. See 

paragraph (b) of this section. The foreignparented group exception described in 

paragraph (c)(2) of this section applies. The 

requirement set forth in paragraph (c)(2)(i) of 

this section is satisfied because before the DT 

acquisition, FT (the transferring corporation) 

and DT are members of the foreign-parented 

group of which FT is the common parent. 

The requirement set forth in paragraph 

(c)(2)(ii) of this section is satisfied because 

after the acquisition, and taking into account 

all transactions related to the acquisition, FT 

would be a member of the EAG absent the 

distribution of the FA shares pursuant to 

section 361(c)(1). Moreover, the DT 

acquisition qualifies as an internal group 

restructuring under § 1.7874–1(c)(2). The 

requirement set forth in § 1.7874–1(c)(2)(i) is 

satisfied because before the acquisition, 80 

percent or more of the stock (by vote and 

value) of DT was held directly or indirectly 

by FT, the corporation that, without regard to 

the distribution of the FA shares pursuant to 

section 361(c)(1), would be common parent 

of the EAG after the acquisition. See 

§ 1.7874–1(c)(2)(iii). The requirement set 

forth in § 1.7874–1(c)(2)(ii) is satisfied 

because after the acquisition, but without 

regard to the distribution of the FA shares 

pursuant to the section 361(c)(1) distribution, 

FT would directly or indirectly hold 80 

percent or more of the stock (by vote and 

value) of FA (the foreign acquiring 

corporation). See § 1.7874–1(c)(2)(iii). 

Therefore, the 100 FA shares are excluded 

from the numerator, but included in the 

denominator, of the ownership fraction. 

Accordingly, the ownership fraction is 0/100. 

(iii) Alternative facts. The facts are the 

same as in paragraph (i) of this Example 4, 

except that in a transaction after and related 

to the DT acquisition, FA issues 200 shares 

of FA stock to Individual B in exchange for 

qualified property (within the meaning of 

§ 1.7874–4(h)(2)). The foreign-parented group 

exception does not apply because after the 

acquisition, and taking into account FA’s 

issuance of the 200 FA shares to Individual 

B, FT would not be a member of the EAG 

absent FT’s distribution of the 100 FA shares 

pursuant to section 361(c)(1). Accordingly, 

the 100 FA shares received by FT are not 

treated as held by a member of the EAG for 

purposes of applying section 7874(c)(2)(A) 

and § 1.7874–1. As a result, the ownership 

fraction is 100/300. 

(h) Applicability dates. Except as 

otherwise provided in this paragraph 

(h), this section applies to domestic 

entity acquisitions completed on or after 

September 22, 2014. Paragraphs (d)(2) 

and (f)(2)(ii) of this section apply to 

domestic entity acquisitions completed 

on or after April 4, 2016. Taxpayers, 

however, may elect either to apply 

paragraph (c)(2) of this section to 

domestic entity acquisitions completed 

before September 22, 2014, or to 

consistently apply paragraphs (c)(2), 

(d)(2), and (f)(2)(ii) of this section and 

§ 1.7874–1(c)(2)(iii) and (g) to domestic 

entity acquisitions completed before 

April 4, 2016. 

§ 1.7874–6T [Removed] 

■ Par. 22. Section 1.7874–6T is 

removed. 


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■ Par. 23. Section 1.7874–7 is added to 

read as follows: 

§ 1.7874–7 Disregard of certain stock 

attributable to passive assets. 

(a) Scope. This section identifies 

certain stock of a foreign acquiring 

corporation that is attributable to 

passive assets and that is disregarded in 

determining the ownership fraction by 

value. Paragraph (b) of this section sets 

forth the general rule regarding when 

stock of a foreign acquiring corporation 

is excluded from the denominator of the 

ownership fraction under this section. 

Paragraph (c) of this section provides a 

de minimis exception to the application 

of the general rule of paragraph (b) of 

this section. Paragraph (d) of this 

section provides rules for the treatment 

of partnerships, and paragraph (e) of 

this section provides definitions. 

Paragraph (f) of this section provides 

examples illustrating the application of 

the rules of this section. Paragraph (g) of 

this section provides dates of 

applicability. The rules provided in this 

section are also subject to section 

7874(c)(4). See § 1.7874–1(d)(1) for rules 

addressing the interaction of this section 

with the expanded affiliated group rules 

of section 7874(c)(2)(A) and § 1.7874–1. 

(b) General rule. If, on the completion 

date, more than fifty percent of the gross 

value of all foreign group property 

constitutes foreign group nonqualified 

property, then, for purposes of 

determining the ownership percentage 

by value (but not vote) described in 

section 7874(a)(2)(B)(ii), stock of the 

foreign acquiring corporation is 

excluded from the denominator of the 

ownership fraction in an amount equal 

to the product of— 

(1) The value of the stock of the 

foreign acquiring corporation, other 

than stock that is described in section 

7874(a)(2)(B)(ii) and stock that is 

excluded from the denominator of the 

ownership fraction under § 1.7874–1(b), 

§ 1.7874–4(b), § 1.7874–8(b), § 1.7874– 

9(b), or section § 7874(c)(4); and 

(2) The foreign group nonqualified 

property fraction. 

(c) De minimis ownership. Paragraph 

(b) of this section does not apply if— 

(1) The ownership percentage 

described in section 7874(a)(2)(B)(ii), 

determined without regard to the 

application of paragraph (b) of this 

section and §§ 1.7874–4(b) and 1.7874– 

10(b), is less than five (by vote and 

value); and 

(2) On the completion date, each five 

percent former domestic entity 

shareholder or five percent former 

domestic entity partner, as applicable, 

owns (applying the attribution rules of 

section 318(a) with the modifications 

described in section 304(c)(3)(B)) less 

than five percent (by vote and value) of 

the stock of (or a partnership interest in) 

each member of the expanded affiliated 

group. For this purpose, a five percent 

former domestic entity shareholder (or 

five percent former domestic entity 

partner) is a former domestic entity 

shareholder (or former domestic entity 

partner) that, before the domestic entity 

acquisition, owned (applying the 

attribution rules of section 318(a) with 

the modifications described in section 

304(c)(3)(B)) at least five percent (by 

vote and value) of the stock of (or a 

partnership interest in) the domestic 

entity. 

(d) Treatment of partnerships. For 

purposes of this section, if one or more 

members of the modified expanded 

affiliated group own, in the aggregate, 

more than 50 percent (by value) of the 

interests in a partnership, the 

partnership is treated as a corporation 

that is a member of the modified 

expanded affiliated group. 

(e) Definitions. In addition to the 

definitions provided in § 1.7874–12, the 

following definitions apply for purposes 

of this section. 

(1) Foreign group nonqualified 

property—(i) General rule. Foreign 

group nonqualified property means 

foreign group property described in 

§ 1.7874–4(h)(2), other than the 

following: 

(A) Property that gives rise to income 

described in section 954(h), 

determined— 

(1) In the case of property held by a 

foreign corporation, by substituting the 

term ‘‘foreign corporation’’ for the term 

‘‘controlled foreign corporation;’’ and 

(2) In the case of property held by a 

domestic corporation, by substituting 

the term ‘‘domestic corporation’’ for the 

term ‘‘controlled foreign corporation,’’ 

without regard to the phrase ‘‘other than 

the United States’’ in section 

954(h)(3)(A)(ii)(I), and without regard to 

any inference that the tests in section 

954(h) should be calculated or 

determined without taking transactions 

with customers located in the United 

States into account. 

(B) Property that gives rise to income 

described in section 954(i), determined 

by substituting the term ‘‘foreign 

corporation’’ for the term ‘‘controlled 

foreign corporation.’’ 

(C) Property that gives rise to income 

described in section 1297(b)(2)(A) or (B) 

(determined without regard to other 

passive foreign investment company 

rules). 

(D) Property held by a domestic 

corporation that is subject to tax as an 

insurance company under subchapter L 

of chapter 1 of subtitle A of the Internal 

Revenue Code, provided that the 

property is required to support, or is 

substantially related to, the active 

conduct of an insurance business. 

(ii) Special rule. Foreign group 

nonqualified property also means any 

foreign group property that, in a 

transaction related to the domestic 

entity acquisition, is acquired in 

exchange for other property, including 

cash, if such other property would be 

described in paragraph (e)(1)(i) of this 

section had the transaction not 

occurred. 

(2) Foreign group property means any 

property (including excluded property, 

as described in paragraph (e)(3)(ii) of 

this section)) held on the completion 

date by the modified expanded affiliated 

group, other than— 

(i) Property that is directly or 

indirectly acquired in the domestic 

entity acquisition; 

(ii) Stock or a partnership interest in 

a member of the modified expanded 

affiliated group; and 

(iii) An obligation of a member of the 

modified expanded affiliated group. 

(3) Foreign group nonqualified 

property fraction—(i) In general. 

Foreign group nonqualified property 

fraction means a fraction calculated 

with the following numerator and 

denominator: 

(A) The numerator of the fraction is 

the gross value of all foreign group 

nonqualified property, other than 

excluded property (as described in 

paragraph (e)(3)(ii) of this section). 

(B) The denominator of the fraction is 

the gross value of all foreign group 

property, other than excluded property 

(as described in paragraph (e)(3)(ii) of 

this section) 

(ii) Excluded property. For purposes 

of paragraph (e)(3) of this section, 

excluded property means property that 

gives rise to stock that is excluded from 

the ownership fraction with respect to 

the domestic entity acquisition under 

§ 1.7874–4(b), § 1.7874–8(b), § 1.7874– 

9(b), or section 7874(c)(4). For this 

purpose, only property that was directly 

or indirectly acquired in a prior 

domestic entity acquisition (as 

described in § 1.7874–8(g)(4)) or covered 

foreign acquisition (as described in 

§ 1.7874–9(d)(4)) with respect to the 

domestic entity acquisition may be 

considered to give rise to stock that is 

excluded from the ownership fraction 

with respect to the domestic entity 

acquisition under § 1.7874–8(b) or 

§ 1.7874–9(b). If only a portion of the 

consideration provided in a prior 

domestic entity acquisition or covered 

foreign acquisition consisted of stock of 

the foreign acquiring corporation, then 

only a pro rata portion of a property 


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directly or indirectly acquired in the 

prior domestic entity acquisition or 

covered foreign acquisition may be 

considered excluded property, based on 

a fraction the numerator of which is the 

amount of the consideration that 

consisted of stock of the foreign 

acquiring corporation and the 

denominator of which is the total 

amount of consideration. 

(4) Modified expanded affiliated 

group means, with respect to a domestic 

entity acquisition, the group described 

in either paragraph (e)(4)(i) of this 

section or paragraph (e)(4)(ii) of this 

section. A member of the modified 

expanded affiliated group is an entity 

included in the modified expanded 

affiliated group. 

(i) When the foreign acquiring 

corporation is not the common parent 

corporation of the expanded affiliated 

group, the expanded affiliated group 

determined as if the foreign acquiring 

corporation was the common parent 

corporation. 

(ii) When the foreign acquiring 

corporation is the common parent 

corporation of the expanded affiliated 

group, the expanded affiliated group. 

(f) Examples. The following examples 

illustrate the rules of this section. 

Example 1. Application of general rule—(i) 

Facts. Individual A owns all 20 shares of the 

sole class of stock of FA, a foreign 

corporation. FA acquires all the stock of DT, 

a domestic corporation, solely in exchange 

for 76 shares of newly issued FA stock (DT 

acquisition). In a transaction related to the 

DT acquisition, FA issues 4 shares of stock 

to Individual A in exchange for Asset A, 

which has a gross value of $50x. On the 

completion date, in addition to the DT stock 

and Asset A, FA holds Asset B, which has 

a gross value of $150x, and Asset C, which 

has a gross value of $100x. Assets A and B, 

but not Asset C, are nonqualified property 

(within the meaning of § 1.7874–4(h)(2)). 

Further, Asset C was not acquired in a 

transaction related to the DT acquisition. 

(ii) Analysis. The 4 shares of FA stock 

issued to Individual A in exchange for Asset 

A are disqualified stock under § 1.7874–4(c) 

and are excluded from the denominator of 

the ownership fraction pursuant to § 1.7874– 

4(b). Furthermore, additional shares of FA 

stock are excluded from the denominator of 

the ownership fraction pursuant to paragraph 

(b) of this section. This is because on the 

completion date, the gross value of all foreign 

group property is $300x (the sum of the gross 

values of Assets A, B, and C), the gross value 

of all foreign group nonqualified property is 

$200x (the sum of the gross values of Assets 

A and B), and thus 66.67% of the gross value 

of all foreign group property constitutes 

foreign group nonqualified property ($200x/ 

$300x). Because FA has only one class of 

stock outstanding, the shares of FA stock that 

are excluded from the denominator of the 

ownership fraction pursuant to paragraph (b) 

of this section are calculated by multiplying 

20 shares of FA stock (100 shares less the 76 

shares described in section 7874(a)(2)(B)(ii) 

and the 4 shares of disqualified stock) by the 

foreign group nonqualified property fraction. 

The numerator of the foreign group 

nonqualified property fraction is $150x (the 

gross value of Asset B) and the denominator 

is $250x (the sum of the gross values of 

Assets B and C). Asset A is not taken into 

account for purposes of the foreign group 

nonqualified property fraction because it 

gives rise to FA stock that is excluded under 

§ 1.7874–4(b) (4 shares) and, as a result, is 

excluded property. Accordingly, 12 shares of 

FA stock are excluded from the denominator 

of the ownership fraction pursuant to 

paragraph (b) of this section (20 shares 

multiplied by $150x/$250x). Thus, a total of 

16 shares are excluded from the denominator 

of the ownership fraction (4 + 12). As a 

result, the ownership fraction by value is 

76/84. 

Example 2. Application of de minimis 

exception—(i) Facts. Individual A owns all 

96 shares of the sole class of stock of FA, a 

foreign corporation. Individual B wholly 

owns DT, a domestic corporation. 

Individuals A and B are not related. FA 

acquires all the stock of DT solely in 

exchange for 4 shares of newly issued FA 

stock (DT acquisition). On the completion 

date, in addition to all of the stock of DT, FA 

holds Asset A, which is nonqualified 

property (within the meaning of § 1.7874– 

4(h)(2)). 

(ii) Analysis. Without regard to the 

application of §§ 1.7874–4(b) and 1.7874– 

10(b) as well as paragraph (b) of this section, 

the ownership percentage described in 

section 7874(a)(2)(B)(ii) would be less than 5 

(by vote and value), or 4 (4/100, or 4 shares 

of FA stock held by Individual B by reason 

of owning the DT stock, determined under 

§ 1.7874–2(f)(2), over 100 shares of FA stock 

outstanding after the DT acquisition). 

Furthermore, on the completion date, 

Individual B owns less than 5% (by vote and 

value) of the stock of FA and DT (the 

members of the expanded affiliated group). 

Accordingly, the de minimis exception in 

paragraph (c) of this section applies. 

Therefore, paragraph (b) of this section does 

not apply and the ownership fraction is 

4/100. 

Example 3. Foreign acquiring corporation 

not common parent of EAG—(i) Facts. FP, a 

foreign corporation, owns all 85 shares of the 

sole class of stock of FA, a foreign 

corporation. FA acquires all the stock of DT, 

a domestic corporation, solely in exchange 

for 65 shares of newly issued FA stock (DT 

acquisition). On the completion date, FA, in 

addition to all of the stock of DT, owns Asset 

A, which has a gross value of $40x, and Asset 

B, which has a gross value of $45x. Moreover, 

on the completion date, in addition to the 85 

shares of FA stock, FP owns Asset C, which 

has a gross value of $10x. Assets A and C, 

but not Asset B, are nonqualified property 

(within the meaning of § 1.7874–4(h)(2)). 

Further, Asset B was not acquired in a 

transaction related to the DT acquisition in 

exchange for nonqualified property. 

(ii) Analysis. Under paragraph (e)(2) of this 

section, Assets A and B, but not Asset C, are 

foreign group property. Although Asset C is 

held on the completion date by FP, a member 

of the expanded affiliated group, Asset C is 

not foreign group property because FP is not 

a member of the modified expanded affiliated 

group. This is the case because if the 

expanded affiliated group were determined 

based on FA as the common parent 

corporation, FP would not be a member of 

such expanded affiliated group (see 

paragraph (e)(4)(i) of this section). Under 

paragraph (e)(1) of this section, Asset A, but 

not Asset B, is foreign group nonqualified 

property. Therefore, on the completion date, 

the gross value of all foreign group property 

is $85x (the sum of the gross values of Assets 

A and B), and the gross value of all foreign 

group nonqualified property is $40x (the 

gross value of Asset A). Accordingly, on the 

completion date, only 47.06% of the gross 

value of all foreign group property 

constitutes foreign group nonqualified 

property ($40x/$85x). Consequently, 

paragraph (b) of this section does not apply 

to exclude any FA stock from the 

denominator of the ownership fraction. 

Example 4. Coordination with serial 

acquisition rule—(i) Facts. Individual A 

owns all 30 shares of the sole class of stock 

of FA, a foreign corporation. In Year 1, FA 

acquires all the stock of DT1, a domestic 

corporation, solely in exchange for 40 shares 

of newly issued FA stock (DT1 acquisition). 

In Year 2, FA acquires all the stock of DT2, 

a domestic corporation, solely in exchange 

for 50 shares of newly issued FA stock (DT2 

acquisition). On the completion date for the 

DT2 acquisition, in addition to the DT2 

stock, FA holds Asset A, which has a gross 

value of $15x, Asset B, which has a gross 

value of $15x, and all the stock of DT1, 

which has a gross value of $40x. At all times, 

DT1 holds only Asset C, which has a gross 

value of $30x, and Asset D, which has a gross 

value of $10x. Assets A and C, but not Assets 

B and D, are nonqualified property (within 

the meaning of § 1.7874–4(h)(2)). In addition, 

at all times, the fair market value of each 

share of FA stock is $1x. Further, there have 

been no redemptions of FA stock subsequent 

to the DT1 acquisition. Lastly, under 

§ 1.7874–8, the DT1 acquisition is a prior 

domestic entity acquisition with respect to 

the DT2 acquisition and $40x of FA stock is 

excluded from the denominator of the 

ownership fraction with respect to the DT2 

acquisition. 

(ii) Analysis. Shares of FA stock are 

excluded from the denominator of the 

ownership fraction pursuant to paragraph (b) 

of this section. This is because on the 

completion date, the gross value of all foreign 

group property is $70x (the sum of the gross 

values of Assets A, B, C, and D), the gross 

value of all foreign group nonqualified 

property is $45x (the sum of the gross values 

of Assets A and C), and thus 64.29% of the 

gross value of all foreign group property 

constitutes foreign group nonqualified 

property ($45x/$70x). The shares of FA stock 

that are excluded from the denominator of 

the ownership fraction pursuant to paragraph 

(b) of this section are calculated by 

multiplying $30x ($120x, the value of all the 

shares of FA stock, less $50x, the value of the 

stock described in section 7874(a)(2)(B)(ii), 

less $40x, the value of the stock excluded 


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under § 1.7874–8(b)) by the foreign group 

nonqualified property fraction. The property 

taken into account for purposes of 

determining the foreign group nonqualified 

property fraction is Asset A and Asset B. 

Asset C and Asset D are not taken into 

account for purposes of the foreign group 

nonqualified property fraction because they 

are excluded property. This is because FA 

indirectly acquired the Assets in the DT1 

acquisition (a prior domestic entity 

acquisition with respect to the DT2 

acquisition) and, as a result of that 

acquisition, $40x of FA stock is excluded 

from the denominator of the ownership 

fraction with respect to the DT2 acquisition 

under § 1.7874–8(b). Thus, the numerator of 

the foreign group nonqualified property 

fraction is $15x (the gross value of Asset A) 

and the denominator is $30x (the sum of the 

gross values of Asset A, $15x, and Asset B, 

$15x). Accordingly, $15x of FA stock is 

excluded from the denominator of the 

ownership fraction pursuant to paragraph (b) 

of this section ($30x multiplied by $15x/ 

$30x). Thus, a total of $55x of FA stock is 

excluded from the denominator of the 

ownership fraction ($40x + $15x), making the 

denominator $65x ($120x ¥ $55x). As a 

result, the ownership percentage with respect 

to the DT2 acquisition by value is 76.92 

($50x/$65x). 

(ii) Alternative facts. The facts are the same 

as in paragraph (i) of this Example 4, except 

as follows. Initially, there are 40 shares of FA 

stock outstanding, all of which are owned by 

Individual A. At all times, the gross value of 

asset D is $20x. In the DT1 acquisition, FA 

acquires all the stock of DT1 ($50x fair 

market value) solely in exchange for 40 

shares of newly issued FA stock and $10x of 

other property. As in paragraph (i) of this 

Example 4, shares of FA stock are excluded 

from the denominator of the ownership 

fraction pursuant to paragraph (b) of this 

section. This is because on the completion 

date, the gross value of all foreign group 

property is $80x (the sum of the gross values 

of Assets A, B, C, and D), the gross value of 

all foreign group nonqualified property is 

$45x (the sum of the gross values of Assets 

A and C), and thus 56.25% of the gross value 

of all foreign group property constitutes 

foreign group nonqualified property ($45x/ 

$80x). The shares of FA stock that are 

excluded from the denominator of the 

ownership fraction pursuant to paragraph (b) 

of this section are calculated by multiplying 

$40x ($130x, the value of all the shares of FA 

stock, less $50x, the value of the stock 

described in section 7874(a)(2)(B)(ii), less 

$40x, the value of the stock excluded under 

§ 1.7874–8(b)) by the foreign group 

nonqualified property fraction. The property 

taken into account for purposes of 

determining the foreign group nonqualified 

property fraction is Asset A, Asset B, and the 

portion of Asset C and Asset D that is not 

excluded property. Eighty percent of each of 

Asset C and Asset D are considered excluded 

property because FA indirectly acquired 

Asset C and Asset D in the DT1 acquisition 

(a prior domestic entity acquisition with 

respect to the DT2 acquisition); as a result of 

that acquisition, $40x of FA stock is excluded 

from the denominator of the ownership 

fraction with respect to the DT2 acquisition 

under § 1.7874–8(b); and 80% of the 

consideration provided in the DT1 

acquisition consisted of stock of FA ($40x/ 

$50x). Thus, the numerator of the foreign 

group nonqualified property fraction is $21x 

(the sum of the gross values of Asset A, $15x, 

and the portion of Asset C that is not 

excluded property, $6x) and the denominator 

is $40x (the sum of the gross values of Asset 

A, $15x, Asset B, $15x, and the portion of 

Asset C and Asset D that is not excluded 

property, $6x and $4x, respectively). 

Accordingly, $21x of FA stock is excluded 

from the denominator of the ownership 

fraction pursuant to paragraph (b) of this 

section ($40x multiplied by $21x/$40x). 

Thus, a total of $61x of FA stock is excluded 

from the denominator of the ownership 

fraction pursuant to paragraph (b) of this 

section ($40x + $21x), making the 

denominator $69x ($130x ¥ $61x). As a 

result, the ownership percentage with respect 

to D2 acquisition by value is 72.46 ($50x/ 

$69x). 

(g) Applicability dates. This section 

applies to domestic entity acquisitions 

completed on or after July 12, 2018. For 

domestic entity acquisitions completed 

before July 12, 2018, see § 1.7874–7T, as 

contained in 26 CFR part 1 revised as of 

April 1, 2017. However, to the extent 

this section differs from § 1.7874–7T, as 

contained in 26 CFR part 1 revised as of 

April 1, 2017, taxpayers may elect to 

consistently apply the differences to 

domestic entity acquisitions completed 

before July 12, 2018. 

§ 1.7874–7T [Removed] 

■ Par. 24. Section 1.7874–7T is 

removed. 

■ Par. 25. Section 1.7874–8 is added to 

read as follows: 

§ 1.7874–8 Disregard of certain stock 

attributable to serial acquisitions. 

(a) Scope. This section identifies stock 

of a foreign acquiring corporation that is 

disregarded in determining an 

ownership fraction by value because it 

is attributable to certain prior domestic 

entity acquisitions. Paragraph (b) of this 

section sets forth the general rule 

regarding the amount of stock of a 

foreign acquiring corporation that is 

excluded from the denominator of the 

ownership fraction by value under this 

section, and paragraphs (c) through (f) of 

this section provide rules for 

determining this amount. Paragraph (g) 

provides definitions. Paragraph (h) of 

this section provides examples 

illustrating the application of the rules 

of this section. Paragraph (i) of this 

section provides dates of applicability. 

This section applies after taking into 

account § 1.7874–2(e). See § 1.7874– 

1(d)(1) for rules addressing the 

interaction of this section with the 

expanded affiliated group rules of 

section 7874(c)(2)(A) and § 1.7874–1. 

(b) General rule. This paragraph (b) 

applies to a domestic entity acquisition 

(relevant domestic entity acquisition) 

when the foreign acquiring corporation 

(including a predecessor, as defined in 

§ 1.7874–10(f)(1)) has completed one or 

more prior domestic entity acquisitions. 

When this paragraph (b) applies, then, 

for purposes of determining the 

ownership percentage by value (but not 

vote) described in section 

7874(a)(2)(B)(ii), stock of the foreign 

acquiring corporation is excluded from 

the denominator of the ownership 

fraction in an amount equal to the sum 

of the excluded amounts computed 

separately with respect to each prior 

domestic entity acquisition and each 

relevant share class. 

(c) Computation of excluded amounts. 

With respect to each prior domestic 

entity acquisition and each relevant 

share class, the excluded amount is the 

product of— 

(1) The total number of prior 

acquisition shares, reduced by the sum 

of the number of allocable redeemed 

shares for all redemption testing 

periods; and 

(2) The fair market value of a single 

share of stock of the relevant share class 

on the completion date of the relevant 

domestic entity acquisition. 

(d) Computation of allocable 

redeemed shares—(1) In general. With 

respect to each prior domestic entity 

acquisition and each relevant share 

class, the allocable redeemed shares, 

determined separately for each 

redemption testing period, is the 

product of the number of redeemed 

shares during the redemption testing 

period and the redemption fraction. 

(2) Redemption fraction. The 

redemption fraction is determined 

separately with respect to each prior 

domestic entity acquisition, each 

relevant share class, and each 

redemption testing period, as follows: 

(i) The numerator is the total number 

of prior acquisition shares, reduced by 

the sum of the number of allocable 

redeemed shares for all prior 

redemption testing periods. 

(ii) The denominator is the sum of— 

(A) The number of outstanding shares 

of the foreign acquiring corporation 

stock as of the end of the last day of the 

redemption testing period; and 

(B) The number of redeemed shares 

during the redemption testing period. 

(e) Rules for determining redemption 

testing periods—(1) In general. Except 

as provided in paragraph (e)(2) of this 

section, a redemption testing period 

with respect to a prior domestic entity 

acquisition is the period beginning on 


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the day after the completion date of the 

prior domestic entity acquisition and 

ending on the day prior to the 

completion date of the relevant 

domestic entity acquisition. 

(2) Election to use multiple 

redemption testing periods. A foreign 

acquiring corporation may establish a 

reasonable method for dividing the 

period described in paragraph (e)(1) of 

this section into shorter periods (each 

such shorter period, a redemption 

testing period). A reasonable method 

would include a method based on a 

calendar convention (for example, daily, 

monthly, quarterly, or yearly), or on a 

convention that triggers the start of a 

new redemption testing period 

whenever a share issuance occurs that 

exceeds a certain threshold. In order to 

be reasonable, the method must be 

consistently applied with respect to all 

prior domestic entity acquisitions and 

all relevant share classes. 

(f) Appropriate adjustments required 

to take into account share splits and 

similar transactions. For purposes of 

this section, appropriate adjustments 

must be made to take into account 

changes in a foreign acquiring 

corporation’s capital structure, 

including, for example, stock splits, 

reverse stock splits, stock distributions, 

recapitalizations, and similar 

transactions. Thus, for example, in 

determining the total number of prior 

acquisition shares with respect to a 

relevant share class, appropriate 

adjustments must be made to take into 

account a stock split with respect to that 

relevant share class that occurs after the 

completion date with respect to a prior 

domestic entity acquisition. 

(g) Definitions. In addition to the 

definitions provided in § 1.7874–12, the 

following definitions apply for purposes 

of this section. 

(1) A binding contract means an 

instrument enforceable under applicable 

law against the parties to the 

instrument. The presence of a condition 

outside the control of the parties 

(including, for example, regulatory 

agency approval) does not prevent an 

instrument from being a binding 

contract. Further, the fact that 

insubstantial terms remain to be 

negotiated by the parties to the contract, 

or that customary conditions remain to 

be satisfied, does not prevent an 

instrument from being a binding 

contract. A tender offer that is subject to 

section 14(d) of the Securities and 

Exchange Act of 1934, (15 U.S.C. 

78n(d)(1)), and Regulation 14D (17 CFR 

240.14d–1 through 240.14d–103) and 

that is not pursuant to a binding 

contract, is treated as a binding contract 

made on the date of its announcement, 

notwithstanding that it may be modified 

by the offeror or that it is not 

enforceable against the offerees. 

(2) A relevant share class means, with 

respect to a prior domestic entity 

acquisition, each separate legal class of 

shares in the foreign acquiring 

corporation from which prior 

acquisition shares were issued. See also 

paragraph (f) of this section (requiring 

appropriate adjustments in certain 

cases). 

(3) Total number of prior acquisition 

shares means, with respect to a prior 

domestic entity acquisition and each 

relevant share class, the total number of 

shares of stock of the foreign acquiring 

corporation that were described in 

section 7874(a)(2)(B)(ii) as a result of 

that acquisition (without regard to 

whether the 60 percent test of section 

7874(a)(2)(B)(ii) was satisfied), other 

than stock treated as received by former 

domestic entity shareholders or former 

domestic entity partners under 

§ 1.7874–10(b) or section 7874(c)(4), 

adjusted as appropriate under paragraph 

(f) of this section. 

(4) A prior domestic entity 

acquisition—(i) General rule. Except as 

provided in this paragraph (g)(4), a prior 

domestic entity acquisition means, with 

respect to a relevant domestic entity 

acquisition, a domestic entity 

acquisition that occurred within the 36- 

month period ending on the signing 

date of the relevant domestic entity 

acquisition. 

(ii) Exception. A domestic entity 

acquisition is not a prior domestic entity 

acquisition if it is described in 

paragraph (g)(4)(ii)(A) or (B) of this 

section. 

(A) De minimis. A domestic entity 

acquisition is described in this 

paragraph (g)(4)(ii)(A) if— 

(1) The ownership percentage 

described in section 7874(a)(2)(B)(ii) 

with respect to the domestic entity 

acquisition was less than five (by vote 

and value); and 

(2) The fair market value of the stock 

of the foreign acquiring corporation 

described in section 7874(a)(2)(B)(ii) as 

a result of the domestic entity 

acquisition (without regard to whether 

the 60 percent test of section 

7874(a)(2)(B)(ii) was satisfied) did not 

exceed $50 million, as determined on 

the completion date with respect to the 

domestic entity acquisition. 

(B) Foreign-parented group. A 

domestic entity acquisition is described 

in this paragraph (g)(4)(ii)(B) if— 

(1) Before the domestic entity 

acquisition and any related transaction, 

the domestic entity was a member of a 

foreign-parented group (as described in 

§ 1.7874–6(f)(1)); and 

(2) The domestic entity acquisition 

qualified for the internal group 

restructuring exception under § 1.7874– 

1(c)(2). 

(5) A redeemed share means a share 

of stock in a relevant share class that 

was redeemed (within the meaning of 

section 317(b)). 

(6) A signing date means the first date 

on which the contract to effect the 

relevant domestic entity acquisition is a 

binding contract, or if another binding 

contract to effect a substantially similar 

acquisition was terminated with a 

principal purpose of avoiding section 

7874, the first date on which such other 

contract was a binding contract. 

(h) Examples. The following examples 

illustrate the rules of this section. 

Example 1. Application of general rule—(i) 

Facts. Individual A wholly owns DT1, a 

domestic corporation. Individual B owns all 

100 shares of the sole class of stock of FA, 

a foreign corporation. In Year 1, FA acquires 

all the stock of DT1 solely in exchange for 

100 shares of newly issued FA stock (DT1 

acquisition). On the completion date with 

respect to the DT1 acquisition, the fair 

market value of each share of FA stock is $1x. 

In Year 3, FA enters into a binding contract 

to acquire all the stock of DT2, a domestic 

corporation wholly owned by Individual C. 

Thereafter, FA acquires all the stock of DT2 

solely in exchange for 150 shares of newly 

issued FA stock (DT2 acquisition). On the 

completion date with respect to the DT2 

acquisition, the fair market value of each 

share of FA stock is $1.50x. FA did not 

complete the DT1 acquisition and DT2 

acquisition pursuant to a plan (or series of 

related transactions) for purposes of applying 

§ 1.7874–2(e). In addition, there have been no 

redemptions of FA stock subsequent to the 

DT1 acquisition. 

(ii) Analysis. The DT1 acquisition is a prior 

domestic entity acquisition with respect to 

the DT2 acquisition (the relevant domestic 

entity acquisition) because the DT1 

acquisition occurred within the 36-month 

period ending on the signing date with 

respect to the DT2 acquisition. Accordingly, 

paragraph (b) of this section applies to the 

DT2 acquisition. As a result, and because 

there were no redemptions of FA stock, the 

excluded amount is $150x, calculated as 100 

(the total number of prior acquisition shares) 

multiplied by $1.50x (the fair market value 

of a single share of FA stock on the 

completion date with respect to the DT2 

acquisition). Accordingly, the numerator of 

the ownership fraction by value is $225x (the 

fair market value of the stock of FA that, with 

respect to the DT2 acquisition, is described 

in section 7874(a)(2)(B)(ii)) (150 shares x 

$1.50x per share). In addition, the 

denominator of the ownership fraction is 

$375x (calculated as $525x, the fair market 

value of all 350 shares of FA stock as of the 

completion date with respect to the DT2 

acquisition, less $150x, the excluded 

amount). Therefore, the ownership 

percentage by value is 60 ($225x divided by 

$375x). 


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Example 2. Effect of certain redemptions— 

(i) Facts. The facts are the same as in 

paragraph (i) of Example 1 of this paragraph 

(h), except that in Year 2 FA redeems 50 

shares of its stock (the Year 2 redemption). 

(ii) Analysis. As is the case in paragraph 

(ii) of Example 1 of this paragraph (h), the 

DT1 acquisition is a prior domestic entity 

acquisition with respect to the DT2 

acquisition (the relevant domestic entity 

acquisition), and paragraph (b) of this section 

thus applies to the DT2 acquisition. Because 

of the Year 2 redemption, the allocable 

redeemed shares, and thus the redemption 

fraction, must be calculated. For this 

purpose, the redemption testing period is the 

period beginning on the day after the 

completion date with respect to the DT1 

acquisition and ending on the day prior to 

the completion date with respect to the DT2 

acquisition. The redemption fraction for the 

redemption testing period is thus 100/200, 

calculated as 100 (the total number of prior 

acquisition shares) divided by 200 (150, the 

number of outstanding shares of FA stock on 

the last day of the redemption testing period, 

plus 50, the number of redeemed shares 

during the redemption testing period), and 

the allocable redeemed shares for the 

redemption testing period is 25, calculated as 

50 (the number of redeemed shares during 

the redemption testing period) multiplied by 

100/200 (the redemption fraction for the 

redemption testing period). As a result, the 

excluded amount is $112.50x, calculated as 

75 (100, the total number of prior acquisition 

shares, less 25, the allocable redeemed 

shares) multiplied by $1.50x (the fair market 

value of a single share of FA stock on the 

completion date with respect to the DT2 

acquisition). Accordingly, the numerator of 

the ownership fraction by value is $225x (the 

fair market value of the stock of FA that, with 

respect to the DT2 acquisition, is described 

in section 7874(a)(2)(B)(ii)) (150 shares × 

$1.50x per share), and the denominator of the 

ownership fraction is $337.50x (calculated as 

$450x, the fair market value of all 300 shares 

of FA stock as of the completion date with 

respect to the DT2 acquisition, less $112.50x, 

the excluded amount). Therefore, the 

ownership percentage by value is 66.67 

($225x divided by $337.50x). 

Example 3. Stock split—(i) Facts. The facts 

are the same as in paragraph (i) of Example 

2 of this paragraph (h), except as follows. 

After the Year 2 redemption, but before the 

DT2 acquisition, FA undergoes a stock split 

and, as a result, each of the 150 shares of FA 

stock outstanding are converted into two 

shares (Year 2 stock split). Further, pursuant 

to the DT2 acquisition, FA acquires all the 

stock of DT2 solely in exchange for 300 

shares of newly issued FA stock. Moreover, 

on the completion date with respect to the 

DT2 acquisition, the fair market value of each 

share of FA stock is $0.75x. 

(ii) Analysis. As is the case in paragraph 

(ii) of Example 1 of this paragraph (h), the 

DT1 acquisition is a prior domestic entity 

acquisition with respect to the DT2 

acquisition (the relevant domestic entity 

acquisition), and paragraph (b) of this section 

thus applies to the DT2 acquisition. In 

addition, as is the case in paragraph (ii) of 

Example 2 of this paragraph (h), the 

redemption testing period is the period 

beginning on the day after the completion 

date with respect to the DT1 acquisition and 

ending on the day prior to the completion 

date with respect to the DT2 acquisition. To 

calculate the redemption fraction, the total 

number of prior acquisition shares and the 

number of redeemed shares during the 

redemption testing period must be 

appropriately adjusted to take into account 

the Year 2 stock split. See paragraph (f) of 

this section. In this case, the appropriate 

adjustment is to increase the total number of 

prior acquisition shares from 100 to 200 and 

to increase the number of redeemed shares 

during the redemption testing period from 50 

to 100. Thus, the redemption fraction for the 

redemption testing period is 200/400, 

calculated as 200 (the total number of prior 

acquisition shares) divided by 400 (300, the 

number of outstanding shares of FA stock on 

the last day of the redemption testing period, 

plus 100, the number of redeemed shares 

during the redemption testing period), and 

the allocable redeemed shares for the 

redemption testing period is 50, calculated as 

100 (the number of redeemed shares during 

the redemption testing period) multiplied by 

200/400 (the redemption fraction for the 

redemption testing period). In addition, for 

purposes of calculating the excluded amount, 

the total number of prior acquisition shares 

must be adjusted from 100 to 200. See 

paragraph (f) of this section. Accordingly, the 

excluded amount is $112.50x, calculated as 

150 (200, the total number of prior 

acquisition shares, less 50, the allocable 

redeemed shares) multiplied by $0.75x (the 

fair market value of a single share of FA stock 

on the completion date with respect to the 

DT2 acquisition). Consequently, the 

numerator of the ownership fraction by value 

is $225x (the fair market value of the stock 

of FA that, with respect to the DT2 

acquisition, is described in section 

7874(a)(2)(B)(ii)) (300 shares × $0.75x per 

share), and the denominator of the ownership 

fraction is $337.50x (calculated as $450x, the 

fair market value of all 600 shares of FA stock 

as of the completion date with respect to the 

DT2 acquisition, less $112.50x, the excluded 

amount). Therefore, the ownership 

percentage by value is 66.67 ($225 divided by 

$337.50x). 

(i) Applicability dates. Except as 

provided in this paragraph (i), this 

section applies to domestic entity 

acquisitions completed on or after April 

4, 2016, regardless of when a prior 

domestic entity acquisition was 

completed. Paragraphs (g)(3) and 

(g)(4)(ii) of this section apply to 

domestic entity acquisitions completed 

on or after July 12, 2018. However, 

taxpayers may elect to consistently 

apply paragraphs (g)(3) and (g)(4)(ii) of 

this section to domestic entity 

acquisitions completed on or after April 

4, 2016, and before July 12, 2018. For 

domestic entity acquisitions completed 

on or after April 4, 2016, and before July 

12, 2018, see § 1.7874–8T(g)(3) and 

(g)(4)(ii) as contained in 26 CFR part 1 

revised as of April 1, 2017. 

§ 1.7874–8T [Removed] 

■ Par. 26. Section 1.7874–8T is 

removed. 

■ Par. 27. Section 1.7874–9 is added to 

read as follows: 

§ 1.7874–9 Disregard of certain stock in 

third-country transactions. 

(a) Scope. This section identifies 

certain stock of a foreign acquiring 

corporation that is disregarded in 

determining the ownership fraction. 

Paragraph (b) of this section provides a 

rule that, in a third-country transaction, 

excludes from the denominator of the 

ownership fraction stock in the foreign 

acquiring corporation held by former 

shareholders of an acquired foreign 

corporation by reason of holding certain 

stock in that foreign corporation. 

Paragraph (c) of this section defines a 

third-country transaction, and 

paragraph (d) of this section provides 

other definitions. Paragraph (e) of this 

section provides operating rules. 

Paragraph (f) of this section provides an 

example illustrating the application of 

the rules of this section. Paragraph (g) of 

this section provides the dates of 

applicability. See § 1.7874–1(d)(1) for 

rules addressing the interaction of this 

section with the expanded affiliated 

group rules of section 7874(c)(2)(A) and 

§ 1.7874–1. 

(b) Exclusion of certain stock of a 

foreign acquiring corporation from the 

ownership fraction. When a domestic 

entity acquisition is a third-country 

transaction, stock of the foreign 

acquiring corporation held by reason of 

holding stock in the acquired foreign 

corporation (within the meaning of 

paragraph (e)(4) of this section) is, to the 

extent the stock otherwise would be 

included in the denominator of the 

ownership fraction, excluded from the 

denominator of the ownership fraction 

pursuant to this paragraph. 

(c) Third-country transaction. A 

domestic entity acquisition is a thirdcountry transaction if the following 

requirements are satisfied: 

(1) The foreign acquiring corporation 

completes a covered foreign acquisition 

pursuant to a plan (or series of related 

transactions) that includes the domestic 

entity acquisition. 

(2) After the covered foreign 

acquisition and all related transactions 

are complete, the foreign acquiring 

corporation is not a tax resident of the 

foreign country in which the acquired 

foreign corporation was a tax resident 

before the covered foreign acquisition 

and all related transactions. 

(3) The ownership percentage 

described in section 7874(a)(2)(B)(ii), 

determined without regard to the 


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application of paragraph (b) of this 

section, is at least 60. 

(d) Definitions. In addition to the 

definitions provided in § 1.7874–12, the 

following definitions apply for purposes 

of this section. 

(1) A foreign acquisition means a 

transaction in which a foreign acquiring 

corporation directly or indirectly 

acquires substantially all of the 

properties held directly or indirectly by 

an acquired foreign corporation (within 

the meaning of paragraph (e)(2) of this 

section). 

(2) An acquired foreign corporation 

means a foreign corporation whose 

properties are acquired in a foreign 

acquisition. 

(3) Foreign ownership percentage 

means, with respect to a foreign 

acquisition, the percentage of stock (by 

vote or value) of the foreign acquiring 

corporation held by reason of holding 

stock in the acquired foreign 

corporation (within the meaning of 

paragraph (e)(3) of this section). 

(4) Covered foreign acquisition—(i) In 

general. Except as provided in 

paragraphs (d)(4)(ii) and (iii) of this 

section, a covered foreign acquisition 

means a foreign acquisition in which, 

after the acquisition and all related 

transactions are complete, the foreign 

ownership percentage is at least 60. 

(ii) Substantial business activities 

exception. A foreign acquisition is not a 

covered foreign acquisition if, on the 

completion date, the following 

requirements are satisfied: 

(A) The foreign acquiring corporation 

is a tax resident of a foreign country. 

(B) The expanded affiliated group has 

substantial business activities in the 

country in which the foreign acquiring 

corporation is a tax resident when 

compared to the total business activities 

of the expanded affiliated group. For 

this purpose, the principles of § 1.7874– 

3 apply and the determination of 

whether there are substantial business 

activities is made without regard to the 

domestic entity acquisition. 

(iii) No income tax exception. A 

foreign acquisition is not a covered 

foreign acquisition if— 

(A) Before the acquisition and all 

related transactions, the acquired 

foreign corporation was created or 

organized in, or under the law of, a 

foreign country that does not impose 

corporate income tax and was not a tax 

resident of any other foreign country; 

and 

(B) After the acquisition and all 

related transactions are complete, the 

foreign acquiring corporation is created 

or organized in, or under the law of, a 

foreign country that does not impose 

corporate income tax and is not a tax 

resident of any other foreign country. 

(5) A tax resident of a foreign country 

has the meaning set forth in § 1.7874– 

3(d)(11). 

(e) Operating rules. The following 

rules apply for purposes of this section. 

(1) Acquisition of multiple foreign 

corporations that are tax residents of the 

same foreign country. When multiple 

foreign acquisitions occur pursuant to 

the same plan (or a series of related 

transactions) and two or more of the 

acquired foreign corporations were tax 

residents of the same foreign country 

before the foreign acquisitions and all 

related transactions, then those foreign 

acquisitions are treated as a single 

foreign acquisition and those acquired 

foreign corporations are treated as a 

single acquired foreign corporation for 

purposes of this section. 

(2) Acquisition of properties of an 

acquired foreign corporation. For 

purposes of determining whether a 

foreign acquisition occurs, the 

principles of section 7874(a)(2)(B)(i) and 

§ 1.7874–2(c) and (d) (regarding 

acquisitions of properties of a domestic 

entity and acquisitions by multiple 

foreign corporations) apply with the 

following modifications: 

(i) The principles of § 1.7874–2(c)(1) 

(providing rules for determining 

whether there is an indirect acquisition 

of properties of a domestic entity), 

including § 1.7874–2(b)(5) (providing 

rules for determining the proportionate 

amount of properties indirectly 

acquired), apply by substituting the 

term ‘‘foreign’’ for ‘‘domestic’’ wherever 

it appears. 

(ii) The principles of § 1.7874–2(c)(2) 

(regarding acquisitions of stock of a 

foreign corporation that owns a 

domestic entity) apply by substituting 

the term ‘‘domestic’’ for ‘‘foreign’’ 

wherever it appears. 

(3) Computation of foreign ownership 

percentage. For purposes of determining 

a foreign ownership percentage, the 

principles of all rules applicable to 

calculating an ownership percentage 

apply (including §§ 1.7874–2, 1.7874–4, 

1.7874–5, 1.7874–7, and section 

7874(c)(4)) with the following 

modifications: 

(i) Stock of a foreign acquiring 

corporation described in section 

7874(a)(2)(B)(ii) is not taken into 

account. 

(ii) The principles of this section, 

section 7874(c)(2)(A), and §§ 1.7874–1, 

1.7874–6, 1.7874–8, and 1.7874–10 do 

not apply. 

(iii) The principles of § 1.7874–7 

apply by, in addition to the exclusions 

listed in § 1.7874–7(e)(2)(i) through (iii), 

also excluding from the definition of 

foreign group property any property 

held directly or indirectly by the 

acquired foreign corporation 

immediately before the foreign 

acquisition and directly or indirectly 

acquired in the foreign acquisition. 

(4) Stock held by reason of holding 

stock in an acquired foreign 

corporation. For purposes of 

determining stock of a foreign acquiring 

corporation held by reason of holding 

stock in an acquired foreign corporation, 

the principles of section 7874(a)(2)(B)(ii) 

and §§ 1.7874–2(f) and 1.7874–5 apply. 

(5) Change in the tax residency of a 

foreign corporation. For purposes of this 

section, a change in a country in which 

a foreign corporation is a tax resident is 

treated as a transaction. Further, for 

purposes of this section, if a foreign 

acquiring corporation changes the 

country in which it is a tax resident in 

a manner that would not otherwise be 

considered to result in a foreign 

acquisition (for example, by changing 

where it is managed and controlled), 

then the foreign acquiring corporation is 

treated as— 

(i) Both an acquired foreign 

corporation and a foreign acquiring 

corporation; and 

(ii) Directly or indirectly acquiring all 

of the properties held directly or 

indirectly by the acquired foreign 

corporation solely in exchange for stock 

of the foreign acquiring corporation. 

(f) Example. The following example 

illustrates the rules of this section. 

Example. Third-country transaction—(i) 

Facts. FA, a newly formed foreign 

corporation that is a tax resident of Country 

Y, acquires all the stock of DT, a domestic 

corporation that is wholly owned by 

Individual A, solely in exchange for 65 

shares of newly issued FA stock (DT 

acquisition). Pursuant to a plan that includes 

the DT acquisition, FA acquires all the stock 

of FT, a foreign corporation that is a tax 

resident of Country X and wholly owned by 

Individual B, solely in exchange for the 

remaining 35 shares of newly issued FA 

stock (FT acquisition). After the FT 

acquisition and all related transactions, the 

expanded affiliated group does not have 

substantial business activities in Country Y 

when compared to the total business 

activities of the expanded affiliated group, as 

determined under the principles of § 1.7874– 

3 and without regard to the DT acquisition. 

(ii) Analysis. As described in paragraphs 

(A) through (C) of this Example, the 

requirements set forth in paragraphs (c)(1) 

through (3) of this section are satisfied and, 

as result, the DT acquisition is a thirdcountry transaction. 

(A) The FT acquisition is a foreign 

acquisition because, pursuant to the FT 

acquisition, FA (a foreign acquiring 

corporation) acquires 100 percent of the stock 

of FT and is thus treated as indirectly 

acquiring 100 percent of the properties held 

by FT (an acquired foreign corporation). See 


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§ 1.7874–2(c)(1) and paragraph (e)(2) of this 

section. Moreover, Individual B is treated as 

receiving 35 shares of FA stock by reason of 

holding stock in FT. See § 1.7874–2(f)(1)(i) 

and paragraph (e)(4) of this section. As a 

result, not taking into account the 65 shares 

of FA stock held by Individual A (a former 

domestic entity shareholder), 100 percent 

(35/35) of the stock of FA is held by reason 

of holding stock in FT and, thus, the foreign 

ownership percentage is 100. See paragraph 

(e)(3) of this section. Accordingly, the FT 

acquisition is a covered foreign acquisition. 

Therefore, because the FT acquisition occurs 

pursuant to a plan that includes the DT 

acquisition, the requirement set forth in 

paragraph (c)(1) of this section is satisfied. 

(B) The requirement set forth in paragraph 

(c)(2) of this section is satisfied because, after 

the FT acquisition and all related 

transactions, the foreign country in which FA 

is a tax resident (Country Y) is different than 

the foreign country in which FT was a 

resident (Country X) before the FT 

acquisition and all related transactions. 

(C) The requirement set forth in paragraph 

(c)(3) of this section is satisfied because, not 

taking into account paragraph (b) of this 

section, the ownership fraction is 65/100 and 

the ownership percentage is 65. 

(D) Because the DT acquisition is a thirdcountry transaction, the 35 shares of FA stock 

held by reason of holding stock in FT are 

excluded from the denominator of the 

ownership fraction. See paragraph (b) of this 

section. As a result, the ownership fraction 

is 65/65 and the ownership percentage is 

100. The result would be the same if instead 

FA had directly acquired all of the properties 

held by FT in exchange for FA stock, for 

example, in a transaction that would qualify 

for U.S. federal income tax purposes as an 

asset reorganization under section 368. 

(iii) Alternative facts. The facts are the 

same as in paragraph (i) of this example, 

except that before the FT acquisition, but in 

a transaction related to the FT acquisition, FT 

becomes a tax resident of Country Y by 

reincorporating in Country Y. As is the case 

in paragraph (ii) of this Example, the 

requirements set forth in paragraphs (c)(1) 

and (3) of this section are satisfied. The 

requirement set forth in paragraph (c)(2) of 

this section is satisfied because, after the FT 

acquisition and any related transactions, the 

foreign country of which FA is a tax resident 

(Country Y) is different than the foreign 

country of which FT was a tax resident 

(Country X) before the FT acquisition and the 

reincorporation. See paragraph (e)(5) of this 

section. Accordingly, the DT acquisition is a 

third-country transaction and the 

consequences are the same as in paragraph 

(ii)(D) of this Example. 

(iv) Alternative facts. The facts are the 

same as in paragraph (i) of this Example, 

except that, instead of FA acquiring all of the 

stock of FT, FS, a newly formed foreign 

corporation that is wholly owned by FA and 

that is a tax resident of Country X, acquires 

all the stock of FT solely in exchange for 35 

shares of newly issued FA stock (FT 

acquisition). As a result of the FT acquisition, 

FS and FA are each treated as indirectly 

acquiring 100 percent of the properties held 

by FT. See § 1.7874–2(c)(1)(i) and (iii) and 

paragraph (e)(2) of this section. Accordingly, 

each of FS’s and FA’s indirect acquisition of 

properties of FT (an acquired foreign 

corporation) is a foreign acquisition. 

However, FS’s indirect acquisition of FT’s 

properties is not a covered foreign 

acquisition because no shares of FS stock are 

held by reason of holding stock in FT; thus, 

with respect to this foreign acquisition, the 

foreign ownership percentage is zero. See 

§ 1.7874–2(f) and paragraphs (e)(3) and (4) of 

this section. FA’s indirect acquisition of FT’s 

properties is a covered foreign acquisition 

because 35 shares of FA stock (the shares 

received by Individual B) are held by reason 

of holding stock in FT; thus, the foreign 

ownership percentage is 100 percent (35/35). 

See § 1.7874–2(f)(1)(i) and paragraphs (e)(3) 

and (4) of this section. Accordingly, because 

the FT acquisition occurs pursuant to a plan 

that includes the DT acquisition, the 

requirement set forth in paragraph (c)(1) of 

this section is satisfied. Further, as is the case 

in paragraphs (ii)(B) through (C) of this 

Example, the requirements set forth in 

paragraphs (c)(2) and (3) of this section are 

satisfied. Therefore, the DT acquisition is a 

third-country transaction and the 

consequences are the same as in paragraph 

(ii)(D) of this Example. 

(g) Applicability dates. This section 

applies to domestic entity acquisitions 

completed on or after July 12, 2018. For 

domestic entity acquisitions completed 

before July 12, 2018, see § 1.7874–9T, as 

contained in 26 CFR part 1 revised as of 

April 1, 2017. However, to the extent 

this section differs from § 1.7874–9T, as 

contained in 26 CFR part 1 revised as of 

April 1, 2017, taxpayers may elect to 

consistently apply the differences to 

domestic entity acquisitions completed 

before July 12, 2018. 

§ 1.7874–9T [Removed] 

■ Par. 28. Section 1.7874–9T is 

removed. 

■ Par. 29. Section 1.7874–10 is added to 

read as follows: 

§ 1.7874–10 Disregard of certain 

distributions. 

(a) Scope. This section identifies 

distributions made by a domestic entity 

that are disregarded in determining an 

ownership fraction. Paragraph (b) of this 

section provides the general rule that 

former domestic entity shareholders or 

former domestic entity partners are 

treated as receiving additional stock of 

the foreign acquiring corporation when 

the domestic entity has made nonordinary course distributions (NOCDs). 

Paragraph (c) of this section identifies 

distributions that, in whole or in part, 

are outside the scope of this section. 

Paragraph (d) of this section provides a 

de minimis exception to the application 

of the general rule in paragraph (b) of 

this section. Paragraph (e) of this section 

provides rules concerning the treatment 

of distributions made by a predecessor, 

and paragraph (f) of this section 

provides rules for identifying a 

predecessor. Paragraph (g) of this 

section provides a special rule for 

certain distributions described in 

section 355. Paragraph (h) of this section 

provides rules regarding the allocation 

of NOCD stock. Paragraph (i) of this 

section addresses cases in which there 

are multiple foreign acquiring 

corporations, and paragraph (j) of this 

section addresses cases in which 

multiple domestic entities are treated as 

a single domestic entity. Paragraph (k) 

of this section provides definitions. 

Paragraph (l) of this section provides 

dates of applicability. See § 1.7874– 

1(d)(2) for rules addressing the 

interaction of this section with the 

expanded affiliated group rules of 

section 7874(c)(2)(A) and § 1.7874–1. 

(b) General rule regarding NOCDs. 

Except as provided in paragraph (d) of 

this section, for purposes of determining 

the ownership percentage by value (but 

not vote) described in section 

7874(a)(2)(B)(ii), former domestic entity 

shareholders or former domestic entity 

partners, as applicable, are treated as 

receiving, by reason of holding stock or 

partnership interests in a domestic 

entity, stock of the foreign acquiring 

corporation with a fair market value 

equal to the amount of the non-ordinary 

course distributions (NOCDs), 

determined as of the date of the 

distributions, made by the domestic 

entity during the look-back period. The 

stock of the foreign acquiring 

corporation treated as received under 

this paragraph (b) (NOCD stock) is in 

addition to stock of the foreign 

acquiring corporation otherwise treated 

as received by the former domestic 

entity shareholders or former domestic 

entity partners by reason of holding 

stock or partnership interests in the 

domestic entity. 

(c) Distributions that are not NOCDs. 

If only a portion of a distribution is an 

NOCD, section 7874(c)(4) may apply to 

the remainder of the distribution. This 

section does not, however, create a 

presumption that section 7874(c)(4) 

applies to the remainder of the 

distribution. 

(d) De minimis exception to the 

general rule. Paragraph (b) of this 

section does not apply if— 

(1) The ownership percentage 

described in section 7874(a)(2)(B)(ii), 

determined without regard to the 

application of paragraph (b) of this 

section and §§ 1.7874–4(b) and 1.7874– 

7(b), is less than five (by vote and 

value); and 

(2) On the completion date, each five 

percent former domestic entity 


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shareholder or five percent former 

domestic entity partner, as applicable, 

owns (applying the attribution rules of 

section 318(a) with the modifications 

described in section 304(c)(3)(B)) less 

than five percent (by vote and value) of 

the stock of (or a partnership interest in) 

each member of the expanded affiliated 

group. For this purpose, a five percent 

former domestic entity shareholder (or 

five percent former domestic entity 

partner) is a former domestic entity 

shareholder (or former domestic entity 

partner) that, before the domestic entity 

acquisition, owned (applying the 

attribution rules of section 318(a) with 

the modifications described in section 

304(c)(3)(B)) at least five percent (by 

vote and value) of the stock of (or a 

partnership interest in) the domestic 

entity. 

(e) Treatment of distributions made by 

a predecessor. For purposes of this 

section, a corporation or a partnership 

(relevant entity), including a domestic 

entity, is treated as making the 

following distributions made by a 

predecessor with respect to the relevant 

entity: 

(1) A distribution made before the 

predecessor acquisition with respect to 

the predecessor; and 

(2) A distribution made in connection 

with the predecessor acquisition to the 

extent the property distributed is 

directly or indirectly provided by the 

predecessor. See paragraph (k)(1)(iv) of 

this section. 

(f) Rules for identifying a 

predecessor—(1) Definition of 

predecessor. A corporation or a 

partnership (tentative predecessor) is a 

predecessor with respect to a relevant 

entity if— 

(i) The relevant entity completes a 

predecessor acquisition; and 

(ii) After the predecessor acquisition 

and all related transactions are 

complete, the tentative predecessor 

ownership percentage is at least 10. 

(2) Definition of predecessor 

acquisition—(i) In general. Predecessor 

acquisition means a transaction in 

which a relevant entity directly or 

indirectly acquires substantially all of 

the properties held directly or indirectly 

by a tentative predecessor. 

(ii) Acquisition of properties of a 

tentative predecessor. For purposes of 

determining whether a predecessor 

acquisition occurs, the principles of 

section 7874(a)(2)(B)(i) apply, including 

§ 1.7874–2(c) other than § 1.7874–2(c)(2) 

and (4) (regarding acquisitions of 

properties of a domestic entity), without 

regard to whether the tentative 

predecessor is domestic or foreign. 

(iii) Lower-tier entities of a 

predecessor. If, before a predecessor 

acquisition and all related transactions, 

the predecessor held directly or 

indirectly stock in a corporation or an 

interest in a partnership, then, for 

purposes of this section, the relevant 

entity is not considered to directly or 

indirectly acquire the properties held 

directly or indirectly by the corporation 

or partnership. 

(3) Definition of tentative predecessor 

ownership percentage. Tentative 

predecessor ownership percentage 

means, with respect to a predecessor 

acquisition, the percentage of stock or 

partnership interests (by value) in a 

relevant entity held by reason of holding 

stock or partnership interests in the 

tentative predecessor. For purposes of 

computing the tentative predecessor 

ownership percentage, the following 

rules apply: 

(i) For purposes of determining the 

stock or partnership interests in a 

relevant entity held by reason of holding 

stock or partnership interests in the 

tentative predecessor, the principles of 

section 7874(a)(2)(B)(ii) and §§ 1.7874– 

2(f)(1)(i) through (iii) and 1.7874–5 

apply. 

(ii) For purposes of determining the 

stock or partnership interests in a 

relevant entity included in the 

numerator of the fraction used to 

compute the tentative predecessor 

ownership percentage, the rules of 

paragraph (f)(3)(i) of this section apply, 

and all the rules applicable to 

calculating the numerator of an 

ownership fraction with respect to a 

domestic entity acquisition apply, 

except that— 

(A) The principles of section 

7874(c)(2)(A) and §§ 1.7874–1 and 

1.7874–6 do not apply; and 

(B) The principles of paragraph (b) of 

this section do not apply. 

(iii) For purposes of determining stock 

or partnership interests in a relevant 

entity included in the denominator of 

the fraction used to compute the 

tentative predecessor ownership 

percentage, the principles of section 

7874(a)(2)(B)(ii) and all rules applicable 

to calculating the denominator of an 

ownership fraction with respect to a 

domestic entity acquisition apply, 

except that— 

(A) The principles of section 

7874(c)(2)(A) and §§ 1.7874–1 and 

1.7874–6 do not apply; and 

(B) The principles of §§ 1.7874–4 and 

1.7874–7 through 1.7874–9 do not 

apply. 

(g) Rule regarding direction of a 

section 355 distribution. For purposes of 

this section, if a domestic corporation 

(distributing corporation) distributes the 

stock of another domestic corporation 

(controlled corporation) pursuant to a 

transaction described in section 355, 

and, immediately before the 

distribution, the fair market value of the 

stock of the controlled corporation 

owned by the distributing corporation 

and any related person (determined 

under section 7874(d)(3), without regard 

to whether the person is foreign) 

represents more than 50 percent of the 

fair market value of the stock of the 

distributing corporation, then, the 

controlled corporation is deemed, on 

the date of the distribution, to have 

distributed the stock of the distributing 

corporation. The deemed distribution is 

equal to the fair market value of the 

stock of the distributing corporation (but 

not taking into account the fair market 

value of the stock of the controlled 

corporation) on the date of the 

distribution. 

(h) Allocation of NOCD stock. NOCD 

stock is allocated among the former 

domestic entity shareholders or former 

domestic entity partners, as applicable, 

based on the amount of NOCDs that the 

former domestic entity shareholders or 

former domestic entity partners, as 

applicable, are treated as having 

received under this paragraph (h). 

Under this paragraph (h), a pro rata 

portion of each distribution during a 

look-back year is treated as comprising 

an NOCD with respect to the look-back 

year, based on a fraction the numerator 

of which is the amount of NOCDs 

during the look-back year and the 

denominator of which is the amount of 

distributions during the look-back year. 

Thus, each former domestic entity 

shareholder or former domestic entity 

partner, as applicable, is treated as 

receiving an amount of NOCD stock 

equal to the amount of NOCDs treated 

as received by the former domestic 

entity shareholder or former domestic 

entity partner, as applicable. 

(i) Multiple foreign acquiring 

corporations. If there are multiple 

foreign acquiring corporations with 

respect to a domestic entity acquisition, 

then the foreign acquiring corporation 

or corporations as to which NOCD stock 

is considered comprised is based on the 

proportion of consideration directly or 

indirectly provided by a foreign 

acquiring corporation in the domestic 

entity acquisition relative to the total 

amount of consideration directly or 

indirectly provided by the foreign 

acquiring corporations in the domestic 

entity acquisition. For purposes of this 

paragraph (i), consideration is not 

considered directly provided by a 

foreign acquiring corporation if it was 

indirectly provided by another foreign 

acquiring corporation. In addition, for 

purposes of this paragraph (i), 

consideration provided in the domestic 


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entity acquisition does not include 

money or other property described in 

paragraph (k)(1)(iii) of this section. 

(j) Multiple domestic entities. If 

pursuant to § 1.7874–2(e) two or more 

domestic entities are treated as a single 

domestic entity, then the determination 

of the amount of NOCDs made by the 

single domestic entity is made by— 

(1) Applying the rules of this section 

to each domestic entity on a separate 

basis, with the result that the amount of 

NOCDs made by each domestic entity is 

separately computed; and 

(2) Treating the amount of NOCDs 

made by the single domestic entity as 

the sum of the separately computed 

NOCDs made by each domestic entity. 

(k) Definitions. In addition to the 

definitions provided in § 1.7874–12, the 

following definitions apply for purposes 

of this section. 

(1) A distribution means the 

following: 

(i) Any distribution made by a 

corporation with respect to its stock 

other than— 

(A) A distribution to which section 

305 applies; 

(B) A distribution to which section 

304(a)(1) applies; and 

(C) Except as provided in paragraphs 

(k)(1)(iii) and (iv) of this section, a 

distribution pursuant to section 

361(c)(1) (other than a distribution to 

which section 355 applies). 

(ii) Any distribution by a partnership 

(other than a distribution pursuant to 

section 752(b) to the extent that the 

transaction giving rise to such 

distribution does not reduce the 

partnership’s value). 

(iii) In the case of a domestic entity, 

a transfer of money or other property to 

the former domestic entity shareholders 

or former domestic entity partners that 

is made in connection with the 

domestic entity acquisition to the extent 

the money or other property is directly 

or indirectly provided by the domestic 

entity. 

(iv) In the case of a predecessor, a 

transfer of money or other property to 

the former owners of the predecessor 

that is made in connection with the 

predecessor acquisition to the extent the 

money or other property is directly or 

indirectly provided by the predecessor. 

(2) Distribution history period—(i) In 

general. Except as provided in 

paragraph (k)(2)(ii) or (iii) of this 

section, a distribution history period 

means, with respect to a look-back year, 

the 36-month period preceding the start 

of the look-back year. 

(ii) Formation date less than 36 

months but at least 12 months before 

look-back year. If the formation date is 

less than 36 months, but at least 12 

months, before the start of a look-back 

year, then the distribution history 

period with respect to that look-back 

year means the entire period, starting 

with the formation date, that precedes 

the start of the look-back year. 

(iii) Formation date less than 12 

months before look-back year. If the 

formation date is less than 12 months 

before the start of a look-back year, then 

there is no distribution history period 

with respect to that look-back year. 

(3) Formation date means, with 

respect to a domestic entity, the date 

that the domestic entity was created or 

organized, or, if earlier, the earliest date 

that any predecessor of the domestic 

entity was created or organized. 

(4) Look-back period means, with 

respect to a domestic acquisition, the 

36-month period ending on the 

completion date or, if shorter, the entire 

period, starting with the formation date, 

that ends on the completion date. 

(5) Look-back year means, with 

respect to a look-back period, the 

following: 

(i) If the look-back period is 36 

months, the three consecutive 12-month 

periods that comprise the look-back 

period. 

(ii) If the look-back period is less than 

36 months, but at least 24 months— 

(A) The 12-month period that ends on 

the completion date; 

(B) The 12-month period that 

immediately precedes the period 

described in paragraph (k)(5)(ii)(A) of 

this section; and 

(C) The period, if any, that 

immediately precedes the period 

described in paragraph (k)(5)(ii)(B) of 

this section. 

(iii) If the look-back period is less 

than 24 months, but at least 12 

months— 

(A) The 12-month period that ends on 

the completion date; and 

(B) The period, if any, that 

immediately precedes the period 

described in paragraph (k)(5)(iii)(A) of 

this section. 

(iv) If the look-back period is less than 

12 months, the entire period, starting 

with the formation date, that ends on 

the completion date. 

(6) NOCDs mean, with respect to a 

look-back year, the excess of all 

distributions made during the look-back 

year over the NOCD threshold for the 

look-back year. 

(7) NOCD threshold means, with 

respect to a look-back year, the 

following: 

(i) If the look-back year has at least a 

12-month distribution history period, 

110 percent of the sum of all 

distributions made during the 

distribution history period multiplied 

by a fraction. The numerator of the 

fraction is the number of days in the 

look-back year and the denominator is 

the number of days in the distribution 

history period with respect to the lookback year. 

(ii) If the look-back year has no 

distribution history period, zero. 

(l) Applicability date. This section 

applies to domestic entity acquisitions 

completed on or after July 12, 2018. For 

domestic entity acquisitions completed 

before July 12, 2018, see § 1.7874–10T, 

as contained in 26 CFR part 1 revised as 

of April 1, 2017. However, to the extent 

this section differs from § 1.7874–10T, 

as contained in 26 CFR part 1 revised as 

of April 1, 2017, taxpayers may elect to 

consistently apply the differences to 

domestic entity acquisitions completed 

before July 12, 2018. 

§ 1.7874–10T [Removed] 

■ Par. 30. Section 1.7874–10T is 

removed. 

■ Par. 31. Section 1.7874–11 is added to 

read as follows: 

§ 1.7874–11 Rules regarding inversion 

gain. 

(a) Scope. This section provides rules 

for determining the inversion gain of an 

expatriated entity for purposes of 

section 7874. Paragraph (b) of this 

section provides rules for determining 

the inversion gain of an expatriated 

entity. Paragraph (c) of this section 

provides special rules with respect to 

certain foreign partnerships in which an 

expatriated entity owns an interest. 

Paragraph (d) of this section provides 

additional definitions. Paragraph (e) of 

this section provides an example that 

illustrates the rules of this section. 

Paragraph (f) of this section provides the 

applicability dates. 

(b) Inversion gain—(1) General rule. 

Except as provided in paragraphs (b)(2) 

and (3) of this section, inversion gain 

includes income (including an amount 

treated as a dividend under section 78) 

or gain recognized by an expatriated 

entity for any taxable year that includes 

any portion of the applicable period by 

reason of a direct or indirect transfer of 

stock or other properties or license of 

any property either as part of the 

domestic entity acquisition, or after 

such acquisition if the transfer or 

license is to a specified related person. 

(2) Exception for property described 

in section 1221(a)(1). Inversion gain 

does not include income or gain 

recognized by reason of the transfer or 

license, after the domestic entity 

acquisition, of property that is described 

in section 1221(a)(1) in the hands of the 

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(3) Treatment of partnerships. Except 

to the extent provided in paragraph (c) 

of this section and section 7874(e)(2), 

inversion gain does not include income 

or gain recognized by reason of the 

transfer or license of property by a 

partnership. 

(c) Transfers and licenses by 

partnerships. If a partnership that is a 

foreign related person transfers or 

licenses property, a partner of the 

partnership shall be treated as having 

transferred or licensed its proportionate 

share of that property, as determined 

under the rules and principles of 

sections 701 through 777, for purposes 

of determining the inversion gain of an 

expatriated entity. See section 

7874(e)(2) for rules regarding the 

treatment of transfers and licenses by 

domestic partnerships and transfers of 

interests in certain domestic 

partnerships. 

(d) Definitions. The definitions 

provided in § 1.7874–12 apply for 

purposes of this section. 

(e) Example. The following example 

illustrates the rules of this section. 

Example —(i) Facts. On July 1, 2016, FA, 

a foreign corporation, acquires all the stock 

of DT, a domestic corporation, in an 

inversion transaction. When the inversion 

transaction occurred, DT wholly owned FS, 

a foreign corporation that is a controlled 

foreign corporation (within the meaning of 

section 957(a)). During the applicable period, 

FS sells to FA property that is not described 

in section 1221(a)(1) in the hands of FS. 

Under section 951(a)(1)(A), DT has a $80x 

gross income inclusion that is attributable to 

FS’s gain from the sale of the property. Under 

section 960(a)(1), DT is deemed to have paid 

$20x of the post-1986 foreign income taxes of 

FS by reason of this income inclusion and 

includes $20x in gross income as a deemed 

dividend under section 78. Accordingly, DT 

recognizes $100x ($80x + $20x) of gross 

income because of FS’s sale of property to 

FA. 

(ii) Analysis. Pursuant to section 

7874(a)(2)(A), DT is an expatriated entity. 

Under paragraph (b)(1) of this section, DT’s 

$100x gross income recognized under 

sections 951(a)(1)(A) and 78 is inversion 

gain, because it is income recognized by an 

expatriated entity during the applicable 

period by reason of an indirect transfer of 

property by DT (through its wholly-owned 

CFC, FS) after the inversion transaction to a 

specified related person (FA). Sections 

7874(a)(1) and (e) therefore prevent the use 

of certain tax attributes (such as net operating 

losses) to reduce the U.S. tax owed with 

respect to DT’s $100x gross income 

recognized under sections 951(a)(1)(A) and 

78. 

(f) Applicability dates. Except as 

otherwise provided in this paragraph (f), 

this section applies to transfers and 

licenses of property completed on or 

after November 19, 2015, but only if the 

inversion transaction was completed on 

or after September 22, 2014. For 

inversion transactions completed on or 

after September 22, 2014, however, 

taxpayers may elect to apply paragraph 

(b) of this section by excluding the 

phrase ‘‘(including an amount treated as 

a dividend under section 78)’’ for 

transfers and licenses of property 

completed on or after November 19, 

2015, and before April 4, 2016. 

§ 1.7874–11T [Removed] 

■ Par. 32. Section 1.7874–11T is 

removed. 

■ Par. 33. Section 1.7874–12 is added to 

read as follows: 

§ 1.7874–12 Definitions. 

(a) Definitions. Except as otherwise 

provided, the following definitions 

apply for purposes of this section and 

§§ 1.367(b)–4, 1.956–2, 1.7701(l)–4, and 

1.7874–1 through 1.7874–11. 

(1) An affiliated group has the 

meaning set forth in section 1504(a) but 

without regard to section 1504(b)(3), 

except that section 1504(a) is applied by 

substituting ‘‘more than 50 percent’’ for 

‘‘at least 80 percent’’ each place it 

appears. A member of the affiliated 

group is an entity included in the 

affiliated group. 

(2) The applicable period means, with 

respect to an inversion transaction, the 

period described in section 7874(d)(1). 

However, see also § 1.7874–2(b)(13) in 

the case of a subsequent acquisition (or 

a similar acquisition under the 

principles of § 1.7874–2(c)(4)(i)) that is 

an inversion transaction. 

(3) The completion date means, with 

respect to a domestic entity acquisition, 

the date that the domestic entity 

acquisition and all transactions related 

to the domestic entity acquisition are 

complete. 

(4) A controlled foreign corporation 

(or CFC) has the meaning provided in 

section 957. 

(5) A domestic entity acquisition 

means an acquisition described in 

section 7874(a)(2)(B)(i). 

(6) A domestic entity means, with 

respect to a domestic entity acquisition, 

a domestic corporation or domestic 

partnership described in section 

7874(a)(2)(B)(i). A reference to a 

domestic entity includes a successor to 

such domestic corporation or domestic 

partnership, including a corporation 

that succeeds to and takes into account 

amounts with respect to the domestic 

entity pursuant to section 381. 

(7) An expanded affiliated group (or 

EAG) means, with respect to a domestic 

entity acquisition, an affiliated group 

that includes the foreign acquiring 

corporation, determined as of the 

completion date. A member of the EAG 

is an entity included in the EAG, and a 

reference to a member of the EAG 

includes a predecessor with respect to 

such member. 

(8) An expatriated entity means, with 

respect to an inversion transaction— 

(i) The domestic entity; and 

(ii) A United States person that, on 

any date on or after the completion date, 

is or was related (within the meaning of 

section 267(b) or 707(b)(1)) to the 

domestic entity. 

(9) Expatriated foreign subsidiary—(i) 

General rule. Except as provided in 

paragraph (a)(9)(ii) of this section, an 

expatriated foreign subsidiary means a 

foreign corporation that is a CFC 

(determined without applying 

subparagraphs (A), (B), and (C) of 

section 318(a)(3) so as to consider a 

United States person as owning stock 

which is owned by a person who is not 

a United States person) and in which an 

expatriated entity is a United States 

shareholder (determined without 

applying subparagraphs (A), (B), and (C) 

of section 318(a)(3) so as to consider a 

United States person as owning stock 

which is owned by a person who is not 

a United States person). 

(ii) Exception to the general rule. A 

foreign corporation is not an expatriated 

foreign subsidiary if, with respect to the 

inversion transaction as a result of 

which the foreign corporation otherwise 

would be an expatriated foreign 

subsidiary— 

(A) On the completion date, the 

foreign corporation was both a CFC 

(determined without applying 

subparagraphs (A), (B), and (C) of 

section 318(a)(3) so as to consider a 

United States person as owning stock 

which is owned by a person who is not 

a United States person) and a member 

of the EAG; and 

(B) On or before the completion date, 

the domestic entity was not a United 

States shareholder (determined without 

applying subparagraphs (A), (B), and (C) 

of section 318(a)(3) so as to consider a 

United States person as owning stock 

which is owned by a person who is not 

a United States person) with respect to 

the foreign corporation. 

(10) A foreign acquiring corporation 

means, with respect to a domestic entity 

acquisition, the foreign corporation 

described in section 7874(a)(2)(B). A 

reference to a foreign acquiring 

corporation includes a successor to the 

foreign acquiring corporation, including 

a corporation that succeeds to and takes 

into account amounts with respect to 

the foreign acquiring corporation 

pursuant to section 381. 

(11) A foreign related person means, 

with respect to an inversion transaction, 

a foreign person that is related (within 


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the meaning of section 267(b) or 

707(b)(1)) to, or under the same 

common control as (within the meaning 

of section 482), a person that is an 

expatriated entity with respect to the 

inversion transaction. 

(12) A former domestic entity partner 

of a domestic entity that is a domestic 

partnership is any person that held an 

interest in the partnership before the 

domestic entity acquisition, including 

any person that holds an interest in the 

partnership both before and after the 

domestic entity acquisition. 

(13) A former domestic entity 

shareholder of a domestic entity that is 

a domestic corporation is any person 

that held stock in the domestic 

corporation before the domestic entity 

acquisition, including any person that 

holds stock in the domestic corporation 

both before and after the domestic entity 

acquisition. 

(14) An interest in a partnership 

includes a capital or profits interest. 

(15) An inversion transaction means a 

domestic entity acquisition in which the 

foreign acquiring corporation is treated 

as a surrogate foreign corporation under 

section 7874(a)(2)(B), taking into 

account section 7874(a)(3). 

(16) A non-EFS foreign related person 

means, with respect to an inversion 

transaction, a foreign related person that 

is not an expatriated foreign subsidiary. 

(17) The ownership fraction means, 

with respect to a domestic entity 

acquisition, the ownership percentage 

described in section 7874(a)(2)(B)(ii), 

expressed as a fraction. 

(18) A specified related person means, 

with respect to an inversion 

transaction— 

(i) A non-EFS foreign related person; 

(ii) A domestic partnership in which 

a non-EFS foreign related person is a 

partner; and 

(iii) A domestic trust of which a nonEFS foreign related person is a 

beneficiary. 

(19) A United States person means a 

person described in section 7701(a)(30). 

(20) A United States shareholder has 

the meaning provided in section 951(b). 

(b) Applicability dates. Except as 

otherwise provided in this paragraph 

(b), this section applies to domestic 

entity acquisitions completed on or after 

September 22, 2014. The following 

apply to domestic entity acquisitions 

completed on or after April 4, 2016: 

paragraph (a)(8) of this section; in 

paragraph (a)(6) of this section, the 

phrase ‘‘, including a corporation that 

succeeds to and takes into account 

amounts with respect to the domestic 

entity pursuant to section 381’’; and the 

second sentence of paragraph (a)(10) of 

this section. For domestic entity 

acquisitions completed on or after 

September 22, 2014, and before April 4, 

2016, however, taxpayers, may elect to 

apply the provisions in the immediately 

prior sentence. 

§ 1.7874–12T [Removed] 

Par. 34. Section 1.7874–12T is 

removed. 

Kirsten Wielobob, 

Deputy Commissioner for Services and 

Enforcement. 

Approved: June 22, 2018. 

David J. Kautter, 

Assistant Secretary of the Treasury (Tax 

Policy). 

[FR Doc. 2018–14693 Filed 7–11–18; 8:45 am] 

BILLING CODE 4830–01–P 


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