United States: Treasury Department Issues Regulations Expanding The Scope Of Qualified Reopenings

On September 12, 2012, the Treasury Department and the Internal Revenue Service (the "IRS") issued final regulations (the "New Regulations") expanding the definition of "qualified reopening" under Treasury Regulations Section 1.1275-2(k) to include reopenings involving debt instruments that are not publicly traded and certain reopenings that occur more than six months after the original issue date. Commentators have been calling for amendments to allow corporate issuers of debt to reopen their debt instruments in a broader range of circumstances.

Background

Issuers of add-on offerings of debt instruments ("New Notes") with terms identical to terms of existing debt instruments ("Old Notes") generally seek fungibility so that the New Notes can trade with the Old Notes. Fungibility requires the instruments to be issued with the same amount of original issue discount ("OID"). If the New Notes are treated as issued with a different amount of OID than the Old Notes, issuers must distinguish the New Notes from the Old Notes and separately report OID accruals.¹ As a practical matter, the New Notes can be distinguished only if the New Notes are assigned new CUSIP numbers. New Notes issued in a qualified reopening under Treasury Regulation Section 1.1275-2(k) will be treated as part of the same issue as the Old Notes with the same amount of OID and the same CUSIP number and therefore achieve fungibility.

Prior to the New Regulations, New Notes issued within six months of the Old Notes will be treated as part of a qualified reopening if: (i) the Old Notes are "publicly traded";² and (ii) the current yield of the Old Notes is not more than 110% of the yield of the Old Notes on their issue date, or, if the Old Notes were issued with de minimis OID,³ the coupon rate (the "Six Month Test").⁴

Under a second test, applicable to New Notes issued more than six months after the Old Notes, the New Notes will be treated as part of a qualified reopening if (i) the Old Notes are publicly traded, and (ii) the New Notes are issued with no more than a de minimis amount of OID (determined without regard to the qualified reopening rules) (the "De Minimis OID Test").⁵

New Regulations

The New Regulations permit a qualified reopening for an issue of New Notes to unrelated persons for cash under both the Six Month Test and the De Minimis OID Test even if the Old Notes are not publicly traded. For non-publicly traded debt, the Six Month Test is applied by comparing the yield on the New Notes to the yield on the Old Notes.

In addition, the New Regulations create a new yield test for qualified reopenings occurring more than six months after the Old Notes were issued. Under the New Regulations, a qualified reopening includes an issuance of New Notes issued more than six months after the issue date of the Old Notes if the yield on the New Notes is not more than 100% of the yield of the Old Notes on the original issue date of the Old Notes (or if the Old Notes were issued with no more than a de minimis amount of OID, the coupon rate).⁶ Prior to the New Regulations, after six months, no issue of New Notes with more than a de minimis amount of OID could be part of a qualified reopening. However, under the New Regulations, even if the New Notes have OID, an issuance of New Notes with an interest rate equal to the interest rate of the Old Notes, and a yield no greater than the yield on Old Notes, is a qualified reopening as there is no risk of converting OID on the New Notes into market discount.

Effective Date

The New Regulations apply to debt instruments that are part of a reopening if the reopening date is on or after September 13, 2012.

Footnotes

1 I.R.C. Section 6049 (West 2012).

2 Generally, a debt instrument is publicly traded if (i) it is part of an issue with an outstanding principal amount of more than $100 million, and (ii) within the 31 day period that ends 15 days after the price of the debt instruments is established (or, if earlier, the announcement date) there is either (a) sales price (or information sufficient to calculate the sales price) for an executed purchase or sale of the debt instrument in a medium that is available to persons that regularly purchase or sell debt instruments or broker purchases or sales of debt instruments; (b) a firm or executable quote for the debt instrument from at least one broker, dealer or pricing service for the debt instrument, and the quoted price is substantially the same as the price for which the debt instrument could be bought or sold, and the identity of the person who is providing the quote is readily ascertainable; or (c) a price quote (other than one described in (b) above) for the debt instrument is available from at least one broker, dealer or pricing service. Treas. Reg. Sections 1.1273-2(f) and 1.1275- 2(k)(3).

3 A debt instrument has a de minimis amount of OID if the debt instrument's OID is less than an amount equal to 0.25% of the debt instrument's stated redemption price at maturity (commonly known as the face value of the debt instrument) times the number of complete years to maturity. Treas. Reg. Section 1.1273-1(d)(2).

4 Treas. Reg. Section 1.1275-2(k)(3)(ii).

5 Treas. Reg. Section 1.1275-2(k)(3)(iii).

6 Treas. Reg. Section 1.1275-2(k)(3)(v).

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