United States: Regulatory Developments Under § 367 Affecting Transfers Of Appreciated Property To Foreign Corporations


On September 14, the U.S. Department of the Treasury (Treasury) and the Internal Revenue Service (IRS) released (1) proposed regulations under section 367 of the Internal Revenue Code (the Code) effective (when finalized) retroactively to transfers occurring on or after September 16 (the Proposed Section 367 Regulations), together with (2) temporary regulations under section 482, effective immediately (applicable to tax years ending on or after September 14, 2015) (the Temporary Section 482 Regulations).  Among other things, both sets of rules mark dramatic departures from existing guidance regarding cross-border transfers of intangibles.  This article focuses on the Proposed Section 367 Regulations.

Summary of Significant Changes from Previous Guidance

The Proposed Section 367 Regulations:

  • Eliminate the foreign goodwill and going concern value exception under Treasury regulations section 1.367(d)-1T;
  • Limit the scope of property eligible for the active trade or business exception generally to certain tangible property and financial assets;
  • Allow taxpayers to apply section 367(d) (rather than 367(a)) to transfers of goodwill and going concern value to foreign corporations;
  • Provide that, in cases where an outbound transfer of property subject to section 367(a) constitutes a controlled transaction, the value of the property transferred is to be determined in accordance with the Temporary Section 482 Regulations; and
  • Eliminate the 20-year limitation on intangible property transferred under section 367(d).


Section 367(a) 

Subject to various exceptions, section 367(a) provides that if, in connection with certain corporate non-recognition exchanges (described in sections 332, 351, 354, 356, or 361), a U.S. transferor transfers property to a foreign corporation (an outbound transfer), the transferee foreign corporation "will not be considered to be a corporation" with the effect that the corporate non-recognition rules are rendered inapplicable to the exchange and the U.S. transferor is required to recognize gain on the outbound transfer.

Section 367(a)(3) provides an exception for property transferred to a foreign corporation for use by the foreign corporation in the active conduct of a trade or business outside of the United States (the ATB Exception).  However, the ATB Exception does not extend to certain types of property, including copyrights, inventory, accounts receivable, foreign currency and "intangible property" within the meaning of section 936(h)(3)(B), described below (936(h) Intangibles). 

Section 367(d) 

Section 367(d)(1) provides that, except as provided in regulations, if a U.S. transferor transfers any 936(h) Intangibles to a foreign corporation in an exchange described in sections 351 or 361, the provisions of section 367(d) (and not section 367(a)) apply to the transfer.

In general, under section 367(d), a U.S. transferor that transfers intangible property subject to its provisions is treated as having sold the property in exchange for a series of contingent payments that reasonably reflect the amounts that would have been received annually in the form of such payments over the useful life of the property (limited to 20 years under the current regulations).  The amounts taken into account under section 367(d) must be commensurate with the income attributable to the intangible.

936(h) Intangibles encompass any:  (1) patent, invention, formula, process, design, pattern or know-how; (2) copyright, literary, musical or artistic composition; (3) trademark, trade name or brand name; (4) franchise, license or contract; (5) method, program, system, procedure, campaign, survey, study, forecast, estimate, customer list or technical data; or (6) any similar item, in each case, which has substantial value independent of the services of any individual.

Under longstanding Treasury regulations, the provisions of section 367(d) do not apply to foreign goodwill and going concern value—defined as the residual value of a business operation conducted outside of the United States after all other tangible and intangible assets have been identified and valued, and including the right to use a corporate name in a foreign country.  The regulations are reflective of the sentiments of the legislature at the time of enactment of section 367(d).  Congress reasoned that "[g]oodwill and going concern value are generated by earning income, not by incurring deductions [and thus,] ordinarily, the transfer of these (or similar) intangibles does not result in avoidance of Federal income taxes."

Rationale for the Changes 

Under the existing regulations, taxpayers have had two different positions available to them under sections 367(a) and (d) in claiming non-recognition treatment for outbound transfers of foreign goodwill and going concern value. 

  • Goodwill and going concern value are not 936(h) Intangibles and therefore are not subject to section 367(d).  Further, gain realized with respect to the outbound transfer of goodwill or going concern value is not recognized under the general rule of section 367(a) because the goodwill or going concern value is eligible for the ATB Exception; or
  • Even if goodwill and going concern value are considered 936(h) Intangibles the foreign goodwill exception applies.  Under this scenario, taxpayers can take the position that section 367(a) does not apply to foreign goodwill or going concern value because section 367(d) provides that section 367(d) overrides section 367(a) with respect to 936(h) Intangibles.

The preamble to the Proposed Section 367 Regulations sets forth the rationale of the Treasury and IRS for the changes proposed, stating that "in the context of outbound transfers, certain taxpayers attempt to avoid recognizing gain or income attributable to high-value intangible property by asserting that an inappropriately large share (in many cases, the majority) of the value of the property transferred is foreign goodwill or going concern value that is eligible for favorable treatment under section 367."  According to the preamble, certain taxpayers seek to minimize the value of property constituting 936(h) Intangibles and to maximize the value of property that may be transferred without triggering current tax, asserting a broad interpretation of the meaning of foreign goodwill and going concern value.  In certain cases, the preamble states, taxpayers purport to transfer significant foreign goodwill or going concern value "when a large share of that value was associated with a business operated primarily by employees in the United States . . .  where the business simply earned income remotely from foreign customers."

Consequently, despite the belief expressed in the legislative history that the transfer to a foreign corporation of foreign goodwill or going concern value developed by a foreign branch was unlikely to result in abuse of the U.S. tax system, the preamble concludes, the foreign goodwill exception has turned out to be "inconsistent with the policies of section 367 and sound tax administration and [IRS and Treasury] therefore will amend the regulations under section 367 [accordingly]."

Description of Significant Changes

Elimination of ATB Exception for Intangible Property

The Proposed Section 367 Regulations provide an exclusive list of property eligible for the ATB Exception.  Under the new approach, property that is not enumerated as "eligible property"—in particular, intangible property—cannot qualify for the ATB Exception regardless of whether the property would otherwise be considered transferred for use in the active conduct of a trade or business outside of the United States.  This change is meant to eliminate one of the taxpayer-favorable consequences of a finding that various items (e.g., goodwill) do not constitute 936(h) Intangibles.  Thus, even if the item falls outside the scope of section 367(d) and instead is subject to section 367(a), it no longer will be eligible for the ATB Exception to taxability under section 367(a)(1).

Elective Application of Section 367(d) 

A U.S. transferor that concludes that goodwill and going concern value are not 936(h) Intangibles may elect to apply section 367(d) to such property.  This change is accomplished by revising the definition of "intangible property" to include both property described in section 936(h)(3)(B) and other items in respect of which a U.S. transferor elects to apply section 367(d) (in lieu of applying section 367(a)).  Accordingly, under the proposed regulations, upon an outbound transfer of foreign goodwill or going concern value, a U.S. transferor will be subject to either current gain recognition under section 367(a)(1) or the tax treatment provided under section 367(d).

Application of Temporary Section 482 Regulations 

In addition, the Proposed Section 367 Regulations provide that, in cases where an outbound transfer of property subject to section 367(a) constitutes a controlled transaction, the value of the property transferred is to be determined in accordance with the Temporary Section 482 Regulations.  The Temporary Section 482 Regulations require in general that:

  • Compensation for related party transfers must account for all "value provided" (without defining this concept or discussing case law and other authorities to the contrary, such as Veritas), regardless of transactional characterization;
  • Aggregation principles should be applied to transfers that are economically interrelated and should take into account any value attributable to synergies among the transferred items, even items that are subject to differing tax treatment under the Code and regulations, under the rationale that an aggregate analysis of transactions may provide the most reliable measure of an arm's length result in these circumstances (notwithstanding the Tax Court's conclusion in Veritas that the IRS's aggregation approach was actually less reliable than the taxpayer's separate valuations); and
  • Determinations of appropriate pricing should take into account realistic alternatives for economically equivalent transactions.

Together these changes are meant to render the characterization of transactions essentially irrelevant to transfer pricing, leaving the IRS more or less free to apply pure (and often questionable) economic theory in making pricing determinations.

In light of the elevation of aggregation principles in the Temporary Section 482 Regulations, the Proposed Section 367 Regulations eliminate the statement in Treasury regulations section 1.367(a)-1T(b)(3)(i) providing that "the gain required to be recognized . . . shall in no event exceed the gain that would have been recognized on a taxable sale of those items of property if sold individually and without offsetting individual losses against individual gains."  The Treasury and IRS apparently were concerned that taxpayers may have interpreted the wording "if sold individually" as inconsistent with the use of aggregation principles. 

Elimination of 20-Year Useful Life 

Finally, the Proposed Section 367 Regulations eliminate the existing rule under Treasury regulations section 1.367(d)-1T(c)(3) that limits the useful life of intangible property to 20 years, on the basis that the limitation can result in less than all of the income attributable to an item of intangible property being taken into account by the U.S. transferor.  The Proposed Section 367 Regulations instead provide that the useful life of intangible property is the entire period during which the exploitation of the intangible property is reasonably anticipated to occur, as of the time of transfer.  This new rule may prove challenging to comply with and may be overreaching in light of recent cases such as Veritas (rejecting an IRS perpetual useful life theory).  For example, in certain circumstances, this new rule would encompas future research and development activities that expand upon existing intangible property transferred under section 367(d).


The Proposed Section 367 Regulations upend longstanding rules such as the foreign goodwill and going concern value exception and the 20-year limitation on the useful life of transferred intangible property.  The elimination of the foreign goodwill and going concern value exception seems overly broad in light of the reasons articulated in the preamble to the Proposed Section 367 Regulations.  For example, while the preamble offers as a rationale cases where a large share of purported foreign goodwill and going concern value is associated with a business operated primarily by employees in the United States, this rationale is inapposite in cases where the foreign branch in fact conducted most or all of its activities outside the United States.  Moreover, the concern expressed in the preamble about taxpayers overstating the value attributable to foreign goodwill and going concern value in order to reduce the value attributed to other assets that may be subject to gain recognition under section 367 should be addressable by the IRS using the tools already at its disposal under section 482 to deal with inappropriate allocations of value.  Therefore, outright elimination of the foreign goodwill and going concern value exception seems unnecessary to deal with the identified cases of perceived abuse.

Finally, given the longstanding status of the foreign goodwill and going concern value exception and Congress' express finding that the transfer to a foreign corporation of foreign goodwill or going concern value developed by a foreign branch is unlikely to result in abuse of the U.S. tax system, it is surprising that Treasury and IRS would choose to promulgate a proposed regulation overturning this exception that calls for an immediate effective date.

As dramatic as these developments are, the companion Temporary Section 482 Regulations—presented as "clarifications" notwithstanding Veritas and other authorities to the contrary—are also very impactful, given their focus on compensating all "value provided," aggregating economically interrelated transfers (including any value attributable to synergies) and determining pricing based on realistic alternative transactions. 

In a broader sense, the Proposed Section 367 Regulations should be viewed in light of Treasury's continuing battle against inversions, regulatory limitations recently imposed on the valuation of transfers to cost-sharing arrangements and the Organization for Economic Co-operation and Development's Base Erosion and Profit Shifting and Business Restructurings initiatives.  As Congress has been unable to achieve consensus on corporate tax reform and rate reduction, taxpayers have increased incentives to move business functions abroad, whether through inversion and related planning or through transferring assets and future income streams abroad, where rates are lower and U.S. taxes can be deferred.  Meanwhile, the IRS has had limited success contesting taxpayers' valuations for intangible transfers in court as demonstrated by cases such as Veritas.  The Proposed Section 367 Regulations in conjunction with the Temporary Section 482 Regulations are but the most recent salvo in this ongoing battle over so-called "income shifting".  Having failed to implement its policy positions through litigation under the existing law and guidance and through other policy initiatives, the IRS now is amending its core regulations governing outbound transfers.  While this is surely a more proper means of effecting Treasury's policy positions than is litigation, the breadth of these regulations and their uneasy footing in the statute and legislative history may leave them open to challenge in some respects (particularly in the wake of the Altera case [discussed elsewhere in this newsletter], invalidating part of the cost-sharing regulations based on the IRS's inadequate attempt to defend its regulations as being sufficiently grounded in the law).

Regulatory Developments Under § 367 Affecting Transfers Of Appreciated Property To Foreign Corporations

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