Final Regs Amend Outbound Intangible Property Transfer Rules

The IRS has released final regs that terminate the application of the outbound intangible property transfer rules, in certain circumstances, on repatriation of the intangible property. (TD 9994, 10/9/2024)

Outbound intangible property transfer rules.

The “outbound intangible property transfer rules” were developed to deal with situations in which a U.S. company tries to reduce their U.S. taxable income by “deducting substantial research and experimentation expenses” incurred to develop an intangible and then transferring that intangible to a foreign corporation to defer U.S. tax on the profits generated by the intangible.

Under the current rules, the U.S. company is treated as having either an “annual inclusion” that is annual income over the useful life of the transferred intangible or a “lump-sum” inclusion when the intangible is disposed of after the transfer. Generally, the current rules apply even if the intangible is later repatriated (transferred back to the U.S. transferor or to a related U.S. person that is subject to U.S. taxation on income earned from the intangible property).

Proposed regs.

On May 3, 2023, the IRS published proposed regs (REG-124064-19) under Code Sec. 367 that addressed repatriations of intangible property subject to the outbound intangible property transfer rules. The May 2023 rules proposed terminating the continued application of the outbound intangible property transfer rules when a transferee foreign corporation repatriates (transfers) the intangible property to a “qualified domestic person” when certain reporting requirements are satisfied.

The May 2023 proposals also included a rule coordinating the application of the outbound intangible property transfer rules and the provisions in Reg §1.904-4(f)(2)(vi)(D), which apply the principles of Code Sec. 367(d) to determine the appropriate amount of gross income attributable to a foreign branch. See Prop Regs Would Amend Outbound Intangible Transfer Rules (05/03/2023).

Final Regs.

The IRS has adopted without change almost all of the proposed regs, including the definitions of “qualified domestic person” and “qualified corporations.” In rejecting certain changes suggested by commenters, the IRS noted that “a principle for the definition of qualified domestic person is that termination of the continued application of section 367(d) should occur only when all the income produced by the intangible property, as well as gain recognized on a disposition of the intangible property, is subject to current tax in the United States” and that the definition changes regarding partnerships and S corporations suggested in the comments would not guarantee this outcome.

Prop Reg §1.367(d)-1(f)(4)(iv), which discussed the treatment of adjusted basis of intangible property subject to Section 367(d), was also finalized without change, but the IRS indicated that it may revisit the issues raised in the comments as part of future rulemaking.

Finally, the IRS clarified Prop Reg §1.367(d)-1(f)(5), which described the consequences of a failure to comply with certain reporting requirements (the continued application of the annual inclusion stream and application of the gain recognition rule).

Under the final rules, if the transferor’s failure to comply is remedied, the rule is satisfied as of the date of the repatriation (so, the repatriation terminates the continued application of Section 367(d) and the U.S. transferor, if applicable, would take a partial annual inclusion into account pursuant to Reg §1.367(d)-1(f)(4)(i)(B)(1)).

Effective date.

These final regs are effective on October 10, 2024.

For more information about the outbound intangible transfer rules, see Checkpoint’s Federal Tax Coordinator ¶ F-6501.