Tax Inversion Rules Threaten Asset-Backeds, SFIG Warns

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New rules designed to stop U.S. companies from moving their tax addresses offshore are so written so broadly that they could disrupt the securitization market, a trade group warned Thursday.

In April, the Treasury Department announced temporary regulations making it more difficult for U.S. companies to undertake what is known as a “tax inversion,” merging with a non-U.S. company for the purpose of shifting profits to a country with a lower corporate tax rate. It said it would limit companies’ ability to participate in inversion transactions if they’ve already done them within the past 36 months.

This prompted Pfizer to walk away from a $150 billion merger with Allergan PLC.

Treasury also proposed overhauling intercompany debt rules in order to curb a tactic called “earnings stripping,” which involves a U.S. subsidiary borrowing from the parent company and using the interest payments on the loans to offset earnings, thereby lowering its tax bill.

It’s the intercompany debt rules that have securitization pros worried.

In a comment letter published Thursday, the Structured Finance Industry Group warned that the securitizations could be swept up by the rules. In a typical transaction, an operating company creates a special purpose vehicle that issues bonds to third-party investors. The SPV uses proceeds from the sale to acquire assets such as loans or lease from the operating company.  This gives the sponsor additional capital to make more loans.

“A fundamental premise of securitization is that the issuer is intended to be free of creditor claims,” SFIG states in the comment letter.  “As such, it is also critical that the Issuer not be subject to U.S. federal income taxation on a net basis. For this reason, most transactions are accompanied by an unqualified opinion of tax counsel that the issuer is not subject to an entity level tax.”

The risk of such unexpected tax consequences could “erode market confidence and significantly disrupt the securitization market,” the trade group warned.

It is asking the Treasury Department for explicit carveouts.

The securitization industry isn’t the only unintended target. A number of law firms have warned that the earnings stripping rules can impact a surprisingly wide array of transactions that go well beyond inversions.

Treasury is expected to take quick action on the proposed rules. 

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