Insights into the Latest Treasury and IRS Proposed Regulations on Excise Tax for Corporate Stock Repurchases

On April 12, 2024, the Department of the Treasury and the IRS published proposed regulations regarding the application of the stock repurchase excise tax under § 4501 of the Internal Revenue Code (the “Proposed Regulations”). The Proposed Regulations largely retain the approach set forth in Notice 2023-2 that was issued on December 27, 2022, which constituted prior interim guidance with respect to the stock repurchase excise tax (the “Notice”), but with certain modifications. The Proposed Regulations generally apply to repurchases of stock of a covered corporation occurring after December 31, 2022 and to issuances of stock of a covered corporation occurring during taxable years ending after December 31, 2022, but certain rules in the Proposed Regulations not previously discussed in the Notice would generally apply after April 12, 2024. Until the date of publication of the final regulations, the taxpayer may generally rely on the Proposed Regulations or the Notice for applicable transactions occurring through April 12, 2024 and the Proposed Regulations for applicable transactions occurring after April 12, 2024, subject to a consistent application rule.

The following highlights certain notable aspects of the Proposed Regulations:

1. Definition of “Stock”: The Proposed Regulations generally retain the broad definition of the term “stock” set forth in the Notice (and clarifies that it includes stock such as treasury stock and various types of preferred stock). As a result, the excise tax applies broadly to repurchases of common or preferred stock with only a limited exception for certain regulatory preferred stock. Further, the preamble to the Proposed Regulations clarify that, for purposes of the stock repurchase excise tax, whether an instrument is debt or equity should be determined at the time of issuance under federal income tax principles, and that this characterization should not be retested while the instrument is outstanding.
2. Definition of “Repurchase”: The Proposed Regulations generally retain the definition of “repurchase” but add to the definition, “G” reorganizations to the extent § 354(b)(1) is satisfied. Further, the Proposed Regulations add to the list of transactions that are not economically similar to a repurchase, two additional types of complete liquidations, including (1) a distribution pursuant to the resolution or plan of dissolution of the covered corporation that is reported on the original (but not a supplemented or an amended) Form 966, Corporate Dissolution or Liquidation (or any successor form) and (2) a distribution pursuant to a deemed dissolution of the covered corporation (for instance, pursuant to a deemed liquidation under Treasury Regulations § 301.7701-3). Additionally, the Proposed Regulations clarify that a distribution by the distributing corporation of non-qualifying property in exchange for distributing corporation stock in pursuance of a § 355 transaction would be treated as a repurchase by the distributing corporation. Further, the Proposed Regulations provide that a distribution that is subject to § 301(c)(2) or (3) whereby the distributee is not treated as exchanging stock of the covered corporation, is not considered a repurchase by the covered corporation.
3. Statutory Exceptions: The Proposed Regulations retain the rebuttable presumption that a repurchase to which § 302 or § 356(a) applies is presumed to be subject to § 302(a) or § 356(a)(1), respectively, and additionally, includes rules regarding how such presumption can be rebutted. Generally, the covered corporation has to obtain a certification from the shareholder, including the information set forth in the Proposed Regulations. The preamble to the Proposed Regulations clarify that a Form 1042-S, Foreign Person’s U.S. Source Income Subject to Withholding is not an acceptable substitute for such certificate.
4. Netting Rule: The Proposed Regulations add to the list of issuances that are disregarded for purposes of applying the netting rule, such as certain stock issued by a controlled corporation in non-split off § 355 transactions, certain stock issued in § 1036(a) transactions, and certain deep-in-the-money options. Further, the Proposed Regulations confirm that for purposes of the netting rule, the transferor corporation and the resulting corporation in an “F” reorganization should be treated as the same corporation. As a result, the transferor corporation’s issuances in the portion of the taxable year preceding an “F” reorganization may offset the resulting corporation’s repurchases in the portion of the taxable year following the “F” reorganization. Likewise, the resulting corporation’s issuances in the portion of the taxable year following an “F” reorganization may offset the transferor corporation’s repurchases in the portion of the taxable year preceding the “F” reorganization.
5. No Exceptions for LBOs and Other “Take Private” Transactions: The Proposed Regulations do not provide special treatment for LBOs and other “take private” transactions where payments are funded by the target corporation in a taxable acquisition of the target corporation. Thus, the stock repurchase excise tax would apply to the extent such target-funded payments constitute a redemption within the meaning of § 317(b), applying Zenz principles. Note: Contrast with the treatment of acquisitive reorganizations, in which the stock repurchase excise tax would generally apply to all cash consideration regardless of the source of funding unless it can be shown the payment constituted a dividend for federal income tax purposes. 
6. Treatment of SPACs: The Proposed Regulations note that SPAC redemptions are generally subject to the stock repurchase excise tax rules. However, the preamble to the Proposed Regulations acknowledged that in connection with a de-SPAC transaction, the SPAC sponsor may not receive a liquidating distribution in certain cases. Nevertheless, such liquidation may qualify as a transaction not economically similar to a repurchase under the revised list of transactions that are not economically similar to a repurchase, in particular, a distribution pursuant to the resolution or plan of dissolution of the covered corporation that is reported on the original (but not a supplemented or an amended) Form 966, Corporate Dissolution or Liquidation (or any successor form). Further, the preamble clarifies that the netting rule does not permit a SPAC to offset its repurchases by issuances of the post-combination entity (SPAC successor) or similar.
7. Becoming or Ceasing to Be a Covered Corporation: Under the Proposed Regulations, a corporation generally becomes a covered corporation at the beginning of the corporation's “initiation date” and ceases to be a covered corporation at the end of the corporation's “cessation date”. Special timing rules apply for “F” reorganizations.
8. Modified Funding Rule: The Proposed Regulations retain the general structure of the funding rule in the Notice but modify the broad “per se” rule from the Notice with a more limited “rebuttable presumption” rule applicable to certain downstream fundings. 
9. Timing of Payment and Reporting of the Stock Repurchase Excise Tax: Under the Proposed Regulations, the stock repurchase excise tax return would be reported on Form 720, Quarterly Federal Excise Tax Return, where the excise tax liability would be reported, and Form 7208, Excise Tax on Repurchase of Corporate Stock, where the excise tax liability would be calculated.