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Sept. 13 — Lobbyists don't expect many positive changes for their clients from the Treasury Department's ongoing review of proposed debt-equity regulations.
Despite months of engagement with Treasury officials and tens of thousands of comment letters, stakeholders said they have largely accepted that the broad scope of the proposed rules under tax code Section 385 will remain intact and that there is little hope that Congress can stop them.
“My general sense is that the business community, while they worked diligently to educate members and raise awareness of the problems with the proposed rules, isn’t holding out much hope that Congress will be able to stop the train,” said Lisa Zarlenga, a partner at Steptoe & Johnson LLP and a former Treasury official.
The controversial rules (REG-108060-15), proposed in April and designed to curtail misuse of intracompany lending to reduce tax obligations, would change the characterization of debt and equity so that companies would be unable to avoid taxes by shifting income out of the U.S. via loans to subsidiaries.
The major issue from the proposed rules—namely the broad authority for the Internal Revenue Service to recharacterize debt as equity but not allow taxpayers to use the same analysis to justify debt over equity treatment—won’t really change, a former congressional aide said.
One of the more controversial aspects of the rules—the retroactive effective date back to April 4, 2016—isn't a change that officials have said they are willing to reconsider. Treasury officials aren’t likely to divulge more details than they already have, since they are notoriously tight-lipped as they work through the final stages of preparing the rules, a lobbyist said.
Administration officials have said they plan to address issues such as cash pooling, current-year earnings and profits and maybe even foreign-to-foreign transactions, said multiple lobbyists and other stakeholders who spoke to Bloomberg BNA on the condition of anonymity to protect client sensitivities. Treasury officials have said they also plan to revise provisions in the rules that would force S corporations to give up their tax status in order to comply with the regulations.
Should Treasury significantly address short-term instruments and more extensive documentation requirements to prove indebtedness, then opposition could wane considerably from companies that operate mostly within the U.S. rather than abroad, the ex-staffer said.
While those expected changes are welcome, one lobbyist said, he was concerned that those smaller fixes could create new problems. Moving directly to finalizing the rules would make it difficult to get it right, he said.
The European Union’s recent tax judgment against Apple Inc. could also force Treasury to rethink its approach to the debt-equity regulations, the lobbyist said. Treasury might care about appearances, and the perception that American companies “are getting hammered on both sides of the Atlantic” could help opponents of the regulations, he said (169 DTR G-3, 8/31/16).
Treasury Secretary Jacob Lew, meanwhile, is scheduled to meet with House Ways and Means Committee members Sept. 14. He is expected to reiterate that the regulations will be finalized this year and that the government doesn't want to hurt businesses.
After meeting with administration officials in July at the Capitol, Ways and Means and Senate Finance Committee Republicans believed the Obama administration would ease some of the proposed restrictions on cash-pooling transactions in the final version of the Section 385 rules. But even though Treasury has solicited business community feedback to better tailor the regulations since then, some Ways and Means members remain skeptical heading into this next meeting.
“It is what it is,” said Rep. Pat Tiberi (R-Ohio). “I don’t think anything has changed.”
Tiberi predicted that the broad impact of Treasury's proposal could cause some companies to relocate abroad or appear more attractive for foreign takeovers. That view isn’t shared across the aisle. While Ways and Means Democrats wrote Lew in July raising concerns about cash pooling and the need for transition rules, Ways and Means ranking member Sander Levin (D-Mich.) is calling for Treasury to finalize the proposal as soon as possible.
Lawmakers have limited options to stop the regulations from being finalized.
Tax writers so far haven't developed a coordinated effort between the House and Senate to fight Treasury, another lobbyist said. Finance Committee Chairman Orrin Hatch (R-Utah) is focused on potential procedural problems with the regulations, while Ways and Means Chairman Kevin Brady (R-Texas) is more opposed to the rules on principle, he said.
Congress could, however, slow down the regulatory project by opening an investigation into its validity, the lobbyist said. The investigation into former IRS official Lois Lerner over allegations of targeting conservative tax-exempt groups required the effort of hundreds of agency lawyers and slowed down work on regulatory projects, for example.
Using the Congressional Review Act to prevent the regulations from being finalized has limitations, too, not the least of which is infrequent success. Congress has only invoked it once successfully.
The law, in place since 1996, lets Congress invalidate federal regulations. The review requires both the House and the Senate to pass a resolution disapproving regulations followed by the president’s signature.
The proposed regulations could be finalized mid-to-late October, Zarlenga said, adding that any override of the rules under the CRA would fall to the next Congress, given the limited time left on the legislative calendar this year. And if Democrats gain control of the Senate and gain seats in the House after the November elections, it is unlikely they’ll pursue action under the CRA, she said.
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