tax notes international - Tuck School of Business - Dartmouth College

SPECIAL REPORTS
The taxpayer asserts that SPV’s two business activities
were factoring accounts receivable and lending
money. The simultaneous lending and alleged purchase
activities essentially operated with monies contributed
by the parent to SPV as a circular cash flow, because
those funds were immediately retransferred to the parent’s
group as loan proceeds and/or purchase monies.
The simultaneous lending and alleged purchase activities
also operated with respect to monies contributed
by the bank to SPV as loan proceeds (some amount of
which was purchase money to buy the parent’s accounts
receivable). SPV (the purported factor) had
hired the parent’s group to service and collect on the
accounts receivable that the parent’s group allegedly
sold to SPV.
The CCA concludes that SPV did not in effect or in
substance factor the parent’s accounts receivable. SPV
never owned the accounts receivable. At no time did
SPV ever physically possess the accounts receivables
files or any of the funds collected on the accounts receivable.
The funds essentially stayed with the parent
group, and SPV appears to have received only a security
interest in the accounts receivable and the collections
thereon. SPV was not given a present possessory
interest on either the accounts receivable or the funds
collected on those accounts receivable.
The steps involved in the transactions, when taken
together, the CCA states, closely resemble, and have
many of the same characteristics as a revolving line of
credit from the bank to the parent, with the parent’s
accounts receivable being used as collateral for the
loan. The parent and its subsidiaries maintained lockboxes
in their own names into which they put the
monies collected in servicing the accounts receivable
they allegedly sold to SPV. SPV would acquire dominion
and control over the contents of those boxes only
on the occurrence of a termination event.
The purported factoring transactions permitted the
parent to deduct on its consolidated federal income tax
returns both the losses in the aggregate amount of the
discounts arising from the sale of the accounts receivable
and the interest payment by the parent’s group
made on the loans received from SPV. No U.S. income
tax was paid on the interest or discount income earned
by SPV. SPV did not treat its discount and interest income
as attributable to a U.S. permanent establishment,
nor did the parent withhold 30 percent U.S. tax
on the interest and discount paid to SPV. Further, the
parent did not treat SPV as a controlled foreign corporation.
The Service held that when viewed in substance, the
series of transactions constituted solely lending activities,
that is, monies loaned by the bank to SPV for the
purpose of having SPV relend those same funds to the
parent. SPV’s main role in the series of transactions
was merely that of a lender of monies to the parent, or
a conduit through which the bank passed the loan proceeds
to the parent. The Service may alternatively ar-
gue that either the loans were between SPV and the
parent or that they were between the bank and the parent,
with SPV acting merely as a conduit through
which the loan proceeds passed. Either way, the parent
is not entitled to deduct the purported losses arising
from the factoring transactions, but should be allowed
additional interest deductions resulting from the new
recharacterization of these items.
As an alternative position to recasting the transaction
as a direct loan from the bank to SPV, the CCA
recommends that the Service assert that the bank’s interest
in SPV is strictly a debt interest with an equity
kicker, rather than a stock interest in SPV. In that case,
the parent would be the sole shareholder of SPV,
which would be a CFC. The CCA states that recharacterizing
the Class A securities as debt instruments
would effectively deny the parent’s deduction for the
factoring discount through the use of section 267.
The CCA states that recasting the transaction as
merely a loan between the bank and the parent with
SPV’s role as that of a conduit provides the correct
and most satisfactory resolution of the matter. Recharacterizing
the transaction in this manner more accurately
captures the true substance of the transaction. It
also would serve to eliminate any section 267 issue,
because under this recast, no sale of accounts receivable
between the parent and SPV would be considered
to have taken place, and, therefore, the parent would
not have realized any loss on a purported sale of the
receivables.
Publicly Traded Partnerships
LTR 200852005 described X, which was originally
organized as a foreign entity that constitutes a per se
corporation for U.S. tax purposes. (For LTR
200852005, see Doc 2008-27159 or 2008 WTD 251-17.)
A acquired all of the outstanding ordinary shares of
X. X then reregistered as an eligible entity under the
laws of that foreign country and filed a check-the-box
election to be treated as a partnership for U.S. tax purposes.
In addition to its ordinary shares, X has outstanding
B shares that are nonvoting, noncumulative preference
shares that are widely held. The B shares previously
were listed and traded on a stock exchange, although
they since have been delisted. Holders of B shares have
the right to sell their shares to X on a certain date each
year. Also, X implemented an off-market repurchase
program under which the owners of the B shares may
sell their shares to X twice per month. X has the right
to repurchase all outstanding B shares without the consent
of the B shareholders at a certain time for a specified
price. X intends to exercise its right to redeem all
of the B shares at that time.
The taxpayer sought and obtained a ruling that X is
not a publicly traded partnership under section 7704(b).
Section 7704(b) provides that the term ‘‘publicly traded
partnership’’ means any partnership if: (1) interests in
472 • FEBRUARY 2, 2009 TAX NOTES INTERNATIONAL
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