The recently released final regulations under Internal Revenue Code Section 385, addressing the circumstances under which related company debt will be classified as equity for federal income tax purposes, will have a significant impact on state and local taxes. Federal tax practitioners, as well as state and local tax practitioners, must address their implications.
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On April 4, 2016, without warning, the US Department of the Treasury proposed a new set of comprehensive regulations under section 385. There had been no advance indication that regulations were even under consideration. Although the Treasury indicated that the proposed regulations were issued in the context of addressing corporate inversions, their application went well beyond the inversion space and they apply to inter-corporate debt regardless of whether it occurs in an international context. The following is a discussion of the state and local tax consequences of the proposed regulations; for a detailed discussion of the proposed regulations themselves, see this previous article.
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