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BACKGROUND

Outbound transfers (as defined) of stock or assets, as well as reorganization transactions that involve a foreign party to the reorganization, are subject to Code §367 and the regulations thereunder. Code §367(a) deals with outbound transfers of stock or assets and attempts to prevent the removal of appreciated property from U.S. taxing jurisdiction before its sale or other disposition. Code §367(b) applies to certain inbound and foreign-to-foreign reorganization transactions and is aimed at preserving the ability of the United States to tax, either currently or at a future date, the accumulated earnings and profits of a foreign corporation attributable to the stock of that corporation held by U.S. shareholders.

In the case of an outbound transfer of assets consisting of tangible property for use by the transferee, a foreign corporation in the active conduct of a trade or business outside of the United States, no gain under §367(a)(1) is triggered. Otherwise, gain under Code §367(a) equal to the fair market value in excess of tax basis is triggered. Code §367(a)(2) and Treas. Reg. §1.367(a)-3, in pertinent part, provide for exceptions to the general Code §367(a) gain recognition for outbound transfers of stock or securities. These sections provide for non-recognition of gain where appropriate, upon entering into a gain recognition agreement (a “G.R.A.”).

Under a G.R.A., gain recognition under §367(a) generally can be avoided on the condition that a G.R.A. is entered into by any U.S. transferor who owns at least 5% of the transferee foreign corporation immediately after transfer. The 5% threshold for requiring a G.R.A. is determined based on the greater of vote or value, taking into consideration attribution rules. A U.S. shareholder who does not own 5% or more of the stock does not have to sign a G.R.A. in order to claim non-recognition treatment for their exchange of stock for stock. The foreign parent corporation that issues stock or securities to these U.S. transferors is treated as the transferee foreign corporation for purposes of applying the G.R.A. provisions.