SECTION 8. EFFECT OF CERTAIN

TRANSACTIONS ON DOMESTIC REINVESTMENT PLANS

.01 In General

This section addresses the effect of certain transactions on domestic reinvestment plans adopted pursuant to section 965(b)(4) and Notice 2005–10. Section 8.02 of this notice addresses the effect of members entering and exiting a consolidated group. Section 8.03 addresses the effect of certain asset acquisitions. Section 8.04 then provides rules that apply to a corporation that may make permitted investments pursuant to more than one domestic reinvestment plan. Finally, section 8.05 of this notice provides reporting and administrative requirements for transactions addressed by this section 8.

.02 Members Entering and Exiting a Consolidated Group

A consolidated group may rely on any domestic corporation (regardless of whether such corporation is a U.S. shareholder) to fulfill the group’s obligations to make permitted investments under a domestic reinvestment plan if that corporation is a member of the group at any time on or after the first day of the group’s election year. For example, if a consolidated group adopts a domestic reinvestment plan and a member leaves the group during or after the group’s election year, the group may rely on the former member’s subsequent domestic investment activity to satisfy the group’s obligations under its domestic reinvestment plan. Similarly, if a domestic corporation joins a consolidated group during or after the first day of the group’s election year, the group may rely on the new member’s domestic investment activity after it joins the group to satisfy the group’s obligations under its domestic reinvestment plan. The rules of this paragraph apply regardless of the amount of cash or property held by the former member or new member at the time it leaves or joins the consolidated group, as the case may be.

In addition, a domestic corporation may rely on any other domestic corporation (regardless of whether such corporation is a U.S. shareholder) to fulfill its obligations to make permitted investments under a domestic reinvestment plan if both corpora

2005–22 I.R.B. 1114 May 31, 2005

US1 and US2, which are domestic corporations and members of the USP consolidated group. US1 and US2 each wholly owns a foreign corporation, CFC1 and CFC2, respectively. The USP group elects to apply section 965 for its taxable year ending December 31, 2005. The domestic reinvestment plan approved pursuant to section 965(b)(4) and Notice 2005–10 on behalf of the USP group requires that an amount of cash equal to the $100x cash dividends that are received from the USP group’s CFCs will be invested in the United States to fund research and development activities (performed in the United States) of the USP group over a two-year period. On December 31, 2005, CFC1 and CFC2 each distributes $50x of dividends that are eligible for the section 965(a) DRD. Example 1 . Member exiting a consolidated group . (i) Facts . On July 1, 2006, all of the stock of US2 is acquired for cash by USB, a domestic corporation and the common parent of the USB consolidated group. Any permitted investments required to be made by the USB group under any domestic reinvestment plan (other than that of the USP group) are made prior to June 30, 2006. Between July 1, 2006 and December 31, 2007, US2 funds $100x of research and development activities.

(ii) Result . Because US2 is a member of the USP group after the beginning of the USP group’s election year, US2’s funding of $100x of research and development activities made while it is a member of the USB group will satisfy the USP group’s obligations to make such permitted investments specified under the USP group’s domestic reinvestment plan. However, the USP group satisfies the reporting and administrative requirements contained in section 8 of Notice 2005–10 with respect to such investment.

Example 2 . Member entering a consolidated group . (i) Facts . On March 31, 2006, USP acquires for cash all the stock of US3, a domestic corporation that is not a member of a consolidated group. US3 elected to apply section 965 to its taxable year ending December 31, 2005. US3’s domestic reinvestment plan requires that US3 expend $5x to compensate existing employees for services performed in the United States over a two-year period. Between April 1, 2006 and December 31, 2007, US3 funds $100x of research and development activities. During the same period, US2 expends $5x to compensate existing employees for services performed in the United States.

(ii) Result . Because US3 is a member of the USP group after the beginning of the USP group’s election year, US3’s funding of $100x of research and development activities after joining the group will satisfy the USP group’s obligations to make such specified permitted investments under the USP group’s plan. In addition, because US2 is a member of the same consolidated group as US3 when it expends $5 to compensate existing employees for services performed in the United States (a permitted investment pursuant to section 965(b)(4) and Notice 2005–10),

tions are members of the same consolidated group at the time the investment is made, even if they were not members of the same consolidated group during the corporation’s election year. For example, if a corporation adopts a domestic reinvestment plan and the corporation joins a consolidated group after the end of the corporation’s election year, the acquired corporation may rely on the subsequent domestic investment activity of any member of the acquiring consolidated group to satisfy the corporation’s obligations under its domestic reinvestment plan. Similarly, if a consolidated group adopts a domestic reinvestment plan and the group is acquired by another consolidated group after the acquired group’s election year, the acquired group may rely on the subsequent domestic investment activity of any member of its new consolidated group to satisfy the acquired group’s obligations under its domestic reinvestment plan.

.03 Asset Acquisitions

In general, if a corporation acquires assets of another corporation, the acquiring corporation will not succeed to the obligations of the transferor corporation under a domestic reinvestment plan, and investments made by the acquiring corporation therefore are not eligible to satisfy such domestic reinvestment plan. However, if the corporation acquires the assets of a transferor corporation in a transaction described in section 381(a), subsequent investments made by the acquiring corporation (or by members of the acquiring corporation’s consolidated group) therefore may be eligible to satisfy the transferor’s domestic reinvestment plan.

If, prior to the transaction described in section 381(a), the acquiring corporation was also required or permitted to make permitted investments in order to satisfy a domestic reinvestment plan, the acquiring corporation will continue to be required or permitted to satisfy obligations under that domestic reinvestment plan in addition to any obligations under the transferor’s domestic reinvestment plan.

.04 Designation of Permitted Investment Activity

A single corporation may be able to make permitted investments in satisfaction of more than one domestic reinvestment

plan. However, the same expenditure of funds may not satisfy the investment requirement of more than one domestic reinvestment plan. For example, a single $100x investment made by an acquired domestic corporation cannot be counted toward the investment requirements of both the selling consolidated group and the acquiring consolidated group. If a permitted investment by a corporation would satisfy the investment requirement of more than one domestic reinvestment plan, the corporation may designate which plan is being satisfied. If a corporation fails to so designate, its domestic investment activities will be treated as fulfilling domestic reinvestment plan obligations in the following order: first, under any plan adopted with respect to its own earliest election year; second, under any plan adopted with respect to its own subsequent election years, if any; and third, with respect to any plan adopted with respect to any other corporation (for example, a transferor in a transaction described in section 381(a) or a consolidated group the corporation later joined) in the order the corporation became required or permitted to make investments in satisfaction of such plan.

.05 Reporting and Other Administration Requirements under Section 8 of Notice 2005–10

If a former member of a consolidated group contributes to the completion of the group’s domestic reinvestment plan (in whole or in part), the obligation to comply with the reporting and other administrative requirements contained in section 8 of Notice 2005–10 will remain with the group if such group continues to exist, or otherwise with the common parent (or successor agent) for the election year, or the common parent of any consolidated group that includes such former common parent (or successor agent).

.06 Examples

The following examples illustrate the application of section 965(b)(4) and this section 8. Unless otherwise indicated, the following facts are assumed for purposes of these examples: USP is a domestic corporation and the common parent of a consolidated group that uses the calendar year as its taxable year. USP wholly owns

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The following example illustrates the application of section 965(a)(2) and this section 9.04:

Example . (i) Facts . USP, a domestic corporation, wholly owns two foreign corporations, CFC1 and CFC2. CFC1 wholly owns a foreign corporation, CFC3. CFC2 has $100x of current and accumulated earnings and profits described in sections 304(b)(5)(A) and 959(c)(3). During USP’s section 965 election year, CFC1 sells all its CFC3 stock to CFC2 for $100x. Also during USP’s election year, CFC1 distributes $100x to USP that is excluded from gross income under section 959(a).

(ii) Result . Because CFC1 is in control of both CFC3 and CFC2 and receives property from CFC2 in exchange for its CFC3 stock, CFC1’s sale of CFC3 stock to CFC2 is subject to section 304(a)(1). Accordingly, CFC1 is treated as receiving $100x as a distribution in redemption of CFC2 stock. Because CFC1 actually owns 100% of CFC3 before the sale and is treated as owning 100% of CFC3 after the sale, pursuant to section 302(d), section 302(a) does not apply to the deemed redemption distribution and the proceeds of the deemed redemption are treated as a distribution to which section 301 applies. Therefore, CFC1 is treated as transferring its CFC3 stock to CFC2 in exchange for CFC2 stock in a transaction to which section 351(a) applies. The CFC2 stock CFC1 is treated as receiving in the deemed section 351 exchange is then treated as redeemed by CFC2 for $100x. Under section 302, that redemption is treated as a distribution to which section 301 applies because CFC1 owns directly 100% of CFC3 before the redemption of the CFC2 stock that was deemed issued and is treated as owning 100% of CFC3 after the redemption. The deemed redemption proceeds are treated as a distribution to which section 301 applies, and CFC1 is treated as receiving a dividend of $100x from the current and accumulated earnings and profits of CFC2. For purposes of section 965(a)(2), because CFC1 is treated under section 304(a)(1) as receiving CFC2 stock in the deemed section 351 exchange, CFC1 is treated as receiving the $100x dividend from another CFC that is in a chain of ownership described in section 958(a).

.05 Acquisitions of Interests in Business Entities — Modification of Section 5.06 of Notice 2005–10

Section 5.06 of Notice 2005–10 provides, in part, that in valuing assets with respect to certain acquisitions of interests in business entities, the taxpayer must use the same methodology that it uses, under section 864(e) and Treas. Reg. §1.861–9T(g) (that is, tax book value, alternative tax book value, or fair market value), for purposes of allocating and apportioning its interest expense for the taxable year. Notwithstanding that section of Notice 2005–10, the Treasury Department and the IRS have decided that taxpayers may elect to use the fair market value methodology under Treas. Reg. §1.861–9T(g)

US3 may rely on US2’s expenditure to satisfy its obligation specified under its plan. USP is required to satisfy the administrative requirements with respect to investments under US3’s plan.

Example 3 . Asset acquisition of U.S. shareholder . (i) Facts . The facts are the same as in Example 2, except that instead of USP acquiring the stock of US3, US3 merges into US2 in a reorganization under section 368(a)(1)(A) and (a)(2)(D) on March 31, 2006, after which US2 remains a member of the USP group. Between April 1, 2006 and December 31, 2007, US2 funds $100x of research and development activities and pays $5x to compensate existing employees for services performed in the United States.

(ii) Result . Because US2 acquired the assets of US3 in a transaction to which section 381(a) applies, US2 succeeded to US3’s domestic reinvestment plan obligations. US2’s payment of $5x to compensate existing employees for services performed in the United States satisfies its obligation to make a permitted investment specified under US3’s plan. The USP group may also rely on US2’s funding of $100x of research and development activities to satisfy the USP group’s plan obligations. The result would be the same if, after the merger of US3 into US2, US1, instead of US2, paid $5x to compensate existing employees for services performed in the United States, because US1 is a member of the same consolidated group as US2 and the compensation is a permitted investment pursuant to section 965(b)(4) and Notice 2005–10.

Example 4 . Failure to designate sufficient invest- ment activity to fulfill multiple domestic reinvestment plans . (i) Facts . The facts are the same as in Example 2, except that US3’s plan also required US3 to expend $5x to fund research and development activities over a two-year period. The USP group fails to designate specific investment activities for purposes of section 8.04 of this notice to satisfy either the USP group domestic reinvestment plan or the US3 domestic reinvestment plan. Between March 31, 2006 and December 31, 2007, US3 funds $5x of research and development activities and US2 funds $95x of research and development activities.

(ii) Result . Because the USP group failed to designate specific investment activities to satisfy US3’s and the USP group’s domestic reinvestment plans, US3’s permitted investments will first be taken into account under the US3 plan, and US2’s permitted investments will first be taken into account under the USP group plan. Consequently, US3’s $5x expenditure will satisfy the US3 plan and cannot be taken into account by the USP group to satisfy its obligation to conduct $100x of research and development activities. As a result, the USP group will have conducted only $95x of research and development activities and the USP group’s 2005 qualifying dividend is reduced by $5x. If instead, US3 had merged into US2 on March 31, 2006, as in Example 3, and US2 spent the $100x without designating, all $100x would have satisfied the USP domestic reinvestment plan. In addition, the US3 plan would fail to have been satisfied, resulting in a $5x reduction in US3’s qualifying dividends.