Notice 2023-2 does not — Internal Revenue Bulletin 2024-20

address whether a distribution by Distributing of Controlled securities to Distributing shareholders in exchange for their Distributing stock in a split-off is treated as a repurchase. However, Controlled

securities that are exchanged for Distributing stock would not constitute qualifying property under the rules described in Notice 2023-2. As a result, the exchange of Controlled securities for Distributing stock in a split-off would be subject to the stock repurchase excise tax under the rules described in Notice 2023-2.

A stakeholder recommended that, to the extent the Treasury Department and the IRS view a distribution of Controlled securities as a substitute for cash, the distribution of Controlled securities in exchange for Distributing stock in a splitoff to which section 355 applies should be treated as a repurchase.

The Treasury Department and the IRS continue to be of the view that Controlled securities that are exchanged for Distributing stock should not constitute qualifying property for purposes of the stock repurchase excise tax. The Treasury Department and the IRS have reached this position based on the rationale that, unlike an exchange of Distributing stock for Controlled stock, an exchange of Distributing stock for Controlled securities generally would achieve an outcome more analogous to an exchange of Distributing stock for non-qualifying property. Accordingly, the Treasury Department and the IRS are of the view that no special rules are needed to address this issue.

C. Clarification of Examples 13 and 14 in Notice 2023-2

Section 3.09 of Notice 2023-2 contains Examples 13 and 14 . These examples are based on Example 11 of Notice 2023-2, in which Distributing distributes Controlled stock and cash to Distributing’s shareholders in exchange for their Distributing stock. The facts in Example 13 are the same as in Example 11, except that Example 13 provides that “Distributing distributes the Controlled stock to its shareholders pro rata without the shareholders exchanging any Distributing stock (Spin-Off).” The facts in Example 14 are the same as in Example 13, except that the “Spin-Off is carried out as part of a transaction qualifying as a D reorganization.”

A stakeholder recommended that the proposed regulations incorporate revisions to Examples 13 and 14 to clarify whether the cash distribution described in

those examples constitutes a distribution in exchange for Distributing stock. The stakeholder interpreted Examples 13 and 14 to provide clearly that no Distributing stock is surrendered by Distributing’s shareholders in the “Spin-Off” in both examples, but nonetheless questioned whether any Distributing stock could have been surrendered for the cash distributed by Distributing with the Controlled stock. Therefore, the stakeholder recommended that Examples 13 and 14 explicitly state whether or not Distributing stock is surrendered in exchange for the cash distributed as well as the stock distributed.

The Treasury Department and the IRS have revised Example 13 to explicitly state that no stock of Distributing is exchanged in the “Spin-Off” for distributed cash or distributed Controlled stock. This clarification would confirm the interpretation of stakeholders and the intent of the Treasury Department and the IRS. See proposed §58.4501-5(b)(13).

Additionally, the Treasury Department and the IRS have modified the facts of Example 14 to clarify the treatment of an exchange of Distributing stock for non-qualifying property in pursuance of a spin-off. See proposed §58.4501-5(b)(14). For the treatment of the exchange of Distributing stock in pursuance of a spin-off, see proposed §58.4501-2(e)(5)(iii)(B) and the discussion in part IX.A of this Explanation of Provisions.

X. Statutory Exceptions

A. Repurchase as part of a reorganization

In General

Section 4501(e)(1) provides an exception (that is, the reorganization exception) to the application of the stock repurchase excise tax “to the extent that the repurchase is part of a reorganization (within the meaning of section 368(a)) and no gain or loss is recognized on such repurchase by the shareholder…by reason of such reorganization.” To facilitate the IRS’s ability to administer and enforce the stock repurchase excise tax, and to enable taxpayers to apply the tax with greater certainty, Notice 2023-2 adopts a consideration-based approach to the reorganization exception. As described in

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section 3.07(2) of Notice 2023-2, the fair market value of stock repurchased by a covered corporation in transactions listed in that section is a reduction for purposes of computing the covered corporation’s stock repurchase excise tax base, to the extent that the repurchase is in exchange for property permitted by section 354 or 355 to be received without the recognition of gain or loss (that is, qualifying property). These transactions consist of a repurchase by: (i) a target corporation as part of an acquisitive reorganization; (ii) a recapitalizing corporation as part of an E reorganization; (iii) a transferor corporation as part of an F reorganization; and (iv) a distributing corporation as part of a split-off (whether or not part of a D reorganization).

Stakeholders have suggested three general approaches to implement the reorganization exception. Under the stakeholders’ first approach, the reorganization exception would apply only if no gain or loss is recognized by a shareholder on a repurchase that occurs as part of a reorganization under section 368(a). As a result, if a shareholder receives both qualifying property and non-qualifying property in an actual or deemed redemption that occurs as part of a reorganization, the reorganization exception would not apply to any of the consideration received if the shareholder recognized any built-in gain or loss in the target corporation stock exchanged for that consideration.

Under the stakeholders’ second approach, the reorganization exception would exclude an actual or deemed redemption that occurs as part of a reorganization under section 368(a) to the extent a shareholder does not recognize gain or loss. At least one stakeholder recommended this approach because the stakeholder found it significant that a target corporation shareholder’s non-taxable receipt of acquiring corporation stock (that is, qualifying property) does not result in the termination or “cashing out” of the target corporation shareholder’s proprietary interest in the target corporation.

Another stakeholder provided a variation to this second approach that would incorporate a rebuttable presumption. Under this variation, the reorganization exception would apply to a repurchase solely to the extent that stock of the target

corporation is exchanged by target corporation shareholders for qualifying property. In other words, all shareholders of the target corporation that receive non-qualifying property in exchange for target corporation stock would be presumed to recognize gain or loss to the full extent of the non-qualifying property received. The stakeholder recommended allowing a target corporation to rebut this presumption to the extent the target corporation could demonstrate that its shareholders did not recognize gain or loss in the reorganization. However, the stakeholder found it questionable as a policy matter that, under this variation of the second approach, a target corporation that provides solely non-qualifying property to the target corporation shareholders in exchange for target corporation stock would not be treated as repurchasing the target corporation shareholders’ stock if the target corporation rebuts the presumption of gain or loss recognition.

Under the stakeholders’ third approach, the reorganization exception would apply to a repurchase solely to the extent that stock of the target corporation is exchanged by target corporation shareholders for qualifying property, regardless of whether the target corporation shareholder recognizes any gain or loss. One stakeholder recommended this third approach based on the stakeholder’s rationale that shareholder-level gain should not be taken into account for determining whether a repurchase occurred for purposes of the stock repurchase excise tax. In addition, the stakeholder contended that any approach that requires computation of each shareholder’s gain or loss would be difficult for the IRS to administer, and for taxpayers to apply with certainty, because the shareholder-level data necessary to determine such gain or loss would be difficult to obtain.

The Treasury Department and the IRS continue to be of the view that the third approach recommended by stakeholders would strike the most appropriate balance between implementing the plain language of the reorganization exception and providing a rule that facilitates the ability of the IRS to administer and enforce the stock repurchase excise tax. Under this approach, the touchstone consideration of whether a target corporation shareholder

receives qualifying or non-qualifying property in exchange for target corporation stock will enable target corporations to readily determine the extent to which the reorganization exception applies to the exchange. Moreover, the Treasury Department and the IRS are of the view that only in rare instances would such a shareholder not recognize gain or loss if the shareholder received non-qualifying property in exchange for target corporation stock. Accordingly, the proposed regulations would retain the approach described in Notice 2023-2. See proposed §58.45013(c).

Section 355 Transactions That are Not Part of a D Reorganization

Stakeholders recommended applying the reorganization exception to split-offs and split-ups without regard to whether the section 355 transaction occurs as part of a D reorganization. According to the stakeholders, Congress intended to convey through the reorganization exception that transactions that qualify for non-recognition treatment should not be subject to the stock repurchase excise tax, and that the same treatment should extend to all section 355 transactions—regardless of whether carried out as part of a D reorganization.

The Treasury Department and the IRS continue to be of the view that the exception in section 4501(e)(1) should apply to split-offs to which section 355 applies without regard to whether such transactions occur as part of a D reorganization. See proposed §58.4501-3(c). As previously discussed in part IX.A of this Explanation of Provisions, split-ups are not treated as repurchases. Consequently, the exception in section 4501(e)(1) is not relevant to split-ups.

B. Contributions to employer-sponsored retirement plans

In general, under section 3.07(3)(a) of Notice 2023-2, the fair market value of stock repurchased by a covered corporation is a reduction for purposes of computing the covered corporation’s stock repurchase excise tax base if the stock that is repurchased, or an amount of stock equal to the fair market value of the stock

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repurchased, is contributed to an employer-sponsored retirement plan.

Timing of Contributions Under Section 4501(e)(2)

Section 4501(e)(2) provides that the stock repurchase excise tax does not apply in any case in which the stock repurchased, or an amount of stock equal to the value of the stock repurchased, is contributed to an employer-sponsored retirement plan, ESOP, or similar plan (stock contribution exception).

Under section 3.07(3)(d) of Notice 2023-2, a covered corporation may treat stock contributions to an employer-sponsored retirement plan under the stock contribution exception as having been made in the prior taxable year if the stock is contributed by the filing deadline for the IRS Form 720, Quarterly Federal Excise Tax Return, that is due for the first full quarter after the close of the taxpayer’s taxable year and on account of that taxable year within the meaning of section 404(a)(6) of the Code. The rule described in section 3.07(3)(d) of Notice 2023-2 also provides stock contributions that are treated as having been contributed in the taxable year to which the Form 720 applies may not be treated as having been contributed for any other taxable year.

One stakeholder indicated that the reference to the stock contribution being “on account of” the taxable year within the meaning of section 404(a)(6) raises questions about the timing of the offset for the stock repurchase excise tax and the income tax deduction under section 404(a). Specifically, the stakeholder requested clarification as to whether a covered corporation is required to deduct a stock contribution to a plan under section 404(a) in the same taxable year for which the contribution is taken into account for purposes of the stock contribution exception.

The Treasury Department and the IRS are of the view that a stock contribution is not required to be treated as “on account of” the preceding taxable year within the meaning of section 404(a)(6). Thus, for example, a covered corporation may claim the income tax deduction in the taxable year in which the stock is contributed to the employer-sponsored retirement plan but claim an offset for

the stock contribution to the plan for purposes of the stock repurchase excise tax in the preceding taxable year (provided that the rules in these proposed regulations are satisfied).

Accordingly, these proposed regulations would provide that, for purposes of the reduction in the stock repurchase excise tax base, a covered corporation may treat stock contributions to an employer-sponsored retirement plan made after the close of the covered corporation’s taxable year as having been contributed during that taxable year if two conditions are satisfied. First, the stock must be contributed to the employer-sponsored retirement plan by the filing deadline for the form on which the stock repurchase excise tax must be reported that is due for the first full quarter after the close of the taxpayer’s taxable year. Second, the stock must be treated by the employer-sponsored retirement plan in the same manner that the plan would treat a contribution received on the last day of the preceding taxable year. See proposed §58.4501-3(d)(4)(ii).

Definition of “Employer-Sponsored Retirement Plan”

For purposes of Notice 2023-2, the term “employer-sponsored retirement plan” means a retirement plan maintained by a covered corporation that is qualified under section 401(a) of the Code, including an ESOP (as defined in section 4975(e)(7) of the Code). See section 3.02(12) of Notice 2023-2. In section 6.01(4) of Notice 20232, the Treasury Department and the IRS requested comments regarding whether the definition of an “employer-sponsored retirement plan” should include plans other than plans that are qualified under section 401(a). In response, one stakeholder recommended expanding this definition to include foreign-based plans and plans funded through a secular trust. The stakeholder reasoned that the statutory language of section 4501(e)(2), along with the underlying policy considerations, support expanding the definition to these types of plans. However, the stakeholder did not specify which types of foreign-based plans or plans funded through a secular trust should be included in the definition of an “employer-sponsored retirement plan.”

The Treasury Department and the IRS are of the view that certain broad-based foreign plans that are funded through a secular trust or another type of funded arrangement may be considered “similar plans,” and thus may be included in the definition of an “employer-sponsored retirement plan” for purposes of the stock contribution exception. However, the Treasury Department and the IRS have not yet determined which types of broadbased foreign plans should be included in this definition. Accordingly, the Treasury Department and the IRS request comments regarding the types of foreign-based plans that should be included in the definition of an “employer-sponsored retirement plan.”

Another stakeholder expressed concern that the stock contribution exception could be used to encourage excessive executive compensation and requested that the definition of “similar plan” be defined to specifically exclude executive compensation arrangements. The Treasury Department and the IRS agree that the stock contribution exception should not be used to encourage executive compensation arrangements. The definition of an “employer-sponsored retirement plan” described in Notice 2023-2 is limited to plans that are qualified under section 401(a) (including ESOPs). The Treasury Department and IRS are of the view that this definition is sufficient to exclude executive compensation arrangements from the stock contribution exception. Thus, these proposed regulations similarly would limit the definition of “employer-sponsored retirement plan” to plans that are qualified under section 401(a).

However, these proposed regulations would expand the definition of “employer-sponsored retirement plan” described in Notice 2023-2 to include qualified plans under section 401(a) that are maintained by specified affiliates of covered corporations. Section 3.02(12) of Notice 2023-2 defined “employer-sponsored retirement plan” with regard to qualified plans maintained by covered corporations. These proposed regulations would provide that the definition of “employer-sponsored retirement plan” includes not only qualified plans maintained by covered corporations, but also qualified plans maintained by a specified affiliate of a covered corporation. See proposed §58.4501-1(b)(11).

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Valuation of Stock Contributions

As noted previously, the stock contribution exception in section 4501(e)(2) provides that the stock repurchase excise tax will not apply in any case in which (i) the stock repurchased (first clause), or (ii) an amount of stock equal to the value of the stock repurchased (second clause), is contributed to an employer-sponsored retirement plan, ESOP, or similar plan.

Section 3.07(3)(c)(i) of Notice 2023-2 addressed the first clause by providing that, if a covered corporation repurchases stock and contributes to an employer-sponsored retirement plan stock of the same class, then the amount of the reduction under the stock contribution exception is equal to the aggregate fair market value of the stock repurchased during the taxable year, divided by the number of shares repurchased, and multiplied by the number of shares contributed. However, the amount of the reduction may not exceed the aggregate fair market value of stock of the same class repurchased during the taxable year.

Section 3.07(3)(c)(ii) of Notice 2023-2 addressed the second clause by providing that, if a covered corporation contributes to an employer-sponsored retirement plan stock of a different class than the class of stock that was repurchased, then the amount of the reduction under the stock contribution exception is equal to the fair market value of the stock at the time the stock is contributed to the employer-sponsored retirement plan. However, the amount of the reduction may not exceed the aggregate fair market value of stock of a different class repurchased during the taxable year.

One stakeholder requested that the value of stock for purposes of the stock contribution exception be based on the greater of the value at the time of repurchase or at the time of contribution to an employer-sponsored retirement plan. The stakeholder stated that the word “or” between the first clause and the second clause offers statutory support for allowing covered corporations to choose between using the first clause or the second clause for any given year.

The Treasury Department and the IRS disagree with the stakeholder. With regard to the first clause, the focus of the language is on the stock repurchased. Because the

stock repurchase excise tax does not apply to the repurchase of the stock that is contributed, the amount of the offset is the fair market value of the shares of stock at the time of the repurchase. Any change in value after the date of repurchase is irrelevant for purposes of determining the amount of the repurchase under section 4501(a) and, thus, the offset amount under the stock contribution exception.

Moreover, if covered corporations contribute stock of a different class than the stock repurchased, the contribution will not reflect a contribution of the stock repurchased. For this reason, it is inconsistent with the statutory language of section 4501(e)(2) to allow covered corporations to apply the first clause if contributing a different class of stock to an employer-sponsored retirement plan.

With regard to the second clause, because the statutory language focuses on an amount of stock equal to the value of the stock repurchased, and not on the shares of stock themselves, the value of the offset amount is determined by the value of the stock contributed to the retirement plan, instead of the value of the stock at the time of the repurchase.

Accordingly, these proposed regulations would incorporate the valuation provisions described in section 3.07(3) (c) of Notice 2023-2, including the rule that the reduction cannot exceed the aggregate fair market value of the stock repurchased. Additionally, these proposed regulations would add language to coordinate the application of the stock contribution exception with the application of other statutory exceptions. See proposed §58.4501-3(d)(3).

Special Rule for Leveraged ESOPs

As defined in section 4975(e)(7), an ESOP is a type of defined contribution plan that is qualified under section 401(a) and is designed to invest primarily in qualifying employer securities (within the meaning of section 409(l) of the Code). An ESOP also must meet other applicable requirements described in section 409.

An ESOP may be leveraged or non-leveraged. Leveraged ESOPs use the proceeds of an exempt loan (as defined in section 4975(d)(3)) from the sponsoring employer or another party (typically

with the employer’s guarantee) to purchase qualifying employer securities from the sponsoring employer or shareholders or on a securities market. The purchased securities are held in a suspense account (within the trust that forms a part of the plan) as collateral for the loan. The sponsoring employer makes cash contributions to the ESOP, which in turn uses the cash to make loan repayments. Dividends paid on shares held as collateral in the ESOP loan suspense account and on shares allocated to participants’ accounts also may be used to repay an exempt loan. As loan repayments are made, securities are released from the suspense account and allocated to ESOP participants’ accounts in accordance with the terms of the plan, which must comply with plan qualification and fiduciary requirements.

Non-leveraged ESOPs do not have a loan and, thus, do not have a suspense account that releases securities to ESOP participants’ accounts as contributions of cash are used to repay a loan. Rather, employers contribute employer securities directly to the non-leveraged ESOP, and the contributed shares are allocated to ESOP participants’ accounts as of the plan year to which the contribution applies.

Employer contributions to a non-leveraged ESOP fit squarely within the stock contribution exception because employer contributions to a non-leveraged ESOP are made in shares of stock. Although employer contributions of cash to a leveraged ESOP are not described in section 4501(e)(2), such contributions result in the allocation of shares of stock from a suspense account to ESOP participants’ accounts. In other words, contributions of stock to a non-leveraged ESOP and contributions of cash to a leveraged ESOP that is used to repay an exempt loan produce a comparable result—namely, the allocation of employer stock to participants’ accounts. Accordingly, the Treasury Department and the IRS are of the view that leveraged ESOPs and non-leveraged ESOPs should be treated similarly for purposes of the stock contribution exception.

Thus, these proposed regulations would provide that, if a covered corporation maintains a leveraged ESOP, stock that is released from a suspense account (as a result of cash contributions by the employer maintaining the

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plan) and allocated to ESOP participants’ accounts is treated as a stock contribution for purposes of the stock contribution exception as of the date stock attributable to repayment of the exempt loan is released from the suspense account and allocated to participants’ accounts. Because dividends on employer stock held in the ESOP and used to repay an exempt loan are not employer contributions, stock released from the suspense account that is attributable to repayment of the loan with dividends would not be treated as a stock contribution for purposes of the stock contribution exception. See proposed §58.4501-3(d)(1)(ii).

C. De minimis exception

Section 4501(e)(3) provides an exception (that is, the de minimis exception) to the application of the stock repurchase excise tax with regard to a taxable year “in any case in which the total value of the stock repurchased during the taxable year does not exceed $1,000,000.” See section 4501(e)(3); see also section 3.03(2)(a) of Notice 2023-2. Under section 3.03(2)(b) of Notice 2023-2, the determination of whether the de minimis exception applies with regard to a taxable year is made before applying any other statutory exception or any adjustments under the netting rule. As discussed in part XIV.A.3 of this Explanation of Provisions, the Treasury Department and the IRS are of the view that applying the de minimis exception before the other statutory exceptions is consistent with the statutory language and structure of section 4501.

The proposed regulations would retain the approach described in Notice 2023-2. See proposed §58.4501-2(c)(3). Additionally, for the same rationale underlying the approach described in Notice 2023-2, the proposed regulations would clarify that repurchases prior to January 1, 2023, are not taken into account for purposes of the stock repurchase excise tax (including for purposes of applying the de minimis exception). See proposed §58.4501-2(c) (4); see also part I.A of this Explanation of Provisions (discussion of repurchases by a fiscal-year taxpayer prior to the effective date).

D. Repurchases by dealers in securities

Section 4501(e)(4) provides an exception to the application of the stock repurchase excise tax “under regulations prescribed by the Secretary, in cases in which the repurchase is by a dealer in securities in the ordinary course of business.” Pursuant to the authority granted in section 4501(e)(4), section 3.07(4) of Notice 2023-2 describes an exception to the application of the stock repurchase excise tax for certain repurchases by a dealer in securities in the ordinary course of the dealer’s business of dealing in securities.

More specifically, section 3.07(4)(a) of Notice 2023-2 describes, in part, that the fair market value of stock repurchased by a covered corporation that is a dealer in securities (within the meaning of section 475(c)(1) of the Code) is a reduction for purposes of computing the covered corporation’s stock repurchase excise tax base to the extent the stock is acquired in the ordinary course of the dealer’s business of dealing in securities. However, under section 3.07(4)(b) of Notice 2023-2, this reduction applies solely to the extent that: (i) the dealer accounts for the stock as securities held primarily for sale to customers in the dealer’s ordinary course of business; (ii) the dealer disposes of the stock within a period of time that is consistent with the holding of the stock for sale to customers in the dealer’s ordinary course of business, taking into account the terms of the stock and the conditions and practices prevailing in the markets for similar stock during the period in which the stock is held; and (iii) the dealer does not sell or otherwise transfer the stock to certain specified persons other than in a sale or transfer to a dealer that also satisfies the requirements of section 3.07(4) of Notice 2023-2.

No feedback was received on this exception in Notice 2023-2. The proposed regulations would retain the approach described in Notice 2023-2. See proposed §58.4501-3(e).

E. Repurchases by RICs and REITs

Section 4501(e)(5) provides an exception to the application of the stock repurchase excise tax for “repurchases by a regulated investment company (as defined

in section 851) or a real estate investment trust.” Under section 3.07(5) of Notice 2023‑2, a repurchase by a covered corporation that is a RIC or a REIT is a reduction for purposes of computing the covered corporation’s stock repurchase excise tax base. The proposed regulations would retain the approach described in Notice 2023-2. A stakeholder recommended that the exception for RICs be extended to all funds registered under the Investment Company Act of 1940, even if those funds do not qualify as RICs for tax purposes. The stakeholder suggested that the organizational structure, operations, applicable securities laws, and accounting standards are the same for those funds as for funds that are RICs for tax purposes.

The Treasury Department and the IRS disagree with the stakeholder’s recommendation. Section 4501(e)(5) provides a specific and limited exception for RICs as defined in section 851, and nothing in the statutory language of section 4501 suggests that entities that do not qualify as RICs are intended to be exempt from the stock repurchase excise tax. Accordingly, the proposed regulations would not adopt this recommendation.

F. Dividend exception

Section 4501(e)(6) provides an exception (dividend exception) to the application of the stock repurchase excise tax “to the extent that the repurchase is treated as a dividend for purposes of [the Code].” To implement section 4501(e)(6), the rule described in section 3.07(6)(a) of Notice 2023-2 generally provides that the fair market value of stock repurchased by a covered corporation is a reduction for purposes of computing the covered corporation’s stock repurchase excise tax base to the extent the repurchase is treated as a distribution of a dividend under section 301(c)(1) or 356(a)(2). Under the notice, there is a rebuttable presumption that a repurchase to which section 302 or 356(a) applies is subject to section 302(a) or 356(a)(1), respectively (and, therefore, is ineligible for the foregoing exception). See section 3.07(6)(b)(i) of Notice 20232. A covered corporation may rebut this presumption with regard to a specific shareholder solely by establishing with

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sufficient evidence that the shareholder treats the repurchase as a dividend on the shareholder’s Federal income tax return. See section 3.07(6)(b)(ii) of Notice 20232.

Substantiation for Dividend Exception

Stakeholders provided several recommendations regarding substantiation for the dividend exception in section 4501(e) (6).

a. Reliance on filings with the U.S. Securities and Exchange Commission

One stakeholder requested guidance as to how corporations should apply the constructive ownership rules of section 318(a) of the Code in determining the extent to which redemptions are treated as in part or full payment in exchange for stock under section 302(a) or as distributions to which section 301 applies. The stakeholder recommended that such guidance: (i) should permit corporations to rely on filings with the U.S. Securities and Exchange Commission (SEC) and similar filings to determine ownership (as in the case of determining whether an ownership change has occurred for purposes of section 382 of the Code ( see §1.382-2T(k) (1)(i))); (ii) should clarify the requisite level of due diligence to determine the constructive ownership of any shareholders not required to report their ownership in SEC filings; and (iii) should address whether any safe harbors or presumptions are available.

The Treasury Department and the IRS are of the view that the rebuttable presumption approach described in Notice 2023-2 would provide a more accurate determination of whether a covered corporation qualifies for the dividend exception. In addition, the Treasury Department and the IRS are of the view that the rebuttable presumption approach would better facilitate the IRS’s ability to administer and enforce the stock repurchase excise tax and enable taxpayers to apply the tax with greater certainty. Therefore, the proposed regulations would not permit covered corporations to rely on filings with the SEC and similar filings to determine the extent to which redemptions may be treated as qualifying for the dividend exception.

b. Rebuttable presumption and substantiation requirements

Another stakeholder contended that a covered corporation generally would not have access to information to determine with certainty whether a section 317(b) redemption should be treated as a dividend with respect to a particular shareholder. For support, the stakeholder asserted that a covered corporation may not possess information specifying the identity of its shareholders, which complicates the ability of the covered corporation to determine whether a repurchase is properly treated as a sale or exchange under section 302(a) or as a section 301 distribution under section 302(d) (which depends on shareholder-specific facts). As a result, the stakeholder recommended a safe harbor under which the dividend exception would apply if the covered corporation: (i) provides information reporting to the redeemed shareholder providing that the repurchase constitutes a dividend; (ii) obtains certification from the shareholder that the repurchase constitutes a section 302(d) redemption; (iii) has no knowledge of facts that would indicate that the certification is incorrect; and (iv) demonstrates that the corporation has sufficient earnings and profits (E&P) to treat the deemed section 301 distribution as a dividend.

As reflected in section 3.07(6) of Notice 2023-2, the Treasury Department and the IRS are of the view that repurchases should be presumed not to be dividend-equivalent (that is, the dividend exception is presumed to be inapplicable), but that taxpayers should be permitted to rebut this presumption by providing sufficient evidence. The substantiation requirements described in section 3.07(6) (b)(iii) of Notice 2023-2 are substantially similar to the stakeholder’s recommended safe harbor, with the additional requirement that the shareholder must provide evidence that applicable withholding occurred, if required.

Coupled with the shareholder certification requirement, the Treasury Department and the IRS provided the information reporting requirement to ensure that covered corporations and their shareholders treat repurchases consistently for purposes of the dividend exception.

However, it is the understanding of the Treasury Department and the IRS that publicly traded stock typically is held by shareholders through a broker, and the broker (rather than the issuer of the stock) provides any information reporting to the shareholder. Under current law, brokers are not required to inform the issuer of the stock what information reporting the brokers have provided to shareholders, and the Treasury Department and the IRS understand that brokers generally do not provide such information to issuers. Consequently, in such cases, there is no assurance that the information reporting provided to the shareholder would be consistent with the covered corporation’s treatment of a repurchase. Therefore, the proposed regulations would replace the information reporting requirement with a requirement that the covered corporation treat the repurchase consistent with the shareholder certification.

c. Coordination with withholding tax rules

In section 6.01(7) of Notice 20232, the Treasury Department and the IRS requested comments on whether there should be modifications to the method described in section 3.07(6) of Notice 2023-2, or whether additional methods to rebut the presumption should be permitted.

In response, one stakeholder observed that, although Notice 2023-2 includes a rebuttable presumption that a share repurchase by a covered corporation constitutes a sale or exchange, the withholding tax rules generally presume that such share repurchases from foreign persons are dividends subject to withholding tax. See §1.1441-3(c)(1). In the absence of coordination, the stakeholder contended that each of these presumptions might apply to the same transaction, and therefore would require (i) the repurchasing corporation to pay the stock repurchase excise tax as if the payment gave rise to a sale or exchange, and (ii) a withholding agent to withhold as if the payment gave rise to a dividend. Accordingly, the stakeholder requested that the proposed regulations provide rules to coordinate these differing presumptions.

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The Treasury Department and the IRS are of the view that no special rules are needed to coordinate the foregoing presumptions, particularly because these presumptions serve different purposes. In addition, if the proposed regulations were to provide rules to coordinate these presumptions, then the following would result: (i) covered corporations making repurchases would not have any stock repurchase excise tax liability (if the presumption were that all repurchases are dividends); or (ii) corporations making section 302 distributions to foreign persons would not have any withholding tax liability (if the presumption were that all repurchases are sales or exchanges).

However, the proposed regulations would include rules to coordinate the proposed shareholder certification requirements under the dividend exception with the proposed section 302 payment certification requirements under proposed §1.1441‑3(c)(5)(iii)(D). See proposed §58.4501-3(g)(3).

d. Certification from foreign shareholders

Another stakeholder contended that the requirement that U.S. companies obtain certification from a foreign shareholder who does not file a U.S. tax return, and who does not otherwise have a U.S. tax connection, is excessively burdensome. The stakeholder recommended replacing the certification requirement with the requirement that a U.S. company provide a Form 1042-S showing payment of a dividend. The Treasury Department and the IRS are of the view that reliance solely on the Form 1042-S is not an appropriate replacement for the shareholder certification requirement, because the Form 1042-S is based on the presumption that share repurchases are dividends subject to withholding tax. Consequently, reliance solely on the Form 1042-S for purposes of substantiating the dividend exception could overstate the amount of repurchases that qualify for this exception. Accordingly, the proposed regulations would not adopt this recommendation.

Substantiation of Dividend Exception for E Reorganizations

As discussed in part VIII.D of this Explanation of Provisions, the proposed

regulations would provide that a covered corporation’s acquisition of its stock as part of an E reorganization would constitute a repurchase, subject to the reorganization exception. Stakeholders have asked whether a covered corporation may establish its eligibility for the dividend exception by demonstrating that (i) §1.301-1(j) applies to the non-qualifying property in the transaction, and (ii) the corporation has sufficient E&P for dividend treatment.

Section 1.301-1(j) provides, in relevant part, that a distribution to shareholders with respect to their stock is a section 301 distribution, even if the distribution occurs at the same time as another transaction, if the distribution is in substance a separate transaction (whether or not connected in a formal sense). Section 1.301-1(j) further provides that this situation is most likely to occur in the case of a recapitalization and certain other corporate reorganizations. For example, if a corporation with only common stock outstanding exchanges one share of newly issued common stock and one bond for each share of outstanding common stock, the distribution of the bond is a distribution of property (to the extent of its fair market value) to which section 301 applies even if the stock-forstock exchange is pursuant to an E reorganization.