In Short
The Situation: On August 16, 2022, the Inflation Reduction Act of 2022 (the "Act") was signed into law, enacting a new nondeductible 1% excise tax on certain share repurchases (so-called "stock buybacks").
The Result: U.S. (and in certain instances, non-U.S.) corporations, whose stock is traded on an established securities market, that undertake share repurchases of more than $1 million in the aggregate per tax year, will be subject to a 1% share excise tax on the value of any share repurchase unless such share repurchase is taxed as a dividend (other exceptions and exclusions may apply).
Looking Ahead: Companies whose shares are traded on established securities markets (e.g., the NYSE, Nasdaq, and similar markets) will need to closely monitor their share repurchases and issuances to determine if a share repurchase is subject to the new 1% share repurchase excise tax.
Which Corporations are Subject to the 1% Share Repurchase Excise Tax?
New Code Section 4501 imposes a 1% share repurchase excise tax primarily on domestic corporations, the shares of which are traded on an established securities market, and certain domestic subsidiaries that purchase the stock of their non-U.S. corporate parents, the shares of which are traded on an established securities market. Special rules apply to any repurchases of stock in a "surrogate foreign corporation" within the meaning of Code Section 7874 (the anti-inversion rule).
For purposes of this new 1% share repurchase excise tax, shares of a corporation are treated as traded on an established securities market, not only if such shares are traded on well-known markets such as the NYSE and Nasdaq, but also non-U.S. security exchanges that satisfy regulatory requirements that are analogous to the regulatory requirements under the Securities Exchange Act of 1934, such as the London Stock Exchange and the Tokyo Stock Exchange, to name a few. In addition, certain regional or local exchanges, and even interdealer quotation systems that regularly disseminate firm buy or sell quotations by identified brokers or dealers by electronic means or otherwise, are included as established securities markets under this new rule.
Effective Date
The 1% excise tax applies to share repurchases after December 31, 2022.
Exceptions and Exclusions
The 1% share repurchase excise tax generally does not apply to:
Calculation of the Base Amount Subject to the 1% Share Repurchase Excise Tax
The amount subject to this 1% share repurchase excise tax is generally the amount paid by the issuing corporation during the year to its shareholders in exchange for their issuing corporation stock, reduced by the value of any stock issued by such corporation during the same year, including compensatory stock issuances. Thus, if a corporation repurchased its stock during any particular year in the amount of $120 million, and issued its stock for cash or compensatory purposes in the amount of $20 million during that same year, the 1% share repurchase excise tax base amount would be $100 million, and the 1% share repurchase excise tax would be $1 million.
Other Observations
The IRS has broad authority to subject "economically similar" transactions to the 1% share repurchase excise tax, which could mean that not only stock redemptions, but the redemption of other types of securities, will be subject to this new excise tax. We will be carefully monitoring the U.S. Treasury Department to see how it will implement this new tax.
Three Key Takeaways
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DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.
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