A-1-Capital-Markets-Financial-Services-Industry-Recent-Tax-Development-I

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  • 1. 47thBANK & CAPITAL MARKETS TAX INST IT U T Eannual A-1: CAPITAL MARKETS/ FINANCIAL SERVICES INDUSTRY RECENT TAX DEVELOPMENTS I Nutcracker Ballroom November 8th, 1:45pm – 3:15pm 47th ANNUAL BANK & CAPITAL MARKETS TAX INSTITUTE DISNEY CONTEMPORARY HOTEL Speakers: KEITH ANZEL DANIEL MAYO MARK H. PRICE FRANK STRONG 47 BANK I N S T I T U MARKET th annual TA X & CAPITAL TE NOVEMBER 7-9, 2012 E.COM WWW.BANKTAX I N ST I T U T D I S N E Y C O N T E M P O R A RY H OT E L | ORLANDO
  • 2. 10/26/2012 Bank & Capital Markets Tax Institute Capital Markets/Financial Services Industry Recent Tax Developments 1 November 8, 2012 Orlando, FL Keith Anzel Daniel Mayo MD -- Tax, Citigroup Global Markets, Inc. Principal, KPMG LLP Mark Price Frank Strong Principal, KPMG LLP Principal, Deloitte LLPNoticeANY TAX ADVICE IN THIS COMMUNICATION IS NOT INTENDED OR WRITTEN BY KPMG TO BE USED, AND CANNOTBE USED, BY A CLIENT OR ANY OTHER PERSON OR ENTITY FOR THE PURPOSE OF (i) AVOIDING PENALTIES THATMAY BE IMPOSED ON ANY TAXPAYER OR (ii) PROMOTING, MARKETING, OR RECOMMENDING TO ANOTHER PARTYANY MATTERS ADDRESSED HEREIN.Notwithstanding anything to the contrary set forth herein, you (and your employees, representatives, or agents) may discloseto any and all persons, without limitation of any kind, the tax treatment or tax structure of any transaction, and all materials ofany kind (including opinions or other tax analyses) that are provided to you by KPMG LLP related to such tax treatment andtax structure, effective immediately upon commencement of discussions with KPMG LLP.The information contained herein is of a general nature and based on authorities that are subject to change. Applicability of theinformation to specific situations should be determined through consultation with your tax adviser.© 2012 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent 1member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.NDPPS 115272Agenda § 871(m) Anschutz Co. v. Comm’r (variable prepaid forward contracts) Recent Debt/Equity and Economic Substance Cases Dividends Received Deduction Credit Cards© 2012 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent 2member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.NDPPS 115272 1
  • 3. 10/26/2012§ 871(m)Typical Equity Total Return Swap Economically Economically Short capital appreciation Long and dividends Dealer TP capital depreciation and LIBOR Economically Long Underlying Stock© 2012 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent 4member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.NDPPS 115272§ 871(m) Background March 2010 – § 871(m) – Dividend equivalent payments (DEPs) treated as U.S. source FDAP  Including DEPs from Specified Notional Principal Contracts (SNPCs) – Establishes four-factor test defining SNPCs January 2012 – Treasury and IRS issue temporary and proposed regulations – Temporary regulations extend four-factor test through December 31, 2012 – Proposed regulations establish “Seven Deadly Sins” causing an NPC to become an SNPC – Extension of 871(m) to equity-linked instruments August 2012 – IRS amends temporary regulations – Change effective date of proposed regulations from January 1, 2013 to January 1, 2014 – Extend four-factor test through December 31, 2013© 2012 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent 5member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.NDPPS 115272 2
  • 4. 10/26/2012ISDA 2010 Short Form HIRE Act Protocol Modifies covered ISDA Master Agreement – Original Protocol used infrequently – TP sends Adherence Letter to counterparty to adopt Short Form Dividend equivalent taxes – Defined as a tax on U.S. source dividend payments under § 871(m) – Protocol generally places incidence of tax on Payee  Exception when Payer makes false representation, in which case the Payer indemnifies and grosses-up payee© 2012 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent 6member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.NDPPS 115272Short Party Representations Execution – If opening price MOC or MOO, has not made buy order for underlying Termination – If closing price MOC or MOO, will not make sell order for underlying Conditions for representations – Short party not a dealer, – Long party not a U.S. person or a foreign person with ECI-USTB, and – Transaction provides for amounts that may be contingent upon U.S. source dividend Breach not a default© 2012 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent 7member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.NDPPS 115272Long Party Representations No transfer of underlying to Short Party upon execution, and Will not acquire underlying from Short Party upon termination If long party is not a dealer, and – If opening price MOC or MOO, no sell order for underlying at MOC or MOO at execution – If the closing price MOC or MOO, no buy order for underlying at MOC or MOO at termination Conditions – Long party not a U.S. person or a foreign person with ECI-USTB, and – Transaction provides for amount/s that may be contingent upon U.S. source dividend Breach not a default© 2012 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent 8member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.NDPPS 115272 3
  • 5. 10/26/2012Anschutz Co. v. Comm’r(variable prepaidforward contracts)Anschutz Co. v. Comm’r, 664 F.3d 313 (10th Cir. 2011),affirming 135 T.C. 78 (2010)Facts QSub, which TP’s S corp. owned, entered into VPFCs with Bank TP promised to deliver a variable number of shares to Bank approximately 10 years later – TP’s right to future appreciation in the shares limited to 50 percent – Bank required to pay TP up-front 75 percent of shares’ fair market value Bank borrows “Free Shares”, i.e., not subject to any “Transfer Restrictions” – Bank sells the borrowed shares and uses proceeds to fund up-front paymentHolding Tenth Circuit affirms Tax Court–combination of VPFC and stock loan created a current sale upon execution of contracts© 2012 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent 10member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.NDPPS 115272VPFCs Rev. Rul. 2003-7 3 year VPFC 1 TP Bank Upfront payment 2 - Holds pledged shares Third Party - TP maintains vote and dividend Custodian - No right to rehypothecation Anschutz Co. v. Comm’r 10 year VPFC (transactions in 2000, 2001) 1 3 TP Bank Upfront payment Short sale of shares 2 Proceeds fund - Share lending agreement tied to VPFC upfront payment - No transfer restrictions to TP© 2012 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent 11member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.NDPPS 115272 4
  • 6. 10/26/2012Anschutz Co. v. Comm’r, 664 F.3d 313 (10th Cir. 2011),affirming 135 T.C. 78 (2010) (continued)Rationale Common law sale factors – Lending shares free of restrictions effectively transferred tax ownership Distinguished Rev. Rul. 2003-7 – In ruling, third-party custodian maintained possession of stock for term of transaction Failed § 1058 safe harbor – Integrated transaction produced no risk of loss and substantially reduced opportunity for gain© 2012 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent 12member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.NDPPS 115272Recent Debt/Equity andEconomic SubstanceCasesBackground on “FTC Generators” IRS litigating six FTC transactions IRS asserted the transactions generated FTCs without double taxation of income IRS “Three and Out” litigation strategy Settlement guidelines?© 2012 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent 14member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.NDPPS 115272 5
  • 7. 10/26/2012Pritired 1, LLC v. United States, 816 F. Supp. 2d 693 (S.D. La. 2011) Simplified Structure: 2000–2005 Principal Life Citibank Ins Inc 50% 50% Equity Equity and Debt and French Pritired 1 Debt Banks LLC $930M $9M Class Units $291M PCs $300M “SAS” $475M 1% Convertible Notes (two PRS) $455M Class A Shares SAS purchased from the French Banks: $862M high-quality debt securities $368M Repos IRS: Securities are debt Paid French tax on total $1.23B TP: Securities are equity© 2012 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent 15member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.NDPPS 115272Pritired 1, LLC v. United States, 816 F. Supp. 2d 693 (S.D. La. 2011) (continued)Key Debt Factors Expected maturity date five years Value of shares at termination expected to be initial investment value – Transaction included a floor and a ceiling on return from the shares TP’s shares more control than the nominal 2 percent – Formally, voting rights similar to controls in debt covenantsEconomic Substance Subjective prong – Business purpose based on FTCs – No explanation of why PC swap exchanged higher rate cash flow for lower rate Objective prong – The projected IRR without FTCs was less than tax-exempt yields on similarly rated bonds – Restrictions on investment eliminated “real economic risk”© 2012 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent 16member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.NDPPS 115272Hewlett-Packard Co. v. Comm’r, T.C. Memo. 2012-135 Simplified Structure IRS: B and D shares are debt TP: B and D shares are equity AIG – FP (U.S.) Class B $202M preference shares and Class D priority shares of FOP Warrant Put Option and Proceeds on Hewlett-Packard Share Put and Call Options ABN sale of CINs (U.S.) (Foreign) Dividends (and Class B and D Common stock indirect FTC under § 902) Interest on CINs FOP (CFC of Hewlett-Packard )© 2012 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent 17member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.NDPPS 115272 6
  • 8. 10/26/2012Hewlett-Packard Co. v. Comm’r, T.C. Memo. 2012-135 (continued)Ruling HP equity in FOP was in substance debt and HP cannot take § 165 loss for premium paid to enter transactionRationale Court integrated Put Right Agreement with preference shares Fixed maturity date and creditor rights – After put exercise date, FOP would begin to have negative E&P precluding FTCs – If FOP failed to pay dividend, HP held majority vote at resulting shareholders meeting Source of payment – Investment restrictions (essentially limited to CINs) set FOPs earnings – HP assured of investment repayment because FOP required to pay HP periodic predetermined amounts Status relative to other creditors – No subordination because FOP was prohibited from having any material creditors© 2012 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent 18member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.NDPPS 115272NA Gen. Ptrshp. & Subs. v. Comm’r, T.C. Memo. 2012-172Post-acquisition Structure Renamed New ScottishPower plc ScottishPower plc U.K. Renamed Loan Notes: U.K. ScottishPower plc (SP) ScottishPower U.K. plc Fixed Notes $4 billion 7.3% interest NA1 NA2 Floating Notes U.K. U.K. $896 million 10% 90% LIBOR + 55 bps Security for Loan: NAGP PacifiCorp Shares U.S. ScottishPower PacifiCorp IRS: Loan Notes are equity U.S. Acquisition Co. U.S. TP: Loan Notes are debt Consolidated Australian U.S. Group AU Interests© 2012 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent 19member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.NDPPS 115272NA Gen. Ptrshp. & Subs. v. Comm’r, T.C. Memo. 2012-172 (continued)Key Factors to Finding Notes are Debt Source of payments (anticipated dividends sufficient to service debt) Enforcement rights (lack of security less important with related parties) Subordination – Certain creditor rights less important with related parties – Not concerned holding company debt subordinate to operating company debt Intent – No circular flow as loans to fund interest payments reduced overall indebtedness – Capitalization of notes do not show change in intent based on PwC’s advice Adequate capitalization (looked at NAGP and SP on consolidated basis) Payment of interest from dividends (sufficient anticipated cash flow)© 2012 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent 20member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.NDPPS 115272 7
  • 9. 10/26/2012PepsiCo Puerto Rico Inc. et al. v. Comm’r, T.C. Memo. 2012-269 (2012) Simplified Structure IRS: Advance Agreements are debt TP: Advance Agreements are equity PepsiCo (US Parent) PPR i (US) Metro i PGI / PWI Frito Lay Bottling BSFI (Dutch CFC) (US) (US) (US) PepsiCo Frito-Lay Notes PepsiCo Frito- Lay Notes© 2012 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent 21member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.NDPPS 115272PepsiCo Puerto Rico Inc. et al. v. Comm’r, T.C. Memo. 2012-269 (continued)Court held Advance Agreement (“AA”) was EquityDebt Factors Each payment under AA coincided with payments under Frito-Lay notes Funds used in global operationsFactors to Finding AA was Equity No fixed maturity date in substance – Repayment tied to success of TP’s new investments in foreign markets – Likelihood of default made term perpetual Right to enforce payments and status of AA relative to creditors – Payments subordinate to TP’s other debt Intent – AA was were perpetual in substance and gave TP discretion to make payments Debt-to-Equity Ratio – Approx. 14:1 in one year and 26:1 in another – “[U]ntenable debt-to-equity ratio according to industry standards” Outside lenders would not have made loans with similar terms Risk – Repayment depended on future profits© 2012 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent 22member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.NDPPS 115272Historic Boardwalk Hall, LLC v. Comm’r, 2012 WL 3641769 (3d Cir. Aug. 27,2012), rev’g 136 T.C. 1 (2011) Simplified Structure NJ Agency Call Option Put Option NJSEA PB $53.6M Lease payment 3% Preferred Return $53.6M $14M Acquisition Loan Tax Credits Development fee $19.4M Capital Contribution $57.2M Construction Loan $1.2M Investor Loan 0.1% 99.9% HBH IRS: PB not partner in HBH TP: PB partner in HBH© 2012 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent 23member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.NDPPS 115272 8
  • 10. 10/26/2012Historic Boardwalk Hall, LLC v. Comm’r, 2012 WL 3641769 (3d Cir. Aug. 27,2012), rev’g 136 T.C. 1 (2011)Factors Showing PB is not a Partner in HBH PB lacked downside risk – PB only made installment contribution to partnership when NJSEA verified that credits due to PB equaled amount of contribution – Guaranty provided that if IRS disallowed credits, NJSEA is obligated to pay PB amount of credits denied and $75K in legal fees – NJSEA had fully funded the project before PB agreed to join, so PB not at risk if project renovation fails – PB’s put option, NJSEA’s call option, and NJSEA’s guaranteed investment contract, ensured that PB would receive the preferred return PB lacked upside potential even though it held a 99.9% interest in HSH – Payment formula limited PB’s overall return, requiring it to make payments to NJSEA Although HBH had economic substance, court found no intent for PB to share in profits and losses© 2012 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent 24member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.NDPPS 115272Dividends ReceivedDeductionFSA 20121201F (November 10, 2011)Facts TP holds its subsidiary’s preferred stock and claims the DRD on dividends received Dividend rates initially fixed, then reset periodically – If no agreement as to new rate, then stock sold under a remarketing provision – If successfully remarketed, then TP receives its purchase price for the stock – If not successfully remarketed, dividend rates increase–effect is to economically compel redemption at purchase price plus a premium – Upon redemption, TP receives its purchase price plus a redemption premium – Upon liquidation, TP receives its purchase price TP is beneficiary of four guarantees that are part of the stock issuanceRuling and Rationale TP denied DRD due to its diminished risk of loss under § 246(c) TP’s ability to receive back its purchase price upon (i) liquidation, (ii) redemption, or (iii) remarketing is essentially a put option under § 246(c)(4)(A); thus, no holding period in stock In addition, TP is the beneficiary of four guarantees which diminish its risk of loss (Reg. § 1.246-5(c)(4)) – IRS considers effects of guarantees together – Collective guarantee significantly reduces TP’s risk of loss on dividends and decreases in fair market value of stock  Analysis of guarantor’s credit risk instead of issuer’s© 2012 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent 26member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.NDPPS 115272 9
  • 11. 10/26/2012FSA 20121202F (November 10, 2011)Facts TP holds its subsidiary’s preferred stock and claims the DRD on fixed-rate dividends received After three months, exit mechanisms on preferred stock include: – Liquidity agreement (essentially a sale to an identified party upon 10 days notice (or earlier if certain breach-type events occur)), – Dutch Auction mechanism, exercisable quarterly, – Redemption, or – Issuer liquidation Each exit right provides essentially a return of the purchase price plus accumulated but unpaid dividendsRuling and Rationale TP denied DRD due to its diminished risk of loss under § 246(c) TP’s rights, considered together, equated to a put option on the preferred stock, thereby suspending its holding period for DRD purposes – Issuer capitalized with funds from other parties (suggesting overcapitalization) – Issuer subject to investment restrictions, namely anything other than senior, unsecured obligations that are guaranteed by a third party – Issuer losses up to a specified threshold are allocated to holders of common stock – “Therefore, as a practical matter,... [holder] in effect, has a put option for the purchase price of the stock.” Distinguished Rev. Rul. 90-27 – Ruling: (i) holder had no right to receive a sum certain on demand; (ii) upon liquidation or bankruptcy, holder’s rights were subordinate to issuer’s creditors; and (iii) auction mechanism provided only an expectation of sale – FSA: (i) overcollateralization, guarantee, investment restrictions, liquidation preference, and liquidity agreement after three months assured return of purchase price plus accumulated but unpaid dividends© 2012 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent 27member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.NDPPS 115272Credit CardsFrequent Flyer Miles Letter from Senator Sherrod Brown (D-Ohio) questioning Citibank Citibank sent Forms 1099 to customers who received frequent-flier miles as a reward for opening checking or savings accounts Citibank response... Ann. 2002-18 I.R.B. 621 (March 11, 2002) – “The IRS will not assert that any taxpayer has understated his federal tax liability by reason of the receipt or personal use of frequent flyer miles or other in-kind promotional benefits attributable to the taxpayers business or official travel.” – Does not apply:  If TP converts travel or other promotional benefits to cash,  If TP is compensated through travel or other promotional benefits, or  In other circumstances where benefits used for tax avoidance© 2012 KPMG LLP, a Delaware limited liability partnership and the U.S. member firm of the KPMG network of independent 29member firms affiliated with KPMG International Cooperative (“KPMG International”), a Swiss entity. All rights reserved.NDPPS 115272 10
  • 12. 10/26/2012© 2012 KPMG LLP, a Delaware limited liability partnership andthe U.S. member firm of the KPMG network of independentmember firms affiliated with KPMG International Cooperative(“KPMG International”), a Swiss entity. All rights reserved.NDPPS 115272The KPMG name, logo and “cutting through complexity” areregistered trademarks or trademarks of KPMG International. 11