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Taxand USA analyses the collateral impacts of the proposed regulations, specifically in connection with recast transactions, on several typical real estate investment structures.
In many blocker investment structures, a foreign parent lends money to a controlled or wholly owned US subsidiary corporation on arm’s-length terms in lieu of obtaining third-party debt. In turn, the US subsidiary corporation acquires an equity interest in US real property using a combination of equity and the related-party debt proceeds.
The interest payments made by the US subsidiary corporation to the foreign parent may potentially be deductible by the subsidiary (assuming that the debt is respected as such under IRC Section 385 and historic case law principles), subject to US earnings stripping and/or interest capitalisation rules.
The interest deductions in question thus have the potential to reduce the net taxable income of the US subsidiary corporation. In some cases, these loans may qualify for the portfolio interest exemption, in which case there is no withholding on the interest payments, or be subject to a reduced withholding rate on the interest payments as a result of the availability of US double tax treaty benefits.
Discover more: Proposed regulations on real estate investment structures
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Taxpayers should review their intercompany debt arrangements and analyse the potential implications of these rules.