Notice 97-21 – Executive Summary Tax Avoidance Using Self Amortizing Investments In Conduit Financing Entities By: Leonid Tsytrinbaum and Meytal Goldenberg
1 .      Background a.    Financial Institutions found a financing maneuver that can help them borrow money at extremely low costs.
b.    The IRS called it a tax dodge that threatened a major loss of revenue for the Treasury.
c.    Tax dodge scope:
          i.           $20 billion in such deals completed or were under way.
        ii.          Arranged by bankers like Freddie Mac, Morgan Stanley & Bear Stearns.       iii.          Nearly $7 billion in Federal tax revenue would have been lost over 10 years.
 
2 .      Fast-Pay (or Step-Down) Preferred Stock Deals a.    Purpose: To create contracts under which the favored tax status of a REIT is transferred to the benefit of a corporation, or “corporate sponsor”, that seeks to raise money.
b.    Description: The “corporate sponsor” creates a REIT which acts as a conduit between the sponsor, which is borrowing money, and the investors (typically pension funds) who buy the fast-pay preferred stock issued by the REIT. After several years  the rate drops sharply, making it suddenly worth much less than the amount at which it was sold.
c.    The preferred stock therefore, acts much like a self-amortizing mortgage, with payments reflecting a return of the buyer's original investment as well a market-related dividend return.

3 .      Notice 97-21
a.    The purpose: To eliminate the tax benefits of a sophisticated multiple-party financing transactions to avoid tax on substantial amounts of income.
b.    Refers to transactions in which there are no economic benefits other than the tax benefits.
c.    In these transactions, the economic self-amortization of the fast-pay preferred stock is conceptually inconsistent with characterizing the full amount of each payment as a “dividend” (and thus as income on an investment).
d.    Re-characterization:
Under re-characterization, both sides would be treated as having engaged in a transaction directly with the other parties on instruments held by the conduit.
e.    The IRS announced that the regulations it intends to issue be retroactive to Feb 27,
1 997, and would apply to any payments made after that.
4.      Treasury Regulation 1.7701(I)-3 – Description a.    Purpose: The regulation Identifies fast-pay arrangements, recharacterizes some of them as arrangements directly between the holders of the fast-pay stock and the other shareholders in the corporation.
b.    Reporting requirements: any corporation that has fast-pay stock outstanding at any time during a year, must attach a special disclosure statement to its tax return for that year.
c.    Effective date: taxable years ending after February 26, 1997 (Notice 97-21 issue date). d.    Re-charactirization:
          i.     Automatic if the corporation is either a regulated investment company (RIC) or REIT. Else, the commissioner may re-characterize if the purpose is the avoidance of tax.         ii.     If re-characterization is needed, the arrangement will be re-characterized as an arrangement directly between the benefited shareholders and the fast-pay shareholders.       iii.     The benefited shareholders issue financial instruments directly to the fast-pay shareholders in exchange for cash equal to the fair market value of the fast-pay. The financing instruments have the same terms (other than issuer) as the fast-pay stock.
5.      Comparison to Notice 97-21
a.    The proposed regulations treat the fast-pay shareholders as acquiring instruments issued by the benefited shareholders instead of acquiring interests in the assets of the corporation. b.    This approach better reflects the financing relationship between the fast-pay shareholders and the benefited shareholders. It also removes the burden of determining each party's ownership interest in the assets of the corporation. c.    Thus, the regulations provide an approach that is easier to apply and more narrowly tailored than the models described in Notice 97-21. **מצגת בת 42 שקופיות