Rev. Rul. 73-172

Advice has been requested whether advances made to a foreign subsidiary by a domestic parent, and subsequently repaid by the foreign subsidiary, are, under the circumstances described below, subject to the interest equalization tax (IET) imposed by section 4911 of the Internal Revenue Code of 1954.

P, a domestic corporation engaged in the business of providing management services, formed a wholly owned foreign subsidiary, S, in 1967 for the purpose of helping P provide better management services. P's capital investment in S was $100,000 which gave P 100 percent of the total combined voting power of S's stock. During 1968 P advanced $200,000 to S on an open account to be repaid in 120 days. S used such funds in its normal business operations during 1968. S repaid the $200,000 to P during 1969. During 1967 and 1968 S performed services for P which aided P's clients. In 1970 P availed itself of S to acquire $400,000 worth of foreign securities which P could not acquire free of the IET as imposed by section 4911 of the Code.

Section 4911 of the Code imposes a tax on each acquisition by a United States person (as defined in section 4920(a)(4) of the Code) of stock of a foreign issuer, or of a debt obligation of a foreign obligor if such obligation has a period remaining to maturity of 1 year or more.

Section 4915(a) of the Code provides, in pertinent part, that except as provided in section 4915(c) or (d) of the Code, the tax imposed by section 4911 of the Code shall not apply to the acquisition by a United States person of stock or debt obligation of a foreign corporation if immediately after the acquisition such person owns (directly or indirectly) 10 percent or more of the total combined voting power of all classes of stock of such foreign corporation.

In the instant case the acquisition by P of S's stock in 1967 was not subject to IET by reason of the direct investment exclusion as described above.

Section 4912(b)(2) of the Code provides that any transfer of money or other property to a foreign corporation or foreign partnership, either (A) as a contribution to the capital of such corporation or partnership, or (B) in exchange for one or more debt obligations of such corporation or partnership if it is a foreign corporation or partnership formed or availed of by the transferor to acquire (in the manner described in section 4915(c)(1) of the Code) through such corporation or partnership stock or debt obligations the direct acquisition of which by transferor would subject the transferor to the tax imposed by section 4911 of the Code, is deemed an acquisition by such transferor of stock of such foreign corporation or partnership in an amount equal to the actual value of the money or property transferred.

Section 4915(c)(1) of the Code provides that the provisions of section 4915(a) and (b) of the Code, pertaining to the exclusion for direct investments in certain cases from the tax imposed by section 4911 of the Code, shall be inapplicable in any case where the foreign corporation or foreign partnership is formed or availed of by the United States person for the principal purpose of acquiring, through such corporation or partnership, an interest in stock or debt obligations (of one or more other foreign issuers or obligors) the direct acquisition of which by the United States person would be subject to the tax imposed by section 4911 of the Code.

The application of section 4912(b)(2) of the Code, prior to the amendment of section 4911(a) of the Code by Public Law 89-243, Eighty-ninth Congress, 1965-2 C.B. 627 at 628, which changed the maturity period of debt obligations subject to IET from "three years" to "one year", is illustrated by the following Example (2) from the Report of the Committee on Ways and Means (House Report No. 1046, Eighty-eighth Congress, 1964-2 C.B. 708, at 727):

Example 2.--A, a United States person, owns 10 percent of the voting stock of foreign corporation M, all of which he acquired before July 18, 1963. On April 9, 1964, A transfers $5,000 to M in exchange for a two-year promissory note of M. On June 1, 1965, M is availed of by A for the principal purpose of acquiring, for $3,500, stock of foreign corporation N. Because of section 4915(c)(1) of the Code the exclusion for direct investments cannot apply to A's acquisition of M's promissory note; and because A's acquisition is deemed to be an acquisition of stock the exemption for debt obligations of less than three-year's maturity does not apply.

In the instant case P availed itself of S in 1970 for the principal purpose of acquiring $400,000 worth of foreign securities which P could not acquire free of the interest equalization tax. Thus, P's actions in 1970 brings into effect the provisions of section 4915(c)(1) of the Code and, therefore, P becomes subject to the provisions of section 4915(c)(4) of the Code.

Section 4915(c)(4) of the Code provides, in pertinent part, that in any case where the exclusion provided by section 4915(a)(1) of the Code has applied with respect to the acquisition of stock or a debt obligation by a United States person but the foreign corporation is availed of by such person after the acquisition described in section 4915(a)(1) of the Code, for the principal purpose of acquiring, through such foreign corporation, an interest in stock or debt obligations (of one or more other foreign issuers or obligors) the direct acquisition of which by the United States person would be subject to the tax imposed by section 4911 of the Code, then liability for the tax imposed by section 4911 of the Code shall be incurred by such person, with respect to such stock or debt obligation, at the time the foreign corporation is so availed of, and the amount of such tax shall be equal to the amount of tax for which such person would have been liable under section 4911 of the Code upon his acquisition of the stock or debt obligations' involved if such exclusion had not applied to such acquisition.

P, exempt from the IET imposed by section 4911 of the Code on the original acquisition of S stock in 1967, now becomes liable for such tax by reason of section 4915(c) of the Code. P also becomes liable for the IET on the advances made to S in 1968, even though repaid in 1969, since, pursuant to the provisions of section 4912(b)(2) of the Code such advances are deemed, because of P's action, an acquisition of S stock. The advances when first made by P to S were not subject to the IET because section 4911(a) of the Code imposes a tax only where such debt obligations have a maturity period of one year or more remaining when acquired.

Accordingly, since during 1970 S was availed of by P to acquire foreign securities, P is subject in 1970 to the IET on the $100,000 capital investment in S and is also subject to the IET on the $200,000 advances which are deemed to be an acquisition of S's stock. The amount of the IET imposed upon P is to be equal to the amount of IET for which P would have been liable under section 4911 of the Code upon its original and subsequent acquisition of S's stock if the exclusion provided by section 4915(a) of the Code had not applied to such acquisitions.