New US Tax Rules Chill ‘Inversion’ Deal-Making

WASHINGTON/NEW YORK, Sept 23, (Agencies): Tough new US rules on corporate “inversions” on Tuesday sent a chill through the market for the tax-avoidance deals, both pending and potential, with share prices falling sharply in nearly a dozen companies on both sides of the Atlantic.

As investors sold stocks involved in inversions, in which US companies escape high taxes at home by redomiciling abroad, analysts and tax lawyers were surveying the damage to deals currently in the works and the outlook for future transactions.

Despite new rules that will make some inversions costlier and others more difficult to do, Burger King Worldwide Inc said it will proceed with its $11.5 billion deal with Canada’s Tim Hortons Inc, stressing that the transaction was not about tax benefits.

In announcing their intention to proceed, the two companies said in a statement: “This deal has always been driven by long-term growth and not by tax benefits.”

The US Treasury Department unveiled harsher-than-expected changes late on Monday to the existing rule book for inversions, which have surged this year and caused concern in Washington about the threat posed to the US corporate income tax base.

Effective immediately, the rules will mean little for companies that have already inverted. But for at least 10 companies in the midst of completing such deals, and for those considering inversions, the impact will be significant.

Most pending deals could become more costly for the buyers, such as AbbVie Inc and its $54.7 billion deal to acquire Ireland’s Shire Plc, as well as Medtronic Inc and its $42.9 billion takeover of Covidien Plc.

Neither of these transactions, the biggest of the year, was expected to fall apart completely, partly because paying a break-up fee to walk away would likely be even more costly. AbbVie would have to pay Shire a $1.6 billion penalty if it were to renege on their merger agreement, for instance.

Medtronic has a contract that lets it or Covidien walk away from their deal if the US Congress changes tax law. The Treasury’s new rules fall short of that, so a break-up fee likely would loom in this case, too, if the merger were called off.

With a grid-locked Congress failing to act, investors had been expecting an Obama administration clamp-down on inversions. But the rules it announced were more far-reaching than anticipated, analysts at Deutsche Bank said.

“Inversion deals now are clearly going to be very difficult to pull off,” said Navid Malik, head of life sciences research at Cenkos Securities.

An inversion typically involves a US company buying a smaller, foreign rival and reincorporating in its home country, where taxes are lower, opening a range of options for the combined business to lower its US and global tax bills.

About 50 such deals have taken place since the early 1980s, but the pace has picked up, with half of them completed since the 2008-2009 credit crisis, according to a Reuters review.

Offshore

A key target of the Treasury’s actions is foreign profits held offshore by US multinationals under a tax rule that defers taxes on profits until they are brought to the United States.

One of the new Treasury rules will prevent inverted companies from using “hopscotch” loans that allow them to avoid dividend taxes when tapping tax-deferred foreign profits.

Another rule will bar inverters from gaining access to offshore profits by using “decontrolling” strategies that restructure foreign units so they are no longer US-controlled.

The Treasury is also tightening limits on the levels of ownership that the former US investors can have in an inverted company for it to qualify for foreign tax treatment under US law, a move that will make it harder to do the deals.

The US Treasury has acknowledged that one of the new rules is broad enough to hit companies that are not inverting. A senior official, who asked not to be named, said some cash transfers from foreign corporations to US subsidiaries could now be taxed, even if not involved in an inversion.

“There’s a relatively small provision …which would affect both inverted and non-inverted, basically any foreign-owned firms,” the official told reporters on Monday.

Treasury officials said on Tuesday that the rules were effective immediately and that any deals completed as of Monday were not affected, while deals completed later would be. Despite this, some investment bankers on Tuesday expressed uncertainty about the finality and timing of the rules.

Bankers and analysts also said they expect more from the Treasury Department. “This move is a good and necessary start toward discouraging corporate inversions, which cost US taxpayers billions in lost revenue,” said Thomas Hungerford, a tax expert at the Economic Policy Institute, a think tank.

US business groups on Tuesday blasted as counter-productive the government’s moves to curb tax inversion mergers that allow a company to escape US taxes.

But analysts said the rules could prove only partly successful at stemming corporate flight, and businesses involved in inversion deals had mixed reactions.

A day after the US Treasury sought to plug loopholes that encourage companies to move their tax residence offshore via takeovers of foreign firms, leading business associations said it was the wrong way to slow the departure of US companies wanting to lower their tax bills.

“Capital flows to places where it is valued and well-treated, and it avoids places where it is abused by onerous tax systems,” said the US Chamber of Commerce.

“The administration’s vain attempt to lock corporations into an obsolete tax system will only serve to further lock capital out.”

And the Business Roundtable, an association of chief executives of leading companies, said inversions are “a symptom of a US corporate tax system that is outdated (and) uncompetitive.”

“Unfortunately, the regulations proposed by the Treasury Department yesterday amount to a Band-Aid solution that will only make matters worse.”

Moving after Congress failed to act to stem a rising tide of inversion deals, the Treasury mainly took aim at one inversion benefit, the ability of the post-merger company to make use of profits hoarded offshore by a US company without paying US taxes on them.