Part 1 of this article—using Party City Holdco Inc.’s 2020 restructuring as an example—points out that Section 3.06 of IRS Notice 2023-7 favorably allows a corporation to reduce applicable financial statement income (AFSI) by excluding cancellation of debt from federal taxes, but unfavorably may require a corresponding reduction of attributes. Part 2 discusses certain aspects of the effective date of IRS Notice 2023-7 as it applies to Party City.
Under the general effective date rule of Section 8 of Notice 2023-7, if Party City has Section 108(b) federal-tax-excludable COD income on any 2023 restructuring, an amount of such income will be excluded from Party City’s 2023 AFSI to determine whether Party City is an applicable corporation in 2024, 2025, and 2026.
In the unlikely event that Party City is determined to be an applicable corporation in 2023, if it has Section 108(b) federal-tax-excludable COD income on a 2023 restructuring, it is apparently intended that the amount of such income will be excluded from the company’s 2023 AFSI for purposes of determining its 2023 corporate alternative minimum tax liability. However, the only example in Section 3.06 applies both the Section 3.06 exclusion from AFSI and reduction of attributes to COD income recognized in 2022, a year before the effective CAMT date.
Likewise applying to pre-CAMT years the favorable income exclusion rule in Section 3.06 to Party City’s 2020 debt restructuring, Party City would have no 2020 AFSI on account of the restructuring since its 2020 COD Section 108(b) tax exclusion of $500 million exceeded its $270 million reported GAAP income from the restructuring. But applying the unfavorable attribute reduction rule in Section 3.06 to the restructuring, Party City likewise would have to reduce its AFSI attributes relating to 2020 by $220 million because the company reduced its tax attributes by $220 million of COD income. (The remaining $280 million, apparently being Section 1017(b) black hole excluded COD income, wouldn’t require such attribute reduction.)
Notice 2023-7 doesn’t permit the excess of AFSI resulting from a debt discharge over the excluded taxable income from that discharge to be excluded from AFSI. But it does request comments on whether this limitation should be removed. Because Party City’s 2020 GAAP income from the 2020 discharge was $270 million, whereas excluded COD income was $500 million, this limitation seems inapplicable to its 2020 debt restructuring.
Notice 2023-7 likely will reduce Party City’s AFSI loss carryforward and other attributes from 2020, as well as reducing regular tax loss carryforward and other attributes, by the amount of 2020 COD income that was excluded for its 2020 regular income tax purposes, other than 2020 black hole excluded COD income.
Of course, if Party City also undergoes a debt restructuring in connection with its 2023 bankruptcy, Notice 2023-7 and any superseding regulations will have to be applied to that restructuring to evaluate the potential CAMT implications of that restructuring.
OECD Pillar Two
Party City has annualized 2022 revenue of over $2 billion. It has manufacturing and distribution facilities in Mexico as well as some other offices abroad. Pending OECD Pillar Two can apply in some cases a tax to a US-based multinational group whose US tax rate, expressed as a percentage of the US group’s GAAP income, is less than 15%.
Pillar Two is generally proposed to apply to US-parented corporations that, like Party City, have global revenue in excess of $800 million. US corporations may have to consider Pillar Two even if such corporations are well below the $1 billion AFSI average net income threshold of CAMT, as Party City seems to be in 2023.
Pillar Two contains transition rules concerning deferred tax assets and liabilities created before the effective date of Pillar Two, including those created or retained through debt restructuring transactions. The effective date and terms of any US and foreign legislation implementing Pillar Two is generally uncertain at this point. A Pillar Two tax likely won’t apply to Party City in 2023.
If and when Pillar Two becomes effective, it could create a Pillar Two tax on debt restructurings that create only income that’s excludable for purposes of the regular corporate income tax and CAMT. Unlike Section 3.06 of Notice 2023-7, the general Pillar Two framework doesn’t incorporate a rule that COD income that’s excluded for purposes of the regular US corporate tax is also excluded from the minimum corporate tax base.
For example, suppose a US debt restructuring creates only GAAP income that is black-hole excluded COD income. Such income would be excludable for both regular US corporate tax purposes under Section 1017(b)(2) and for CAMT purposes under Section 3.06 of Notice 2023-7. This permanently zero-taxed GAAP income could create a Pillar Two tax.
If in 2023 Party City isn’t an applicable corporation and Pillar Two isn’t yet effective, neither Party City’s 2020 debt restructuring nor possible 2023 debt restructuring will create an immediate 2023 minimum tax. More generally, Section 3.06 of Notice 2023-7 provides useful guidance to some large corporate debtors that restructure their debt. However, before partying to celebrate any restructuring—and indeed, when planning any restructuring—large corporate debtors will need to consider the regular corporate tax, CAMT, and Pillar Two rules.
This article does not necessarily reflect the opinion of Bloomberg Industry Group, Inc., the publisher of Bloomberg Law and Bloomberg Tax, or its owners.
Alan S. Lederman is a shareholder at Gunster, Yoakley & Stewart, P.A. in Fort Lauderdale, Fla.
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