IRS issues final regulations regarding tax on corporate stock buybacks

The IRS has issued final regulations that provide taxpayers and tax professionals with guidance on how to account for and pay excise taxes due on corporate stock repurchases.

Background

Congress created a new section of the tax code as part of the Inflation Reduction Act of 2022. Section 4501 imposes a 1 percent excise tax on stock repurchases by certain corporations beginning after December 31, 2022. Earlier this year, the IRS issued proposed regulations that would provide new guidance on the tax.

These regulations became final on June 28, 2024, and are scheduled for publication in the Federal Register on July 3, 2024.

Corporate Buyouts

A stock buyback is exactly the same as a company buying back shares from its shareholders either directly or from the open market.

There are many reasons why companies may be interested in a buyout. One is corporate consolidation – because company stock represents the ownership of the company, the more shares are dispersed, the less control shareholders can have over the company’s future. Buyouts can help keep control of a company in the hands of a few. Share repurchases can also help maintain or increase stock prices. And since selling shares is widely seen as a way to raise much-needed capital, buying them back can signal to investors that the company is in good financial shape (even if it isn’t).

There is also a tax refund. These profits are typically taxed at ordinary income tax rates when companies issue dividends. However, a corporate share buyback is actually a sale, and the difference between the sale price and the purchase price of the shares sold is subject to tax-favorable capital gains rates.

(Aware investors may even be able to buy back the shares later at a lower price.)

Congress reduced the tax benefits by passing Section 4501. The new section of the code imposes a new excise tax on some corporate stock repurchases, but it is at the corporate level—not the shareholder level. There is no such tax at the corporate level for dividends (they are taxed as earnings before being distributed to shareholders), which reduces the tax benefits for stock repurchases.

The Joint Committee on Taxation estimates that excise taxes will increase by $74 billion over ten years. (President Biden’s budget included an increase in the excise tax rate from one percent to four percent. The Penn-Wharton budget model estimates that the increased tax would raise $265 billion over the 10-year budget window.)

New law

Under the new law, share buybacks are subject to a 1% excise tax rate. A number of rules and exceptions apply, including:

• The tax applies to public companies.
• The tax applies to redemptions made after December 31, 2022.
• The tax does not apply to stock buybacks valued at less than $1 million or if the buybacks are paid into an employee’s retirement fund or similar plan.
• Any new public issues or shares issued to employees reduce your taxable amount.
• The tax will not apply if the redemptions are treated as dividends or purchases made by a securities dealer in the ordinary course of business.
• Real estate investment trusts (REITs) and regulated investment companies (RICs) are tax-exempt.
• The tax cannot be deducted.

Proposed regulations

The proposed regulations will impact domestic publicly traded corporations that repurchase their shares or whose shares are purchased by certain affiliates. The regulations would also affect certain publicly traded foreign corporations that repurchase their shares or whose shares are purchased by certain affiliates.

The proposed regulations would implement the statutory net settlement rule, which reduces the aggregate market value (FMV) of shares repurchased by a taxpayer during a taxable year by the aggregate market value of shares issued by the taxpayer during the taxable year. Additionally, the regulations would implement the statutory rule slightly an exception providing that a taxpayer is not subject to excise tax on stock repurchases for a taxable year if the total FMV of the shares repurchased by the taxpayer during the taxable year does not exceed $1,000,000.

Final provisions

The final regulations, which became effective on June 28, 2024, largely reflect the proposed regulations. For example, the final regulations confirm that excise taxes on stock repurchases must be reported on Form 720, Quarterly Federal Excise Tax Returnpayable for the first full calendar quarter after the end of the company’s fiscal year.

You must also attach Form 7208, Excise tax on the repurchase of corporate shares. This new form is used to calculate the amount of excise tax due on share repurchases. The draft form can be seen here.

The form has two pages. You can see what it looks like here:

The full version of the project can be seen here. Project instructions can be found here.

(The IRS reminds taxpayers that the draft forms are intended for informational purposes. Do not submit or rely on the draft forms, instructions, or publications for submission purposes.)

Forms 720 and 7208 are due for tax years ending after December 31, 2022 and no later than June 30, 2024. They are due by the third quarter Form 720 filing deadline of October 31, 2024.

If a corporation has more than one taxable year ending after December 31, 2022, but on or before June 30, 2024, the corporation should file Form 720 with two separate Forms 7208 (one for each taxable year) filed by October 31, 2024.

However, the final regulations differ in some respects from the proposed regulations, including:

• As long as a covered corporation qualifies as a RIC or REIT for a taxable year, then all repurchases of stock of such corporation during that year qualify for the statutory exception under section 4501(e)(5). Thus, the final regulations exempt RICs and REITs from filing an excise tax return for stock purchases. (However, RICs and REITs will continue to be subject to the recordkeeping requirements of §58.6001-1 under the final regulations.)
• The IRS intended to file an excise tax return on stock repurchases only for the taxable year in which the repurchase or transaction treated as a repurchase was made. Accordingly, the final regulations clarify that a stock repurchase excise tax return must be filed for each taxable year in which a covered company or a person treated as a covered company repurchases or is treated as repurchasing.
• The final regulations apply to domestic publicly traded corporations that repurchase their shares or whose shares will be acquired by certain related companies after December 31, 2022. The regulations also apply to certain foreign listed corporations that repurchase their shares or whose shares will be acquired by certain companies affiliated after December 31, 2022, 2022.

For more information, visit the Inflation Reduction Act of 2022 page on IRS.gov.

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