US Internal Revenue Service once again extends transitional rules in connection with Sec. 871(m)

On August 23, 2022, the IRS published Notice 2022-37 delaying application with respect to dividend equivalent payments under Internal Revenue Code (IRC) §§ 871(m), 1441, 1461, and 1473 for an additional two years to January 1, 2025. The reasons given are that the US Department of the Treasury (US Treasury) and the IRS want to revise the regulations. We have summarized the most important points for you.

1.    Extension of gradual application of the IRC § 871(m) regulations to Delta One and non-Delta One transactions

The US Treasury and the IRS intend to change the effective date of Treas. Reg. § 1.871-15(d)(2) and (e) to provide that these provisions will not apply to payments made in connection with a non-Delta One transaction before January 1, 2025.

2.    Extension of simplified standards for the identification of combined transactions

Withholding taxpayers are not obliged to combine transactions constituting listed contracts concluded in 2017. Notices 2017-42, 2018-72 and 2020-2 extended the period during which such simplified standard applies to combined transactions to the years from 2018 to 2022. Notice 2022-37 extends the period during which such simplified standard applies to combined transactions to the years 2023 and 2024. 

3. Extension of transitional provisions for Qualified Derivatives Dealers (QDD) to the years 2023 and 2024

Notice 2017-42, Notice 2018-72 and Notice 2020-2 already announced that the US Treasury and the IRS intend to amend Treas. Reg. §§ 1.871-15(q)(1) and (r)(3) as well as 1.1441-1(b)(4)(xxii)(C) in order to provide that a QDD will not be subject to tax on dividends (including deemed dividends) and dividend equivalents he receives in his capacity as equity derivatives dealer during the transitional period from 2017 until 2022. 

Notice 2022-37 announces that the US Treasury Department and the IRS intend to amend these provisions so that a QDD will not be subject to tax on dividends and dividend equivalents received in his capacity as equity derivatives dealer during the years 2023 and 2024 or withholding on such dividends (including deemed dividends). 

4. Obligation to conduct a Periodic Review in connection with the activities as QDD

Notice 2022-37 provides that a QDD is not required to perform a Periodic Review with respect to its QDD activities for 2023 and 2024. The US Treasury and the IRS intend to incorporate the Periodic Review exemption for QDDs and the other transitional provisions for QDDs in the 2023 revisions to the QI Contract.

5. Extension of the transitional rule pursuant to Notice 2010-46 for Qualified Securities Lenders (QSLs) to 2023 and 2024

The transitional rules for QSLs described in Notice 2010-46, Part III may continue to apply to payments in 2023 and 2024.

What withholding agents and qualified intermediaries should keep in mind now

With Notice 2022-37, the IRS has postponed the application of the regulations in connection with dividend equivalent payments for the fourth time. However, many questions remain unanswered for financial institutions implementing the Sec. 871(m) regulations; in particular, the regulations’ complexity poses a major challenge.

Notice 2022-37 indicates that the US Treasury and the IRS will continue to review the regulations and are open to discussion and comment. For financial institutions, the phase-in period provides an opportunity to coordinate with their industry associations and submit comments to lobby the IRS for practical solutions.

Qualified Intermediaries should pay attention to the extent to which the revised QI Agreement, which is expected to become effective on January 1, 2023, will include changes related to Sec. 871(m). While some proposed changes were published in Notice 2022-23, the Notice only included changes related to Sec. 1446 IRC and did not preview potential changes related to Sec. 871(m).

Notice 2022-37 is available here.