Country / Language

Corporate Taxpayer Debt-Equity Cases May Challenge International Practices



The IRS is bringing an increased number of cross-border debt-equity cases to court to challenge foreign- owned corporations’ earnings stripping practices.


U.S. corporations and foreign corporations doing business in the U.S. owned by foreign groups and funded by their foreign shareholders or affiliates (related parties) with loans and advances or unrelated party debt guaranteed by a related party run a significant U.S. tax risk if several U.S. tax rules are not respected. The possible consequences being that the related interest expense deduction will be disallowed and the payments possibly treated as dividends potentially subject to a higher U.S. withholding tax.

The payment and deduction of such interest expense is generally referred to as “earnings stripping” because the U.S. taxable income that would otherwise exist is stripped out of the U.S. tax base in a tax deductible manner. If the related party recipient is not subject to U.S. withholding tax on the outbound interest payments and is also in a tax jurisdiction with a tax rate lower than the U.S. rate, there can be a significant overall income tax reduction to the foreign multinational group at the expense of the U.S. Treasury. 

In these instances, the IRS has three principal sets of rules to curb earnings stripping:

  • The anti- earnings stripping rules in the tax code (so-called Section 163(j)) – a somewhat mechanical set of rules deferring the interest expense deduction and leaving relatively little discretion to the taxpayer in its application,
  • The fairly short debt vs. equity principles in the Code.  No regulations exist for this law and due to the very subjective nature of whether something is debt vs. equity the application is often based on case law,
  • The transfer pricing section in the Code and the broad authority it grants the IRS to adjust taxable income when the taxpayer cannot demonstrate that the interest expense is at arm’s length.

The IRS can and does use any and all of the above to curb “earnings stripping” where it finds facts patterns it believes to be abusive.  In other countries, these and similar rules are often referred to as “thin capitalization” rules.

What Does CohnReznick Think?
Taxpayers often think that mere compliance with the so-called Section 163(j) earnings stripping rules means that their U.S. corporation or foreign corporation doing business here is not at risk of IRS attack.  This is often not the case particularly where the taxpayer has failed to treat the related party debt as if it were owed to an unrelated party in terms of its level, interest rate, frequency of payments of principal and interest and other terms.  Planning to optimize the global tax position while controlling the tax risks requires careful consideration of the rules above, including the case law.


For more information, please contact Brian Gibney, Director, at 301-280-3075.

To learn more about CohnReznick’s Corporate Tax Practice, please visit our webpage.

Circular 230 Notice: In compliance with U.S. Treasury Regulations, the information included herein (or in any attachment) is not intended or written to be used, and it cannot be used, by any taxpayer for the purpose of i) avoiding penalties the IRS and others may impose on the taxpayer or ii) promoting, marketing, or recommending to another party any tax related matters.

This has been prepared for information purposes and general guidance only and does not constitute professional advice. You should not act upon the information contained in this publication without obtaining specific professional advice. No representation or warranty (express or implied) is made as to the accuracy or completeness of the information contained in this publication, and CohnReznick LLP, its members, employees and agents accept no liability, and disclaim all responsibility, for the consequences of you or anyone else acting, or refraining to act, in reliance on the information contained in this publication or for any decision based on it.

Search Our People

Search Our People

Look ahead. Gain insight. Imagine more. Is your business ready to break through?

View our new TV commercial..

Industry Outlooks

Industry Outlooks

Gain insight into what is ahead for the Commercial Real Estate, Technology and Middle Market Private Equity industries.


Learn about our upcoming events.


Working With Us

Working With Us

What makes CohnReznick different from others in our profession? And what should our clients come to expect when working with us? The answer is The CohnReznick Advantage. Contact us to learn how we can out the CohnReznick Advantage to work for your business.


The value of an organization is determined by the skills and qualities of its leaders. With more than 280 partners serving clients nationwide, CohnReznick is renowned for the diverse experiences, knowledge and backgrounds of its leadership.

Learn More


We align our services in three segments: Accounting and Assurance, Tax, and Advisory. This approach allows us to provide holistic solutions to complex business problems and to seize upon opportunities requiring an integrated approach.

Learn More


Accounting and tax issues different significantly based on an organization's industry. We provide clients with expertise in nearly two dozen industries – we know the opportunities, the obstacles, the competitive landscape.

Learn more


CohnReznick professionals are thought leaders in their industries. Clients benefit from relevant and timely economic, legislative and industry insights that can keep them a step ahead of competition.

Learn More

Global Reach

Our involvement in the Nexia International network of firms enables us assist our clients wherever they do business-providing local expertise and connections wherever they needed. Nexia is comprised of 20,000 professionals operating in over 100 countries.

Learn More