The purpose of this alert is to highlight how the repeal of the U.S. “TEFRA D” and “TEFRA C” rules pursuant to the “Hire Act” impacts several aspects of our international debt capital markets practice, including EMTN Programmes.

By way of background, debt obligations may be classified as either “bearer” or “registered” for U.S. tax purposes. Whether a debt instrument is bearer or registered is significant because issuers and holders of “registration-required obligations” issued in bearer form are subject to adverse U.S. tax consequences. An obligation is generally “registration required” unless it (i) has a maturity of one year or less, (ii) is an obligation of a natural person, or (iii) is not “of a type” offered to the public. Obligations issued on or prior to 18 March 2012 could be issued in bearer form if they were “foreign-targeted” (the so-called “Eurobond” exception). The adverse U.S. tax consequences of issuing a registration required obligation in bearer form include that the issuer (whether U.S. or non-U.S.) is subject to an excise tax equal to 1% of the principal amount of the obligation, multiplied by the number of calendar years until the obligation matures. In addition, a U.S. holder of such an obligation is required to treat gain as ordinary income and is not permitted to deduct losses.

Issuances of Immobilized Obligations

As a result of the HIRE Act’s repeal of the Eurobond exception established by the TEFRA D and TEFRA C rules, U.S. companies generally are precluded from issuing bearer debt securities and may issue only registered debt securities. In Notice 2012-20, the U.S. Internal Revenue Service confirmed that certain obligations that may be considered bearer for non-U.S. purposes will be considered to be in registered form for U.S. tax purposes if issued through a “dematerialized” book entry system or a clearing system in which the obligation is “effectively immobilized.” An obligation is effectively immobilized if the only holder of physical global form (bearer) certificates is a clearing organization, the physical certificates can only be transferred to a successor clearing organization, and the beneficial interests in the underlying obligation are only transferrable on a book entry system maintained by the clearing organization. The obligation may be considered to be in registered form even if a physical certificate is available in certain circumstances. Those circumstances are limited to termination of the clearing organization’s business, default by the issuer, or issuance of definitive securities at the issuer’s request upon a change in tax law that would be adverse to the issuer unless securities are issued in physical bearer form.

With respect to EMTN Programmes, prior to Notice 2012-20 most U.S. law firms took the view that, even though debt issued through clearing systems could only be transferred through book entries despite the issuance of global bearer note to the clearing system, the issuance was considered bearer for U.S. tax purposes because of the possibility (however remote) that a global bearer note held by the clearing system could be exchanged for definitive bear notes. After Notice 2012-20, however, many of these same issuances will be considered registered debt offerings for U.S. tax purposes. Therefore, issuers should consider whether historic EMTN Programme documentation (or other offering documents) that contain U.S. tax disclosure/provisions premised on “bearer” status (such as references to TEFRA D) are correct or should be modified because the underlying notes may be treated as registered debt for U.S. tax purposes.

Debt issuances that in form are bearer but that are considered registered obligations for U.S. tax purposes could, in theory, be issued in U.S. markets in reliance on Rule 144A without tax penalty to the issuer or to U.S. holders. However, such debt issuances would have potential U.S. tax risk in that, if any of the trigger events described above occurs (such that a holder would have the option to obtain definitive securities), the issuance would be treated as bearer for U.S. tax purposes at such time and the tax penalties described above would apply. As the guidance issued in Notice 2012-20 becomes codified in future U.S. Treasury regulations, it may become clearer as to whether issuances of “immobilized” global bearer notes in U.S. markets is feasible from U.S. tax and securities law perspectives.

Excise Tax Exemption

As discussed above, for non-U.S. issuers, registration required obligations that are impermissibly issued in bearer form are subject to an excise tax. Although the Hire Act generally repealed the provisions that permitted “foreign-targeted” bearer bonds to be issued, the excise tax exemption was preserved for obligations that meet criteria similar to the foreign-targeted requirements. This exemption is primarily relevant for non-U.S. issuers that pay non-U.S.-source interest.

Because the majority of the guidance defining which obligations are foreign-targeted is contained in regulations issued under provisions repealed by the Hire Act, commentators requested that the criteria for the excise tax exemption be clarified. In response, in Notice 2012-20, the U.S. Internal Revenue Service confirmed that the new excise tax exemption rules will be “identical” to the former foreign-targeted rules (i.e., the “TEFRA D” and “TEFRA C” regulations). While the basic mechanics of TEFRA D and TEFRA C therefore will continue for purposes of the excise tax exemption, legal citations or other references to the old TEFRA D and TEFRA C regulations in EMTN Programmes (and other offering documents) may need to be modified to take into account that the foreign-targeted rules are being moved from one section of the Internal Revenue Code to another.