Our Federal Tax Group reviews the potential pitfalls of seeking deductions for parent guarantees revealed by a recent district court decision.
- The district court’s finding
- The parent bails out its subsidiary
- Lessons learned
The Russian subsidiary’s contract with Russian customers was guaranteed by the U.S. parent. The Russian government required the subsidiary to maintain a certain level of asset value. When that dropped, the parent had to supply $52 million, which it did in 2008. The parent claimed a current loss of the cash, either as a bad debt or for its performance of the guarantee.
The court found there was no debt because, among other facts, the parent signed a document that “confirms hereby that its financial assistance is free and that it does not expect the company to return the funds to the shareholder.”
Then the parent turned to a line of cases that sometimes allows a guarantor to deduct payments to protect its reputation. The court refused to apply those cases mostly because the subsidiary was not in default; no obligation to perform on the guarantee had accrued.
Parent guarantees are common, particularly when the subsidiary is operating in a foreign country. Obtaining deductions for payments related to such a guarantee is hard. Be careful of the agreements you sign, and the timing of the payments, and the identity of the payee if a deduction is desired.
For more information, please contact Jack Cummings at 919.862.2302.