An Internal Revenue Service memorandum appears to be aimed at discouraging factoring companies from forum shopping when seeking to obtain statutorily-required court approval of transfers of structured settlement payment rights.
In a January memorandum, the IRS said that the Internal Revenue Code’s excise tax, imposed by Section 5891 of the Code, may apply when the factoring company obtains court approval from a state other than the payee’s domicile state.
Section 5891 provides that a factoring company must pay an excise tax on factoring transactions where the factoring company did not obtain court approval pursuant to the appropriate structured settlement protection act, and from the proper court via a “qualified order” (as defined by Section 5891(b)(2)).
The memorandum, from the IRS Office of Chief Counsel, concerned three scenarios where a factoring company obtained a court order, pursuant to an SSPA from a state other than the payee’s home state. Under each scenario, a payee and a factoring company enter into an agreement whereby the factoring company would purchase rights to the payee’s future payments, and in exchange the payee would receive an immediate lump sum from the company.
- In scenario one, the payee’s home state has an SSPA, but the factoring company files a petition for court approval of the transaction in a second state – and in its petition papers alleged that the payee lived in the second state. When the court in the second state issued an order that approved the transfer and the factoring company began to receive payments pursuant to the court order, the excise tax under Section 5891 would apply, the IRS memo said, because the court that issued the order was not from the payee’s home state. Under Section 5891, a qualified order is one issued “in advance” by a court from the state where the payee is domiciled, so long as that state has an SSPA (and forty-nine states have SSPAs).
- In scenario two, the facts are the same as in the first scenario, but after obtaining the court order from the second state, the factoring company files a petition in the payee’s home state seeking approval of the transfer, and a court in the payee’s home state issues an order approves the transfer. The Section 5891 excise still must be paid, said the IRS memo. This is because the tax applies unless the transfer is approved via a qualified order “in advance”. Because the court order from the payee’s home state was issued after the transfer was approved by court order from another state first, the IRS indicated in its memo that the transfer did not comply with the “in advance” requirement.
- The IRS memo’s third scenario also sets up the same facts as in scenario one, except that the payee sells the payments to a parent company related to the first factoring company, and the parent company files the petition seeking court approval of the transfer. A court order – from the second state, and not the payee’s home state – approves the transfer and directs that the payments be sent to the subsidiary. Again, said the IRS memo, the tax applies, for the same reasons – and, additionally, because Section 5891 applies the tax to a situation where a factoring company obtains payment rights “directly or indirectly” – meaning that the tax applies agains the subsidiary in the event that the IRS concludes that, among other circumstances, the parent is a shell company.