Proxy Discloses Altered FIRPTA Tax Impacts of Macquarie’s Restructure and Sales

By Stuart E. Leblang, Michael J. Kliegman and Amy S. Elliott

In its definitive proxy released August 23, ¹ Macquarie Infrastructure Corporation (NYSE:  MIC) (MIC) provided additional details regarding its plans to sell off its two remaining businesses (first the larger Atlantic Aviation (AA) business and then the smaller MIC Hawaii business (technically, MIC Hawaii Holdings, LLC)).  The proxy contains several changes to the tax disclosure that we want to lay out for readers.  The changes will generally be welcome news to non-U.S. investors as compared to what we detailed in our prior reports (our July 6 report “New Details of Macquarie Infrastructure Corporation’s Restructure and Sales Sharpen Focus on Tax Impacts” and our March 26 report “Macquarie Infrastructure Corporation to Restructure Under Partnership Parent to Facilitate Liquidation” are both appended to the end of this report).

Most significantly, the company has changed its position regarding whether MIC will be treated as a U.S. real property holding corporation (USRPHC).  Recall that MIC plans to sell Atlantic Aviation ² as soon as the third quarter of 2021 (the shareholder vote is September 21) immediately after a planned restructuring, in which MIC will be placed under a publicly traded partnership (Macquarie Infrastructure Holdings, LLC (Holdings LLC))—the Reorg Merger—and then MIC Hawaii will be removed from the MIC corporate box—the Hawaii Distribution.

The company went from disclosing April 5 that “it is likely that, following the reorganization, MIC Corp. will be treated as a USRPHC” ³ to disclosing August 23 that “we do not expect that MIC will be treated as a ‘USRPHC’ . . . as of either the date of the Hawaii distribution or the date of the AA transaction completion.” ⁴  (For more on the impact of this changed disclosure, see the “Altered FIRPTA Tax Impacts—MIC and Atlantic Aviation Sale” section of the report.)

Other disclosure changes include new FIRPTA concerns raised by the ultimate sale of MIC Hawaii ⁵ given that the company is now noncommittal on whether MIC Hawaii is a U.S. real property interest (USRPI) (see “FIRPTA and the Hawaii Sale”) and the likely application of the disguised sale rules (see “Disguised Sale Tax Impacts”).

Altered FIRPTA Tax Impacts—MIC and Atlantic Aviation Sale

Now that the company believes that MIC will likely not be treated as a USRPHC as of the Hawaii Distribution or the subsequent Atlantic Aviation sale, the risk that there might be Foreign Investment in Real Property Tax Act of 1980 (FIRPTA) gain (triggering Internal Revenue Code (IRC) Section 1446 withholding) is negligible from a practical standpoint in connection with those two transactions.

As the FIRPTA rules are only a concern for foreign investors, this reduced FIRPTA risk will mean that non-U.S. MIC investors stand to retain more of the $37.35 per unit distribution associated with the Atlantic Aviation sale.  Before the new disclosure indicated a decreased FIRPTA risk in connection with those two transactions, investors were hoping the FIRPTA exception for sales of publicly traded USRPHC stock ⁶ (as long as the seller held 5 percent or less of such stock) might save them.  The proxy seems to indicate that the publicly traded 5 percent shareholder exception should only be available with respect to the Reorg Meger and for the later sale of Holdings LLC (but not for the Atlantic Aviation sale, as the MIC stock will not be publicly traded at that time).

Based on the prior disclosures, there was a risk that FIRPTA would apply such that the allocable share of Atlantic Aviation gain passing through to non-U.S. investors under the partnership rules would be subject to IRC Section 1446 withholding (at rates of between 21 percent and 37 percent, not including the 30 percent federal branch profits tax, depending on if the holder is a corporation or not).  These new disclosures indicate that such risk is negligible. ⁷ 

Recall that the Hawaii Distribution ⁸ will not result in an actual distribution to the Holdings LLC unitholders.  But it will be taxable as a dividend to unitholders to the extent of MIC’s current and accumulated earnings and profits. ⁹   MIC is expected to satisfy its withholding obligation under IRC Section 1441 triggered by the Hawaii Distribution dividend (withholding at a rate of 30 percent in the case of non-U.S. investors without a lower treaty rate) by reducing affected foreign unitholders’ cash distributions associated with the taxable Atlantic Aviation sale (the $37.35 per unit).  So even though FIRPTA may not reduce the $37.35 for foreign investors, Section 1441 withholding still will.

Disguised Sale Tax Impacts

The Reorg Merger, which will place MIC under a publicly traded partnership, will be effected by way of a reverse subsidiary merger, in which a wholly-owned subsidiary of Holdings LLC (Merger Sub) will merge with and into MIC, with MIC surviving as a wholly-owned subsidiary of Holdings LLC (the Hawaii Distribution will occur under Holdings LLC).

In connection with the Reorg Merger, MIC common stock will effectively be converted into Holdings LLC common units.  It is expected that the merger will be treated as a tax-free contribution of MIC stock by MIC shareholders to Holdings LLC in exchange for Holdings LLC units under IRC Section 721.  The receipt of the units should be a tax nothing such that, absent another tax provision applying, there would be no gain or loss recognized and the holder would get a carryover tax basis.

However, the company’s latest disclosures make clear that, because the later sale of Atlantic Aviation will occur as part of a prearranged plan in the same taxable year as the reorganization, the partnership disguised sale rules may apply to change the tax treatment of the Reorg Merger.  Recall that the Atlantic Aviation sale is expected to result in a cash distribution to MIC holders of about $37.35 per unit.  In that case, the disguised sale rules could apply to treat certain MIC holders ¹⁰ as having sold a portion of their MIC stock in exchange for the $37.35.  In that case, the Reorg Merger will be bifurcated, and each holder will be treated as selling a proportionate share of its MIC stock for the cash and contributing the remainder on a tax-free basis for partnership units.

From a FIRPTA standpoint, the disguised sale characterization offers a helpful backstop to the company’s view that MIC stock is likely not a USRPI subject to FIRPTA tax.  Had the publicly traded 5 percent shareholder exception under the FIRPTA rules not been available if Holdings LLC’s sale of the MIC stock were subject to FIRPTA, a foreign shareholder that sold most of its MIC stock to Holdings LLC for $37.55 in the disguised sale would be able to qualify for the publicly traded exception provided it met the 5 percent or less holding requirement.

FIRPTA and the Hawaii Sale

While the latest disclosures reduced FIRPTA risk with respect to the Hawaii Distribution and the Atlantic Aviation sale, the company introduces a FIRPTA issue with respect to the MIC Hawaii sale.  There is newly disclosed, explicit uncertainty as to whether MIC Hawaii will be a USRPHC ¹¹ as of the date of the MIC Hawaii sale (what the proxy refers to as the MH Merger).  While the April 5 disclosure took a position on the likelihood that MIC Corp. will be treated as a USRPHC, it was silent about the likelihood that MIC Hawaii might constitute a USRPHC. ¹²   The August 23 disclosure stated explicitly that “[i]t is unclear if MIC Hawaii will be treated as a USRPHC” as of the date of the MIC Hawaii sale. ¹³  The proxy goes on to state that “[i]f MIC Hawaii were treated as a USRPHC as of the date of the MH merger, the MH merger generally would cause each non-U.S. holder to be subject to U.S. federal income tax and related withholding pursuant to FIRPTA on such holder’s allocable share of any gain realized from the MH merger as well as to the tax return filing requirements regarding effectively connected income.” ¹⁴ 

The FIRPTA regulations provide that the exemption from FIRPTA for sellers of stock in a publicly traded corporation that have held 5 percent or less of the stock during a prescribed period is similarly available for a publicly traded partnership. ¹⁵  The proxy notes that if the Holdings LLC units are considered “regularly traded” on an established securities market as of the date of the MH merger, then FIRPTA withholding “would not be expected to apply,” and the qualifying (5 percent or less) holders “might” be eligible for a FIRPTA exemption.  Other than the possibility that there might not be a sufficiently active market in the Holdings LLC units, it is unclear why the company is being fairly reserved about this point.  Perhaps as time draws closer to the MH merger closing, there might be more clarity on this.

The proxy also notes that, assuming no FIRPTA withholding is required, then, pursuant to Section 1446(f) of the Code, the acquiring company in the MH merger will be required to withhold 10 percent of the amount realized by foreign investors, to the extent any portion of the gain on the sale is effectively connected with a U.S. trade or business.  The company has indicated it expects that Holdings LLC will not have any effectively connected income because it will own the equity of an LLC treated as a corporation for income tax purposes, and it appears that it is providing this caveat despite there being no apparent basis for finding effectively connected income.

^{[1] Definitive Proxy Statement, MIC, Aug. 23, 2021 (https://www.sec.gov/Archives/edgar/data/1289790/000110465921108348/tm2121775-2_defm14a.htm).}

^{[2] To effect the all-cash Atlantic Aviation sale, the purchaser will acquire all outstanding shares of MIC for $4.475 billion, and Holdings LLC expects to receive $3.525 billion at closing.  It is expected that the proceeds will be distributed to shareholders by way of a cash distribution of about $37.35 per unit.  The Atlantic Aviation sale will not give rise to corporate tax because the seller (Holdings LLC) is not a corporation.}

^{[3] MIC proxy statement/prospectus dated April 5, 2021 (https://www.sec.gov/Archives/edgar/data/0001845290/000110465921046471/tm216862-7_424b3.htm).}

^{[4] Supra note 1.}

^{[5] The all-cash MIC Hawaii sale will be effected by merger (the proxy refers to this as the MH Merger).  The MIC Hawaii purchaser (AMF Hawaii Holdings, LLC) will merge its merger sub with and into Holdings LLC, with Holdings LLC surviving as a wholly-owned subsidiary of the purchaser.  Holdings LLC units will be converted into the right to receive $3.83, assuming the merger is completed by July 1, 2022 (if it is completed after that time, then the consideration will increase to $4.11 per unit).}

^{[6] IRC §897(c)(3).}

^{[7] However, there is still a risk FIRPTA could apply if MIC were treated as a USRPHC at the time of the Hawaii Distribution or the Atlantic Aviation sale.  Further, although the proxy states that “it is expected that [Holdings LLC’s] method of operation will not result in [Holdings LLC] generating income treated as effectively connected with the conduct of a U.S. trade or business with respect to non-U.S. holders of [Holdings LLC] common units, there can be no assurance that the IRS will not successfully assert that some portion of [Holdings LLC]’s income is properly treated as effectively connected income with respect to such non-U.S. holders.” That disclosure generally did not change from the April 5 proxy (supra note 3).}

^{[8] In the Hawaii Distribution, MIC Hawaii will be removed from corporate solution by having MIC Ohana Corporation, a direct wholly-owned subsidiary of MIC, distribute all of the LLC interests of MIC Hawaii up to MIC, which will in turn distribute the units to Holdings LLC.}

^{[9] Supra note 1, at 173.}

^{[10] Those that received their Holdings LLC common units in the Reorg Merger.}

^{[11] Or whether Holdings LLC might own any investments that could constitute investments in USRPHCs.}

^{[12] Supra note 3, at 87.}

^{[13] Supra note 1, at 34.}

^{[14] Note that if FIRPTA withholding is required for the MIC Hawaii sale, the latest disclosures indicate that the company will no longer be making a zero basis assumption but will take into account the holder’s tax basis in its Holdings LLC units in determining the allocable share of any gain realized upon the MH merger (to the extent such gain is attributable to USRPIs or USRPHCs held by Holdings LLC).}

^{[15] Treas. Reg. §1.897-1(c)(2)(iv).}