Editors: Greg A. Fairbanks, J.D., LL.M.
For multinational taxpayers, the tax paradigm has changed due to the act known as the Tax Cuts and Jobs Act (TCJA), P.L. 115– –97and related regulatory developments. As a result of these international tax changes, the ability to apply for a Foreign Tax Credit (FTC) has probably never been more important. In the past, the U.S. tax system has given taxpayers the option to apply for an FTC in relation to income taxes paid in a foreign country, subject to various restrictive factors. The TCJA has made numerous changes to US tax law that increase the usefulness and importance of an FTC. These systemic changes have a significant impact on how much credit a taxpayer can draw in any given year and can pose planning problems for taxpayers with taxable income inclusions arising from global intangible assets low– –taxed Income (GILTI) or subsection F, e.g. Example.
Regulations proposed by the FTC (REG– –101657– –20th), issued by the IRS and Treasury Department on September 29, 2020 (the proposed 2020 ordinances) introduce comprehensive guidance with implications that could result in significantly different future FTC outcomes for affected taxpayers. While the 2020 proposal for a regulation covers a wide range of FTC issues, this discussion focuses primarily on one aspect: how would the new rules affect taxpayers' ability to claim FTCs for foreign income taxes paid with refundable tax credits can be offset abroad Jurisdiction.
In many cases, multinational corporations can apply for tax credits in one or more foreign jurisdictions relating, for example, to conducting research or investing in certain types of technology. Often times, the claimed credits offset a taxpayer's local income tax liability rather than paying the taxpayer in cash. Certain types of credits are limited in amount by taxable income or on the basis of another income tax measure. However, other credits will be refunded in cash, provided no income tax (or other tax) is applicable, and sometimes at the taxpayer's choice. These latter credits are commonly referred to as "Refundable" credits and represent a challenging FTC Ask.
background
FTC regime In front– –TCJA: In general, eligible taxpayers can choose to offset US income taxes on their net income strange– –source Income from creditable foreign taxes paid or accrued on this income. Sec. 901 (b) (1) provides that a US taxpayer may seek credit for "the amount of all income, war profits, and surplus profits taxes paid or accrued during the tax year to any other country or property of the United States." Regs . Sec. 1.901– –2(a) (1) also provides that a foreign tax must be a tax with the predominant character of income tax in the United States in order to be a creditable tax. Sense.
When determining whether foreign taxes are eligible for the purposes of the FTC, the rules under section 901 will provide that the amount must be paid or accrued by the taxpayer. Regs. Sec. 1.901– –2(e) (2) (i) provides that an amount will not be paid or accrued to a foreign country provided it is reasonably certain that the amount will be refunded, credited, reimbursed, reduced or allocated. Furthermore, Sec. 904 applies a complex set of constraints to an FTC that is calculated separately for different categories of strange– –source Income. In certain circumstances, a US corporation may also be entitled to “deemed paid” credit for its portion of foreign taxes paid by certain affiliates Companies.
FTC regime post– –TCJA: The TCJA has made numerous changes to US tax law that affect FTC rules. It implemented the dividend– –receive Deduction according to Section 245A, new FTC limitation categories added, lifted the "deemed to be paid" FTC provision in accordance with Sec. 902 and modified the when– –paid FTC under Sec. 960. Most notably, the TCJA Sec. 951A (GILTI), which subjects a United States shareholder of a controlled foreign corporation (CFC) to the current taxation of certain foreign corporations Income.
For tax years beginning after 2017, a US shareholder of a CFC is subject to the current US tax on its GILTI inclusion. GILTI is generally defined as the excess of a US CFC shareholder's aggregate "tested net income" over a routine return on certain qualifying property, plant and equipment. The tested income is the possible excess of the gross income of the company (excluding certain items) over the deductions attributable to this gross Income.
Usually under Sec. 951A, a company can deduct 50% of its GILTI and apply for an FTC for 80% of foreign taxes paid or accrued on GILTI. When the foreign tax rate is zero, the effective US tax rate for GILTI is 10.5% (half the regular corporate tax rate of 21% due to the 50% deduction). When the overseas tax rate is 13.125% or greater, the application of the FTC offsets or potentially limits US tax owed on the GILTI of a US corporate shareholder. Consequently, for many taxpayers, the FTC serves to mitigate the negative effects of the GILTI Regime.
The TCJA also expanded the separate restriction categories related to the FTC restriction. In addition to the income baskets of the passive category and the general category of income, the TCJA has under Sec. 904 (d) added two new income baskets to determine amounts based on inclusions of GILTI under Sec. 951A and foreign branch revenue. For tax years beginning after December 31, 2017, Sec. 904 (d) (1) now provides for four limitation categories: (1) Any amount that is included in the gross income according to Sec. 951A (excluding passive category income); (2) income from foreign branches; (3) passive category income; and (4) general category income. Please note that an FTC to be assigned to the GILTI shopping cart does not offer any carry forward or carry forward for excess credits that were not used during the GILTI period Admission.
The changes under Section 951A have significantly changed the rules for FTCs and have undoubtedly increased the importance of determining the FTC in the FTC post– –TCJA World. In front– –TCJAMany taxpayers may have relied less on the FTC to reduce their US tax bill. Most foreign income generated by CFCs was not subject to US taxation until after repatriation or inclusion Anti– –Postponement Regimes like subsection F. As a result post– –TCJA Taxpayers can focus much more on their FTC attitudes and Planning.
The latest developments in the proposed regulation for 2020 only serve to add complexity to the FTC regime. In particular, the 2020 proposal for a regulation, if finalized, would result in certain significant changes Long– –Stand Pillars of the FTC regime, including the impact on the amount of foreign creditable taxes available to the US. Taxpayer.
Impact of the regulations proposed in 2020
Refundable FTCs as constructive payment of cash: As already mentioned, under Sec. 901, a taxpayer must both owe and remit foreign income taxes to be eligible for an FTC. The existing regulations contain rules for determining the amount of foreign tax that is deemed to have been paid and which is entitled to credit according to Section 6 (1). 901. The proposed regulations for 2020 clarify in several ways the amount of the tax that is considered paid (or accrued) and, in accordance with the provisions of Sec. 904 Restrictions.
When determining whether foreign taxes are considered creditable for the purposes of the FTC, the existing regulations provide that a payment to a foreign country is not treated as a tax amount, provided it is reasonably certain that the amount will be refunded and credited, discounted, diminished or forgiven. Even so, the IRS has granted exemptions to taxpayers in several situations where the credit granted by the foreign jurisdiction is a refundable amount. For example, in Technical Advice Memorandum (TAM) 200146001, the IRS concluded that a research loan offered by the French government did not reduce the tax pool that was available as the FTC at the time a dividend was paid to a U.S. parent company Companies.
In the TAM, the taxpayer originally reduced his pool of creditable taxes by the amount of a French research loan (as if he had received a refund of French taxes paid). As a result, the taxpayer amended his tax returns to require additional FTCs, believing he didn't need to reduce his pool of eligible taxes. The IRS ruled that the research loan was French government tender as the taxpayer received the loan from the French government either in cash or as set off against future liability. As a result, the taxpayer was entitled to consider these credits and eligible foreign taxes in the United States for FTC purposes. In the TAM, the IRS focused on the refundable nature of the loan and agreed that it was not a tax break, but rather an additional income for the taxpayer that was used to pay his tax Instability.
In IRS General Counsel Memorandum 39617, the IRS examined whether investment incentives granted by the Netherlands, called WIR awards, should be treated as a reduction in Dutch income taxes paid or accrued for the purposes of the US FTC. As a background, the WIR bonus incentive was changed in 1986 by the Netherlands. Before 1986, taxpayers were allowed to offset their WIR premium payments against income tax, with any excess being reimbursed to the taxpayer. However, for years after the change in law came into force, the benefit of the bonuses would continue to offset the income tax liability but would no longer be recoverable electricity– –Period Income tax. Transfers and transfers were allowed but only at the rate of income tax for the period in which the credits were transferred. The WIR premium incentive has been calculated with reference to the level of investment by the Dutch in qualifying Dutch assets Taxpayer.
In this case, the IRS determined that for the years in which the taxpayer was only able to claim WIR premiums through crediting or offsetting against the Dutch income tax assessment, the tax amount offset by the premium credit could not be credited in the USA. However, the IRS also found years that the credit was "refundable". The amount of benefit should be considered a tax paid and thus qualify for the United States. FTC.
These agencies support the position, under the law and regulation, that a local tax could be considered paid and thus offset against US tax even if it is offset through a "refundable" tax credit. As a result, US multinational taxpayers operating in a country with refundable credits may have the option to increase their US FTC while paying less cash taxes in that country. Such a taxpayer could also foreseeably lower its effective tax rate for financial reporting purposes. However, the proposed regulation for 2020 can change this when it is finalized Result.
Refundable FTCs and the Proposed Regulations for 2020: The preamble to the Proposed Regulations for 2020 now shows that the law is unclear in this area, including whether under foreign tax law credits are allowed calculated by reference to amounts other than foreign tax payments (e.g. as an investment or R&D tax credit) can be treated as a constructive receipt of cash by the taxpayer from abroad, followed by a constructive payment of the overseas income tax by the taxpayer. The preamble notes that "the results were sometimes different depending on whether the credit is refunded under foreign law, that is, whether taxpayers are entitled to cash payments from abroad if the credit exceeds the taxpayer's foreign income tax liability."
Citing the need for a "clear rule" for the treatment of tax credits, the 2020 proposed regulations provide that foreign income taxes will not be deemed paid when a tax credit is deducted, regardless of whether the amount of the tax credit is refunded in the cash register . This rule is intended to create security for the treatment of credited amounts. An amount eligible for credit would therefore not be treated as a constructive payment of overseas cash followed by a constructive payment of the tax, even if the chargeable amount is refunded in cash, provided that it exceeds the taxpayer's liability for the tax imposed by the tax is reduced Recognition.
The proposed regulation for 2020 according to Regs. Sec. 1.901– –2(e) (2) (ii) leaves many unanswered questions for taxpayers seeking tax credits or other foreign government assistance such as: B. Grants or support payments. It appears that the design and mechanics of the particular incentive or credit play an important role in determining whether amounts credited can be considered as foreign taxes paid or accrued. Imagine a foreign taxpayer receiving cash payments in connection with a local credit regime and using that cash to pay his income tax. Does this taxpayer really differ in economic terms from a taxpayer who receives a reduction in his tax liability abroad due to the credit and receives a refund for any surpluses? When the proposed 2020 regulations are finalized, these taxpayers, while largely indistinguishable from an economic standpoint, may see completely different U.S. tax outcomes emerging from the FTC Effects.
The proposed Regulations also address several other issues related to FTCs, including how payments are treated as non-mandatory payments, the jurisdiction requirements, and other relevant issues related to the amount of FTC that may be asserts.
Risk and opportunity
Under the TCJA, the treatment of recoverable FTCs is an important risk and opportunity for taxpayers who claim them. As noted, the refundable credits requested may, in certain circumstances, provide an opportunity to reconsider the amount of FTCs available that can be used to offset US tax on foreign income, including tax on GILTI and Subpart F inclusions. On the other hand, under certain circumstances, the benefit of obtaining a refundable tax credit in a foreign country may be offset in whole or in part by operating US tax systems such as GILTI and Subpart F. F.
When finalized in their current form, the proposed 2020 regulations would change the interpretation of the current authorities, which support the idea that recoverable tax credits used to lower foreign taxes should still constitute creditable foreign taxes. In other words, the 2020 proposal for a regulation would likely limit taxpayers' ability to rely on current administrative guidance regarding these FTCs and the related US. Services.
Assuming that the proposed 2020 regulations will be finalized sometime in 2021, they will apply to tax years beginning after the date they are finalized. Accordingly, the treatment of reimbursable FTCs appears to be practicable under current law only for tax years up to 2021, provided again that the regulations are completed in 2021. This means that U.S. multinational corporations operating in countries with refundable credits may be forced to reduce their entitlement to a U.S. FTC provided foreign taxes are paid with refundable credits. With this in mind, it would be advisable for taxpayers to assess how the proposed 2020 regulations would affect their specific tax circumstances. Taxpayers who, in tax years prior to the application of these proposed regimes, have not credited foreign income taxes offset against local refundable tax credits, may consider modifying their tax returns in order to claim them Credits.
editorRemarks
Greg A. Fairbanks, J.D., LL.M., is the Tax Manager at Grant Thornton LLP in Washington.
For more information about these items, please contact Mr. Fairbanks at 202-521-1503 or [email protected].
Contributors are members of or affiliated with Grant Thornton LLP.