New Section 901(m) Regulations & Foreign Tax Credit Planning Issues
Fenwick & West Tax Group –Latest U.S. International Tax Developments & Planning
April 26, 2017
William R. SkinnerPartner, Tax Group
Topics Covered New Section 901(m) Proposed and Temporary Regulations
• Background, CAA Categories and RFAs• The Basis Difference, Disqualified Tax Amount and ABD Carryover• Successors, De Minimis Rules and Effective Dates
Foreign Tax Credit Planning for the Transition Tax Notice 2016-52
1
New Section 901(m) Regulations –Background, RFAs and CAA Categories
TAX GROUP
Section 901(m) Background
Section 901(m) was enacted as part of 2010 legislation and effective for “covered asset acquisitions” occurring after December 31, 2010.
Section 901(m) permanently disallows a foreign tax credit for the “disqualified portion” of any foreign income tax paid or accrued in connection with a “covered asset acquisition.”
The disallowed amount is intended to reverse out the effect of a US tax basis step-up where the transaction did not result in a corresponding foreign tax basis step-up.
3
TAX GROUP
Section 901(m) – Paradigm Case of a Section 338 Election
Qualified stock purchase (§338(g) election)
Cash
FT Stock
4
USP (US)
CFC
FT (Foreign)
FT (Foreign)
FT Owners
CFC acquires FT stock in qualified stock purchase and makes a Section 338(g) election.
For US tax purposes only, new FT is treated as buying assets with a cost basis from old FT.
Assume FT’s only asset is IP with a zero U.S. tax basis and a deemed asset sale purchase price of $75m. The “basis difference” is $5m per year.
If, in the year after the acquisition, FT earns $10m of foreign income and pays $2m of foreign income tax, the “disqualified portion” of the foreign tax is $1m (2m x 5m/10m).
TAX GROUP
Proposed 901(m) Regulations – CAA Categories
5
The statute lists 3 transactions that are CAAs subject to Section 901(m):
• A qualified stock purchase with a Section 338 election
• Any acquisition treated as a purchase of assets for US tax purposes, but an acquisition of stock (or disregarded) for foreign tax purposes
• Purchase of a partnership interest with a Section 754 election
The proposed regulations would include 3 other transactions within the definition of CAAs:
• Acquisitions that are treated as a purchase of assets for US tax purposes, and a purchase of an
interest in a fiscally transparent entity for foreign tax purposes
• Partnership distributions triggering a US basis step-up under Section 734(b)
• Transactions treated as asset acquisitions for US and foreign tax purposes that result in a step-up
in basis for U.S. tax purposes without a corresponding step-up in basis for foreign tax purposes
TAX GROUP
New 901(m) Regulations – §1.901(m)-2(e), Example 1
6
For foreign purposes, the transaction is treated as a sale of partnership interests, and for US purposes, is treated as a purchase of assets under Rev. Rul. 99-6. This transaction is a CAA under the Proposed Regulations.
ForeignPRS
DE1
A BUSP
Buys A’s interest for cash
Buys B’s interest for cash
TAX GROUP
Assume that foreign law views the transfer as a tax-free transaction and provides no step-up in basis. US tax provides a basis step-up to the extent of boot received under Section 351(b) (e.g., NQPS).
This transaction is a CAA under the Proposed Regulations.
Consider treatment of Section 367(a) or Section 367(d) amount.
Stock & Boot
Transfer
New 901(m) Regulations – §1.901(m)-2(e), Example 2
7
USP
CFC 1
Assets CFC 2
TAX GROUP
Proposed Regulations – CAA Categories
Proposed Regulations ignored comments asking Treasury to exclude from Section 901(m) covered asset acquisitions where the gain on the CAA is, or will be, subject to US tax, as in example above.
Commentators also suggested coordinating Section 901(m) with Section 909; this suggestion was not followed.
8
FDE
USP
CFCOutbound Transfer of FDE’s Interests
FDE
TAX GROUP
Proposed 901(m) Regulations –Definition of a Relevant Foreign Asset (RFA)
9
Prop. Reg. §1.901(m)-2(c)
RFA is a foreign asset the items of which are taken into account for purposes of a foreign income tax.
RFA status is generally determined immediately after the CAA occurs; however, if assets are transferred into another foreign jurisdiction with a principal purpose of avoiding section 901(m), the assets become RFAs in that jurisdiction.
A prohibited principal purpose is “deemed to exist” if the assets are transferred to a foreign country within 1 year of the completion of the CAA.
TAX GROUP
Proposed Regulations –Definition of a Relevant Foreign Asset (RFA)
Purchase of FC is a CAA.
RFAs are as follows:
• FC’s assets Country E RFAs
• DE1’s assets Country F RFAs
• Branch assets Country F RFAs andCountry G RFAs
10
Assume Country F taxes its residents on a
worldwide basis (with a foreign tax credit)
DE 1Country F
Country GBranch
FCCountry E
USP (US)
CFCCFC purchases FC
with a §338(g) election
TAX GROUP
Prop. Reg. §1.901(m)-2(c), Example 3
11
Results:(1) Section 338(h)(10) transaction is a CAA but, initially, there are no relevant foreign assets.(2) Outbound transfer within one year causes US Sub’s assets to become RFAs in Country X
and subject to §901(m). Principal purpose is deemed to exist.
December 1, 2017 - Outbound Transfer of Assets
January 1, 2017 - Purchases US Sub with Sec. 338(h)(10)
election
Deemed Asset Purchase
USP 1
“Old” US Sub
USP 2
“New” US Sub
Foreign Sub X
New Section 901(m) Regulations –Determining the Basis Difference, Disqualified Tax
Amount and ABD Carryover
TAX GROUP
Proposed 901(m) Regulations –Determining the Basis Difference
13
Prop. Reg. §1.901(m)-4/ Temp Reg. §1.901(m)-4T
Generally, the basis difference that is subject to Section 901(m) is determined as the difference between the US tax basis in the assets immediately after the CAA and the US tax basis in the assets immediately before the CAA.
Proposed regulations will allow taxpayer to make a foreign basis election to compute the basis difference as the difference between US tax basis immediately after the CAA with foreign tax basis immediately after the CAA.
In case of a single transaction involving multiple CAAs, such as purchase of a target with subsidiaries, taxpayer can choose separately to apply the foreign basis election to each CAA. See Prop. Reg. §1.901(m)-4(f), Example 2.
TAX GROUP
New 901(m) Regulations – Foreign Basis Election CFC acquires FT stock with a Section 338(g) election
Total U.S. basis in FT’s assets after step-up is 1,000u.
Foreign Country also allows a corresponding step-up
for local tax purposes of 1,000u.
Under foreign basis election, basis difference for
Section 901(m) purposes is zero.
Under general rule, basis difference may be up to
1,000u, depending on substantiation of FT’s pre-
acquisition US tax basis in its assets.
1Qualified stock purchase (§ 338(g) election)
1,000u Cash
FT Stock
?? US Basis100u Foreign Basis
1,000u US Basis 1,000u Foreign Basis
14
USP (US)
CFC
FT (Foreign)
Assets
FT (Foreign)
Assets
FT Owners
TAX GROUP
Allocating the Basis Difference and Calculating the Disqualified Tax Amount
The statute calculates the disqualified tax amount based on the income and foreign tax “attributable to” the RFAs.
Proposed Regulations opt for administrative simplicity in lieu of determining the portion of foreign income that is attributable to the RFAs versus other assets in the jurisdiction.
Disqualified tax amount is calculated country-by-country based on the RFAs and basis difference to each country.
15
TAX GROUP
Allocating the Basis Difference and Calculating the Disqualified Tax Amount
Proposed Regulations would also provide special rules for foreign country creditable taxes (“FCCTs”) where the owner of the RFAs is resident in a jurisdiction with a worldwide tax system.
FCCT rule is intended to prevent double disallowance of foreign tax credits where the RFAs are relevant for tax purposes in multiple jurisdictions.
16
TAX GROUP
Allocating the Basis Difference and Calculating the Disqualified Tax Amount
Disqualified tax amount with respect to a CAA then is equal to the lesser of (i) the “foreign income tax amount,” consisting of foreign income taxes paid plus any FCCTs in the country, and (ii) the “tentative disqualified tax amount.”
The tentative disqualified tax amount is equal to the
The PRODUCT of: Foreign income tax and FCCTs paid by the foreign entity (the “Section 901(m) payor”)
AND
A FRACTION equal to the ABD for the year DIVIDED BY total foreign income for the year earned by the payor’s in the relevant country.
MINUS any FCCTs that are a disqualified tax amount with respect to another foreign income tax.
17
TAX GROUP
Allocating the Basis Difference and Calculating the Disqualified Tax Amount
Absent a disposition, the basis difference taken into account is the cost recovery amount with respect to the basis under U.S. tax amortization / depreciation principles. Basis difference may be recovered at different rates relevant to
different assets or portions of the basis included within RFA. A basis difference is taken into account under such recovery
method even if it is deferred or disallowed for U.S. tax purposes. See Prop. Reg. 1.901(m)-5(b).
18
TAX GROUP1919
2017 ResultsCountry F $100 Income /
$25 Tax
Calculation ExampleProp. Reg. §1.901(m)-4(b)(3), Example 2
2017 ResultsCountry G $400 Income
/ $120 Tax
Assume USP acquires CFC1 and its country G branch in a covered asset acquisition resulting in the basis differences shown above.
Asset CountryBasis
Difference
US Cost RecoveryAmount
Asset A Country F $150 $10
Asset B Country F $50 $10
Asset C Country G $300 $60
Asset D Country G <$100> <$20>
USP
CFC 1Country F
Country GBranch
TAX GROUP2020
Calculating the Disqualified Tax AmountProp. Reg. §1.901(m)-4(b)(3), Example 2
The disqualified tax amount is calculated separately for each of Country F and Country G.
Country F - 2017:a) Foreign income tax amount $25b) ABD for the year $20c) Foreign income $100Tentative disqualified tax amount $5 – i.e., $25 * $20/ $100Disqualified tax amount = $5 – i.e., lesser of foreign tax amount ($25) and tentative disqualified tax amount ($5)
TAX GROUP2121
Calculating the Disqualified Tax AmountProp. Reg. §1.901(m)-4(b)(3), Example 2
Country G - 2017:a) Foreign income tax amount $120b) ABD for the year $40c) Foreign income $400Tentative disqualified tax amount $12 – i.e., $120 * $40 / $400Disqualified tax amount = $12 – i.e., lesser of foreign tax amount ($120) and tentative disqualified tax amount ($12)
TAX GROUP
Allocating the Basis Difference and Calculating the Disqualified Tax Amount
Special rules apply with respect to allocating foreign income to conform to the current version of the technical taxpayer rules:
• If foreign payor undertakes a transaction that closes the US taxable year, but not the foreign taxable year, income is prorated between the periods using principles of Reg. §1.1502-76.
• If foreign payor is a partnership, foreign income must be allocated in a manner consistent with the partners’ determination of the creditable foreign tax expenditure (CFTE) categories under the Section 704(b) regulations.
• If foreign payor is a member of a combined filing group, then the foreign income allocated to each member in accordance with Reg.§1.901-2(f)(3)(iii).
See Prop. Reg. 1.901(m)-3(b)(2)(iii)(C).
22
TAX GROUP
Allocating the Basis Difference and Calculating the Disqualified Tax Amount
Base case - Country F does not allow combined filing – there are 4 separate CAAs and 4 separate Section 901(m) calculations.
Alternative case – all 4 Country F entities file a foreign combined return: There are still 4 CAAs. Income is allocated to the members.
However, there are now 2 Section 901(m) calculations – one for CFC1 and its two disregarded entities (DE1 and DE2), and the other for CFC2.
23
Assume USP purchased CFC1 stock
with a Section 338 election for both CFC1
and CFC2
USP
CFC 1Country F
CFC 2Country F
DE 1Country F
DE 2Country F
TAX GROUP
Prop. Reg. §1.901(m)-4(b)(3), Example 3
Facts: USP acquires DE1 in a CAA with RFAs in country G that produce 100u of income. After the CAA, DE1 acquires other assets (Post-Transaction Assets) in Country F that produce 100u of income.
24
Country F DRE200u Income / $30 Tax Includes Country G branch incomeCountry F allows credit for Country G tax
Country G Branch100u Foreign Income / $30 Tax100u ABD per year
USP
DE 1Country F
Country GBranch
TAX GROUP2525
Calculating the Disqualified Tax AmountProp. Reg. §1.901(m)-4(b)(3), Example 3
The disqualified tax amount is calculated separately for each of Country F and Country G.
Country G - 2017:a) Foreign income tax amount $30b) ABD for the year 100uc) Foreign income 100uTentative disqualified tax amount $30 – i.e., $30 * $100/ $100Disqualified tax amount = $30 – i.e., lesser of foreign tax amount ($30) and tentative disqualified tax amount ($30)
TAX GROUP2626
Calculating the Disqualified Tax AmountProp. Reg. §1.901(m)-4(b)(3), Example 3
Country F - 2017:a) Foreign income tax amount $30 (i.e., $30 of Country F Taxes)b) ABD for the year 100uc) Foreign income 200uTentative disqualified tax amount $0 – i.e., $60 * 100u/ 200u minus $30 of FCCTsDisqualified tax amount = $0 – i.e., lesser of foreign tax amount ($30) and tentative disqualified tax amount ($0)
TAX GROUP
901(m) Regulations: Modifying the Statutory Formula Proposed Regulations 1.901(m)-3(c) would also introduce the
concept of an Aggregate Basis Difference (ABD) carryover where basis difference allocated to a year does not result in a disallowance of foreign income taxes.
Under this rule, aggregate basis difference for a year becomes an ABD carryover if:
• The disqualified tax amount is zero;• The ABD for the year exceeds foreign income for the year; OR• The tentative disqualified tax amount exceeds the disqualified tax
amount.
27
TAX GROUP
ABD Carryover –Prop. Reg. §1.901(m)-4(c)(3), Example
28
June 30 Foreign Year End
Purchase of DEx on July 1, 2017 in a CAA
DEx has a RFA that becomes Cost Recovery ABD of 18u per year
DEx Results Foreign Income ABD Foreign Tax
2017 $? 9u $0*
2018 $? 27u(18u + 9u ABD carryover
from 2017)
$?
*Country X tax for 2017 is zero because foreign year end is different from US year end.
12/31 US Year End CFC 1
DEx
New Section 901(m) Regulations –Successors, De Minimis Rules and Effective Dates
TAX GROUP3030
Dispositions, Successors and Subsequent Transactions
Dispositions that accelerate recovery of the ABD are defined to include transactions where gain is recognized for US tax purposes, foreign tax purposes, or both. §1.901(m)-1T(a)(10).
If a RFA has a positive basis difference, the basis difference will be recovered upon a disposition that results in a foreign taxable gain or a US taxable loss. §1.901(m)-5T(c)(2)(ii)(A).
If a RFA has a negative basis difference, the basis difference will be recovered upon a disposition that results in a foreign taxable loss or a US taxable gain. §1.901(m)-5T(c)(2)(ii)(B).
TAX GROUP3131
Successors – Temporary and Proposed Regulations
Temp. Reg. §1.901(m)-6T(b) Treats as a successor to the Section 901(m) taint any person that
acquires an RFA with an unrecovered basis difference after the transfer.
Proposed Regulations §1.901(m)-6(c) Extends successor concept to an ABD carryover amount in certain
transactions:• Section 381 transactions involving the Section 901(m) payor• Section 351 and similar transactions involving “substantially all” of
the assets of the Section 901(m) payor• Other transfers of RFAs with a principal purpose of avoiding Section
901(m)
TAX GROUP
Dispositions, Successors and Subsequent Transactions
CFC acquires FT in 2015 and makes a §338(g) election.
Effective the day after the acquisition, FT elects to be treated as a disregarded entity.
The election is not a “disposition,” because it does not result in any gain or loss being recognized with respect to FT’s assets for either U.S. or foreign income tax purposes.
32
CFC
FT
USP
FT
FC 2 Shareholders
FT Stock
$$
TAX GROUP
Dispositions, Successors and Subsequent Transactions Additionally, under the “successor”
rules of Temp. Treas. Reg. §1.901(m)-6T, CFC is a successor to FT with respect to the RFAs.
Section 901(m) continues to apply to the full unallocated basis difference in the RFAs in the hands of CFC.
The check-the-box election is also a CAA, but there should be no further basis difference to take into account.
33
CFC
FT
USP
FT
FC 2 Shareholders
FT Stock
$$
TAX GROUP
Dispositions, Successors and Subsequent Transactions Two years later, CFC sells the FT stock (still
disregarded) to CFC2.
Assume FT has one asset, IP with a positive basis
difference from the§338(g) election. The IP has
increased in value, such that CFC recognizes gain for
U.S. income tax purposes on the sale.
The sale of FT is a “disposition,” because it results in
the recognition of gain with respect to the FT assets for
U.S. tax purposes.
However, the “disposition amount” is zero because no
U.S. loss or foreign gain is recognized.
The sale of FT to CFC2 is yet another CAA, with
additional basis difference.
34
CFC
FT
USP
CFC2
FT Stock
$$
FT
TAX GROUP
De Minimis Rules (Prop. Reg. § 1.901(m)-7) Two separate de minimis exceptions are available from the Section
901(m) rules• Overall Exception – Cumulative Basis Difference from the CAA is
less than the greater of $10 million or 10% of total US basis in all RFAs after the CAA
• Asset Class Exemption – Basis difference in any class of assets (within the meaning of Section 1060 asset classes) is less than the greater of $2 million or 10% of total US basis in that class of RFAs after the CAA
35
TAX GROUP
De Minimis Rules – Special Rules If a CAA involves a transferor and transferee that are related
parties, the de minimis rules are applied at lower thresholds of $5 million / 5% and $1 million instead of $2 million.
Special rules for multiple CAAs as part of a single transaction (an “aggregated CAA transaction”):
• The de minimis threshold must be met for all related Section 901(m) payors in the aggregated CAA transaction.
• In addition, each individual Section 901(m) payor must satisfy the de minimis threshold on a separate basis for its basis difference to be excluded.
36
TAX GROUP
De Minimis Rules - Prop. Reg. § 1.901(m)-7(f), Example 1
37
Assume USP purchased CFC1
and CFC2 together with a Section 338 election for each
entity.Assume all Basis difference is in Class VI/VII
RelevantForeign Assets
Total US Basis Before CAA
Total US Basis After CAA Basis Difference
CFC1 $48 mm $60 mm $12 mm
CFC2 $100 mm $96 mm <$4 mm>
Total $148 mm $156 mm $8 mm
CFC 1 (Country F)
CFC 2 (Country F)
TAX GROUP
De Minimis Rules – Results in Example 1 All assets are in the same Class, so asset class-based exemption doesn’t
apply. As to CFC1: overall de minimis exception does not apply because
CFC1’s standalone basis difference exceeds the greater of $10 mm or 10% of CFC1’s post-CAA asset basis ($6 mm).
As to CFC2: overall de minimis exception applies to disregard CFC2’s basis difference in its assets because:
• CFC2’s standalone basis difference (negative $4 mm) is less than the greater of $10 mm or 10% of CFC2’s standalone asset basis ($9.6mm), AND
• The cumulative basis difference of CFC1 and CFC2’s from the aggregated CAA ($8 mm) is less than the greater of $10 mm or 10% of CFC1 and CFC2’s combined post-CAA asset basis ($15.6 mm).
38
TAX GROUP
De Minimis Rules - Prop. Reg. § 1.901(m)-7(f), Example 2
Results: Overall exception does not apply to the CAA (greater than $10 mm and 10% of $55 mm) Class based exemption applies to inventory (less than either $2 mm or 10% of $11 mm)
39
Assume USP purchased CFC1
with a Section 338 election and did not make foreign basis
election
Relevant Foreign Assets (Country F):
US TaxBasis Before
US TaxBasis After Basis Difference
Cash (Class I) $10 mm $10 mm $0
Inventory (Class IV) $14 mm $15 mm $1 mm
Plant (Class V) $19 mm $30 mm $11 mm
Total $55 mm $12 mm
CFC 1 (Country F)
TAX GROUP
Miscellaneous Rules (Prop. Reg. § 1.901(m)-8) The proposed regulations state that Section 901(m) also applies to
pre-1987 earnings and profits. A negative basis difference (i.e., built-in-loss) with respect to an
RFA will not be taken into account if any RFAs, including RFAs other than the built-in-loss RFAs, are acquired with a principal purpose of avoiding Section 901(m). This includes for purposes of applying the de minimis exception.
40
TAX GROUP
Effective Date of Proposed Regulations
As noted above, the temporary regulations are immediately effective.
Generally the proposed regulations are prospective only for CAAs on or after the date the proposed regulations are finalized.
However, a taxpayer may rely on the proposed regulations in their entirety, but only if taxpayer applies all provisions of the proposed regulations consistently:
• Taxpayer must retroactively apply all of the proposed regulations to all statutory CAAs occurring on or after Jan. 1, 2011, and
• Taxpayer must apply the proposed regulations’ expanded definition of CAAs to all transactions occurring on or after December 6, 2016.
41
Foreign Tax Credit Planning for the Transition Tax
TAX GROUP
Tax Reform Proposals – the Transition Tax All three major Republican tax plans feature some form of
transition tax on deferred foreign income of CFCs and other foreign entities of a US corporation:
• 2014 Camp Reform Bill – 8.75% on cash / 3.5% on non-cash assets payable over eight years
• 2016 GOP Blueprint – same as Camp.• 2015 Trump campaign proposal – 10% payable over 10 years on all
assets
Camp Proposal contains the most recent legislative language and thus may be used as a model for future legislation.
43
TAX GROUP
Camp Proposal – Transition Tax HR 1, Section 4003 would amend Section 965 of the Code to provide for a
mandatory repatriation of deferred earnings and profits (“E&P”) of certain foreign corporations at a reduced rate of 8.75% or 3.5% depending on the form in which the E&P is held (i.e., cash or non-cash assets).
The transition tax operates by causing, for the last year before the new system comes into effect (the “transition year”), a subpart F inclusion of the “accumulated post-1986 deferred foreign income” of each deferred foreign income corporation.
Under Proposed §965(c), the shareholder is allowed a dividends-received deduction for the “applicable percentage” of the subpart F inclusion. The applicable percentage is 90% of the portion of the inclusion that exceeds the U.S. shareholder’s “aggregate foreign cash position”; and 75% of the portion that does not exceed the shareholder’s aggregate foreign cash position.
44
TAX GROUP
Camp Proposal – Transition Tax The base on which the tax is imposed, “accumulated post-1986 deferred foreign
income” is equal to post-1986 earnings and profits, excluding earnings of a CFC taxable as effectively connected income (“ECI”) of a foreign corporation, amounts previously taxable to the shareholder under the subpart F or PFIC rules, and pre-1987 earnings and profits. See Prop.§965(d)(2).
The relevant earnings are calculated as of the close of the transition year, without regard for distributions during that year. Prop.§965(d)(3).
If the shareholder is a US shareholder with respect to one or more “E&P deficit corporations,” then the shareholder allocates the aggregate foreign E&P deficit ratably to each deferred foreign income corporation with positive post-1986 foreign E&P. See Prop.§965(b)(2).
45
TAX GROUP
Camp Proposal – Transition Tax Proposed Section 965(g) disallows a credit under §901 for the
applicable percentage of any taxes paid or accrued (or treated as paid or accrued) with respect to an amount for which a deduction is allowed. Such taxes related to the exempt portion of the transition inclusion also are non-deductible, Prop. §965(g)(3), and excluded from the§78 gross-up, Prop.§965(g)(4).
However, the transitional subpart F inclusion would appear to constitute general basket income under the currently applicable rules of §904(d).
A special rule would provide that the transition dividend is not treated as foreign source income for purposes of §904(f)(1) (OFL recapture).
46
TAX GROUP
FTC Planning for the Transition Tax –Hypothetical Fact Pattern
Assume also that CFC1 holds substantially all of USP’s aggregate foreign cash position.
Given the above attributes as of the end of the transition year, how would the transition tax apply?
47
$1,200 E&P$0 Taxes
$200 E&P$100 Taxes
($100) Deficit in E&P
$20 Excess FTC Carryforward under
Section 904(c)USP
CFC 1 CFC 2 CFC 3 CFC 4
$100 E&P$100 Taxes
Notice 2016-52
TAX GROUP
Notice 2016-52 Two weeks after EU state aid decision was announced against
Apple, the IRS announced guidance to prevent certain planning in connection with foreign-initiated tax adjustments in excess of $10 million.
Where applicable, guidance applies Section 909 and requires taxpayer to repatriate the underlying foreign earnings to claim a credit for the additional foreign taxes.
However -- “No inference is intended . . . as to whether (1) payments pursuant to any particular foreign-initiated adjustment, including those arising under EU State aid law, qualify as payments of creditable foreign income taxes…”
49
TAX GROUP
New Section 909 Guidance – Notice 2016-52
New rules apply Section 909 in context of “specified foreign initiated assessments.”
• Defined as any foreign initiated adjustment or series of related adjustments resulting in additional foreign tax of $10 mm or more.
Section 909 will apply to the additional tax if the Section 905(c) adjustment for the taxes is separated from related E&P through either:
i. “Covered transactions” that result in the taxes being paid by a different entity that the predecessor entity that earned the related E&P;
ii. “Covered distributions” by the payor entity that cause a significant amount of the related E&P to be distributed to another entity.
50
TAX GROUP
Notice 2016-52 – Covered Transactions
The notice suspends taxes where there is a “covered transaction” before a specified foreign-initiated assessment.
A covered transaction is any transaction or series of transactions that results in:
• The taxes assessed being paid by a different taxpayer than the prior taxpayer for the underlying assessment years
• Both persons are covered persons / i.e., related under Section 909. Exceptions are provided for Section 381 transactions and cases
where the taxpayer proves by clear and convincing evidence that no tax avoidance motive was present.
51
TAX GROUP
Notice 2016-52 – Example of a Covered Transaction
52
USP
CFC 2
2017DRE is subject to a foreign tax assessment of $200 for years 2011-2015
CFC 1(HoldCo)
DRE
DRE
2016 –Contributes
DRE to CFC-2
$1,000 E&PFor 2011-2015
CFC1 is a HoldCo that has no income other than from DRE
TAX GROUP
Notice 2016-52 – Example of a Covered Transaction
53
Unless taxpayer proves otherwise by clear and convincing evidence, the Section 351 transaction that contributes DRE to CFC2 is a covered transaction with respect to the specified foreign initiated adjustment in 2017.
CFC2’s additional taxes paid under Section 905(c), as owner of DRE, are suspended under Section 909 until USP repatriates CFC1’s $1,000 of related E&P.
TAX GROUP
Notice 2016-52 – “Covered Distributions”
The notice also suspends taxes under Section 909 where there is a “covered distribution” by CFC before a specified foreign tax assessment.
Elements of second test:• Distribution was made during a year to which the relevant foreign
taxes or related or any subsequent year up to the year in which the relevant foreign taxes are paid;
• Distribution was made to another “covered person”; and• Distribution was made with a principal purpose of separating taxes
from post-1986 undistributed E&P. If the potentially covered distributions exceed 50% of the payor’s
accumulated post-’86 E&P in the year of tax payment (plus other potential covered distribution), the tainted principal purpose is presumed to exist.
54
TAX GROUP
Notice 2016-52 – Covered Distributions Example
55
Year 11 – $750 Dividend
Years 1-10 $1,000 Accumulated E&P$20 Foreign Tax
Year 12 – CFC is assessed $180 of taxes related to years 1 – 9
CFC2 is presumed to make a “covered distribution” because:
• Distribution is made to a related CFC after year 1 and before year 12
• Distribution exceeds 50% of CFC2’s accumulated E&P
Absent rebuttal of presumption, 75% of the $180 of additional taxes are suspended under §909.
CFC 1
CFC 2
