INTERNATIONAL TAX DEVELOPMENTS

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1 DID YOU GET YOUR BADGE SCANNED? INTERNATIONAL TAX DEVELOPMENTS #TaxLaw #FBA Username: taxlaw Password: taxlaw18

2 FEDERAL BAR TAX LAW CONFERENCE March 9, 2018 International Tax Developments: Selected Outbound Aspects of Tax Reform GOVERNMENT SPEAKERS Douglas Poms International Tax Counsel, Office of International Tax Counsel, U.S. Department of Treasury Carol Tan Special Counsel, Office of Associate Chief Counsel (International), I.R.S. PRIVATE SECTOR SPEAKERS Joseph Calianno Partner, International Technical Tax Practice Leader, BDO USA LLP Jeffrey S. Korenblatt Partner, Reed Smith LLP Raymond J. Stahl Special Counsel, Office of Associate Chief Counsel (International), I.R.S.

3 Participation Exemption/100% DRD 10% SFC Dividend 100% DRD for the foreign source portion of certain dividends received from specified 10% owned foreign corporations (10% SFCs) by U.S. C corporations (other than RICs or REITs) that are U.S. shareholders (section 951(b)) of those foreign corporations - A 10% SFC is any foreign corporation with respect to which any domestic corporation is a U.S. shareholder (such term does not include any corporation which is a PFIC with respect to the shareholder and which is not a CFC) - One year holding period requirement (with certain required conditions including new section 246(c)(5) requiring that status must be maintained during holding period) - Gains treated as a dividend for purposes of section 1248 may qualify for the DRD (applicable for sales/exchanges after 12/31/17) - No foreign tax credit or deduction for any taxes paid or accrued for exempt dividends 3

4 Participation Exemption/100% DRD 10% SFC Dividend - For purposes of computing section 904(a) foreign tax credit limitation, such domestic corporation must compute its foreign source taxable income (and entire taxable income) by disregarding the foreign source portion of any dividend received for which the DRD is taken, and any deductions properly allocable and apportioned to that foreign source portion or the stock with respect to which it is paid - Numerous other special rules (including no DRD for hybrid dividends see following slides) - Applicable to distributions made (and for purposes of determining a taxpayer s foreign tax credit limitation under section 904, deductions in tax years beginning) after 12/31/17 4

5 Hybrid Dividend/100% DRD N/A CFC CFC1 CFC2 Hybrid Dividend Hybrid Dividend Special rules for hybrid dividends (section 245A(e)) - 100% DRD does not apply to any dividend received by a U.S. shareholder from a CFC if the dividend is a hybrid dividend. Section 245A(e)(1) - Observe that only CFC payors appear to be subject to the hybrid dividend limitation; other SFC payors are not covered by the rule - If a CFC with respect to which a domestic corporation is a U.S. shareholder receives a hybrid dividend from any other CFC with respect to which such domestic corporation is also a U.S. shareholder, then, notwithstanding any other provision of this title (A) the hybrid dividend shall be treated for purposes of section 951(a)(1)(A) as subpart F income of the receiving CFC for the taxable year of the receiving CFC in which the dividend was received, and (B) the U.S. shareholder shall include in gross income an amount equal to the shareholder's pro rata share (determined in the same manner as under section 951(a)(2)) of the subpart F income described in subparagraph (A). See section 245A(e)(2) 4

6 Hybrid Dividend/100% DRD N/A CFC CFC1 CFC2 Hybrid Dividend Hybrid Dividend Special rules for hybrid dividends (section 245A(e)) - The term hybrid dividend means an amount received from a CFC - (A) for which a deduction would be allowed under section 245A(a) but for section 245A(e) and - (B) for which the CFC received a deduction (or other tax benefit) with respect to any income, war profits, or excess profits taxes imposed by any foreign country or possession of the United States - Assume that one of the payments by CFC to is treated as a repayment of principal under a loan for foreign tax purposes (no deduction for CFC on that particular payment) and is treated as a payment of a dividend to for U.S. federal tax purposes. - Is this treated as a hybrid dividend if no deduction (or other tax benefit)? - Suppose part of the dividend payment by CFC to US C CORP is deductible and part is non-deductible for foreign tax purposes? 6

7 Incorporating a Foreign Branch/New Provisions Foreign branch operations (including foreign goodwill) assets + liabilities FDE Section 351 FC FC stock Several international tax provisions may apply whenever there is an outbound section 351 transaction depending on the particular facts (section 367(a), 367(d), OFL recapture, DCL recapture, etc.) Modifications/Changes included in the Tax Cuts and Jobs Act include: Repeal of Foreign Active Trade or Business Exception under Section 367 (see prior section 367(a)(3)(C) Thus, this exception is no longer available to prevent gain recognition Branch Loss Recapture (new section 91) If a domestic corporation transfers substantially all of the assets of a foreign branch (within the meaning of section 367(a)(3)(C), as in effect before the date of the enactment of the Tax Cuts and Jobs Act) to a 10% SFC (as defined in section 245A) with respect to which it is a United States shareholder after such transfer, such domestic corporation shall include in gross income for the taxable year which includes such transfer an amount equal to the transferred loss amount with respect to such transfer 7

8 Incorporating a Foreign Branch/New Provisions Foreign branch operations (including foreign goodwill) assets + liabilities FDE Section 351 FC FC stock Transferred loss amount is, with respect to any transfer of substantially all of the assets of a foreign branch, the excess (if any) of- (1) the sum of losses (A) which were incurred by the foreign branch after December 31, 2017, and before the transfer, and (B) with respect to which a deduction was allowed to the taxpayer, over (2) the sum of (A) any taxable income of such branch for a taxable year after the taxable year in which the loss was incurred and through the close of the taxable year of the transfer, and (B) any amount which is recognized under section 904(f)(3) on account of the transfer The transferred loss amount shall be reduced (but not below zero) by the amount of gain recognized by the taxpayer on account of the transfer (other an amounts taken into account under subsection (b)(2)(b)) Amounts included in gross income is treated as derived from sources within the United States 7

9 Incorporating a Foreign Branch/New Provisions Section 91 Basis Adjustments Consistent with such regulations or other guidance as the Secretary shall prescribe, proper adjustments shall be made in the adjusted basis of the taxpayer s stock in the 10% SFC to which the transfer is made, and in the transferee s adjusted basis in the property transferred, to reflect amounts included in gross income under section 91 Foreign branch operations (including foreign goodwill) FDE Interaction with DCL loss recapture rules? For a regulation discussing interaction of loss recapture provisions with DCL rules (prior to new section 91), see Reg (d)-5 Goodwill, Going Concern Value and Workforce-in-Place assets + liabilities Section 351 FC FC stock These items, as well as any other item the value or potential value of which is not attributable to tangible property or the services of any individual, are now included in the revised definition of section 936(h)(3)(B) intangibles As a result of this statutory change, foreign goodwill and going concern value are now unequivocally treated as section 936(h)(3)(B) intangible (the 2016 Final Regulations under Section 367(a) and (d) did not conclude on this issue) 8

10 Incorporating a Foreign Branch/New Provisions Foreign branch operations (including foreign goodwill) FDE Section 351 Fate of any future exception for foreign goodwill and going concern value? 2016 Final Regulations under sections 367(a) and (d) eliminated the favorable treatment of foreign goodwill and going concern value Prior to tax reform, Treasury issued a report that indicated that Treasury was considering proposing an exception for foreign goodwill and going concern value under the foreign active trade or business exception of section 367(a)(3)(C) (this exception was eliminated as a result of tax reform) Following the Act s revision of section 936(h)(3)(B), foreign goodwill and going concern are subject to section 367(d) Any possible exception in the future?? assets + liabilities FC stock FC 9

11 New Section 964(e)(4) US C CORP CFC1 CFC2 CFC2 stock Cash 3d party CFC2 Assume gain on sale is re-characterized under section 964(e) Section 964(e)(1) generally provides that, if a controlled foreign corporation sells or exchanges stock in any other foreign corporation, gain recognized on such sale or exchange shall be included in the gross income of such controlled foreign corporation as a dividend to the same extent that it would have been so included under section 1248(a) if such controlled foreign corporation were a United States person For purposes of determining the amount which would have been so includible, the determination of whether such other foreign corporation was a controlled foreign corporation shall be made without regard to the preceding sentence Same country exception not available (However, see section 954(c)(6) and Notice but see new section 964(e)(4) below) 10

12 New Section 964(e)(4) US C CORP CFC1 CFC2 CFC2 stock Cash 3d party CFC2 Assume gain on sale is re-characterized under section 964(e) New Section 964(e)(4) - Coordination with DRD (A) In general. If, for any taxable year of a controlled foreign corporation beginning after December 31, 2017, any amount is treated as a dividend under paragraph (1) by reason of a sale or exchange by the controlled foreign corporation of stock in another foreign corporation held for 1 year or more, then, notwithstanding any other provision of this title (i) the foreign-source portion of such dividend shall be treated for purposes of section 951(a)(1)(A) as subpart F income of the selling controlled foreign corporation for such taxable year, (ii) a United States shareholder with respect to the selling controlled foreign corporation shall include in gross income for the taxable year of the shareholder with or within which such taxable year of the controlled foreign corporation ends an amount equal to the shareholder's pro rata share (determined in the same manner as under section 951(a)(2)) of the amount treated as subpart F income under clause (i), and (iii) the deduction under section 245A(a) shall be allowable to the United States shareholder with respect to the subpart F income included in gross income under clause (ii) in the same manner as if such subpart F income were a dividend received by the shareholder from the selling controlled foreign corporation 11

13 New Section 964(e)(4) US C CORP CFC1 CFC2 stock Cash 3d party New Section 964(e)(4) - Coordination with DRD (B) Application of basis or similar adjustment. For purposes of this title, in the case of a sale or exchange by a controlled foreign corporation of stock in another foreign corporation in a taxable year of the selling controlled foreign corporation beginning after December 31, 2017, rules similar to the rules of section 961(d) shall apply CFC2 CFC2 Assume gain on sale is re-characterized under section 964(e) (C) Foreign-source portion. For purposes of this paragraph, the foreign-source portion of any amount treated as a dividend under paragraph (1) shall be determined in the same manner as under section 245A(c) What are the implications of the new provision if individual A (a US shareholder) owns CFC1, CFC1 owns CFC2, CFC1 sells CFC2 and such gain is re-characterized under section 964(e)(1)?? 12

14 Foreign Derived Intangibles Income Deduction New section 250 provides domestic C corporations (other than RICs and REITs) with reduced rates of U.S. tax on their foreign-derived intangible income ( FDII ) and global intangible low-taxed income ( GILTI ) Specifically, a domestic C corporation is annually allowed a deduction equal to the sum of: 37.5% of its FDII for the relevant taxable year 50% of its GILTI and the grossed up dividend amount under section 78 (for taxable years starting after Dec. 31, 2025, these percentages change to % and 37.5%, respectively) (subject to possible reduction based on taxable income) FDII is the amount which bears the same ratio to the corporation s deemed intangible income as its foreign-derived deduction eligible income bears to its deduction eligible income. Deemed intangible income is determined on a residual basis: Specifically, such income is the excess (if any) of its deduction eligible income over its deemed tangible income return. The deemed tangible income return means, with respect to any corporation, an amount equal to 10 percent of the corporation s qualified business asset investment ( QBAI ) Accordingly, the income that may qualify for the deduction appears to be much broader than an intangible (see, e.g., revised section 936(h)(3)(B)) or OECD BEPS Final Report on Action 5, requiring that tax benefits be accorded only to IP assets that are patents and other IP assets that are functionally equivalent to patents if those IP assets are both legally protected and subject to similar approval and registration processes, where such processes are relevant) Both the EU and foreign trade partners have voiced concerns and some commentators have speculated that a WTO challenge may arise. How should taxpayer respond to this uncertainty? Various ambiguities arise concerning both calculation (e.g., is this a separate-entity calculation) and the breadth of qualifying income 13

15 Global Intangibles Low Taxed Income New section 951A requires each person (not merely each domestic corporation) who is a US shareholder of any controlled foreign corporation to include in such person s gross income such person s GILTI for the taxable year Like FDII, GILTI is determined on a residual basis, after first allowing for a net deemed tangible income return (with a subtraction for certain interest expense) Results differ dramatically for US shareholders that are domestic C corporations and US shareholders that are not domestic C corporations Non-corporate US shareholders do not enjoy the section 250 deduction Non-corporate US shareholders do not enjoy the benefit of the 80% FTC under new section 960(d) GILTI is determined on an AGGREGATE basis vis a vis all CFCs of which a person is a US shareholder Consider practical implications for US investors in US partnerships that are US shareholders with respect one or more CFCs (but with respect to which the US investors hold less than 10% interests) where the US investors are US shareholders with respect to other CFCs Income that would otherwise be subpart F income but that is exempted due to the high-tax kick-out of section 954(b)(4) appears to be excluded from GILTI; active income subject to an equivalent rate of foreign tax would not be excluded If GILTI and Subpart F effectively apply to all income in excess of a net deemed tangible income return, practical impact of section 245A may be negligible for many domestic corporate US shareholders 14

16 Section 960 and Section 956 With the elimination of the indirect tax credit of section 902, section 960 has been modified in various ways (see section of 2017 AJCA) All references to section 902 were removed The title of section states that it will put section 960 credits on a current year basis The Conference Report states that the amendments to section 960 and the elimination of section 902 eliminates the need for computing and tracking cumulative tax pools While subpart F inclusions are limited to current earnings, however, section 956 inclusions are not similarly limited Thus, how are 960 and section 956 anticipated to interact on a prospective basis? Observe, too, that the Act also removed subsection 960(c), originally added to the Code in 2010 to combat the practice of enhancing FTCs through hopscotch section 956 inclusions. 15

17 Business Needs Exception for Foreign Currency Gain/Loss CFC F(x) gain/loss recognized Proposed Regulations (REG ) Includes various proposed rules addressing: The business needs exclusion to FPHCI Transactions and property that give rise to both subpart F income and non-subpart F income Hedges of net investment in a QBU Timing of Foreign Currency Gains and Losses Extension of Sec hedge timing rules to bona fide hedging transactions Elective mark-to-market method of accounting for foreign currency gain and loss Hedges of exchange rate risk arising from an interestbearing liability Revocation of election to treat foreign currency gain or loss as a specific category of subpart F income or as FPHCI Treasury and the IRS also requested comments on various issues in the preamble 16

18 This document is current as of February 17, This document is not written tax advice directed at the particular facts and circumstances of any person. This document is for general information purposes only, and should not be used as a substitute for consultation with professional advisors. If you are interested in the subject of this document we encourage you to contact an independent tax advisor to discuss the potential application to your particular situation. 17