Presenting a 90 minute encore presentation featuring live Q&A. Today s faculty features:

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1 Presenting a 90 minute encore presentation featuring live Q&A New Section 951A: GILTI Rules for Individual and Non C Corporation CFC Shareholders Treatment of CFC income, Reporting Requirements, Planning Techniques to Defer or Reduce GILTI Tax, and More WEDNESDAY, SEPTEMBER 12, pm Eastern 12pm Central 11am Mountain 10am Pacific Today s faculty features: Cindy Grossman, Partner, Giordani Swanger Ripp and Jetel, Austin, Texas Libin S. Zhang, Partner, Roberts & Holland, New York The audio portion of the conference may be accessed via the telephone or by using your computer's speakers. Please refer to the instructions ed to registrants for additional information. If you have any questions, please contact Customer Service at ext. 1. NOTE: If you are seeking CPE credit, you must listen via your computer phone listening is no longer permitted.

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4 Strafford Webinar: New Section 951A: GILTI Rules for Individual and Non C Corporation CFC Shareholders Presented by Cindy L. Grossman for Strafford Publications cgrossman@gsrjlaw.com September 12, CONGRESS AVENUE, SUITE 1440 AUSTIN, TEXAS phone fax

5 Previous U.S. International Tax System (Pre 2018) U.S. Shareholder Controlled Foreign Corp Controlled Foreign Corp Controlled Foreign Corp Subpart F Assets/Income Immediate U.S. taxation full U.S. rate Deferred Deferred Low-taxed High taxed Assets/Income Assets/Income Deferred Taxation full U.S. rate LOOKING BEYOND OUR BORDERS 5

6 Post TCJA U.S. International Tax System (Post 2017) U.S. Shareholder New system ( GILTI ) combines All deferred income and taxes excess returns Controlled Foreign Corp Controlled Foreign Corp Controlled Foreign Corp Subpart F Assets/Income Deferred Low-taxed Assets/Income Immediate U.S. taxation full U.S. rate Deferred High-taxed Assets/Income Exempt 10% return on tangible assets Immediate U.S. tax on excess returns LOOKING BEYOND OUR BORDERS 6

7 Prior Treatment of CFC Income and Reporting Requirements Prior to enactment of 951A, most CFC planning involved avoidance of Subpart F income inclusion: earnings and profits of a CFC were permanently deferred until distributed, with the exception of Subpart F income and investment earnings from U.S. property Subpart F income includes: - Insurance Income Foreign Base Company Income 954 Foreign Personal Holding Company Income (exception for income from related parties) Foreign Base Company Sales Income (subject to exceptions) Foreign Base Company Service Income from service performed by CFC outside of CFC s country of incorporation - Income from boycott operations; amounts relating to illegal kickbacks, bribes, etc. paid by the CFC - Income derived in certain foreign countries disfavored by U.S. Income subject to accelerated tax under Subpart F or U.S. property investment rules was not taxed a second time upon distribution, and basis in CFC is increased U.S. Shareholders of CFCs filed Form 5471 (Information Return of U.S. Persons With Respect To Certain Foreign Corporations). Any U.S. Shareholder who owns stock in a CFC for an uninterrupted period of 30 days or more during any tax year of the CFC, and who owned that stock on the last day of the year, must file Form 5471 (these are called Category 5 Filers). LOOKING BEYOND OUR BORDERS 7

8 Prior Treatment of CFC Income and Reporting Requirements So, what changed? E&P of a CFC are still permanently deferred until distributed, but now GILTI is included as one of the exceptions to that rule, essentially obliterating the non Subpart F planning that many CFCs engaged in Domestic C corporations can receive a deduction equal to 50% of their GILTI and an 80% foreign tax credit Filing Requirements: TCJA repealed Section 958(b)(4), which excluded downward attribution of constructive ownership of non U.S. corporation stock to U.S. shareholders. As a result, a U.S. partnership, corporation, trust, or estate will be deemed to own any stock in a non U.S. corporation that is owned by a non U.S. partner, shareholder, or beneficiary. - IRS issued Notice stating that IRS intends to amend het instructions for Form 5471 to provide an exception from Category 5 filing for any U.S. person that is a U.S. Shareholder of a CFC as long as (i) no U.S. Shareholder owns stock directly in the CFC, and (ii) the non U.S. corporation is a CFC solely because the U.S. person is considered to own the stock of the CFC owned by a non U.S. person under the downward attribution rule in IRC 318(a)(3). LOOKING BEYOND OUR BORDERS 8

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10 Overview of Section 951A Effective for tax years of controlled foreign corporations beginning after December 31, 2017, each person who is a United States shareholder of any controlled foreign corporation for any taxable year of such United States shareholder shall include in gross income such shareholder's global intangible low taxed income for such taxable year. Computation is done on a U.S. shareholder basis, not on CFC basis - Caution urged when owning CFCs through separate U.S. shareholder chains under one U.S. parent Simply expressed, GILTI is calculated as follows: - Net (after foreign tax) tested income (QBAI*.1 interest expense on QBAI) Section 951A is a Russian nesting doll of defined terms LOOKING BEYOND OUR BORDERS 10

11 Overview of Section 951A United States Shareholder: a United States person who owns (within the meaning of section 958(a), or is considered as owning by applying the rules of ownership of section 958(b), 10 percent or more of the total combined voting power of all classes of stock entitled to vote of such foreign corporation, or 10 percent or more of the total value of shares of all classes of stock of such foreign corporation. - United States Person: a citizen or resident of the U.S., a domestic partnership, a domestic corporation, any estate (other than certain foreign estates ), and trusts over which U.S. court exercises primary supervision and U.S. persons control substantial decisions of the trust Controlled Foreign Corporation: any foreign corporation if more than 50 percent of the total combined voting power of all classes of stock of such corporation entitled to vote, or the total value of the stock of such corporation, is owned (within the meaning of section 958(a), or is considered as owned by applying the rules of ownership of section 958(b), by United States Shareholders on any day during the taxable year of such foreign corporation LOOKING BEYOND OUR BORDERS 11

12 Overview of Section 951A Global Intangible Low Taxed Income: The term global intangible low taxed income means, with respect to any United States shareholder for any taxable year of such United States shareholder, the excess (if any) of - such shareholder's net CFC tested income for such taxable year, over - such shareholder's net deemed tangible income return for such taxable year. LOOKING BEYOND OUR BORDERS 12

13 Overview of Section 951A Net CFC Tested Income: The term net CFC tested income means, with respect to any United States shareholder for any taxable year of such United States shareholder, the excess (if any) of - the aggregate of such shareholder's pro rata share of the tested income of each controlled foreign corporation with respect to which such shareholder is a United States shareholder for such taxable year of such United States shareholder (determined for each taxable year of such controlled foreign corporation which ends in or with such taxable year of such United States shareholder), over - the aggregate of such shareholder's pro rata share of the tested loss of each controlled foreign corporation with respect to which such shareholder is a United States shareholder for such taxable year of such United States shareholder (determined for each taxable year of such controlled foreign corporation which ends in or with such taxable year of such United States shareholder). LOOKING BEYOND OUR BORDERS 13

14 Overview of Section 951A Tested Income: the excess (if any) of the gross income of such corporation determined without regard to - any item of income described in Section 952(b), - any gross income taken into account in determining the subpart F income of such corporation, - any gross income excluded from the foreign base company income (as defined in Section 954) and the insurance income (as defined in Section 953) of such corporation by reason of Section 954(b)(4), - any dividend received from a related person (as defined in Section 954(d)(3)), and - any foreign oil and gas extraction income of such corporation, over the deductions (including taxes) properly allocable to such gross income under rules similar to the rules of Section 954(b)(5) (or to which such deductions would be allocable if there were such gross income). LOOKING BEYOND OUR BORDERS 14

15 Overview of Section 951A Tested Loss: The term tested loss means, with respect to any controlled foreign corporation for any taxable year of such controlled foreign corporation, the excess (if any) of the deductions associated with Tested Income, over Tested Income. Coordination With Subpart F To Deny Double Benefit Of Losses:Section 952(c)(1)(A) shall be applied by increasing the earnings and profits of the controlled foreign corporation by the tested loss of such corporation. Shareholder by Shareholder planning, revisited: tested loss CFCs can cause issues - Tested loss CFCs do not have any QBAI, so no deemed tangible income return to reduce GILTI - Foreign taxes paid by tested loss CFC are not creditable - Tested loss CFC can reduce foreign tax credits of other CFCs by offsetting that CFC s tested income LOOKING BEYOND OUR BORDERS 15

16 Overview of Section 951A Net Deemed Tangible Income Return: The term net deemed tangible income return means, with respect to any United States shareholder for any taxable year, the excess of - 10 percent of the aggregate of such shareholder's pro rata share of the qualified business asset investment of each controlled foreign corporation with respect to which such shareholder is a United States shareholder for such taxable year (determined for each taxable year of each such controlled foreign corporation which ends in or with such taxable year of such United States shareholder), over - the amount of interest expense taken into account under subsection (c)(2)(a)(ii) in determining the shareholder's net CFC tested income for the taxable year to the extent the interest income attributable to such expense is not taken into account in determining such shareholder's net CFC tested income. In other words, this is interest expense paid by CFC to a CFC outside of US Shareholder s ownership chain LOOKING BEYOND OUR BORDERS 16

17 Overview of Section 951A Qualified Business Asset Investment: The term qualified business asset investment means, with respect to any controlled foreign corporation for any taxable year, the average of such corporation's aggregate adjusted bases as of the close of each quarter of such taxable year in specified tangible property - used in a trade or business of the corporation, and - of a type with respect to which a deduction is allowable under Section 167 Specified Tangible Property: the term specified tangible property means any tangible property used in the production of tested income; however: - In the case of property used both in the production of tested income and income which is not tested income, such property shall be treated as specified tangible property in the same proportion that the gross tested income produced with respect to such property bears to the total gross income produced with respect to such property. - Tested loss CFCs likely won t have QBAI on which to calculate 10% return LOOKING BEYOND OUR BORDERS 17

18 Overview of Section 951A More on QBAI: - A CFC that holds an interest in a partnership will use its distributive share of the partnership s aggregate adjusted basis in tangible property held by the partnership for purposes of calculating QBAI LOOKING BEYOND OUR BORDERS 18

19 Overview of Section 951A Calculating GILTI: GILTI: Net CFC Tested income Net Deemed Tangible Income Return CFC 1 CFC 2 Net CFC Tested Income: tested income tested loss Gross income $500,000 $250,000 Less: deductions allocable to gross income ($100,000) ($300,000) $400,000 ($50,000) US SH's pro rata share (ownership): 100% 100% $400,000 ($50,000) NTI: $350,000 Net Deemed Tangible Income Return: QBAI*.1 Qualified Business Asset Investment: specified tangible property $800,000 $300,000 Ownership percent 100% 100% $800,000 $300,000 Applicable percent 10% 10% $80,000 $30,000 Interest expense ($10,000) ($5,000) $70,000 N/A NDTIR: $70,000 GILTI: $280,000 LOOKING BEYOND OUR BORDERS 19

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21 Libin Zhang Roberts & Holland LLP New York NY September 12, 2018

22 C Corporation U.S. shareholder Individual U.S. shareholder Individual U.S. shareholder with section 962(b) election U.S. Federal Tax Rate 21% up to 37% 21% Section 250 Deduction 50% (37.5% after 2025) Effective Income Tax Rate 10.5% (13.125% after 2025) None \_( ツ )_/ up to 37% 10.5% or 21% (13.125% or 21% after 2025) Indirect FTC 80% allowed 0% allowed 80% allowed Federal Tax Generally on Distribution to Individual Combined Federal Tax Rate 23.8% 3.8% (cf. Treas. Reg (g)) 31.8% (33.8% after 2025) 23.8% or 40.8% 40.8% 31.8% to 57% 22

23 Allowed for an individual United States shareholder since 1962 Election made on a year-by-year basis, for all CFCs Three specified effects of the election: Federal corporate tax rate on subpart F income and GILTI Section 960 indirect FTC allowed, as if the subpart F income and GILTI were received by a domestic corporation Some CFC distributions are taxable under section 962(d), rather than being taxfree PTI distributions 23

24 Legislative history of Revenue Act of 1962: The purpose of [section 962] is to avoid what might otherwise be a hardship in taxing a U.S. individual at high tax brackets with respect to earnings in a foreign corporation which he does not receive. This provision gives such individuals assurance that their burdens, with respect to these undistributed foreign earnings, will be no heavier than they would have been had they invested in an American corporation doing business abroad Smith v. Commissioner Whether section 962(d) taxable distribution is always qualified dividend Pending since 2015 Can affect whether dividend is U.S. source or foreign source 24

25 Section 962(a)(1) provides that U.S. income tax on amounts which are included in his gross income under section 951(a) and section 951A shall be an amount equal to the tax which would be imposed under section 11 if the amounts were received by a domestic corporation Treas. Reg (b)(1)(i): taxable income subject to corporate tax is subpart F income plus section 78 gross-up, which shall not be reduced by any deduction of the United States shareholder Notice , IRB 480 Treasury Department and the IRS intend to modify (b)(1)(i) to provide that, in computing the amount of tax due as a result of a section 962 election, the section 965(c) deduction may be taken into account. Specifically, the regulations will provide that taxable income as used in section 11 shall be reduced by the section 965(c) deduction. These regulations will not apply to any other deductions, and therefore existing (b)(1)(i) will continue to provide that taxable income as used in section 11 shall not be reduced by any other deductions. 25

26 For a partnership that is a United States shareholder of a CFC, the partnership has subpart F income and GILTI that is allocated to the individual partner. If the individual is also a United States shareholder of the CFC, the individual can make a section 962(b) election for the CFC. But if the individual is not a United States shareholder of the CFC, the individual cannot make a section 962(b) election that applies to the CFC. Notice

27 Net investment income includes interest, dividends, etc. Net investment income does not include subpart F income. Section 1411 tax imposed instead on PTI distribution from the CFC. Treasury Regulation (g) election to impose section 1411 tax on the initial subpart F income instead of the later PTI distribution. Irrevocable election, on a CFC-by-CFC basis, applies to all later years. Double tax interaction with section 962(b) election. Not currently applicable to GILTI. 27

28 Not affected by 20% indirect FTC reduction in section 960(d) For U.S. tax purposes, the foreign withholding tax is imposed on either a tax-free PTI distribution or a taxable dividend (for individual with section 962(b) election) Categorization of the direct FTC as either passive, general, GILTI, or foreign branch category 28

29 Base difference item (section 904(d)(2)(H)(i) and Treas. Reg (a)(1)(iv)) Before TCJA, base difference items are in the general category After TCJA, base difference items are in the new foreign branch category (typo?) CCA (July 7, 2002), FSA (March 8, 2002) FTC can offset U.S. tax on income in same category, with 1 year carryback and 10 year carryforward Timing difference item (or otherwise relates back to the GILTI inclusion) GILTI category (recommendation of NYSBA Report No on GILTI (May 4, 2018)) No carryback or carryforward under section 904(c) direct FTCs are useful only if the taxpayer happens to have new GILTI in the PTI distribution year For subpart F income-related direct FTCs, section 960(c) increases the section 904 limitation in the PTI distribution year to allow the direct FTCs as refundable credits. Not applicable to GILTI. 29

30 Contribute CFC stock to C corporation Increase QBAI Combine CFCs Avoid CFC status and/or United States shareholder status Convert GILTI to subpart F income 30

31 Contribute CFC stock to domestic C corporation New Section 250 deduction allows deduction of 50% of GILTI income of CFC This deduction will be reduced to 37.5% after December 31, 2025 Foreign tax rate 0% 5% 10% % 20% Residual U.S. tax rate 10.5% 6.5% 2.5% 0% 0% Total Global tax burden 10.5% 11.5% 12.5% % 20% Simplified example: CFC has $100,000 GILTI income, 0% foreign tax $100,000 is included in U.S. non-c corporation shareholder income under 951A, taxed at individual rates under CFC regime, resulting in tax of $37,000 (assuming shareholder is in 37% bracket) If CFC is owned by U.S. C corporation, GILTI is included under 951A at corporate rates of 21%, but 50% is deducted. Total tax is $10,500 resulting in effective tax rate of 10.5% (before dividend to shareholder). This achieves some deferral of tax, similar to goals under Subpart F regime with respect to non-subpart F income. 31

32 Section 338(g) election: Applicable upon acquisition of stock in CFC. Section 338(g) election treats stock purchase as an asset purchase, resulting in increased basis in assets of CFC. This increases the Net Deemed Tangible Income Return, and reduces tested income due to depreciation/amortization of the CFC s assets at the higher beginning basis. Purchase property that has been previously leased by CFC Combine loss CFC that holds QBAI with a profitable CFC Merger Check the box if parent/subsidiary 32

33 CFC A paid $100 foreign income tax and has $1,000 tested income and section 78 gross-up, CFC B has $400 tested loss Shareholder has net $600 of GILTI. Shareholder s indirect FTC is first multiplied by 80%, to reduce $100 to $80 Then multiplied by the section 960(d)(2) inclusion percentage which in this case is $600/$1,000 or 60%, to reduce $80 to $48. U.S. tax reduced from $126 to $78. CFC AB paid $100 foreign income tax and has $600 tested income and section 78 gross-up Shareholder has $600 of GILTI. Shareholder s indirect FTC is multiplied by 80%, to reduce $100 to $80. U.S. tax reduced from $126 to $46. 33

34 CFC is a foreign corporation owned more than 50% by vote or value by United States shareholder(s) United States shareholder is a U.S. person who owns 10% or more by vote or value of a foreign corporation In 2017 and earlier, U.S. shareholder was 10% or more by vote only Constructive ownership rules that use modified section 318(a) attribution, including downward attribution Downward attribution previously not allowed, in 2016 and earlier, for attribution from a non-u.s. person to a U.S. person Intended scope from legislative history, including The Colloquy 34

35 Section 957(c) U.S. person exception for some residents of Puerto Rico and other possessions, with respect to certain corporations organized in Puerto Rico or the other possessions 35

36 foreign parent corporation foreign parent corporation 100% 100% U.S. corporation A 60% U.S. corporation A 60% U.S. corporation B 40% 40% foreign corporation foreign corporation 36

37 foreign person foreign person other partner 1% 1% 1% U.S. person 60% U.S. partnership U.S. person foreign partnership 40% 40% 60% 100% foreign corporation foreign corporation U.S. corporation 37

38 No section 250 deduction High taxed exclusion, if foreign tax is >18.9% For taxpayers who cannot use indirect FTC, such as REITs and individuals who cannot or do not make section 962(b) election Indirect FTC allowed at 100% instead of 80% Subpart F income and FTCs are passive category or general category, carried back 1 year and carried forward 10 years Other situations where subpart F income can be preferable 38

39 Foreign personal holding company income Move employees of active rental business to separate regarded entity Foreign base company sales income and services income Avoid same country exceptions Section 953 insurance income North Korea, Iran, Sudan, Syria, etc. 39