April 2, 2018
The Treasury Department and the Internal Revenue Service today provided additional guidance (Notice 2018-26) for computing the “transition tax” on the untaxed foreign earnings of foreign subsidiaries of U.S. companies under the Tax Cuts and Jobs Act enacted on Dec. 22, 2017. The Treasury Department and the IRS provided prior guidance on the transition tax in Notice 2018-07, Notice 2018-13, and Revenue Procedure 2018-17.
Today’s notice describes regulations that the Treasury Department and the IRS intend to issue, including rules intended to prevent the avoidance of section 965, rules and procedures relating to certain special elections under section 965, and guidance on the reporting and payment of the transition tax. The notice also provides relief to taxpayers from certain estimated tax requirements and penalties arising from the enactment of the transition tax and the change to existing stock attribution rules in the Tax Cuts and Jobs Act.
Additionally, Treasury and the IRS request comments on the rules described in the notice and requests comments on what additional guidance should be issued to assist taxpayers in computing the transition tax. The Treasury Department and the IRS expect to issue additional guidance in the future.
Notice 2018-26 will be published in IRB 2018-16 on April 16, 2018. The Treasury media contact for this matter is Marisol Garibay, Deputy Assistant Secretary for Public Affairs, 202-622-6490. More information regarding the Tax Cuts and Jobs Act can be found at the Tax Reform page on IRS.gov.
Anti-Avoidance Rules
The Treasury and IRS intend to issue anti-avoidance rules for transactions undertaken with the principal purposes of reducing the Code Sec. 965 tax liability. A transaction will be disregarded if the transaction (1) occurs in whole or part after November 2, 2017, (2) is undertaken with the principal purposes of reducing the Code Sec. 965 tax liability of the U.S. shareholder, and (3) would, absent the rules, reduce the Code Sec. 965 tax liability. Cash-reduction transactions, E&P reduction transactions and certain pro rata share transactions are presumed to be undertaken with the principal purpose of reducing the U.S. shareholder’s Code Sec. 965 tax liability. Additionally, a change in method of accounting made for a tax year of a specified foreign corporation that ends in 2017 or 2018 will be disregarded if the change would reduce the Code Sec. 965 tax liability of the U.S. shareholder. The rule will not apply if Form 3115 was filed before November 2, 2017. Entity classification elections made on or after November 2, 2017, that reduce the Code Sec. 965 tax liability of the U.S. shareholder are also disregarded.
Relief Provisions
Individuals who receive an extension of time to file and pay tax under Reg. §1.6081-5 or Reg. §1.6081-6 will also have an extended period of time to make installment payments under Code Sec. 965(h) (i.e., the 15th day of the sixth month following the close of the tax year).
The instructions to the estimated tax forms will be modified to clarify that no underpayment penalty will be imposed under Code Sec. 6654 or Code Sec. 6655 with respect to a taxpayer’s net tax liability under Code Sec. 965, and the amounts are not included when calculating required installments. Additionally, if the amendment to Code Sec. 965 or Code Sec. 958(b) (i.e., downward stock attribution rule) caused an underpayment related to a required installment due on or before January 15, 2018, the estimated tax penalty will not apply.
Domestic-Pass-Through Owner Elections
The Treasury and IRS have determined that if a domestic pass-through entity is a U.S. shareholder that has a Code Sec. 965 amount with respect to Code Sec. 958(a) stock in a deferred foreign income corporation (DFIC), a U.S. person that is a domestic pass-through owner, directly or indirectly, is subject to net income tax on its share of the inclusion amount. The specified elections under Code Sec. 965(h), (m) and (n) may be made by the domestic pass-through owner. Regulations will be issued to clarify that a domestic pass-through owner who is an individual and a U.S. shareholder with respect to the DFIC may elect under Code Sec. 962 to be subject to tax as a corporation with respect to the individual’s share of the inclusion. Additionally, in computing the amount of tax due as a result of the election, the Code Sec. 965(c) deduction may be taken into account.
Constructive Ownership Rules and Downward Attribution of Stock
The Treasury and IRS will issue regulations that provide that solely for purposes of determining whether a foreign corporation is a specified foreign corporation, stock owned directly or indirectly by or for a partner will not be considered owned by a partnership under Code Sec. 958(b) and Code Sec. 318(a)(3)(A), if the partner owns less than five percent of the interests in the partnership’s capital and profits.
Cash Measurement Dates
A specified foreign corporation may not be owned by a U.S. shareholder on all cash measurement dates if, for example, the corporation ceases to exist or the stock is sold or acquired between dates. The regulations will define the first, second and final cash measurement dates. A U.S. shareholder must take into account its pro rata share of the cash position of a specified foreign corporation as of any cash measurement date of the specified foreign corporation on which the U.S. shareholder is a U.S. shareholder of the specified foreign corporation, regardless if the U.S. shareholder is a U.S. shareholder of the specified foreign corporation on any other cash measurement date, including the final date.
Post-1986 Earnings and Profits
A special rule applies for purposes of determining the specified foreign corporation’s post-1986 earnings and profits as of the measurement date on November 2, 2017. Any foreign income tax that accrues (1) within the specified foreign corporation’s U.S. tax year that includes November 2, 2017, and (2) after November 2, 2017, but on or before December 31, 2017, will be allocated between the respective portions of the tax base on which the accrued foreign taxes are determined that are attributable to the part of the U.S. tax year ending on November 2, 2017, and the part of the U.S. tax year beginning after November 2, 2017.
Effective Date
The Treasury and IRS intend to issue regulations reflecting the guidance. Code Sec. 965 is effective for the last tax year of foreign corporations that begins before January 1, 2018, and with respect to U.S. shareholders, for the tax years in which or with which such tax years of foreign corporations end. The guidance is effective beginning for the first tax year of a foreign corporation (and with respect to U.S. shareholders, the tax years in which or with which such tax years of the foreign corporations end) to which Code Sec. 965 applies. The guidance may be relied upon until regulations are issued.
Comments
The Treasury and the IRS request comments on the rules described in the notice, and on what additional guidance should be issued to assist taxpayers in computing the transition tax. Written comments may be submitted to the Office of Associate Chief Counsel (International), Attention: Leni C. Perkins, Internal Revenue Service, IR-4579, 1111 Constitution Avenue, NW, Washington, D.C. 20224. Alternatively, taxpayers may submit comments electronically to Notice.comments@irscounsel.treas.gov.