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Notice 2023-80: U.S. Foreign Tax Guidance for Pillar 2

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Notice 2023-80: U.S. Foreign Tax Guidance for Pillar 2

On December 11, 2023, the I.R.S. issued Notice 2023-55 (the “Notice”), announcing the intention to issue proposed regulations addressing the interaction between the Pillar 2 GloBE Rules and specific U.S. tax provisions, including the foreign tax credit rules and dual consolidated loss rules. The issuance of this guidance is timely, as the I.I.R.’s of most countries took effect at the start of this year. The U.T.P.R.’s are scheduled to come online in 2025. In his article, Michael Bennett tracks the way Notice 2023-80 addresses GloBE model rules and the foreign tax credit. Topics include the application of the foreign tax credit rules in the U.S. to final Top-Up Tax, the Q.M.D.T.T. in general, how the application of the separate levy rules will apply to a foreign country’s I.I.R., U.T.P.R., and Q.D.M.T.T, and the interplay of the GloBE rules of B.E.P.S. 2 and the dual consolidated loss rules of U.S. tax law.

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Christensen v. U.S. – Reducing the N.I.I.T. by Claiming an F.T.C.

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Christensen v. U.S. – Reducing the N.I.I.T. by Claiming an F.T.C.

In Christensen, the Federal Claims Court allowed U.S. citizen/French tax resident taxpayers to claim the foreign tax credit to reduce the net investment income tax (“N.I.I.T.”) using Article 24(2)(b) of the France-U.S. Income Tax Treaty. This approach countered the Code’s explicit disallowance of the foreign tax credit as a way to reduce the N.I.I.T. The Federal Claims Court decision built upon the Tax Court’s previous decision in Toulouse, where the Tax Court denied the foreign tax credit claimed against the N.I.I.T. by a U.S. citizen/French resident taxpayer. Michael Bennett explains that the disparity in outcomes did not stem from a conflict in reasoning. Rather, it resulted from the application of different provisions of the treaty.

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Tax Considerations for a U.S. Holder Of Bare Legal Title in a Usufruct Arrangement

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Tax Considerations for a U.S. Holder Of Bare Legal Title in a Usufruct Arrangement

When European parents engage in inheritance planning by transferring bare legal title in shares of a privately held company to children resident in the U.S., the gift may bring with it a pandora’s box of tax issues. If the value of the bare legal title exceeds 50% of the value of the property when computed in accordance with U.S. tax rules for valuing split interests in property, the foreign company may become a C.F.C. That can trigger certain reporting requirements in the U.S. related to Form 5471 (Information Return of U.S. Persons With Respect To Certain Foreign Corporations) even though the children have no right to income from the company. Separate and apart from C.F.C. status, the basis which the children have in the shares is a carryover basis that will not be stepped up then the usufruct interest and the bare legal title are merged. Separate and apart from the foregoing issues is a potential F.B.A.R. filing requirement on FinCEN Form 114 (Report of Foreign Bank and Financial Accounts) with immediate effect. In their article, Nina Krauthamer, Wooyoung Lee, and Stanley C. Ruchelman explain these issues, why they pop up, and potential ways to mitigate some if not all of the problems.

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Is the N.I.I.T. an Income Tax, a Social Security Tax, or Neither? Double Taxation of Income Hangs in the Balance

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Is the N.I.I.T. an Income Tax, a Social Security Tax, or Neither? Double Taxation of Income Hangs in the Balance

The Net Investment Income Tax (“N.I.I.T.”) applies to U.S. individuals, estates, and trusts. U.S. citizens who reside abroad are subject to N.I.I.T. in addition to U.S. income tax. They also may be subject to income tax and social security tax in their respective countries of residence. U.S. tax law provides no statutory relief from N.I.I.T. for such taxpayers. N.I.I.T. is due and the position of the I.R.S. is that the N.I.I.T. cannot be reduced by a foreign tax credit and cannot be eliminated by an applicable Social Security Totalization Agreement. How did Congress pass legislation that allows the I.R.S. to reach that result? Nina Krauthamer and Wooyoung Lee tell all, including recent taxpayer experience.

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Key Features of the New-Fangled Belgium-France Income Tax Treaty

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Key Features of the New-Fangled Belgium-France Income Tax Treaty

After nearly two decades of negotiations, Belgium and France signed a new Income Tax Treaty in November 2021. The new treaty is in line with the latest O.E.C.D. standards, incorporates the applicable provisions of the Multilateral Instrument, and addresses salient tax issues for taxpayers engaging in cross-border transactions involving the two countries. Key aspects of the New Treaty relate to closing loopholes, expanding coverage to include wealth taxes, and retaining favorable treatment for Belgian investors in French S.C.I.’s. Werner Heyvaert, a partner at AKD Benelux Lawyers, Brussels, and Vicky Sheikh Mohammad, a tax lawyer at the same firm, explain all.

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Italian Supreme Court Issues a Landmark Decision on the Entitlement to the Foreign Tax Credit

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Italian Supreme Court Issues a Landmark Decision on the Entitlement to the Foreign Tax Credit

A common error among tax advisers is the expectation that tax law in a foreign country is applied in a straightforward way. For example, if a tax treaty provides that a foreign country will provide a foreign tax credit for taxes imposed by the other country, it seems clear that foreign tax will be reduced by that credit. Regrettably, this is not always the case. Francesco Capitta, who is Of Counsel to Facchini Rossi Michelutti, Studio Legale in Milan, and Andrea D’Ettorre, who is an associate at the same firm, explain that, in Italy, a decision of the Supreme Court was required in order to allow an Italian resident individual to reduce Italian tax by a foreign tax credit for U.S. income taxes withheld on U.S. source dividend income. Remarkably, there was a logical reason for the denial, but it was invalidated in the case.

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Foreign Tax Credit Regulations: Nexus as the New Credo

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Foreign Tax Credit Regulations: Nexus as the New Credo

A U.S. taxpayer that is subject to income tax in both the U.S. and a foreign country can reduce the amount of tax payable to the U.S. by claiming a credit for foreign income taxes paid or accrued to one or more foreign countries. The principle is simple: taxpayers should not pay tax twice with regard to the same item of income. The application of the principle is not so easy, requiring a taxpayer to overcome several hurdles, including a determination of the source of income and whether the tax is a creditable income tax. Faced with Pillar 1 of B.E.P.S. and digital services taxes, both of which look to the location of customers when determining the source of income – and the primary right to impose tax – the I.R.S. adopted a new set of foreign tax credit regulations. They warn U.S. taxpayers that until U.S. tax law is changed, foreign income taxes imposed on the basis of customer location will not be allowed as a credit against U.S. tax when nexus does not exist between the foreign country imposing tax and the place where the income generating activity takes place. Wooyoung Lee explains the new “nexus” requirement for a tax to be considered an income tax under U.S. concepts and provides a real-life illustration of how the tax result may have changed.

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The More You Know, The More You Don't Know – U.S. Tax Issues on a Disposition of a Foreign Business

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The More You Know, The More You Don't Know – U.S. Tax Issues on a Disposition of a Foreign Business

When a U.S. person disposes of a business situated in a foreign country, the nature of the gain as capital or ordinary and the source of the gain may sound like simple issues that require simple tax advice. It may, however, turn out to be far more complex as one begins to review the relevant provisions of U.S. tax law in light of the facts and circumstances that exist. It is not uncommon for issues to pop up, one after the other and on a never-ending basis. In their article, Neha Rastogi and Stanley C. Ruchelman discuss the various U.S. Federal income tax issues that must be addressed by a U.S. seller in connection with a sale of a business as a going concern held indirectly through an entity that is treated as a disregarded entity for U.S. tax purposes. Mind-blowing complexity is not an overstatement.

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Israel Tax Authority Proposes Changes for Individuals With Cross-border Connections

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Israel Tax Authority Proposes Changes for Individuals With Cross-border Connections

In an age of spectacular liquidity events for Israeli start-up companies, the Israel Tax Authority has proposed significant revisions to the tax law designed to bring more income and gains into the Israeli tax net. In part, this reflects a global trend among governments and to close a perceived tax gap among the wealthy, especially those having one foot at home and a second foot abroad. In Israel, the proposals directed at individuals include (i) adoption of objective rules for determining tax residence with greater certainty, (ii) tightening of exit tax rules to ensure collection of deferred amounts, (iii) expansion of C.F.C. rules to cover more foreign companies, (iv) elimination of foreign tax credit carryovers for unused foreign tax credits, and (v) changes to basis step-up rules for property inherited from foreign decedents. Daniel Paserman, a partner in the Tel Aviv office of Gornitzky, attorneys, and the head of the firm’s tax practice, and Inbar Barak-Bilu, a partner in the Tel Aviv Office of Gornitzky, attorneys, caution that the proposals are groundbreaking and are likely to have an influence on persons considering a move to or from Israel.

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Toulouse or Not Toulouse? N.I.I.T.-Picking the Reach of the U.S. Foreign Tax Credit

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Toulouse or Not Toulouse? N.I.I.T.-Picking the Reach of the U.S. Foreign Tax Credit

When is a tax that is based on income not an income tax? When are treaty provisions that provide for relief from double taxation properly ignored? The answer in the U.S. is when the tax is the Net Investment Income Tax, generally referred to as N.I.I.T. In the Toulouse case, the U.S. Tax Court refused to allow a U.S. citizen resident abroad to claim a foreign tax credit when it came to the N.I.I.T. In addition to the technical issue, the case is interesting because it illustrates the choice of procedures to be followed when challenging an I.R.S. increase in tax for reasons unrelated to the computation of income or the availability of a credit. One is the Collection Appeals Program (“C.A.P.”) and the other is the Collection Due Process program (“C.D.P.”). Here, the taxpayer chose the C.D.P., as it allowed the taxpayer an opportunity to challenge an adverse position of the I.R.S. by filing a petition in the U.S. Tax Court. Andreas Apostolides and Wooyoung Lee explain the rationale of the court in denying double tax relief. In particular, it points out that taxpayers who seek treaty relief in matters other than withholding tax rates do so at their peril.

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New Partnership International Information Return Schedules

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New Partnership International Information Return Schedules

· The I.R.S. recently released drafts of two new partnership return schedules and accompanying instructions to address the reporting of income from international transactions. The new forms are required because of tax law changes enacted as part of the Tax Cuts & Jobs Act in 2017 and recent changes in I.R.S. policy regarding partnerships as aggregates rather than entities. Schedule K-2 and Schedule K-3 each contain nine parts, generally covering the information required with respect to the most common international tax provisions of U.S. tax law. Schedule K-3 contains a tenth part applicable only to the distributive share of a partner in relation to a sale of a partnership interest. Galia Antebi and Nina Krauthamer explain all.

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I.R.S. Adds New Issues of Focus for Cross-Border Audits

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I.R.S. Adds New Issues of Focus for Cross-Border Audits

In late 2018, LB&I announced five additional campaigns aimed at determining whether taxpayers are complying with tax rules in the following areas of the law: (i) foreign tax credits claimed by U.S. individuals, (ii) offshore service providers that assist taxpayers in creating foreign entities and tiered structures to conceal the U.S. beneficial ownership of foreign financial accounts, (iii) F.A.T.C.A. compliance by F.F.I.’s and N.F.F.E.’s, (iv) tax return compliance by foreign corporations that ignore the fact that they are engaged in a U.S. trade or business under the rules of U.S. tax law, and (v) late issuance of Work Opportunity Tax Credit (“W.O.T.C.”) certifications that result in the need to file amended tax returns and result in a misuse of I.R.S. resources when returns are filed without the W.O.T.C certifications. The move follows more than two years, of I.R.S. publications that alert the public to certain issue-based approaches being followed by examiners. Galia Antebi and Elizabeth V. Zanet summarize the new releases.

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Modifications to the Foreign Tax Credit System Under the Tax Cuts and Jobs Act

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Modifications to the Foreign Tax Credit System Under the Tax Cuts and Jobs Act

The T.C.J.A. introduces new concepts in foreign tax credit planning and eliminates others.  Gone are the pool of post-1986 earnings & profits and deemed-paid foreign tax credits for intercompany dividends.  In their place is a dividends received deduction.  Allocations of interest expense between foreign-source income and domestic income now must be based on tax book value.  Entities that manufacture in one jurisdiction and sell in another will find that the source of income is controlled only by production activities.  Neha Rastogi and Stanley C. Ruchelman explain.

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Foreign Tax Credits: General Principles and Audit Risks

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Foreign Tax Credits: General Principles and Audit Risks

In April, the Large Business & International Division (“LB&I”) of the I.R.S. published an International Practice Unit directed to the foreign tax credit claimed by individuals.  Tax advisers to Americans living abroad or having global investment portfolios may find that the Practice Unit indicates topics of interest for the I.R.S.  Fanny Karaman and Galia Antebi explain the concepts covered, including persons eligible to claim the credit, foreign taxes that qualify for credit, whether to deduct or credit a foreign income taxes, foreign tax credit limitations, and means of ameliorating the effect of unused credits in a particular year.

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Foreign Tax Credit May Not Be Available for Gains Derived Outside the U.S.

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Foreign Tax Credit May Not Be Available for Gains Derived Outside the U.S.

Merely because a foreign country imposes an income tax and the tax is creditable does not mean that effective relief from double taxation is available.  The U.S. retains the first right to tax income and gains that are domestic in character, and the income or gain on which the foreign tax is imposed must be categorized as foreign for relief to be provided.  Kenneth Lobo and Galia Antebi focus on this issue and advise that advance planning will be required.

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§338(g) Election in the Cross-Border Context: I.R.S. Targets Foreign Tax Credit Enhancer

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§338(g) Election in the Cross-Border Context: I.R.S. Targets Foreign Tax Credit Enhancer

Code §338(g) allows a taxpayer to elect to treat certain share purchases as if the transactions were asset purchases.  As a result, the premium paid for the shares can be pushed down to increase the basis in operating assets of the acquired company.  The step-up in depreciable basis results in steeper depreciation and amortization deductions for U.S. tax purposes.  Because a comparable tax benefit is not obtained in the jurisdiction where the target operates, the Code §338(g) treatment magnifies the effective tax rate in the foreign country when looked at from a U.S. tax viewpoint.  This creates mountains of excess foreign tax credits that can be used to reduce U.S. tax on other items of foreign-source income, provided those items are subject to little or no foreign tax and fall within the same foreign tax credit limitation basket.  A similar result can be achieved through a check-the-box election, which acts as a poor man’s Code §338(g) election.  Code §901(m) attempts to disallow the enhanced level of the foreign tax credit, and the I.R.S. recently issued temporary and proposed regulations.  Rusudan Shervashidze and Stanley C. Ruchelman explain the labyrinth of rules.

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Regulations Would Address Foreign Tax Credit Planning for E.U. State Aid Adjustments

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Regulations Would Address Foreign Tax Credit Planning for E.U. State Aid Adjustments

Now that Apple, Starbucks, and other U.S. companies face significant tax adjustments in Europe, the I.R.S. is concerned with protection of the U.S. tax base.  In Notice 2016-52, the I.R.S. announced that the foreign tax credit splitter rules will be applied in future regulations to ensure that the increased taxes are not separated from the earnings and profits to which they relate.  Elizabeth V. Zanet and Stanley C. Ruchelman explain these preemptive steps to prevent the creation of imaginative financial products that monetize unused foreign tax credits of target companies.

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Albermarle: Refund Claims Relating to Foreign Tax Credits

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We analyze a recent U.S. Court of Appeals case, Albemarle Corp. v. United States, that affirmed certain refund claims were barred by the statute of limitations. The case involved withholding taxes on payments of interest to Albemarle Corp. from its Belgian subsidiary during the years 1997 to 2001. The court held that the taxpayer’s claims for refunds, attributable to foreign tax credits, were time-barred in certain years.

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The Hewlett-Packard Debt v. Equity Case – Reply Brief Filed

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INTRODUCTION

The focus of a debt-versus-equity inquiry generally narrows to whether there was intent to create a debt with a reasonable expectation of repayment and, if so, whether that intent comports with the economic reality of creating a debtor-creditor relationship. This determination has led various courts of appeals to identify and consider a multi-factor test for resolving such inquires.

In the typical debt-versus-equity case, the I.R.S. will argue for equity characterization whereas the taxpayer will endeavor to secure debt characterization to obtain an interest deduction. In some cases, the roles are reversed, but this does not require that courts apply different legal principles. Some courts consider 10 factors, while others consider as many as 16 factors. No matter how many factors are considered, the multi-factor test is the established, standard analysis used in such disputes.

Moving Deductions into the U.S. as a Tax Planning Strategy

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volume 2 no 4   /   Read article

By Stanley C. Ruchelman and Philip R. Hirschfeld

This month, our team delves into the Joint Committee Report addressing international tax reform in a series of articles. Taking a lead from the preceding article, the report discovers that a better tax result is obtained when deductible expenses are booked in high tax countries. Stanley C. Ruchelman and Philip R. Hirschfeld explain.  See more →

See all articles in this series →