Buried deep in the pages of a Senate bill to provide economic relief from the coronavirus pandemic are long-awaited Tax Cuts and Jobs Act technical corrections on transition tax overpayment and downward attribution.
The Coronavirus Aid, Relief, and Economic Security Act (S. 3548), introduced March 19 by Senate Majority Leader Mitch McConnell, R-Ky., is the third in a series of relief packages aimed at addressing a pandemic that has brought large parts of the country to a near standstill. Included in the 247-page bill is a provision that would restore the limitation on downward attribution of stock ownership, tracking language previously proposed in a technical corrections discussion draft put forth by former House Ways and Means Committee Chair Kevin Brady, R-Texas.
The TCJA repealed section 958(b)(4). After the dust settled from some of the TCJA’s splashier provisions, practitioners began to realize the multitude of burdens imposed on them from that repeal, including increased information reporting and withholding, as far more entities would now be considered controlled foreign corporations.
Generally, section 958(b) provides rules for determining the constructive stock ownership of a foreign corporation for subpart F purposes. Section 958(b)(4) had provided that the downward attribution rule of section 318(a)(3) wasn't to be applied so that a U.S. person would be regarded as owning stock owned by a non-U.S. person.
John L. Harrington of Dentons said he was surprised to see the section 958(b)(4) technical correction in the bill.
“Although including technical corrections in an economic stimulus/liquidity package may seem strange at first, it is quite clever in that it allows Congress to include taxpayer-favorable provisions that have no revenue cost since technical corrections do not score,” Harrington said.
Belt and Suspenders
The IRS previously sought to partially limit the effect of the downward attribution change with proposed regs (REG-104223-18) released in October 2018 by turning off the TCJA pivot to ensure operational consistency in some circumstances. But as Chip Collins of UBS noted, the legislative fix would be broader.
“Those regulations targeted the CFC fix just to the [Form] 1099 reporting problem,” Collins said. “The legislation would drive a nail through the heart of the CFC/1099 reporting problem caused by the TCJA. . . . Nice to have a belt-and-suspenders solution for peace of mind.”
The proposed regs did not address the reduced availability of the portfolio interest exemption, the increased number of U.S. shareholders subject to subpart F, or the global intangible low-taxed income provision. An attorney who serves as the head of international tax at a large law firm noted that the Senate bill provision would solve the portfolio interest issue.
Because CFCs are ineligible for the portfolio interest exception, the repeal of section 958(b)(4) means many non-U.S. entities no longer qualify for the zero rate under the exception.
Taxpayers should not celebrate what is surely a welcome surprise just yet, as some Democrats have already criticized the legislation more broadly as a corporate handout.
The attorney said that while most taxpayers would welcome the bill’s reintroduction of section 958(b)(4), others could be caught off guard given that the TCJA was passed more than two years ago.
“There may have been some taxpayers that, because of its retroactivity, engaged in transactions that now put them in a less favorable position. They may want some optionality,” the attorney said, noting that some taxpayers may have been counting on the dividends received deduction, which may not be available if section 958(b)(4) is revived.
What We Meant
The attorney said a second provision in the bill that would create a new section 951B better addresses what Congress originally intended with the TCJA by going after decontrol transactions.
The bill includes language that “substantially narrows” the number of taxpayers affected by the TCJA downward attribution change, Harrington said, noting that the provision “still catches” some taxpayers.
“The technical correction is something in between ‘old’ pre-TCJA and existing post-TCJA law,” Harrington said.
The new section 951B also resembles Brady’s technical correction. After Brady’s technical corrections legislation was released, the Joint Committee on Taxation in its January 2019 technical explanation noted that this provision “provides an exception for limited downward attribution that is consistent with the narrow intent of the Act.” Under it, a U.S. person that owns more than 50 percent of a foreign corporation if downward attribution is applied is taxable on the subpart F income of the foreign corporation as if it were a CFC, and the foreign corporation is treated as a CFC when applying the section 951A GILTI provision and the section 965 transition tax.
“For inbounds . . . companies had been trying pre-reform to avoid having CFC status or a U.S. shareholder status by structuring their transactions in a particular way," the large firm attorney said. "That’s one of the central reasons [Congress] sought to repeal section 958(b)(4) — so that you would bring those companies back within the scope of the toll charge and also within the purview of subpart F and GILTI.”
Speaking of Transition Tax . . .
Also like Brady’s technical corrections, the coronavirus bill would amend section 965(h) to clearly allow for refunds on overpayments on the transition tax for taxpayers who elected to pay the tax in installments.
According to the Senate bill, for credits or refunds, no transition tax installment is taken into account as a liability for section 6402 purposes before the installment is due, and the first part of section 6403 is also inapplicable. The bill also limits interest payments on an overpayment.
Section 6402 provides the general rule for making refunds on overpayments of tax. Under section 6403, if a taxpayer overpays in an installment, that overpayment is credited against unpaid installments.
The issue whether transition tax overpayments could receive refunds has deeply divided the IRS from practitioners, with professional and industry groups urging the agency to reconsider its interpretation of the law that would deny refunds, which they argue contravenes congressional intent. Some taxpayers made a second transition tax payment with the expectation that they could request a refund or direct the unexpected overpayment.
The IRS explained in internal guidance (PMTA 2018-016), issued in August 2018, that sections 6402 and 6403 limit its authority to make refunds or apply credits. No refund is allowable because there is no overpayment if a taxpayer has an outstanding liability payable in future installments, the IRS reasoned, while also citing case law.
The transition tax was levied on accumulated offshore earnings in cases when U.S. shareholders of specified foreign corporations were taxed at a rate of 15.5 percent for cash holdings and 8 percent for other assets. Taxpayers could elect to pay the transition tax in eight annual installments.
The large-firm attorney said taxpayers had been too conservative when estimating their transition tax owed to avoid triggering full acceleration of their liability and were “dismayed” to learn that a refund of the prepaid amount would not be available.
“This is definitely a taxpayer-favorable provision that, I think, is in the nature of what this overall legislation is trying to achieve, which is to put cash back in the pockets of people who will spend it to help the economy,” the attorney said.