SERVICE PROVIDES NEW GUIDELINES FOR COMPUTING FTC ARISING FROM UNITED KINGDOM 'ADVANCE CORPORATION TAX.'

Rev. Proc. 90-61

SECTION 1. PURPOSE

The purpose of this revenue procedure is to clarify and amplify section 3.05 of Rev. Proc. 80-18, 1980-1 C.B. 623.

SEC. 2. BACKGROUND

Article 23(1) of the United States-United Kingdom Income Tax Convention, 1980-1 C.B. 394 (the "Convention"), incorporates into the Convention the principles of sections 901 and 902 of the Internal Revenue Code of 1986, and allows United States citizens and residents a credit against their United States tax liabilities for certain taxes (including Advance Corporation Tax, or "ACT") that they or corporations whose stock they own pay to the United Kingdom. The amount of the credit allowed under Article 23 and section 902 of the Code for taxes paid by subsidiary corporations depends on the amount of dividends paid by the subsidiaries directly or indirectly to the United States shareholder.

Rev. Proc. 80-18 provides rules under the Convention for computing the amounts of dividends and resulting foreign tax credits in various factual settings. Section 3.05 of Rev. Proc. 80-18 deals with the proper treatment of ACT refunds paid by the United Kingdom to the United States shareholders of United Kingdom corporations, including United Kingdom corporations having United Kingdom subsidiaries. The fourth paragraph of section 3.05 provides:

For purposes of Articles 10 and 23 of the Convention, refunded ACT offset against the United Kingdom subsidiary's mainstream tax is a deemed distribution from such subsidiary to the United Kingdom parent corporation (and from the parent to the U.S. shareholder) only if and to the extent that such refunded ACT was not usable by the parent (inasmuch as the parent owes no mainstream tax) and was imposed with respect to profits distributed by the subsidiary to the parent and which were then immediately redistributed to the U.S. shareholder. In all other cases, refunded ACT is a deemed dividend distribution only from the United Kingdom parent corporation to the U.S. shareholder.

SEC. 3. PROCEDURE

The fourth paragraph of section 3.05 of Rev. Proc. 80-18 is deleted and replaced with the following paragraphs:

For purposes of determining a U.S. shareholder's indirect foreign tax credit arising under Articles 10 and 23 of the Convention, ACT that is paid by a United Kingdom parent corporation and refunded to the U.S. shareholder but that offset the United Kingdom subsidiary's mainstream tax is a deemed dividend distribution from the subsidiary to the United Kingdom parent (and from the parent to the U.S. shareholder) only if and to the extent that the refunded ACT is attributable to profits distributed by the subsidiary to the parent during the same taxable year as the distribution by the parent to the U.S. shareholder on which the refunded ACT was actually paid. In all other cases, refunded ACT is a deemed dividend distribution only from the United Kingdom parent corporation to the U.S. shareholder. Further, to the extent that the refund of ACT is considered to be a deemed dividend distribution from the United Kingdom subsidiary to the United Kingdom parent, the United Kingdom parent has not contributed to the capital of the United Kingdom subsidiary an amount equal to unrefunded ACT.

To determine the allowable U.S. foreign tax credit in this situation, the shareholder must compute the portion of the dividend that is deemed to originate with the United Kingdom subsidiary in order to apply section 902. The amount (including refunded ACT) deemed originally to have been paid as a dividend by the United Kingdom subsidiary to its United Kingdom parent corporation will be based on (1) the rate at which ACT liability is computed, (2) the amount of ACT transferred by the United Kingdom parent to be offset against the United Kingdom subsidiary's liability, and (3) the amount actually distributed by the United Kingdom subsidiary without incurring ACT liability on the distribution. When a United Kingdom subsidiary distributes a dividend (the "actual dividend") to its United Kingdom parent corporation without paying ACT during the same taxable year in which the parent corporation distributes a dividend to its United States corporate shareholder and pays ACT, and the parent transfers to the subsidiary the right to offset that ACT against the subsidiary's mainstream tax liability, then, for purposes of computing the U.S. foreign tax credit available to the parent's qualifying U.S. shareholder under Articles 10 and 23 of the Convention, the subsidiary will be deemed to have paid a dividend to the parent in an amount computed under the following rules (in which the rate of ACT is a/b). If the amount of ACT transferred by the U.K. subsidiary is greater than or equal to (a/a + b) of the amount of the actual dividend paid by the subsidiary, then the subsidiary is deemed to have paid a dividend to the parent equal to the excess of the amount of the actual dividend over [a/2(a + b)] of that amount. If the amount of ACT transferred by the U.K. parent to the U.K. subsidiary is less than (a/a + b) of the amount of the actual dividend, then the subsidiary is deemed to have paid a dividend equal to the excess of the amount of the actual dividend over one-half of the amount of the ACT transferred by the parent to the subsidiary.

For example, assume that the rate of ACT is 1/3. The subsidiary distributes a dividend of 60 to the parent but pays no ACT. During the same taxable year, the parent distributes a dividend of 90 to the shareholder and pays ACT of 30 (1/3 x 90), all of which is transferred to the subsidiary. Since 30, the amount of ACT transferred by the U.K. parent, is greater than 15 (1/(1 + 3) x 60), the subsidiary is deemed to have paid a dividend of 52.50 (60 - (1/8 x 60)). In essence, the 60 dividend paid by the U.K. subsidiary is treated as a dividend of 45 coupled with a payment of 15 of ACT, 7.50 of which will ultimately be refunded to the shareholder and treated as an additional dividend from the subsidiary. If, instead, the subsidiary had distributed a dividend of 125 to the parent without paying ACT, the 30 of ACT transferred by the U.K. parent would be less than 31.25 (1/(1 + 3) x 125), and the subsidiary would be deemed to have paid a total dividend of 110 (125 - (30/2)). In essence, the actual dividend of 125 paid by the U.K. subsidiary would be treated as two dividends: a dividend of 90 on which the subsidiary paid 30 of ACT, and a dividend of 5 on which the subsidiary paid no ACT. Thus 15 of the ACT of 30 ultimately refunded to the shareholder will be treated as an additional dividend from the subsidiary.

After a taxpayer determines the amount of the dividend deemed distributed by the subsidiary, section 902 of the Internal Revenue Code will be applied to determine the foreign taxes deemed paid under that section.

SEC. 4. EFFECT ON OTHER DOCUMENTS

Rev. Proc. 80-18 is clarified and amplified.