Accounting Firm Seeks 2 Changes to FDII Regs to Improve Compliance

May 3, 2019

CC:PA:LPD:PR (REG-104464-18)
Room 5203
Internal Revenue Service
Box 7604
Ben Franklin Station
Washington, DC 20044

Re: Comments on Proposed Regulations (REG-104464-18) Related to the Deduction for Foreign Derived Intangible Income and Global Intangible Low-Taxed Income

Dear Sir or Madam:

On behalf of Elliott Davis LLC/PLLC, a public accounting firm serving clients with international activities, we are writing with our recommendations in regards to Proposed Regulation 104464-18. We are specifically writing in regards to Proposed Regulation 1.250(b)-6. This regulation addresses how to determine whether a sale of property or a provision of a service between related parties is a qualifying foreign derived deduction eligible income ("FDDEI") transaction.

One of the most difficult parts of section 250 that needed to be addressed was how foreign use would be interpreted between related parties. We appreciate that Treasury and the IRS have worked to provide clarifying guidance in this area. It is an important task to find balance between providing guidance to make sure companies eligible for this benefit can claim the deduction and making sure there is enough support to avoid any abuse of this provision. We would like to make two recommendations in regards to qualifying FDDEI sales between related parties that help to achieve that balance.

Recommendations for Proposed Regulation 1.250(b)-6

We recommend that taxpayers will satisfy Proposed Regulation 1.250(b)-6(c)(1) if the seller reasonably expects the sale to be ultimately made to a foreign unrelated party at the time of the foreign derived intangible income ("FDII") filing date.

We recommend that taxpayers will satisfy Proposed Regulation 1.250(b)-6(c)(1) if the seller sells a unique or customized product to a foreign person and that product can only be utilized outside of the U.S or is specifically designed for a foreign market.

Analysis

FDDEI Sale — Reasonable Expectation

Per section 250(b)(5)(C)(i)(I), a sale of property from one related party to another can be qualifying if the property is ultimately sold to an unrelated party who is not a United States person. Proposed Regulation 1.250(b)-6(c)(1)(i) interprets the phrase "ultimately" here to mean that the eventual FDDEI sale must occur by the FDII filing date. For many taxpayers this appears to be a reasonable interpretation. Many taxpayers have manufactured the product in the U.S. and are selling the product to their foreign related party, who is a distributor. And in many cases, the foreign related party will go on to sell the product outside of the U.S. to a non-U.S. person. The one area where we are expecting the FDII filing date to make a material impact is on products with a long production and/or sales cycle.

A simple example would be a U.S. vineyard which grows and sells its U.S. grown grapes to a foreign related party, which is a winery. At the time of the sale, there is a reasonable expectation that the foreign related winery will ultimately make a qualifying FDDEI sale to an unrelated foreign party. The related foreign winery will manufacture the wine and allows it to age. After a certain period of time, the winery will bottle and sell the wine to other unrelated foreign parties, such as a distributor, restaurant, or directly to the ultimate consumer. By the time the ultimate sale to the unrelated foreign party occurs this could be well past the FDII filing date. The regulation goes on to allow for a grace period in which a FDDEI sale that becomes qualifying after the FDII filing date can be amended to claim the deduction.

For products with a long production and/or sales cycle, this could result in many amended tax returns. In some cases, the ultimate sale to a foreign unrelated party may actually be outside the statute of limitations so that an amended return could not be filed. This could be particularly true of taxpayers in the agricultural industry. As the tentative FDII deduction impacts the calculation of 172 and 163(j), this would result in many changes to tax returns. We would recommend that this regulation be modified to allow for it to be a qualifying FDDEI sale if the seller reasonably expects the sale to be ultimately made to a foreign unrelated party at the time of the FDII filing date. This change would result in fewer amended tax returns and recalculated net operating losses and interest expense deductions.

FDDEI Sale — Products Designed for Foreign Markets

Another reason we support a change to this regulation is in the case of products specifically designed for foreign markets, which are not eligible to be sold in the U.S. There are many products that are manufactured or distributed that are specifically geared for foreign markets. For example, many vehicle parts are manufactured within the U.S. for ultimate sale outside the U.S. The vehicles need to meet regulatory guidelines for other countries and thus are not sold within the U.S. Many companies have the ability to trace these vehicle parts as they are for specific vehicles models, which are designed to be driven outside of the U.S. These parts cannot be used in other vehicles as they have been customized to be sold for this precise customer.

Another example would be equipment parts specifically designed to work on equipment outside of the U.S. that is used in regards to natural resources which the U.S. does not have. In both of these examples, these products are easily identifiable as products that will only be utilized by foreign persons outside of the U.S. We would recommend that this regulation be modified so that a foreign related party sale can be considered a FDDEI sale if the product is ultimately sold to a foreign unrelated party and the product sold can only be utilized outside of the U.S. or is specifically made for a foreign market. This change would reduce the number of amended tax returns and provide greater clarity for foreign related party sales. We also believe that this would make it easier for taxpayers to comply with section 250.

For the reasons mentioned above, we would recommend these two modifications to the regulations. This would bring about greater clarity and compliance, while also minimizing amended tax returns and recalculated net operating losses and interest expense deductions. We appreciate the opportunity to submit our comments. We would welcome any questions and would be happy to discuss in more detail. Please direct any questions to myself at 864-552-4877 or at the address listed on the first page. Thank you for your attention.

Sincerely,

Melody C. Horton, CPA
International Tax Shareholder
Elliott Davis, LLC/PLLC
Greenville, SC