Foreign Trade Group Notes Complexity of, Seeks Changes to FTC Regs

February 4, 2020

The Honorable David J. Kautter
Assistant Secretary (Tax Policy)
Department of the Treasury
1500 Pennsylvania Ave., N.W.
Washington, D.C. 20220

The Honorable Charles Rettig
Commissioner
Internal Revenue Service
1111 Constitution Ave., N.W.
Washington, D.C. 20224

The Honorable Michael Desmond
Chief Counsel
Internal Revenue Service
1111 Constitution Ave., N.W.
Washington, D.C. 202224

Re: Proposed FTC Regulations Re. 105495-19

Dear Sirs:

On behalf of the National Foreign Trade Council (“NFTC”), I would like to express our appreciation to the U.S. Department of the Treasury (“Treasury”) and the Internal Revenue Service (“Service”) for your efforts in developing the recently issued proposed FTC regulations (the “Proposed FTC Regulations”).

The NFTC, organized in 1914, is an association of approximately 250 U.S. business enterprises engaged in all aspects of international trade and investment. Our membership covers the full spectrum of industrial, commercial, financial and service activities and the NFTC therefore seeks to foster an environment in which U.S. companies can be dynamic and effective competitors in the international business arena. The NFTC's emphasis is to encourage policies that will expand U.S. exports and enhance the competitiveness of U.S. companies by eliminating major tax inequities in the treatment of U.S. companies operating abroad. To achieve this goal, American businesses must be able to participate fully in business activities throughout the world, through the export of goods, services, technology, and entertainment and through direct investment in facilities abroad. Foreign trade is fundamental to the economic growth of U.S. companies.

The Proposed FTC Regulations are highly complex and would have a very significant impact on U.S. income tax administration and compliance. In light of that complexity, and the significant number of issues that we have with the Proposed FTC Regulations, we urge the Treasury and the Service to revise the regulations as discussed below.

Prop. Reg. 1.861-17, Allocation and Apportionment of R&E expenditures

Gross Intangible Income

• Issue: As proposed, the regulations exclude Global Intangible Low-Taxed Income (“GILTI”) from the definition of “gross intangible income,” however, this exclusion does not apply to Foreign Derived Intangible Income (“FDII”). Congress designed the FDII deduction to approximate the combined tax burden on GILTI so that those provisions would work together to discourage base eroding, offshore IP transfers. Under the proposed regulations, R&E expenses would be allocated or apportioned to FDII, thereby significantly reducing FDII benefits. Unfortunately, this allocation may discourage taxpayers from performing R&E and retaining IP in the U.S. or, in the alternative, from transferring IP rights back to the U.S. By reducing the potential FDII deduction, taxpayers that hold IP rights in the US may be incented to increase R&E activities offshore, which runs counter to the policy intent of the FDII.

• Recommendation: To mitigate the negative impact on the FDII and to provide parity with GILTI, we recommend that the regulations exclude FDII from the definition of “gross intangible income.” Because FDII and GILTI utilize many of the same concepts in their calculations and, to further bolster the position that Section 250 be applied in its totality, it is appropriate to treat FDII and GILTI consistently (as not constituting gross intangible income), with reference to the 2019 proposed regulations for R&E expense allocation and apportionment.

Optional Gross Income Method

• Issue: As proposed, the gross income method would be eliminated in allocating and apportioning R&E expenses. Instead, gross receipts from sales of products or services (i.e., the sales method) would be the only available and mandatory method.

• Recommendation: The final regulations should retain the optional gross income method as this allocation and apportionment method may align more closely with a taxpayer's business. Taxpayers should be provided the option to use alternative methodologies under the existing Treas. Reg. Sec. 1.861-17 so long as those methodologies are reasonable and applied consistently for all operative Code sections. In general, taxpayers participate in different industries, carry on different business lines and operate in different and unique ways. Prescribing a one size fits all method could disadvantage certain taxpayers whose results do not always align with sales-based allocations.

Exclusive Apportionment

• Issue: As proposed, the exclusive apportionment has limited application — it only applies when Section 904 is the operative section. However, in calculating the FDII deduction, the proposed Section 250 regulations provide that Treas. Reg. Sec. 1.861-17 shall apply without the exclusive apportionment rule. This mechanical discrimination may result in an over-allocation of R&E expenses to FDDEI and fail to properly measure the income derived from conducting R&E activities in the U.S. in the service of foreign markets.

• Recommendation: If FDII is not excluded from the definition of “gross intangible income” then Treasury should consider the following — taxpayers should be provided with the option to apply the exclusive apportionment when Section 250 is the operative section. As previously indicated by the Treasury, the greater value of research and development is in the “place of performance.”¹ As such, allocating or apportioning R&E to sales or services rendered outside the U.S. does not follow the economics of the transactions or the intent of the FDII legislation. Exclusive apportionment was introduced in the Section 904 context to recognize the economic reality that for taxpayers who perform a preponderance of their R&D in the U.S., that their foreign income should not be fully burdened with the R&E expense. Removing this same logic and methodology from the FDII calculations is not in line with the data showing that the value of R&E resides where it is performed and that there is a “technology lag” in “exporting” such R&E.

Contract Research and Experimentation

• Issue: In the preamble to the FTC regulations, the IRS and Treasury requested comments on whether the contract research and experimental expenditures reimbursed by a foreign affiliate is generally paid or incurred by a trade or business such that a deduction under Section 174 is allowable.

• Recommendation: Contract research performed in the U.S. is connected with a U.S. based multinational's trade or business and should be deemed paid or incurred by that U.S. trade or business such that a deduction under Section 174 is appropriate. The contract research expenses should be sourced based on where the research is performed.

Prop. Reg. 1.905-4 Notification of Foreign Tax Redetermination

• Issue: The proposed regulations that require the notification via an amended return would be overly burdensome for taxpayers.

• Recommendation: Allow for taxpayers under exam to provide adjustments related to foreign tax redeterminations directly to the exam team. Broaden the scope under Prop. Treas. Reg. Sec. 1.905-4(b)(4) to allow more taxpayers under the jurisdiction of the LB&I division to provide their examiner with notice of foreign tax redetermination rather than filing an amended return. For example, removing the condition under Prop. Treas. Reg. Sec. 1.905-4(b)(4) for alternative notification requirements in instances where the foreign tax redetermination results in a downward adjustment to the amount of foreign income taxes. Taxpayers under the jurisdiction of LB&I typically have multiple types of foreign tax redeterminations that could result in an increase in one jurisdiction as well as a decrease in another jurisdiction. Thus the alternative notification requirements as drafted may not be applicable to most taxpayers under the jurisdiction of LB&I.

Prop. Reg. 1.905-3, 1.905-4, 1.905-5, and 301.6689-1 Redetermination of Foreign Tax Credits

• Issue: The proposed regulations require a redetermination of a U.S. shareholder's U.S. tax liabilities when there is a redetermination of foreign taxes with respect to a controlled foreign corporation (“CFC”), including by reason of a foreign tax law change. With the increased complexity of the international taxation and corresponding changes in foreign tax laws, the frequency of redeterminations of foreign taxes will continue to increase. Consequently, the U.S. taxpayer's compliance and administrative burdens will become even more challenging. The penalties for failure to provide notice of the such redeterminations are significant. Prop. Treas. Reg. Sec. 1.905-4(b)(4)(i)(E) unfortunately removes the necessary flexibility for notification requirements by taxpayers under examination and within the jurisdiction of Large Business and International Division jurisdiction.

• Recommendation: Given the increased complexity of the U.S. and the international tax environment, Treasury and the IRS should consider simplifying the redetermination process. Treasury and the IRS should consider establishing higher threshold levels for redeterminations (e.g., less than 10% of foreign taxes as originally accrued), under which taxpayers would be relieved of the notification and re-filing requirements. In addition to an increased threshold, Treasury and the IRS should consider additional simplification measures such as permitting the taxpayer to apply the redetermination to the current year taxes rather than requiring the taxpayer to amend the past federal and state tax filings. This process as it is currently proposed could result in not only numerous federal amended returns, but also associated amended state income tax returns. The administrative burden and cost related to these efforts can be very significant. The IRS and Treasury should provide guidance to taxpayers as to how to file protective refund claims to deal with foreign tax redeterminations that may otherwise occur outside the statute of limitations. The proposed regulations require taxpayer-unfavorable adjustments to be made notwithstanding the limits of section 6511, while a taxpayer-favorable adjustment is subject to the limits of 6511. Without the ability to file protective claims, taxpayers could be whipsawed by a foreign tax redetermination several years after the relevant U.S. tax return was filed. The accuracy of U.S. tax liability would not be jeopardized, especially insofar as Prop. Treas. Reg. Sec. 1.905-4(b)(4)(iii) asks that the taxpayer to verify the information under penalty of perjury.

Prop. Reg. 1.905-5 Redetermination of Foreign Tax Credits (relates to taxable years of a foreign corporation before Jan. 1, 2018)

• Issue: The 2019 proposed regulations require a redetermination of post-1986 undistributed earnings and profits any time there is a redetermination of foreign taxes with respect to a CFC for any taxable year before 2018. The 2017 TCJA imposed a one-time transition tax on such earnings under Section 965, under which only a partial foreign tax credit was available to offset the U.S. taxpayers' Section 965 liabilities. The penalties for failure to notify and incorporate the impact of any foreign tax redeterminations are severe. Furthermore, taxpayers have already made installment payments based on prior Treasury proposed and final regulations.

• Recommendation: Given the increased complexity of the U.S. tax and the international tax environment, Treasury and the IRS should consider simplifying the redetermination process with respect to the foreign tax credit against a Section 965 tax liability. Treasury and the IRS should consider establishing higher reporting threshold levels such that redeterminations below a certain level (e.g., less than 10% of foreign tax as originally accrued) does not require a redetermination or adjustment of a taxpayer's Section 965 liability. The net result of a higher reporting threshold should not result in significant U.S. tax liabilities changes, especially since such foreign taxes were only partially creditable pursuant to Section 965. In addition to a higher threshold, Treasury and the IRS should consider additional simplification measures such as permitting the taxpayer to apply the redetermination to the current year taxes versus requiring the taxpayer to amend the past federal and state tax filings. The accuracy of a U.S. tax liability should not be jeopardized, especially if the proposed regulations required the taxpayer to verify the information under penalty of perjury.

Prop. Reg. 1.861-20, Allocation and Apportionment of Foreign Income Taxes

Base Difference and Return of Capital

• Issue: Prop. Treas. Reg. Sec. 1.861-20(d)(2)(ii)(6) listed a distribution of property (to the extent of Section 301(c)(2)) as a base difference and, as such, foreign withholding taxes attributable to that portion would not be creditable. This is contrary to the Treasury's and IRS' long standing historical positions that base differences are rare and unusual. This further conflicts with the final Treas. Reg, Sec. 1.904-6(a)(1)(iv) which only included gifts and life insurance proceeds as base differences.

• Recommendation: We recommend that Prop. Treas. Reg. Sec. 1.861-20(d)(2)(ii)(6) be removed from the list of base differences. In normal circumstances, the nature of foreign taxes imposed on distribution of property should be determined by the foreign law, rather than the U.S. tax law. If the foreign country imposes tax on the distribution (e.g., a withholding tax), a portion of the distribution may be beyond the CFC's E&P under U.S. tax principles, therefore this portion should be a timing difference as opposed to base difference.

Disregarded Payments under Prop. Reg. 1.861-20(d)(3)(ii)(B) — Payments Made by Owner

• Issue: Prop. Treas. Reg. Sec. 1.861-20(d)(3)(ii) sets forth complex rules with respect to the allocation of foreign taxes imposed on disregarded payments within a CFC. Prop. Treas. Reg. Sec. 1.861-20(d)(3)(ii)(B) provides that foreign taxes associated with disregarded payments received by a foreign branch from the foreign branch owner generally are assigned to the residual grouping. This has the effect of disallowing foreign tax credits even in cases where all of the income of the CFC is tested income, or where the disregarded payment represents an expense that, if regarded, would be allocable to tested income.

• Recommendation: Foreign taxes imposed on owner-to-branch payments generally should be allocated to the gross income in a statutory grouping (e.g., tested income) to the extent a deduction for the disregarded payment, if regarded, would be allocated and apportioned to gross income in that statutory grouping. This rule would be similar to the rule in the final foreign tax credit regulations with respect to the foreign branch income basket. Under such a rule, foreign taxes imposed on owner-to-branch payments would be allocated to the residual basket only to the extent a deduction for the disregarded payment, if regarded, would be allocated and apportioned to gross income in the residual grouping or to the extent the disregarded payment, if regarded, would be treated as a base difference under Prop. Treas. Reg. Sec. 1.861-20(d)(2)(ii)(B) (e.g., a contribution to capital). This rule would be consistent with the rule applicable to foreign gross income attributable to disregarded sales or exchanges of property in Prop. Treas. Reg. Sec. 1.861-20(d)(3)(ii)(B) and would effectively extend that rule to include other disregarded payments such as payments for services or royalties. Alternatively, foreign taxes on disregarded payments could be allocated to the grouping to which the corresponding U.S. item would be assigned if the event giving rise to the foreign gross income resulted in the recognition of income, gain or loss for U.S. tax.

Disregarded Payments under Prop. Reg. 1.861-20(d)(3)(ii) )(A) — Payments Made by Foreign Branch

• Issue: Prop. Treas. Reg. Sec. 1.861-20(d)(3)(ii) sets forth complex rules with respect to the allocation of foreign taxes imposed on disregarded payments within a CFC When a foreign disregarded entity makes a disregarded payment (such as interest) to its CFC owner (see Prop. Treas. Reg. Sec. 1.861-20(g)(4), example 9), the foreign taxes associated with such payment is allocated based on the tax book value of assets owned by the foreign disregarded entity. In that specific example where the foreign disregarded entity owned another CFC stock, the tax book value of such stock was utilized to determine how much of the foreign tax was allocable to passive income basket. This rule contradicts the long-standing U.S. tax principle that a disregarded entity is disregarded for all U.S. tax law purposes. This proposed change would treat a disregarded entity as if it was regarded. A disregarded entity's profits and losses are typically included in the CFC's income which is already taxed in the U.S. (either under subpart F income or GILTI inclusion). Therefore, the disregarded payment should continue to be treated as disregarded. Segregating the taxes imposed on such a disregarded payment from the profits and losses that are already taxed in the U.S., creates unnecessary complexity and undue burden to U.S. taxpayers.

• Recommendation: The disregarded payment rules should not apply to situations where the payment is made from a foreign disregarded entity to its CFC owner, or to another disregarded entity owned by the same CFC owner. This can be accomplished by removing the sentence of Prop. Treas. Reg. Sec. 1.861-20(d)(3)(ii)(D), which states that a foreign branch owner could be a foreign corporation. This removal would not interfere with other rules with respect to foreign branches which typically apply where the owner is a person (including a foreign or domestic partnership or other pass through entity) as provided for in final Treas. Reg. Sec. 1.904-4(f)(viii).

Disregarded transfer of appreciated property — Prop. Reg. 1.861-20(g)(11) Example 10

• Issue: Post-acquisition restructuring is often performed to better align a multinational's legal structure with its commercial operations, in many cases this includes the inbounding of appreciated property. The proposed regulations would require a U.S. taxpayer to allocate withholding taxes imposed on the transfer of assets based on the tax book value of assets owned by a foreign disregarded entity of a U.S. parent. Such allocation creates complexity and uncertainty in post-acquisition integrations and provides a significant disincentive to move business assets back to the U.S.

• Recommendation: The regulations should permit companies to engage in post-acquisition restructuring and to transfer appreciated assets to the U.S. following acquisitions, and should permit taxpayers to fully credit its foreign tax payments. Final Treas. Reg. Sec. 1.904-4(f)(2)(vi)(D)(3) provided transitory ownership rules when IP is involved. Likewise, Treasury and the IRS should consider adopting similar transitory ownership rule to business assets used in ordinary course of business.

Prop. Reg 1.960-1(d)(3)(ii)(A):

• Issue: The last sentence currently reads, “[f]oreign gross income attributable to a base difference, or resulting from the receipt of a disregarded payment made to a foreign branch, is assigned to the residual income grouping under Sec. 1.861-20(d)(2)(ii)(B) . . .”

• Recommendation: Based on language in the preamble and the cross reference, the above highlighted language is intended to apply only to base differences and payments from the branch owner to the branch, but the language is not so limited. We recommend a change to the treatment of payments from a foreign branch owner to a foreign branch that, if adopted, would require the deletion of the highlighted language. Even if this change is not adopted and the regulations are finalized as proposed, the sentence should read as follows:: “Foreign gross income attributable to a base difference, or resulting from the receipt of a disregarded payment made by a foreign branch owner to a foreign branch, is assigned to the residual income grouping under Sec. 1.861-20(d)(2)(ii)(B) . . .”

Prop. Reg. 1.960-1(d)(3)(ii)(C)

• Issue: As proposed, current year taxes (otherwise assignable to a Previously Taxed Earnings & Profits (“PTEP”) group), are assigned under Prop. Treas. Reg. Sec. 1.861-20 to subpart F income or tested income. This seems to be a timing difference, and the proposed rule overrides the long-standing tax principles for distributions related to subpart F income, tested income, and PTEP.

• Recommendation: Taxes related to PTEP should be allocated to PTEP group even if they did not arise in the same year as the PTEP.

Prop. Reg. 1.904-4, Redetermination of passive and general baskets for high tax kickout

• Issue: As the result of the TCJA and proposed regulations under Section 905(c), global companies must frequently redetermine their foreign tax credits based on any foreign tax changes. The proposed regulation creates unnecessary complexity for taxpayers by requiring them to redetermine subpart F, tested income, and PTEP changes whenever there is a redetermination of foreign taxes, including redetermining categories of subpart F income. With the increased complexity of the international tax environment, the likelihood of redetermining foreign tax credits is dramatically increased. Asking U.S. taxpayers to redetermine all attributes on a year by year basis (especially since such redetermination can date back ten years), creates significant uncertainty and administrative burden for taxpayers (as well as the IRS).

• Recommendation: Given the increased complexity of the U.S. international tax provisions, Treasury and the IRS should consider simplifying the redetermination process for the use of foreign tax credits. Treasury and the IRS should consider establishing minimum levels of foreign tax redeterminations that require the detailed analysis of all tax related attributes. For tax redeterminations below a minimum level, taxpayers should be allowed to perform some simplified procedures to account for tax redeterminations. In addition, Treasury and the IRS should consider additional simplification measures such as permitting the taxpayer to apply the redetermination to the current year taxes. Again, to ensure accuracy, the taxpayer, could be asked to verify the information under penalty of perjury.

Prop. Reg. 1.904-4(e) Definition of Financial Services Entity and Group

• Issue: The definition of a financial services entity under Prop. Treas. Reg. Sec. 1.904-4(e)(2)(i) is so narrow that it excludes many legitimate foreign insurance companies. Prop. Regs. §1.904-4(e)(2)(i)(A)(2) currently excludes a foreign insurance company that has any excess investments under section 954(i) and excludes certain reinsurers. Foreign capital requirements are different from U.S. requirements and often cause some income of legitimate foreign insurance companies to exceed the amount that would be treated as derived in the active conduct of an insurance business under section 954(i). In the case that the entity has excess foreign personal holding company income, there is no opportunity for abuse, since any excess income is included at the shareholder under Subpart F. Also, it is unwarranted to exclude valid reinsurers from the definition of financial services income. Alternatively, if there are perceived abuses with investment income levels at financial service entities, then an additional clause could be added to limit the definition of financial service entities to those without excess invested assets as already defined under section 1297.

• Recommendation: Modify Prop. Treas. Reg. Sec. 1.904-4(e)(2)(i)(A) to include two financial services definitions (for banking and insurance) and the insurance definition to provide: “(2) It is a domestic corporation that is subject to Federal income tax under subchapter L, or a foreign corporation which would be subject to tax under subchapter L if such corporation were a domestic corporation and is subject to regulation as an insurance (or reinsurance) company in its jurisdiction of organization.” Alternatively, the previous modified section could be further revised to include this clause: “provided, however, that such corporation shall be considered to be predominantly engaged in the active financing business in a given year only if such corporation meets the requirements under 1297(f)(1)(B).”

• Issue: The definition of a financial services group currently excludes insurance companies. Section 904(d)(2)(C)(ii) states that a “'financial services group' means any affiliated group (as defined in section 1504(a) without regard to paragraphs (2) and (3) of section 1504(b)) which is predominantly engaged in the active conduct of . . . insurance . . . business.” The proposed regulations omission of insurance from the definition of financial services group directly contradicts this statutory language. Further, the preamble notes: “[th]he Treasury Department and IRS agree that a substantial and genuinely active financial services group should be included in the definition of an FSE.” And, “[f]inally, in 2004, a definition of financial services group was added in section 904(d)(2)(C)(ii) which was based on the definition of an affiliated group under section 1504(a) but expanded to include insurance companies and foreign corporations. While the current regulations already include foreign corporations as part of an affiliated group, Prop. Treas. Reg. Sec. 1.904-4(e)(2)(ii) conforms the definition of an affiliated group to also include insurance companies referenced in section 1504(b)(2).” It appears clear that the definition of a financial services group is intended to include insurance companies and this is consistent with the statutory language in section 904(d)(2)(C)(ii). However, there is a cross-reference requirement in Prop. Treas. Reg. Sec. 1.904-4(e)(2)(ii) that the affiliated group as a whole meets the requirements of section 954(h)(2)(B)(i). This section is specific only to banking and lending and therefore currently excludes insurance companies.

• Recommendation: The definition of a financial services group currently excludes insurance companies. Modify Prop. Treas. Reg. Sec. 1.904-4(e)(2)(ii) so the definition of a financial services group includes insurance companies as follows: “[f]or purposes of this paragraph (e)(2)(ii), a financial services group means an affiliated group as defined in section 1504(a) (but determined without regard to paragraphs (2) or (3) of section 1504(b)) if the affiliated group as a whole for the year derives more than 70 percent of its gross income from income described in paragraph (e)(1)(ii).”

• Issue: The proposed regulations align the definitions of financial services entity with certain definitions in Sections 954(h), 1297(b)(2)(B), and 953. One of the policy reasons for the proposed regulation is to “promote simplification.” As it applies to a banking, financing, or similar business, the change to Treas. Reg. Sec. 1.904-4(e) does not promote simplification. It replaces a long-standing detailed test (where if more than 80% of a CFCs gross income relates to 24 specified categories (current Treas. Reg. Sec. 1.904-4(e)(2)(i)) the CFC is clearly a FSE), with a facts-and-circumstances test that hinges on whether the CFC's income is derived directly from the active and regular conduct of a lending or finance business — a subjective and ambiguous test. In essence, Treasury is proposing to replace their guidance for section 904 with a standard in section 954 for which they have provided no guidance. As a result, the proposed regulation creates ambiguity as to whether a CFC is a financial services entity. This is not simplification. Also, consistency with section 954(h) is not achieved or warranted. Congress imposed additional qualifications to section 954(h), like the substantial activity and local country activities tests, which it did not impose on section 904. Treasury rightly does not propose to adopt those qualifications for section 904, but without them, the two sections differ enough that the companies qualifying for each section may not be the same companies.

• Recommendation: Sections 904 and 954 were developed at different times and reflect different policy objectives. The current list of 24 categories of income in the section 904. regulations derives primarily from the legislative history of the enacting statute. The legislative history of subsequent modifications to section 904 and the enactment of section 954(h) do not reflect an intent to change the financial services tests reflected in the current regulations. Treasury and the IRS should not eliminate the historical development of the definition of financial services income in section 904(d)(2)(C) only to create partial consistency with a different Code section (section 954(h)) that was fashioned to address different policy concerns. Qualified deficits arising in periods prior to the enactment of this change should be “grandfathered” and not become effectively worthless.

• Issue: The effective date of the proposed regulations is retroactive to the beginning of any tax year ending on or after the publication of final regulations. A taxpayer filing on a calendar year basis could already be subject to the regulations if finalized in 2020.

• Recommendation: Taxpayers have relied on the existing regulations for over thirty years. Where, as here, Treasury's purpose is merely to simplify and improve consistency, taxpayers should be given some notice and time to align long-standing business practices with current definitions. We recommend that the effective date be no earlier than the tax year beginning after the publication of final regulations.

Prop. Reg. 1.861-8(e)(4)(ii), Stewardship Expenses

• Issue: Comments are solicited on definitions of stewardship expense, and the preamble acknowledges the difficulty distinguishing stewardship expenses from “supportive” or “duplicative” activities. The proposed regulations also require that a taxpayer allocate and apportion stewardship based on the stock basis of CFCs.

• Recommendation: As it is difficult for a taxpayer to readily distinguish certain expenses, greater flexibility should be provided for identifying stewardship expenses and the methods used to the allocation and apportionment of such stewardship expenses. Not all taxpayers operate in the same manner and thus different methods should be allowed. Specifically, companies should be allowed to utilize a facts and circumstances method similar to Treas. Reg. Sec. 1.861-8. A facts and circumstances approach would better align to the underlying business, sub-business lines and books and records.

Prop. Reg. 1.861-8(e)(5) — Sourcing of Damage Awards

• Issue: Prop. Treas. Reg. Sec. 1.861-8(e)(5) provides that expenses for damages awards, prejudgment interest, and settlement payments (relating to claims made by investors that arise from corporate negligence, fraud, or other malfeasance) are allocated and apportioned based on all of the corporation's consolidated assets. However, there is no distinct factual link between expenses related to investor claims and all of the corporation's assets.

• Recommendation: These claims may be very narrow or very broad in scope, and to assume a suit (and the corporate expenses related thereto) relates to (or impacts) all gross income of the corporation is an overreach. Expenses related to shareholder suits are more closely related to the classes of gross income recognized in the jurisdiction where the litigation occurs. It is that income and those assets that are most likely impacted by the lawsuit. As such, we recommend that the proposed regulation should allocate and apportion those expenses to the location where the fraud/litigation occurred.

* * * * * * *

Again, thank you very much for the opportunity to provide these comments. Please do not hesitate to contact me should you have any questions on the above. We would be glad to meet with you to discuss these comments more fully and hereby formally request a public hearing to present our oral comments on the Proposed FTC Regulations.

Sincerely,

Catherine G. Schultz
Vice President for Tax Policy
National Foreign Trade Council, Inc.
Washington, DC