GILTI Regs Will Hit Small Businesses Hard, Attorney Says

From: Monte @ Silver Law <ms@silvercolaw.com>
Sent: Tuesday, August 14, 2018 2:01 AM
To: Mnuchin, Steven
Cc: Miller, Eli; Harter, Chip; Kautter, David
Subject: Notice that Regulations under IRC 951A will have a significant economic impact on a substantial number of small entities
Attachments: ITR GILTI article with Baker McKenzie.docx; GILTI article from Tax notes.pdf

Importance: High

Dear Secretary Mnuchin

This is to serve as notice that any regulations under 951A will have a significant impact on a very large number of small businesses. This impact will be FAR greater than the impact of the regulations under 965, for reasons a few of them are detailed below:

The above is not only my opinion. There are many published articles on the subject. See below.

I assume that the Treasury will govern itself accordingly. We will be following this closely

Thanks Monte

Articles

Monte Silver, Adv. (Israel & CA)
Silver & Co. Attorneys at Law
Hahoshlim 6, Building C, 7th Floor, P.O. Box 12069
Herzelia Pituach 46733 Israel

Tel: +972-9-9603799
Fax: +972-9-9603798
Mob: +972-544-232-683
email: ms@silvercolaw.com

https://hyperlink.services.treasurv.gov/agencv.do?origin=www.linkedin.com/in/americantaxsolutions

Updates on US tax law and tax advocacy

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For months, Congress promoted the tax reform effort as being focused on simplifying the outdated and complex 1986 Code. Tax reform, culminating in H.R. 1, did no such thing, at least as it applies to multinational corporations. Nowhere is this more apparent than in Section 951A, the tax on global intangible low taxed income or “GILTI”. In practical effect, the GILTI is properly thought of as the end of the “worldwide system with deferral”, because it imposes a minimum U.S. tax on the income derived by a US shareholder's CFCs. To properly apply the GILTI provision, a US shareholder will have run the gauntlet of subpart F, expense allocation, the foreign tax credit regime, and, therefore, E&P computations — some of, if not most of, the things that make the US international tax system as complex as it was (and, now, continues to be). A key component at different stages in the process is the allocation of expenses, a notoriously subjective exercise in many cases.

As is the case with a subpart F inclusion, the US shareholder with a GILTI amount is deemed to have received a distribution of CFC E&P equal to the amount of the GILTI inclusion. Unlike a subpart F inclusion, the US shareholder is permitted a deduction equal to 50% of the GILTI amount. A partial foreign tax credit is allowed for foreign taxes (actually, 80% of the foreign taxes) deemed paid with respect to the E&P deemed distributed. The legislative history clearly indicates that Congress intended that at a certain effective rate of tax in a US shareholder's CFCs, the shareholder would not have to pay any incremental US tax as a result of GILTI inclusion. With the 50% deduction, the 21% rate, and the 80% foreign tax credit, as long as the foreign rate of tax exceeds 13.125%, there should be no incremental US tax as a result of the GILTI inclusion (80% of 13.125% is equal to 10.5%, or 50% of 21%).

GILTI is a US shareholder-level figure, the excess of (i) the aggregate of the US shareholder's pro rata share of the “tested income” of the shareholder's CFCs (actually, the aggregate of tested income over the aggregate of tested loss) over (ii) the aggregate of the US shareholder's share of its CFCs' tangible depreciable assets plus a fixed 10% return on those assets. In other words, each CFC computes its own tested income (or loss) in excess of a fixed return, and the US shareholder includes the aggregate as the GILTI amount. A CFC's tested income does not include effectively connected income, subpart F income, income that qualifies for the “high tax” exception to subpart F, or dividends from related parties. Tested income is gross income (without those exclusions) less “deductions properly allocable to such gross income under rules similar to the rules of section 954(b)(5). . . .” Assuming that the excluded items (subpart F, effectively connected income and the rest) are essentially fixed, the single most important variable in the GILTI computation is expense allocation, and taxpayers eagerly await guidance in this area. The statutory reference to Section 954(b)(5) can provide only limited insight as to what the GILTI expense allocation rules might be, because Section 954(b)(5) operates in a different context — namely to provide the guidelines for taking deductions into account to determine net subpart F income (foreign personal holding company income, the foreign base company sales income, and the foreign base company services income). In that context, the rules focus on the factual relationship of the expense to the income or class of gross income. But GILTI is a fiction created by H.R. 1, to impose a global minimum tax on CFC income. It isn't “income” derived from any commercial transaction and certainly it is not one of the “classes of gross income” recognized under US law. Accordingly, it is not at all clear how to apply “the rules of section 954(b)(5)” to a GILTI computation.

Once a shareholder has determined the amount of its GILTI inclusion, and its 50% deduction, the foreign tax credit calculation begins. The US corporate shareholder suffering the GILTI inclusion is permitted a credit for the aggregate of its CFCs' “tested foreign income taxes”. A CFC's tested foreign income taxes are those taxes “properly attributable” to that CFC's tested income, to the extent included in the GILTI amount. But that's not the end of the matter. In order to determine the amount of the credit allowed, the taxpayer has to compute the limitation under section 904. The numerator of the foreign tax credit limitation fraction is the foreign source income derived from that category of section 904 income, here, GILTI, net of allocable expenses. Thus, an allocation of expenses to the foreign source GILTI income would have the effect of reducing the credit limitation. So far, we know only that Congress has created a new section 904 category for GILTI income. We do not know what the expense allocation rules will be. One would expect the numerator of the formula to reflect the 50% deduction. What is not clear is whether some portion of the US shareholder's other expenses (e.g., interest expense or R&D expenses) might have to be allocated to GILTI. (To clarify, this would not reduce the amount of the GILTI inclusion but rather would reduce the amount of the allowable credit.) Based on statements in the legislative history, such an expense allocation would seem to clearly contravene Congressional purpose. Without guidance, however, taxpayers cannot be certain.

The uncertainty is a real problem for US multinationals attempting to arrange their affairs in light of H.R. 1 to optimize their foreign and US tax profile. For individuals with CFCs, GILTI is an unmitigated disaster, because no credit is allowed for foreign taxes “deemed paid” with respect to the GILTI inclusion. For individuals, GILTI always results in incremental US tax, even if the CFC's pay an effective rate of tax in excess of the amount contemplated by Congress in the legislative history.