Deloitte Seeks Relief for Untimely Transition Tax Elections

July 25, 2019

The Honorable David J. Kautter
Assistant Secretary (Tax Policy)
U.S. Department of the Treasury
1500 Pennsylvania Ave. NW
Washington, DC 20220

The Honorable Charles P. Rettig
Commissioner, Internal Revenue Service
1111 Constitution Ave. NW
Washington, DC 20224

The Honorable Michael J. Desmond
Chief Counsel, Internal Revenue Service
1111 Constitution Ave. NW
Washington, DC 20224

RE: Tax Reform Administrative Relief for Various Section 965 Elections

Dear Assistant Secretary Kautter, Commissioner Rettig, and Chief Counsel Desmond:

We are pleased to submit comments on behalf of Deloitte Tax LLP, a subsidiary of Deloitte LLP,¹ regarding aspects of the final section 965 regulations issued on February 5, 2019.² Specifically, our comments recommend that the Department of Treasury (“Treasury”) and the Internal Revenue Service (“IRS”) (i) create a one-time administrative relief procedure to perfect late or defective statutory elections under section 965 of the Internal Revenue Code (“Code”) (or at a minimum grant automatic 6-month administrative relief with respect to late statutory elections arising under section 965); (ii) allow reasonable cause or 9100 relief³ for late or incomplete regulatory elections under section 965 and late or incomplete transfer agreements; and (iii) provide a simplified method of reporting corrections to the amount of a taxpayer's section 965 liability. Relief is requested as soon as possible given that the 2018 tax year is the initial calendar year reporting extended deadline for certain impacted taxpayers.

I. Introduction

a. Section 965 In General

Section 965 was amended by section 14103 the Tax Cuts and Jobs Act (the “TCJA”),⁴ which was enacted on December 22, 2017. In general, section 965 requires United States shareholders to pay a transition tax on the untaxed foreign earnings of certain specified foreign corporations as if those earnings had been repatriated to the United States. A specified foreign corporation means either a controlled foreign corporation, as defined under section 957 (“CFC”), or a foreign corporation (other than a passive foreign investment company, as defined under section 1297, that is not also a CFC) that has a United States shareholder that is a domestic corporation. Section 965 applies in the case of the last taxable year of a deferred foreign income corporation that begins before January 1, 2018.⁵

Treasury and the IRS initially issued guidance under section 965 in a series of Internal Revenue Bulletin notices.⁶ On August 9, 2018, Treasury and the IRS issued proposed regulations under section 965 in the Federal Register.⁷ Final regulations were published in the Federal Register on February 5, 2019.⁸ On June 27, 2019, the IRS issued additional guidance in the form of questions and answers regarding Transfer and Consent Agreements arising under section 965(h) and (i).

b. Section 965 Election Due Dates

The section 965 tax liability is payable as of the due date of the inclusion year return (without extensions). Section 965(h)(2), however, provides that taxpayers may elect to pay the transition tax in installments over an eight-year period. This election must be made not later than the due date (including extensions) for the return of tax for the inclusion year.⁹ In addition to the section 965(h) election to pay the liability in installments, section 965 also includes statutory due dates for making section 965(i) elections (election for S corporation shareholders), section 965(m) elections (election for United States shareholders that are REITs), and section 965(n) elections (election to not apply net operating loss deduction).¹⁰ In addition to furnishing guidance with respect to statutory elections, the regulations provide taxpayers with two additional elections in Treas. Reg. §§ 1.965-2(f)(2) (election to make adjustments to basis) and 1.965-7(f) (election to use alternative method for calculating post-1986 earnings and profits), and prescribe the due dates for making these regulatory elections.¹¹

The final regulations state that relief under Treas. Reg. §§ 301.9100-2 or 301.9100-3 is not available with respect to any election under section 965. In response to a public comment recommending that Treasury and the IRS reverse its position in the proposed regulations and grant 9100 relief for the statutory and regulatory elections with respect to section 965, Treasury and the IRS indicated in the preamble that the IRS does not have the discretion to provide section 9100 relief with respect to an election whose due date is prescribed by statute. Moreover, outside of the additional time to make the basis election and the postponement for taxpayers affected by Hurricane Florence,¹² Treasury and the IRS determined that providing additional relief would create administrative difficulties and, therefore, did not adopt the recommendation.

c. Section 965 Transfer Agreements under sections 965(h)(3) and 965(i)(2)(C)

Section 965(h)(3) provides that if there is an addition to tax for failure to timely pay any installment required under this subsection, a liquidation or sale of substantially all the assets of the taxpayer (including in a title 11 or similar case), a cessation of business by the taxpayer, or any similar circumstance, then the unpaid portion of all remaining installments shall be due on the date of such event (or in the case of a title 11 or similar case, the day before the petition is filed). The preceding sentence shall not apply to the sale of substantially all the assets of a taxpayer to a buyer if such buyer enters into an agreement with the Secretary under which such buyer is liable for the remaining installments due under this subsection in the same manner as if such buyer were the taxpayer. Similarly, with respect to S corporation shareholders, section 965(i)(2)(C) provides that a relevant transfer shall not be treated as a triggering event if the transferee enters into an agreement with the Secretary under which such transferee is liable for net tax liability with respect to such stock in the same manner as if such transferee were the taxpayer.¹³

The final section 965 regulations state that a transfer agreement must generally be timely filed within 30 days of the date that the triggering event occurs and in accordance with the rules provided in publications, forms, instructions, or other guidance to be valid. Pursuant to the final regulations, relief is not available under Treas. Reg. §§ 301.9100-2 or 301.9100-3 for late filing of a transfer agreement.¹⁴

d. Reporting an Increased or Decreased Section 965 Liability

Under section 965(h)(4) and the regulations thereunder,¹⁵ if a person makes a section 965(h) election, any deficiency or additional liability will generally be prorated to the installments if any of the following occur: (i) a deficiency is assessed with respect to the person's section 965(h) net tax liability; (ii) the person files a return by the due date of the return (taking into account extensions, if any) increasing the amount of its section 965(h) net tax liability beyond that taken into account in paying the first installment; or (iii) the person files an amended return that reflects an increase in the amount of its section 965(h) net tax liability.

If the due date for the payment of an installment to which the deficiency is prorated has passed, the amount prorated to such installment must be paid on notice and demand by the Secretary, or, in the case of an additional liability reported on a return increasing the amount of the section 965(h) net tax liability after payment of the first installment or on an amended return, with the filing of the return. If the due date for the payment of an installment to which the deficiency or additional liability is prorated has not passed, then such amount will be due at the same time as, and as part of, the relevant installment. The proration rules do not apply if a deficiency or additional liability is due to negligence, intentional disregard of rules or regulations, or fraud with intent to evade tax.

II. Recommendations for Administrative Relief

a. Late Section 965 Statutory Elections

Treasury and the IRS should create a one-time administrative relief procedure to perfect late or defective statutory elections under section 965. Because of the complexities involved and the numerous requirements to make the initial elections, taxpayers and their advisors sometimes failed to file these statutory elections and others may have omitted relevant required information inadvertently. There is no current way for these taxpayers to fix these mistakes. While our recommendation is with respect to all statutory section 965 elections, at a minimum, relief should be available to shareholders who failed to timely make a complete election under section 965(h) to pay the net tax liability under section 965 in eight installments and to S corporation shareholders who failed to timely make a complete election under section 965(i) to defer the payment of tax resulting from the application of section 965 until the occurrence of a triggering event.

Due to proposed regulations being issued on August 9, 2018, and final regulations being issued on February 5, 2019, many taxpayers had to decide whether to file a section 965(h) or (i) election, as well as to file their 2017 tax return, without knowing what the final rules were that would govern that year's tax return with respect to their section 965 liability. This caused inequitable results in a number of situations. As an example, under the final section 965 regulations, certain corporations are now considered specified foreign corporations. As a result, many shareholders who did not have a section 965 tax liability under the proposed section 965 regulations (and, as such, did not file a section 965(h) or (i) election) now have a section 965 tax liability under the final section 965 regulations, thereby making a section 965(h) or (i) election advantageous under this later-published guidance. Proposed regulations are not binding on taxpayers, and taxpayers should not be substantively harmed for having to make difficult interpretative assessments in the time frame in which Treasury and the IRS were unable to provide final published guidance. It is clear in that scenario that the required due date had passed and the taxpayers were unable to timely make a section 965(h) or (i) election and, under the view of Treasury and the IRS, there is no ability to amend the associated returns for purposes of making the elections.

There is broad policy support for allowing administrative relief in this context. Some examples of such support include the overwhelming amount of changes created by tax reform and the fact that Congress did not intend to create a trap for the unwary. Given the broad reach of section 965 to many forms of businesses, most notably S corporations, it is fair to state that taxpayers with broadly varying levels of reporting and compliance sophistication and their professional advisors have been ensnared in this trap and have potentially filed incomplete elections. We do not believe that any relief granted would be subject to abuse or prejudice the interests of the Government. We would not anticipate taxpayers using hindsight to make an election through any relief procedure. Taxpayers who would benefit from this relief are taxpayers who acted reasonably and in good faith but failed to make a proper election due to inadvertence or lack of timely final guidance available before their filing date.

It is also critical that taxpayers obtain certainty with respect to these elections for purposes of business transactions such as mergers, dispositions, and acquisitions. For example, in completing its due diligence, an acquiring company may be uncertain as to whether the target company's election was valid if it discovers the election is missing one of the many required elements or there is insufficient documentation to support a timely filed return evidencing the election.

We believe that Treasury and the IRS have authority to grant this one-time relief based on a number of different statutory provisions. Initially, section 7805(a) provides broad authority for the Secretary to “prescribe all needful rules and regulations for the enforcement of this title, including all rules and regulations as may be necessary by reason of any alteration of law in relation to internal revenue.” In addition, section 965(o) authorizes the Secretary to prescribe such regulations or other guidance as may be necessary or appropriate to carry out the provisions of this section. Sections 965(h) and (i) also state that these two elections “shall be made in such manner as the Secretary shall provide,” which allows the IRS to issue guidance on how taxpayers can perfect such elections even if after the due date. Thus, through the combination of all of these provisions, Treasury and the IRS are statutorily authorized to provide one-time administrative relief to taxpayers to perfect these elections.

Moreover, in prior guidance, Treasury and the IRS have provided transition relief to assist taxpayers with changes in law. In Notice 2005-29¹⁶ Treasury and the IRS responded to the enactment of section 470 by providing that in the case of partnerships and pass-thru entities described in section 168(h)(6)(E), for taxable years that begin before January 1, 2005, the IRS will not apply section 470¹⁷ to disallow losses associated with property that is treated as tax-exempt use property solely as a result of the application of section 168(h)(6). Treasury and the IRS noted that, with respect to partnerships and other pass-thru entities that are subject to section 470 because of section 168(h)(6), difficulties may exist in applying the provision of section 470 with respect to taxable years beginning before January 1, 2005. The granting of this transition relief was based at least partially on the language in section 470(g), which provides that the Secretary shall prescribe such regulations as may be necessary or appropriate to carry out the purposes of section 470. This is direct support for using the same authority language in section 965(o) to grant transition relief in this context. Similarly, in the area of FATCA, Treasury and the IRS have also provided transition relief in order to facilitate an orderly transition for withholding agents and foreign financial institutions to comply with FATCA's requirements. For example, Notice 2011-53¹⁸ notes that Treasury and the IRS received numerous comments concerning the practical difficulties in implementing aspects of the FATCA rules within the time frame provided in the Act.¹⁹ The Notice further states that while the Act provides that the FATCA provisions are effective beginning in 2013, Treasury and the IRS have determined that because FATCA creates the need for significant modifications to the information management systems of foreign financial institutions, withholding agents, and the IRS, it is reasonable for regulations to provide for a phased implementation of the various provisions of FATCA.

In a more recent example, Treasury and the IRS provided transitional relief in response to the statutory change in the due date for a partnership return. Section 2006 of the Surface Transportation Act amended section 6072 of the Code and changed the date by which a partnership must file its annual return with the IRS. The new due date applies to the returns of a partnership for taxable years beginning after December 31, 2015. As a result of this change, the Treasury and the IRS issued Notice 2017-71,²⁰ under which the IRS will treat acts of a partnership as timely for the first taxable year that began after December 31, 2015, and before January 1, 2017, if the partnership took that act by the date that would have been timely under section 6072 before the amendment by the Surface Transportation Act. Accordingly, the Notice provided partnerships with an extension of time to make elections that are required to be made by the due date of its return.²¹ As can be seen from the prior examples, Treasury and the IRS have provided transitional relief in response to changes in law. We believe the present situation warrants the same consideration and request one-time administrative relief to assist taxpayers with this change in law.

While we believe there is authority to grant such one-time administrative relief in this context, if it is determined otherwise, Treasury and the IRS should, at a minimum, grant automatic 6-month late election relief to taxpayers who did not properly extend their original return filing due date and who, for this reason, are considered to have missed the statutory deadline for elections under section 965 even though they filed their tax return on or before what they believed was their extended filing deadline. While the preamble to the final section 965 regulations indicated that the IRS does not have the discretion to provide section 9100 relief with respect to an election whose due date is prescribed by statute, the IRS has provided 6-months of relief for all statutory elections (defined in Treas. Reg. § 301.9100-1(b) as an election whose due date is prescribed by statute) since at least 1992. In addition to the authorities cited above, the IRS has clear authority to grant this blanket 6-month relief under section 6081 of the Code, which provides: “The Secretary may grant a reasonable extension of time for filing any return, declaration, statement, or other document required by this title or by regulations. Except in the case of taxpayers who are abroad, no such extension shall be for more than 6 months.” The 6-month relief should, for the reasons already discussed, be automatically available for all taxpayers who did not properly extend the original due date of the return but who filed their return timely on or before the extended deadline.

b. Late/Incomplete Section 965 Regulatory Elections and Late/Incomplete Transfer Agreements

For the regulatory section 965 elections in Treas. Reg. §§ 1.965-2(f)(2) and 1.965-7(f), as well as with respect to the filing of transfer agreements, Treasury and the IRS should allow for a simplified method to obtain relief for late or incomplete filings if the taxpayer can show reasonable cause for such late or incomplete filings. There are various situations where the IRS has administratively granted such relief without requiring taxpayers to request a private letter ruling under 9100 standards. For example, in Rev. Proc. 2013-30,²² the IRS allows taxpayers to request relief for late S corporation elections, ESBT elections, QSST elections, QSub elections, and late corporation classification elections. Additionally, Rev. Proc. 2009-41²³ provides relief with respect to late entity classification elections for an eligible entity's initial classification election or change in classification election. Similar reasonable cause relief should be provided for the section 965 regulatory elections and transfer agreements.

Alternatively, relief under Treas. Reg. § 301.9100-2 and Treas. Reg. § 301.9100-3 should be available to correct late or incomplete regulatory section 965 elections and transfer agreements. Although we acknowledge that the preamble to the final regulations stated that providing additional relief would create administrative difficulties, we do not believe such difficulties outweigh the many policy and equitable factors supporting the granting of relief, especially considering the potential harsh consequences that many taxpayers would face. It is also inconsistent with prior IRS practice.²⁴ We believe that Treasury and the IRS have the ability and authority to act in this situation to remedy a harsh result. By having chosen not to act, Treasury and the IRS presume a level of perfection in all compliance activities that is simply not realistic in the context of a new statutory requirement with broad applicability.

c. Reporting an Increased or Decreased Section 965 Liability

We request that Treasury and the IRS issue guidance providing a simplified method to report and account for an increased or decreased tax liability resulting from changes made by the final section 965 regulations. Due to the issuance of the final regulations under section 965 in February of 2019 and the various complexities involved in the calculation of a section 965 tax liability, many taxpayers determined, after the filing of their 2017 tax returns, that the proper amount of their section 965 liability is different. Instead of requiring a taxpayer to amend their 2017 tax returns to account for changes created by the final section 965 regulations, Treasury and the IRS should permit taxpayers to report the correct amount of their section 965 tax liability on their 2018 original, timely-filed tax returns or through some other simplified method.

Requiring amended returns may be administratively burdensome for certain large taxpayers due to the potential obligation to also amend various state tax returns, as well as certain tax return preparation computer software limitations. Moreover, the applicable forms used to report a section 965 liability were not published by the due date of the 2017 returns. Manual processing of the section 965 elections and calculations without the benefit of final regulations was necessary for 2017 return reporting. Now that such computations are being able to be made through software and through the interaction of other substantive positions, some non-material but necessary adjustments may need to be made to the prior reporting and continued eight-year payment obligation. This would be an administrative hardship to force an entire population of taxpayers with 2017 returns prepared using tax preparation software to now have to file amended returns due to the nature of relatively small adjustments for taxable period 2018 reporting. Allowing a taxpayer to reflect the correct amount of a section 965 liability on its 2018 original return or through some other simplified method would make administrative processing for both the IRS and taxpayers less cumbersome.

III. Conclusion

For the reasons stated above, we respectfully request that Treasury and the IRS: (i) create a one-time administrative relief procedure to perfect late or defective statutory elections under section 965 (or at a minimum grant automatic 6-month administrative relief); (ii) allow reasonable cause or 9100 relief for late or incomplete regulatory elections under section 965 and late or incomplete transfer agreements; and (iii) provide a simplified method of reporting corrections to the amount of a taxpayer's section 965 liability.

We appreciate your consideration of our comments. Please feel free to reach out to any of our professionals who contributed to this comment letter, Anita Soucy at (202) 378-5590, Matt Cooper at (202) 220-2153 or Laura Howell-Smith at (202) 220-2076, as we would be happy to discuss any questions you may have.

Sincerely,

Deloitte Tax LLP
Washington, DC