ACLI Highlights Impact of Interest Deduction Regs on Insurers

November 2, 2020

Office of Chief Counsel
Attention: Azeka J. Abramoff and Raphael J. Cohen
Internal Revenue Service (I.R.S.)
1111 Constitution Avenue, NW
Washington, DC 20224

CC:PA:LPD:PR (REG-107911-18)
Room 5203
Internal Revenue Service
P.O. Box 7604
Ben Franklin Station Washington, D.C. 20224

Re: Comments Regarding Proposed Regulations under section 163(j)¹ (REG-107911-18)

Dear Ms. Abramoff and Mr. Cohen:

On behalf of the American Council of Life Insurers (”ACLI”), we are writing with recommendations for implementation of section 163(j) of the Internal Revenue Code of 1986, as amended (the “Code”).² Our recommendations offer reasons for why the 2020 Proposed Regulations implementing the business interest expense deduction limit, as defined in Code section 163(j), as amended by TCJA, should be modified to address issues of particular concern to the life insurance industry. Specifically, ACLI requests Treasury and the IRS provide in Final Regulations that (i) the controlled foreign corporation (“CFC”) group election provided by the 2020 Proposed Regulations allow CFCs that are related to a U.S. shareholder under the principles of Code section 954(d)(3) to be considered members of the same CFC group; and (ii) the safe harbor election include a simplified test to determine eligibility for the election.

We thank you for soliciting feedback and providing the opportunity for dialogue and welcome the opportunity to discuss these items in further detail. We believe the following recommendations will assist you to issue guidance effectively and efficiently to implement Code section 163(j) after amendment by TCJA for the life insurance industry.

Background

Code section 163(j) generally limits the amount of business interest expense that can be deducted in the current taxable year. Under Code section 163(j)(1), the amount allowed as a deduction for business interest expense is limited to the sum of (1) the taxpayer's business interest income for the taxable year; (2) 30 percent of the taxpayer's adjusted taxable income (“ATI”) for the taxable year; and (3) the taxpayer's floor plan financing interest expense for the taxable year. Treasury and the IRS have determined in the Final Regulations (consistent with their view expressed in the 2018 Proposed Regulations) it is appropriate for section 163(j) to apply to CFCs. The 2020 Proposed Regulations provide rules to apply Section 163(j) at the CFC level. We offer the following recommendations to address the life insurance industry's concerns with respect to the 2020 Proposed Regulations in its application to CFCs.

CFC groups should include all CFCs that are related under Code section 954(d)(3)

Treasury and the IRS have determined that it is appropriate, while still carrying out the provisions of the statute and the policies of section 163(j), to reduce the administrative and compliance burdens of applying section 163(j) to applicable CFCs. Accordingly, Proposed §1.163(j)-7 allows for an election to be made to apply section 163(j) on a group basis with respect to applicable CFCs that are “specified group members” of a “specified group.” If the election is made, the specified group members are referred to as “CFC group members” and all of the CFC group members collectively are referred to as a “CFC group.” A CFC group means all CFC group members for their specified tax years with respect to a specified period. We first want to thank you for adopting the ACLI recommendation that financial service entities not be carved out of the general specified group rule.

A specified group is defined using affiliated group standards under Section 1504, with modifications. Specifically, a specified group includes one or more chains of applicable CFCs with a specified group parent that meets the ownership requirement in Section 1504(a)(2)(B); however, the specified group rules only require that 80 percent of the total value (rather than vote and value) of an applicable CFC be owned by the specified group parent or other applicable CFCs in the specified group. Further, the 2020 proposed regulations take into account both stock owned directly and indirectly under Sections 318(a)(2)(A) and (B) through a domestic or foreign partnership or a foreign estate or trust.

ACLI supports the CFC specified group election as it believes that in principle CFCs related to the same U.S. shareholder should be grouped together for purposes of determining interest expense. However, ACLI requests a modification to the definition of a specified group. This is consistent with ACLI's earlier comment with respect to the “alternative method” suggested by the 2018 Proposed Regulations (see attached letter dated February 21, 2019, “the 2018 letter”).

The CFC grouping in the 2020 Proposed Regulations is largely consistent with the “Alternative Method” described in the 2018 Proposed Regulations, whose Preamble provides:

The Treasury Department and the IRS determined that the alternative method is appropriately limited to situations in which a payor CFC and payee CFC have substantially identical ownership by United States shareholders because the alternative is based on the principle that money is fungible. The alternative is based on the principle that money is fungible, but fungibility should only apply in cases of close relationship where borrowings essentially support the entire group. Furthermore, the mismatch of a deduction and a payee income item is most significant when the payee and payor CFC have substantially identical ownership by United States shareholders.

As noted in the 2018 letter, in many instances, in the context of CFCs, the appropriate measure of relatedness and control is provided by Code section 954(d)(3).³ While the preamble identified requests for a lower ownership threshold to be used, it did not explain why an 80% ownership threshold was retained. ACLI believes that the principles that underpin the determination of a specified group are better served where the CFCs are grouped by determining if they are related to a U.S. shareholder applying the principles of Code section 954(d)(3). The principles of Code Section 954(d)(3) are used throughout the Code to determine when CFCs should be treated as related entities and a part of a group. The 80% value test is too narrow to determine relatedness of CFCs, as it does not take into account the realities of investing in foreign insurance companies and the common control that a U.S. shareholder has over the CFCs. For instance, the amount of U.S. ownership may be restricted under local law, which may not allow for a U.S. shareholder to meet the 80% value test. While the concept of 80% relatedness may make sense in a domestic context for purposes of rules that relate to U.S. consolidated tax concepts, it is not an appropriate measure of control in the context of CFCs. Accordingly, ACLI requests that the 80% value test be replaced with a relatedness test based on Code section 954(d)(3) with respect to a U.S. Shareholder or a higher tier foreign corporation. For example, the same test as in the 2020 Proposed Regulations may be finalized, but using an ownership threshold of "more than 50%" replacing the threshold of "at least 80%," in section 1504.

Safe-harbor Election

The 2020 proposed regulations provide a new safe-harbor election pursuant to which a taxpayer can elect to not apply Section 163(j) to a stand-alone CFC or CFC group whose business interest expense otherwise would not have been limited under Section 163(j), determined by applying certain tests provided in the 2020 proposed regulations. Specifically, Prop. Reg. 1.163(j)-7(h)(2) provides that the safe-harbor election may be made for the specified period of a CFC group (or a stand-alone applicable CFC, with appropriate modifications to the rule) only if the business interest expense of the CFC group for the specified period is less than or equal to 30 percent of the lesser of the sum of qualified tentative taxable income or the sum of the eligible amounts of each CFC group member for its specified taxable year with respect to the specified period, and no CFC group member has pre-group disallowed business interest expense carryforward (the “business interest expense test”).

The safe-harbor election can be made on an annual basis and must be made no later than the due date (including extensions) of the original US federal income tax return for the tax year of each designated US person, in which or with which the tax year of the stand-alone CFC or specified period of the CFC group ends.

ACLI commends IRS and Treasury for providing a safe-harbor election that furthers the reduction of compliance burden of multinational companies which must apply section 163(j) to CFCs. Consistent with such goals, ACLI recommends that the “business interest expense test” be further simplified to allow a CFC group to elect for the safe harbor if the CFC group does not have any net interest expense. Therefore, the safe-harbor election should be available where a CFC group's business interest income exceeds its business interest expense (“simplified business interest expense test”). Section 163(j)(5) and (6) define “business interest” and “business interest income,” respectively, for purposes of section 163(j). The legislative history states that “a corporation has neither investment interest nor investment income within the meaning of section 163(d). Thus, interest income and interest expense of a corporation is properly allocable to a trade or business, unless such trade or business is otherwise explicitly excluded from the application of the provision.” H. Rept. 115-466, at 386, fn. 688 (2017). Using the “simplified business interest expense test” would provide relief to companies from compliance burdens without creating any possibility of abuse, and would be consistent with the stated goals of the safe harbor election.

* * *

We thank you for considering our comments to the 2020 Proposed Regulations and welcome the opportunity to discuss our recommendations.

Sincerely,

Regina Y. Rose

Mandana Parsazad

American Council of Life Insurers
Washington, DC

CC:
Angela J. Walitt
Attorney-Advisor
Department of Treasury