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Repeal of the Limitation on Downward Attribution: Three Years Later

Posted on Feb. 8, 2021
[Editor's Note:

This article originally appeared in the February 8, 2021, issue of Tax Notes Federal.

]
Lauren Azebu
Lauren Azebu
Amanda Pedvin Varma
Amanda Pedvin Varma

Amanda Pedvin Varma is a partner and Lauren Azebu is an associate at Steptoe and Johnson LLP in Washington. They thank Eric Solomon and George Callas for their feedback in the preparation of this report.

In this report, Varma and Azebu examine the state of the government’s administrative and legislative efforts to address the various problems caused by the repeal of section 958(b)(4).

Soon after the Tax Cuts and Jobs Act was enacted, the problems caused by the repeal of section 958(b)(4), commonly referred to as a limitation on the downward attribution of stock ownership from foreign to U.S. persons, became increasingly apparent.1 Many hoped Congress or Treasury and the IRS, or both, would soon intervene.

Three years later, Treasury and the IRS have addressed some of the unintended consequences of the repeal of section 958(b)(4). On September 21, 2020, they released final regulations2 addressing provisions outside subpart F affected by the TCJA’s repeal of section 958(b)(4). On the same day, they released proposed regulations3 addressing two additional targeted issues arising under sections 367(a) and 954(c)(6). Despite this and other guidance, many issues remain, and some may not be resolved without action by Congress.

This report examines the fallout of the repeal of section 958(b)(4) three years after the tax reform (and four years after the repeal’s effective date).

I. Section 958(b)(4) Before the TCJA

A U.S. shareholder of a controlled foreign corporation must include in gross income its pro rata share of subpart F income and tested income (which is used in computing the U.S. shareholder’s global intangible low-taxed income).4 CFC status is also relevant for several other code and regulatory provisions outside subpart F.

A CFC is any foreign corporation in which more than 50 percent of either the total vote or value of the stock is directly or indirectly owned, or is considered as owned under the constructive ownership rules of section 958(b), by U.S. shareholders on any day during the tax year of that corporation.5 A U.S. shareholder is a U.S. person6 that owns 10 percent or more of the total combined voting power of all the foreign corporation’s classes of stock entitled to vote, or 10 percent or more of the total value of shares of all the foreign corporation’s classes of stock.7

In determining U.S. shareholder status and CFC status, ownership is defined in two ways. First, section 958(a) defines ownership as direct ownership and indirect ownership through foreign entities. Stock owned directly or indirectly by or for a foreign corporation, foreign partnership, foreign trust, or foreign estate is considered as being owned proportionately by its shareholders, partners, or beneficiaries.8 Only U.S. shareholders that own CFC stock within the meaning of section 958(a) have a subpart F income or GILTI inclusion.9 Second, section 958(b) provides constructive ownership rules and defines ownership by reference to the constructive ownership rules in section 318(a), as modified by section 958(b).

Before its repeal, section 958(b)(4) provided that section 318(a)(3)(A) through (C) would not be applied to consider a U.S. person as owning stock owned by a person that is not a U.S. person. Section 318(a)(3)(A) through (C) provides the following rules for downward attribution for partnerships, estates, trusts, and corporations:

  • Stock owned directly or indirectly by or for a partner or a beneficiary of an estate is considered owned by the partnership or estate.10 Note that there is no ownership threshold for this rule. Thus, for example, if a partner has only a 1 percent interest in a partnership, that partnership is treated as owning all the stock owned by the partner.

  • Stock owned directly or indirectly by or for a beneficiary of a trust is generally considered owned by the trust, unless the beneficiary’s interest in the trust is a remote contingent interest.11 Also, stock owned directly or indirectly by or for a person that is considered the owner of any portion of a trust under the grantor trust rules is considered owned by the trust.12

  • If 50 percent or more in value of the stock in a corporation is owned directly or indirectly by or for any person, that corporation is considered as owning the stock owned by or for that person.13

Under a simple base case example (Example 1), assume that a foreign parent corporation (FP) wholly owns a U.S. subsidiary (US Sub) and a foreign subsidiary (Foreign Sub). Foreign Sub does not have any section 958(a) U.S. shareholders, because no U.S. shareholders own a direct or indirect interest in Foreign Sub.

Example 1

Under sections 958(b) and 318(a)(3)(C), because FP owns 50 percent or more of the stock in US Sub, US Sub is treated as owning the stock owned by FP, which includes 100 percent of the stock of Foreign Sub. Former section 958(b)(4) avoided this result by preventing a U.S. person (in this case, US Sub) from being attributed stock owned by a foreign person (in this case, FP).

II. Repeal and Consequences

The section 958(b)(4) limitation on downward attribution was repealed by the TCJA, effective for the last tax year of a foreign corporation beginning before January 1, 2018.14

The legislative history indicates that the repeal of section 958(b)(4) was intended to apply only in limited situations. The Conference Committee report states that the intent was to “render ineffective certain transactions that are used . . . as a means of avoiding the subpart F provisions.”15 Assume, for example, that a foreign corporation (ForCo) is wholly owned by a domestic corporation (USCo) and is therefore a CFC. USCo transfers a 75 percent interest in ForCo to its foreign parent (FP). Before the enactment of the TCJA, because former section 958(b)(4) prevented the downward attribution of stock from a foreign person to a U.S. person, ForCo would cease to be a CFC. After the repeal of section 958(b)(4), the stock owned by ForCo would be attributed to USCo, causing ForCo to be treated as a CFC and USCo to have an income inclusion for its remaining 25 percent section 958(a) stock interest in ForCo.

However, despite statements in the legislative history indicating that Congress intended to limit the scope of section 958(b)(4) repeal, section 958(b)(4) was simply stricken from the code. As discussed below, the lack of a limitation on downward attribution from foreign to U.S. persons can have far-reaching effects, expanding the scope of U.S. shareholder and CFC status, including in situations quite different from those discussed in the legislative history.

One common situation in which “new” CFCs arise involves subsidiary corporations being deemed to own interests in brother-sister entities through application of the downward attribution in section 318(a)(3). For example, after the repeal of section 958(b)(4), the result in Example 1 changes because there is no longer a limitation on the attribution of stock owned by FP to US Sub under section 318(a)(3)(C). As a result, because US Sub would be considered to own 100 percent of the stock of Foreign Sub, Foreign Sub would be a CFC, and US Sub would be a U.S. shareholder of Foreign Sub.

Thus, U.S. subsidiaries may be treated as owning other foreign entities in the structure, greatly increasing the number of foreign corporations treated as CFCs. Although the TCJA did not change the calculation of a U.S. shareholder’s pro rata share of subpart F income or tested income (which is still determined based on direct or indirect ownership of the CFC under section 958(a)), the repeal of section 958(b)(4) has resulted in numerous apparently unintended consequences, including income inclusions by some ultimate U.S. investors that would not have had income inclusions before the repeal, and additional compliance burdens for those U.S. investors.

For example, US Sub in Example 1 does not own any section 958(a) stock in FP and therefore would not have an income inclusion, despite being a U.S. shareholder after the repeal of section 958(b)(4). However, suppose that FP is owned 10 percent by a U.S. person (US SH) and 90 percent by foreign shareholders. FP wholly owns US Sub and Foreign Sub. After the repeal of section 958(b)(4), because FP owns a 50 percent or greater interest in US Sub, US Sub would be treated as owning 100 percent of the stock of Foreign Sub, making Foreign Sub a CFC. US SH would now be treated as a U.S. shareholder of Foreign Sub. Because US SH has a section 958(a) interest in Foreign Sub, US SH would be required to include in income its share of subpart F income and tested income. Before the repeal of section 958(b)(4), US SH would not have any inclusion, because Foreign Sub would not be treated as a CFC. This scenario is illustrated in Example 2.

Example 2

Unexpected consequences after the repeal of section 958(b)(4) can also occur with a lower-tier domestic partnership. Suppose that US Sub is treated as a partnership rather than a corporation for U.S. tax purposes and that FP has a 1 percent interest in US Sub. Section 318(a)(3)(A) provides that a partnership is treated as owning the stock owned by its partners, and there is no minimum ownership threshold for the application of that rule. Consequently, US Sub would be treated as owning all the stock owned by FP, even though FP has only a 1 percent interest in US Sub. This would cause Foreign Sub to be treated as a CFC and US SH to have an income inclusion, as illustrated in Example 3.

Example 3

In both examples 2 and 3, US SH may have a limited ability to obtain the necessary information to calculate its subpart F income and GILTI inclusions, given that it owns only 10 percent of FP and may be unable to force information sharing by FP or Foreign Sub.

Further, in examples 2 and 3, US SH would have been subject to the transition tax under section 965, which was enacted by the TCJA and requires U.S. shareholders to pay a one-time transition tax on their share of undistributed foreign earnings of specified foreign corporations. A specified foreign corporation is defined to include a CFC.16 Section 965 applies to the last tax year of a specified foreign corporation that begins before January 1, 2018.17 Because the repeal of section 958(b)(4) is retroactive to the last tax year of a foreign corporation before January 1, 2018, section 958(a) U.S. shareholders of a foreign corporation that is treated as a CFC after section 958(b)(4) repeal are subject to the transition tax. Thus, US SH would be required to pay the transition tax on Foreign Sub’s undistributed foreign earnings.

The collateral damage from section 958(b)(4) repeal extends to other contexts. One of them is the portfolio interest exemption, which is often relied on in financing structures connected to U.S. investments made by foreign individuals. The portfolio interest exemption exempts from tax most U.S.-source portfolio interest received by a foreign corporation.18 Portfolio interest generally includes interest paid on a debt obligation that is in registered form, but it excludes interest received by a CFC from a related person (defined as (1) a related person within the meaning of section 267(b); and (2) any U.S. shareholder of the CFC, and any person that is a section 267(b) related person to that U.S. shareholder).19 As a result of the repeal of section 958(b)(4), interest payments arising from some financing structures no longer qualify for the portfolio interest exemption.

This problem is illustrated in Example 4. Assume that a foreign individual wholly owns a foreign holding company (FSub1) that owns various investments, including a small portfolio investment in a domestic partnership (US JV). The foreign individual also wholly owns another foreign entity (FSub2), which lends money to US JV.

Example 4

Before the repeal of section 958(b)(4), FSub2 would not be a CFC, and interest paid by US JV on the loan from FSub2 would be eligible for the portfolio interest exemption assuming the other requirements were met. However, after the repeal, US JV is considered to own stock owned by its partners. Under section 318(a)(3), FSub1 is deemed to own 100 percent of the stock of FSub2. Absent a limitation on downward attribution from a foreign person, US JV is considered to own 100 percent of the stock owned by its partner FSub1, including the stock of FSub2, making FSub2 a CFC and US JV a U.S. shareholder (and therefore a related person) of FSub2. As a result, the interest paid by US JV to FSub2 no longer qualifies for the portfolio interest exemption.

Commentators have also observed that withholding agents may lack sufficient information to determine whether the payee is eligible for the exemption because of a lack of information about the payer’s holdings, and in some cases they may be advised to withhold to avoid liability for failing to do so. As a result, the payee would need to file a refund claim for amounts withheld if it believed the withholding was in error.20

CFC status is also relevant under numerous other code sections outside subpart F, including sections 267, 332, 367, 672, 706, 863, 904, 1248, 1297, and 6049. The repeal of section 958(b)(4) affects the application of these rules and results in unexpected consequences. Further, U.S. shareholders of CFCs are subject to information reporting requirements on Form 5471, “Information Return of U.S. Persons With Respect to Certain Foreign Corporations.” The section 958(b)(4) repeal causes some U.S. persons to have a filing requirement when they did not have one before the enactment of the TCJA.

Note that the classification of a foreign corporation as a CFC, or a U.S. person as a U.S. shareholder, can be advantageous in some situations. For example, the section 245A dividends received deduction may apply to dividends from a CFC; section 1248 may apply to recharacterize gain from the sale of a CFC as a dividend; and the status of a foreign entity as a CFC could prevent it from being treated as a passive foreign investment company for some U.S. shareholders. Moreover, some anticipated that payments to CFCs from certain foreign corporations treated as CFCs as a result of the repeal of section 958(b)(4) could qualify for the section 954(c)(6) look-through rule, although Treasury and the IRS have issued proposed regulations that would prevent that result.21

As detailed in Section III, some of the apparently unintended issues created by the repeal of section 958(b)(4) have been addressed in guidance. However, as discussed in Section IV, other problems likely require a statutory fix.

III. Treasury and IRS Response

The targeted response by Treasury and the IRS suggests that they do not believe they have the authority to broadly limit the impact of the repeal of section 958(b)(4) and that some of the fundamental issues raised by the repeal will need to be addressed by Congress. Relief has been focused on addressing specific unintended outcomes.

A. Notice 2018-13 and Notice 2018-26

In 2018 the IRS issued Notice 2018-13, 2018-6 IRB 341, and Notice 2018-26, 2018-16 IRB 480, which provided some temporary relief in limited circumstances when section 958(b)(4) repeal caused unintended consequences.

Notice 2018-13 addressed the effect of the repeal on the application of the source rules under section 863(d) and (e) (which address gross income from space and ocean activities and income from international communications) and some reporting issues. Regarding section 863(d) and (e), some source rules turn on whether the income is derived by a CFC. Notice 2018-13 indicated that further study was necessary to determine whether it is appropriate for the source of income described in section 863(d) and (e) to be determined by reference to CFC status, and it provided that, pending further guidance, taxpayers could determine CFC status without regard to the repeal of section 958(b)(4) for purposes of those rules. (Final regulations issued in 2020 later addressed these sourcing issues, as discussed in Section III.C.2.g.)

Notice 2018-13 also stated that the IRS intended to amend the instructions for Form 5471 to provide an exception from category 5 filing22 for a U.S. person that is a U.S. shareholder of a CFC if no U.S. shareholder owns (within the meaning of section 958(a)) stock in that CFC and the foreign corporation is a CFC solely because that U.S. person is considered to own the stock of the CFC owned by a foreign person under section 318(a)(3). Thus, in Example 1, US Sub would not be required to file Form 5471 for FP, because US Sub does not own section 958(a) stock in FP, and FP is a CFC solely because US Sub is considered to own the FP stock owned by Foreign Sub under section 318(a)(3).

In Notice 2018-26, the IRS acknowledged that as a result of the repeal of section 958(b)(4) and the application of the constructive ownership rules in section 318(a)(3), it may be difficult to determine if a foreign corporation is a specified foreign corporation under section 965 in some circumstances. For example, assume that a person (A) owns 100 percent of the stock of a U.S. corporation (USCo) and 1 percent of the interests in a partnership (PS). A U.S. citizen (USI) owns 10 percent of the interests in PS and 10 percent by vote and value of the stock of a foreign corporation (ForCo). The remaining stock of ForCo is owned by non-U.S. persons unrelated to A, USCo, USI, or PS.

Example 5

Under sections 958(b) and 318(a)(3)(A), PS would be treated as owning 100 percent of the stock of USCo and 10 percent of the stock of ForCo. As a result, under sections 958(b) and 318(a)(3)(A) and (C), USCo would be treated as owning the stock of ForCo that is treated as owned by PS and thus would be a U.S. shareholder of ForCo. That would cause ForCo to be a specified foreign corporation as defined under section 965(e)(1)(B) (which includes a foreign corporation in which one or more domestic corporations is a U.S. shareholder). USI would be a U.S. shareholder of ForCo and, absent an exception, would be subject to the transition tax for ForCo. In that situation, it may be difficult for USI to obtain the necessary information from PS, A, and USCo to determine whether ForCo is a specified foreign corporation.

Notice 2018-26 announced Treasury and the IRS’s intent to issue regulations to provide guidance on this matter. Proposed regulations were issued August 1, 2018,23 and finalized January 15, 2019.24 The final regulations provide that in determining whether a foreign corporation is a specified foreign corporation within the meaning of section 965(e)(1)(B), stock owned directly or indirectly by or for a partner will not be considered to be owned by a partnership under the constructive ownership rules of sections 958(b) and 318(a)(3)(A) and reg. section 1.958-2(d)(1)(i) if the partner owns less than 10 percent of the interests in the partnership’s capital and profits.25

B. Rev. Proc. 2019-40

Treasury and the IRS issued more extensive guidance on October 1, 2019, with the release of proposed regulations and Rev. Proc. 2019-40, 2019-43 IRB 982. As discussed below, the proposed regulations were largely finalized September 21, 2020 (except for some rules concerning PFICs, for which a preliminary version of final regulations was released December 4, 202026), and new proposed regulations27 were issued concurrently.

Rev. Proc. 2019-40 provides relief from some information reporting requirements.28 It also provides three safe harbors for determining whether a foreign corporation is a CFC and for determining particular items of a CFC (such as taxable income and earnings and profits) based on alternative information.29 Relief is generally limited to U.S. shareholders of foreign-controlled CFCs, which are foreign corporations that would not be CFCs if the limitation on downward attribution under former section 958(b)(4) was applied. The revenue procedure also states that penalties under section 6038 (failure to furnish information) and section 6662 (underpayment) will not be applied if taxpayers satisfy specified requirements.30

The first safe harbor (the safe harbor for determining CFC status) provides relief for U.S. owners of foreign entities that are unable to obtain sufficient information to determine the CFC status of those entities. The IRS will accept a U.S. person’s determination that a foreign corporation is not a CFC for the U.S. person if:

  • the U.S. person does not have actual knowledge, statements received, or reliable, publicly available information sufficient to determine whether the foreign corporation meets the section 957 ownership requirements; and

  • the U.S. person directly owns stock of, or an interest in, a foreign entity (top-tier entity), and the U.S. person inquires of the top-tier entity:

    • whether the top-tier entity meets the section 957 ownership requirements;

    • whether, how, and to what extent the top-tier entity directly or indirectly owns stock of one or more foreign corporations; and

    • whether, how, and to what extent the top-tier entity directly or indirectly owns stock of, or an interest in, one or more domestic entities.31

The second safe harbor (the general safe harbor for using alternative information) provides relief for some unrelated section 958(a) U.S. shareholders of foreign-controlled CFCs.32 An unrelated section 958(a) U.S. shareholder is a section 958(a) U.S. shareholder that is not a related person for a foreign corporation, whereas a related section 958(a) U.S. shareholder is a section 958(a) U.S. shareholder that is a related person for a foreign corporation. (The term “related person” is defined by reference to the relatedness thresholds of section 954(d)(3).33) Under this safe harbor, in the case of a foreign-controlled CFC for which there is no related section 958(a) U.S. shareholder, an unrelated section 958(a) U.S. shareholder may determine the taxable income and E&P of the CFC (and comply with related information reporting requirements) using specified alternative information. The revenue procedure provides a hierarchical list of the alternative information that can be used, which consists of various types of separate-entity audited financial statements, followed by types of separate-entity unaudited financial statements, and then some separate-entity internal records.

The third safe harbor (the safe harbor for using alternative information for determining section 965 amounts) provides relief for some U.S. owners determining particular items of a specified foreign corporation (within the meaning of section 965(e) and reg. section 1.965-1(f)(45)) based on alternative information.34 Under the safe harbor, for a specified foreign corporation — other than either a foreign-controlled CFC for which there is a related section 958(a) U.S. shareholder or a U.S.-controlled CFC (that is, a CFC other than a foreign-controlled CFC) — a section 965 amount may be determined by a section 958(a) U.S. shareholder based on alternative information if the information required under the regulations is not readily available.

Rev. Proc. 2019-40 also describes modifications to be made regarding the filing requirements for Form 5471.35 Taxpayers may generally rely on the safe harbors and penalty relief provisions of the revenue procedure for the last tax year of a foreign corporation beginning before January 1, 2018, and each subsequent tax year of the foreign corporation, and for the tax years of U.S. shareholders in which and with which the tax year of the foreign corporation ends. Rev. Proc. 2019-40 indicates that Treasury and the IRS may update the guidance as needed to ensure adequate tax compliance, but any updates would be prospective.36

C. Final Regulations

1. Nov. 2019 final regulations.

On November 18, 2019, Treasury and the IRS issued final regulations that provided guidance on the targeted issue of determining whether a person is related to a CFC under section 954(d)(3).37 Section 954(d)(3) provides that a person is a related person with respect to a CFC if the person is (1) an individual who controls the CFC; (2) a corporation, a partnership, a trust, or an estate that controls or is controlled by the CFC; or (3) a corporation, a partnership, a trust, or an estate that is controlled by the same person or persons that control the CFC. For a corporation, control means the direct or indirect ownership of stock possessing more than 50 percent of (1) the total voting power of all classes of stock entitled to vote or (2) the total value of stock of the corporation. The section 958 rules for determining direct, indirect, and constructive stock ownership apply for purposes of section 954(d)(3) to the extent that the effect is to treat a person as a related person within the meaning of section 954(d)(3).38

The determination of whether specific types of sales and services income constitute foreign base company income depends in part on whether the income is earned from a transaction that involves a related person, as defined under section 954(d)(3).39 Also, the definition of related person under section 954(d)(3) is relevant in determining whether particular income qualifies for an exception to foreign personal holding company income.40 Treasury and the IRS determined that following section 958(b)(4) repeal, the application of the section 318(a)(3) constructive ownership rules for purposes of the section 954(d)(3) definition of related person could inappropriately treat entities, including CFCs, that do not have a significant relationship to each other as related persons.41

Consistent with proposed regulations issued on May 17, 2019,42 the final regulations provide that for purposes of section 954(d)(3), neither section 318(a)(3) nor reg. section 1.958-2(d) applies to cause downward attribution of stock or other interests to a corporation, partnership, estate, or trust.43 Subject to an antiabuse rule, this rule generally applies to tax years of CFCs ending on or after November 19, 2019, and tax years of U.S. shareholders in which or with which those tax years end.44

2. Sept. 2020 final regulations.

a. Overview.

On September 21, 2020, Treasury and the IRS issued final regulations45 addressing several targeted issues, generally consistent with the proposed regulations released on October 1, 2019.46 The final regulations modify the constructive ownership regulations under section 958 to be consistent with the repeal of section 958(b)(4).47 Further, the final regulations attempt to limit the collateral damage resulting from the repeal by making modifications to ensure that the operation of specific rules outside subpart F are consistent with their application before the repeal.

While some of these changes are favorable to taxpayers, others focus on preventing taxpayers from claiming what the government views as inappropriate benefits. What these rules have in common is that either (1) the relevant statutory provisions generally contain specific regulatory authority to exclude particular transactions or otherwise modify the application of the rules in some situations, or (2) the relevant regulatory provisions were promulgated before the repeal of section 958(b)(4) and assume that the limitation on downward attribution and the relevant rule could operate materially differently after section 958(b)(4) repeal. The final regulations do not change the operation of section 958(b)(4) repeal in the subpart F context. Thus, for example, CFCs whose U.S. owners have income inclusions after the repeal of section 958(b)(4) will continue to have those income inclusions.

The final regulations generally apply on or after October 1, 2019.48 For prior tax years, if the taxpayer and related U.S. persons apply the relevant rule consistently for all foreign corporations, a taxpayer may generally apply the final regulations to (1) the last tax year of a foreign corporation beginning before January 1, 2018, and each subsequent tax year, and (2) tax years of U.S. shareholders in which or with which those tax years of the foreign corporation end.49

b. Section 267(a)(2).

Section 267(a)(2) provides a general matching rule that governs the time at which an otherwise deductible amount owed to a related person may be deducted. Specifically, it provides that, for specified interest and expenses paid by the taxpayer to a related person, if an amount is not includable in the payee’s gross income until it is paid, the amount generally is not allowable as a deduction to the taxpayer until the amount is includable in the gross income of the payee.

A foreign payee rule provides that, subject to some exceptions, a taxpayer must use the cash method of accounting for deductions of amounts owed to a related foreign person.50 However, under a special CFC payee rule, an item payable to a CFC is deductible by the payer before the year of payment only to the extent includable in the gross income of a section 958(a) U.S. shareholder (that is, a U.S. shareholder with a direct or indirect interest in the CFC).51 After section 958(b)(4) repeal, a foreign entity could be treated as a CFC but not have any section 958(a) U.S. shareholders that might include that payment in gross income. Example 6 illustrates a situation in which there would be no section 958(a) U.S. shareholders to include a payment in gross income.

Example 6

The final regulations provide that an amount that is income of a related foreign person is not subject to the CFC payee rule if the related foreign person is a CFC that has no section 958(a) U.S. shareholders.52 The proposed regulations would have limited the exception to amounts (other than interest) of income of a related foreign person exempt from U.S. taxation under a treaty obligation when the related foreign person was a CFC without section 958(a) U.S. shareholders. The exception from the CFC payee rule in the final regulations thus expands on the proposed regulations by applying to all amounts payable to a related person that is a CFC that has no section 958(a) U.S. shareholders. Instead, the foreign payee rule and the related exceptions to the foreign payee rule under the regulations will apply to those payments. Note, however, that the CFC payee rule continues to apply to a CFC that has a section 958(a) U.S. shareholder, even if the foreign corporation is a CFC solely as a result of section 958(b)(4) repeal.

c. Section 332(d)(1).

Section 332(a) provides generally that no gain or loss shall be recognized on the receipt by a corporation of property distributed in complete liquidation of another corporation. There are some exceptions to this nonrecognition rule for distributions made by domestic corporations to foreign corporations. Under section 332(d)(1), a distributee foreign corporation recognizes income from the liquidation of some domestic holding companies (applicable holding companies) by treating the liquidating distribution as a dividend under section 301, which would generally be subject to a 30 percent withholding tax. However, section 332(d)(3) provides that exchange treatment under section 331 applies if the distributee corporation is a CFC. The gain on the distribution could be subpart F income, and before the repeal of section 958(b)(4), CFCs generally had U.S. shareholders that would be subject to tax on their share of the gain.

After the repeal of section 958(b)(4), the section 332(d)(3) exchange treatment exception could apply in situations in which a foreign corporation is a CFC as a result of downward attribution and does not have any U.S. shareholders that would have a current income inclusion. As illustrated in Example 7, assuming US Sub 2 would be treated as an applicable holding company, the distribution of US Sub 2’s assets to Foreign Sub in complete liquidation would qualify for section 331 exchange treatment because Foreign Sub would be treated as a CFC as a result of the attribution of Foreign Sub’s stock from FP to US Sub 1.

Example 7

Treasury and the IRS determined that this was an inappropriate result because any gain recognized on the exchange of stock of US Sub 2 by Foreign Sub could avoid U.S. tax, since Foreign Sub does not have any U.S. shareholders that have current income inclusions. Thus, the final regulations modify the section 332 regs to provide that in applying section 332(d)(3), CFC status is determined without regard to downward attribution from foreign persons.53 As a result, the liquidation of US Sub 2 would be subject to section 301 treatment for Foreign Sub under section 332(d)(1).

d. Section 367(a).

Section 367(a) overrides the nonrecognition provisions of section 332, section 351, and other code provisions for outbound transfers by a U.S. person to a foreign corporation by providing that the foreign corporation is not treated as a corporation for purposes of the nonrecognition provisions. This generally denies nonrecognition treatment to transfers of property subject to section 367(a) on which gain is realized, unless an exception applies. One exception provides that section 367(a) does not apply to specified transfers of stock or securities of a foreign corporation by a U.S. transferor if the U.S. transferor enters into a gain recognition agreement (GRA) for the transferred stock or securities.54

Under the GRA, the U.S. transferor agrees to include in income the gain realized on the transfer of the stock upon triggering events.55 A disposition of the stock or securities by the foreign corporate transferee is generally a triggering event, but not if the disposition qualifies as a nonrecognition transaction and the U.S. transferor meets specified requirements immediately after the disposition, including owning 5 percent or more of the vote and value of the foreign corporation’s stock.56 Ownership for these purposes is determined by applying section 318 as modified by section 958(b).

After section 958(b)(4) repeal, U.S. taxpayers could satisfy the 5 percent ownership requirement without directly or indirectly owning the foreign transferee’s stock. Thus, the final regulations provide that the GRA triggering event exception determines ownership without applying downward attribution to consider the U.S. transferor as owning stock owned by a foreign person.57

e. Section 672.

Section 672(f)(1) generally provides that the grantor trust rules in sections 671 through 679 apply only to the extent they result in income being currently taken into account by a U.S. citizen or resident or a domestic corporation. Section 672(f)(3)(A) provides a special rule that, except as otherwise provided by regulations, CFCs are treated as domestic corporations for purposes of section 672(f)(1). The final regulations provide that the only CFCs taken into account for purposes of section 672(f) are those that are CFCs under section 957, determined without applying section 318(a)(3)(A), (B), and (C) to consider a U.S. person as owning stock that is owned by a non-U.S. person.58

f. Section 706.

Section 706 contains rules for determining the tax year of a partnership and its partners. Reg. section 1.706-1(b)(6) provides that specified interests held by foreign partners are not considered in determining the tax year. For this purpose, CFCs are not treated as foreign partners. After section 958(b)(4) repeal, a foreign corporation that is a CFC solely because of downward attribution may be taken into account in determining a partnership’s tax year, even if the CFC does not have a section 958(a) U.S. shareholder that has a current income inclusion.

Under the final regulations, the definition of foreign partner excludes only CFCs for which a U.S. shareholder owns stock within the meaning of section 958(a) for purposes of determining a partnership’s tax year.59

g. Section 863.

As mentioned in the discussion of Notice 2018-13, some source rules turn on whether the income is derived by a CFC. Section 863 provides rules for determining the source of some items of gross income, including gross income from space and ocean activities and income from international communications. Unless an exception applies, any income derived from a space or ocean activity by a U.S. person is U.S.-source income, while any space and ocean income derived by a foreign person is foreign-source income.60 However, space and ocean income derived by a CFC is treated as U.S.-source income, except to the extent that the income, based on all the facts and circumstances, is attributable to functions performed, resources employed, or risks assumed in a foreign country.61

International communications income is defined as all income derived from the transmission of communications or data from the United States to any foreign country (or possession of the United States), or from any foreign country (or possession of the United States) to the United States.62 Any international communications income derived by a U.S. person is treated as half U.S.-source income and half foreign-source income. Generally, international communications income derived by a foreign person is treated as foreign-source income.63 However, international communications income derived by a CFC is treated as half U.S.-source income and half foreign-source income.64

After section 958(b)(4) repeal, a CFC’s income from space and ocean activities and from international communications may be treated as U.S.-source income, even if the CFC has no section 958(a) U.S. shareholders that might include that income in gross income. Under the final regulations, CFC status for purposes of these rules is determined without regard to downward attribution from foreign persons.65

h. Section 904.

Generally, section 904(a) limits the amount of foreign income taxes that a taxpayer may claim as a credit against its U.S. income tax based on the U.S. tax imposed on the taxpayer’s foreign-source income. Section 904(d) further limits the credit by category of foreign-source income. After tax reform under the TCJA, the categories (or baskets) are general, passive, foreign branch, and GILTI.

Some of the rules used to categorize income into baskets turn on whether an amount is paid or earned by a CFC. Passive category income includes income that would be foreign personal holding company income under section 954(c) (for example, dividends, interest, rents, and royalties). However, under a look-through rule, if that income is received by a U.S. shareholder from a CFC, the income is passive category income only to the extent allocable to passive category income of the CFC.66 With the repeal of section 958(b)(4), a payment by a foreign entity that otherwise would be considered passive income for a recipient U.S. shareholder could be eligible for the look-through rule because the paying entity is considered a CFC. The final regulations thus restrict the application of the look-through rule to entities that are CFCs determined without applying downward attribution.

Rents and royalties received by a CFC are generally passive category income unless derived in the active conduct of a trade or business (taking into account activities of affiliated group members), in which case rents and royalties are treated as general category income.67 Financial services income received by specific CFCs or a domestic corporation is treated as general category income.68 According to the preamble to the proposed regulations, both those rules are premised on the assumption that income of CFCs would be subject to U.S. tax under the subpart F rules or upon a distribution of E&P generated by that income, and that those CFCs would be directly or indirectly controlled by U.S. shareholders able to obtain information concerning the CFCs’ activities, income, and expenses.69 The final regulations revise the regulations under section 904 to limit the application of the affiliated group rules in the section 904 exception for active rents and royalties and the financial services income rule to recipient foreign corporations that are CFCs without regard to downward attribution from foreign persons, and to U.S. shareholders that are U.S. shareholders without regard to downward attribution from foreign persons.70

i. Section 6049.

Under section 6049, a payer must report to the IRS on Form 1099 specified payments or transactions concerning U.S. persons that are not exempt recipients. The scope of payments or transactions subject to reporting depends in part on whether the payer is a U.S. payer.

A U.S. payer generally includes U.S. persons and their foreign branches, as well as CFCs.71

After section 958(b)(4) repeal, foreign corporations that became CFCs solely because of downward attribution from foreign persons could be subject to an increased burden from these reporting requirements, even if they have no direct or indirect U.S. owners. Accordingly, the final regulations provide that a U.S. payer includes a CFC under section 957, determined without regard to downward attribution from foreign persons.72

3. Dec. 2020 final PFIC regulations.

A preliminary version of the final PFIC regulations was released December 4, 2020.73 The regulations finalized the portion of the October 2019 proposed regulations74 modifying the definition of a CFC for purposes of the PFIC asset test under section 1297(e).

A foreign corporation is treated as a PFIC if the corporation’s average percentage of assets (as determined under section 1297(e)) held by the corporation during the tax year that produce passive income or are held for the production of passive income is at least 50 percent.75 Section 1297(e) provides the rules used to measure a foreign corporation’s assets in determining whether the foreign corporation meets this asset test and is therefore a PFIC. If the foreign corporation is a CFC and not a publicly traded corporation, when determining whether the average percentage of assets of the corporation that produce passive income is at least 50 percent, adjusted basis (rather than value) of the assets must be used.

This rule imposes a burden on taxpayers that own stock in foreign corporations that became CFCs solely by reason of section 958(b)(4) repeal, because those CFCs may not otherwise be required to account for adjusted basis in assets under federal income tax rules. Thus, the final regulations modify the definition of CFC for this purpose to disregard downward attribution from foreign persons.76 This rule generally applies to shareholder tax years ending on or after October 1, 2019. For tax years of shareholders ending before October 1, 2019, a shareholder may apply this rule to the last tax year of a foreign corporation beginning before January 1, 2018, and each subsequent tax year of the foreign corporation, if the shareholder and related U.S. persons consistently apply that rule for all foreign corporations.77

D. Sept. 2020 Proposed Regulations

1. Overview.

Treasury and the IRS released new proposed regulations78 concurrently with the September 2020 final regulations.79 The proposed regulations contain proposed rules under sections 367(a) and 954(c)(6). The regulations under section 367(a) are proposed to apply to transfers made on or after September 21, 2020.80 Subject to special rules for some entity classification elections and changes in tax years, the regulations under section 954(c)(6) are proposed to apply to payments or accruals of dividends, interest, rents, and royalties made by a foreign corporation during tax years of the foreign corporation ending on or after September 21, 2020 (and to tax years of U.S. shareholders in which or with which those tax years of the foreign corporation end).81

Taxpayers may choose to apply the rules under section 367(a) or 954(c)(6), once finalized, to the last tax year of a foreign corporation beginning before January 1, 2018, and each subsequent tax year, subject to a consistency requirement. A taxpayer may rely on the proposed regulations for any tax year before the date the regulations are finalized, if the taxpayer and persons related to the taxpayer consistently rely on the proposed regulations for all foreign corporations.82

2. Section 367(a).

As indicated earlier, section 367(a) overrides various nonrecognition provisions for specified outbound transfers by a U.S. person to a foreign corporation, unless an exception applies.

Reg. section 1.367(a)-3(c)(1) provides that a U.S. person can obtain nonrecognition treatment on an outbound transfer of stock or securities of a domestic corporation (the U.S. target company) if (1) 50 percent or less of both the total vote and value of the stock of the transferee foreign corporation is received in the transaction, in the aggregate, by U.S. transferors; (2) 50 percent or less of each of the total vote and value of the stock of the transferee foreign corporation is owned, in the aggregate, immediately after the transfer by U.S. persons that are either officers or directors of the U.S. target company or that are 5 percent target shareholders; (3) either the U.S. person is not a 5 percent transferee shareholder,83 or the U.S. person enters into a GRA; and (4) the active trade or business test84 in the regulations is satisfied.85 The section 318 attribution rules (as modified by section 958(b)) apply in determining ownership or receipt of the stock or securities.86 After the repeal of section 958(b)(4), a transfer that previously would have satisfied the conditions in reg. section 1.367(a)-3(c)(1) may no longer qualify for the exception to section 367(a)(1) because, for example, more shareholders are now considered to be 5 percent target shareholders as a result of downward attribution.

This issue is illustrated in LTR 202045007.87 In limited circumstances, the IRS may issue a private letter ruling to permit a taxpayer to qualify for an exception to section 367(a) if the taxpayer is unable to satisfy any requirement of reg. section 1.367(a)-3(c)(1) because of the application of the constructive ownership rules.88

LTR 202045007 involved a proposed U.S.-to-U.S. section 368(a)(1)(F) reorganization by a U.S. corporation (U.S. Target) owned by the public and two foreign partnerships owned partly indirectly by a publicly traded foreign parent corporation. After the section 368(a)(1)(F) reorganization, some of U.S. Target’s historic public shareholders exchanged their “New U.S. Target” shares for shares of a foreign corporation (New FSub) formed by one of the foreign partnerships. U.S. Target merged into New U.S. Target, with New U.S. Target surviving and all U.S. Target shareholders receiving New U.S. Target stock. Some public shareholders of U.S. Target then transferred New U.S. Target stock to New FSub in exchange for stock of New FSub. U.S. Target represented that but for section 318(a)(3) causing a U.S. person to be treated as owning stock owned by a person that is not a U.S. person, the requirement set forth in reg. section 1.367(a)-3(c)(1)(ii) would be satisfied for the share exchange. The IRS ruled that no U.S. person will be treated as owning stock owned by a person that is not a U.S. person by reason of section 318(a)(3) in determining whether 50 percent or less of each of the total vote and value of the stock of New FSub is owned, in the aggregate, immediately after the reorganization, by U.S. persons that are either officers or directors of New U.S. Target or that are 5 percent target shareholders of New U.S. Target.

Consistent with the result in this ruling, the proposed regulations provide that a U.S. person’s constructive ownership interest does not include an interest that is treated as owned as a result of downward attribution from a foreign person in determining whether the conditions in reg. section 1.367(a)-3(c)(1)(i), (ii), and (iv) are satisfied. However, for purposes of reg. section 1.367(a)-3(c)(1)(iii) (which requires either that the U.S. person is not a 5 percent transferee shareholder or that the U.S. person enter into a GRA), the constructive ownership rules will continue to take into account downward attribution from a foreign person.89

3. Section 954(c)(6).

Under section 954(c)(6), dividends, interest, rents, and royalties received or accrued by a CFC from a related-person CFC are not treated as foreign personal holding company income to the extent attributable or properly allocable to income of the related person that is neither subpart F income nor effectively connected income under section 864(c). Section 954(c)(6) was enacted to allow U.S.-based multinational corporations to reinvest their active foreign earnings (that is, earnings of CFCs that, at the time of enactment, were subject to U.S. tax deferral) when they are needed outside the United States without giving rise to immediate additional taxation under subpart F.

After section 958(b)(4) repeal, if a foreign corporation is a CFC by reason of downward attribution from a foreign person, that foreign corporation’s earnings may not be subject to the subpart F (or GILTI) rules, depending on whether the foreign corporation has U.S. shareholders owning section 958(a) stock. This is illustrated in Example 8, in which interest received by CFC 1 from CFC 2 would be eligible for the section 954(c)(6) exception, even though the income of CFC 2 is not subject to U.S. tax as subpart F income or GILTI, because CFC 2 has no U.S. shareholders owning section 958(a) stock.

Example 8

Under the proposed regulations, the section 954(c)(6) exception is limited to amounts received or accrued from foreign corporations that are CFCs determined without downward attribution from a foreign person.90 The preamble to the proposed regulations raises the question whether the look-through rule should be available in cases in which a related-party foreign payer has some direct or indirect U.S. shareholders and is thus partly subject to U.S. taxing jurisdiction (such as if, in Example 7, FP had a direct 15 percent U.S. shareholder owner).91 Several commentators have endorsed the need for some exception in that circumstance.92

Other commentators have also pointed out other fact patterns of concern, such as a payment between two foreign corporations that are CFCs solely because of the repeal of section 958(b)(4).93 For example, assume the same facts as in Example 8, except that FP has a direct 15 percent U.S. shareholder owner and FP has another wholly owned foreign subsidiary (CFC 3), which is a CFC solely as a result of the repeal of section 958(b)(4). Unlike Example 8, which involves a pre-repeal CFC payee, the payment is between two foreign corporations that are CFCs solely because of the repeal of section 958(b)(4). That payment would not have been subject to U.S. tax before the TCJA.

IV. Remaining Issues and Outlook

Although Treasury and the IRS have provided some helpful relief, issues remain. For example, the preamble to the final regulations highlights a few other issues that are not addressed. Treasury and the IRS determined that there is no statutory or regulatory authority to modify the limitation on the portfolio interest exemption for payments received by CFCs from a related person.94 Also, Treasury and the IRS determined that the application of section 1248(a) to CFCs that were created by section 958(b)(4) repeal is consistent with the application of section 958(b) for purposes of the subpart F rules.95 And, as mentioned earlier, the fundamental issue of the creation of new U.S. shareholders, new CFCs, and new subpart F income and GILTI inclusions has not been addressed.

Given that Treasury and the IRS appear to have determined that they lack the authority to address other collateral consequences caused by the repeal of section 958(b)(4), these issues likely will not be ameliorated without congressional action. There have been legislative proposals to restore section 958(b)(4) while addressing the decontrolling transactions that motivated its repeal. For example, in March 2020 a version of the Coronavirus Aid, Relief, and Economic Security Act (P.L. 116-136) would have restored section 958(b)(4) to its pre-TCJA wording while enacting a new section 951B.96 Similar proposals are likely to emerge in future legislation.

Proposed section 951B (titled “Amounts Included in Gross Income of Foreign Controlled United States Shareholders”) would create the new categories of foreign-controlled U.S. shareholder and foreign CFC and extend the application of the subpart F income, GILTI, and section 965 regimes to foreign-controlled U.S. shareholders of foreign CFCs. For this purpose, a foreign-controlled U.S. shareholder means any U.S. person that would be a U.S. shareholder of a particular foreign corporation if restored section 958(b)(4) were not applied (that is, no limitation on downward attribution exists) and if the section 951(b) definition of U.S. shareholder with a threshold of more than 50 percent, rather than a threshold of more than 10 percent, were applied. A foreign CFC means any non-CFC that would be a CFC if section 957(a) were applied by considering foreign-controlled U.S. shareholders instead of U.S. shareholders and by applying section 958(b) without reference to restored section 958(b)(4).

In Example 9, under proposed section 951B, US Sub would be a foreign-controlled U.S. shareholder of Foreign Sub, and Foreign Sub would be a foreign CFC. Consequently, US Sub would be required to include in income its share of Foreign Sub’s income under the subpart F, GILTI, and section 965 regimes. Thus, the result in this example would differ from the result under pre-TCJA law (under which Foreign Sub would not be treated as a CFC). The subpart F and GILTI consequences would generally be the same as under the repeal of section 958(b)(4) for US Sub, although US Sub would be treated as a foreign-controlled U.S. shareholder rather than a U.S. shareholder, and Foreign Sub would be a foreign CFC rather than a CFC.

Example 9

In Example 10, FP wholly owns US Sub and owns 51 percent of Foreign Sub. USCo, an unrelated third party, owns the remaining 49 percent of Foreign Sub. Before the repeal of section 958(b)(4), Foreign Sub would not be treated as a CFC, and US Co would not be treated as a U.S. shareholder of a CFC. Under current law (after the repeal of section 958(b)(4)), Foreign Sub would be a CFC because US Sub would be treated as owning 100 percent of Foreign Sub’s stock. Further, USCo would be a section 958(a) (that is, direct or indirect) U.S. shareholder of Foreign Sub and thus would have an income inclusion for its 49 percent interest in Foreign Sub. Under proposed section 951B, US Sub would be treated as a foreign-controlled U.S. shareholder of Foreign Sub because US Sub would be treated as owning 51 percent of Foreign Sub stock if section 958(b)(4) were applied. Thus, Foreign Sub would be treated as a foreign CFC for US Sub. However, USCo would be neither a U.S. shareholder of a CFC (because that determination would be made with a restored section 958(b)(4)) nor a foreign-controlled U.S. shareholder of Foreign Sub (because USCo would not be treated as owning more than 50 percent of Foreign Sub even without section 958(b)(4)). As a result, USCo would not have an income inclusion for its interest in Foreign Sub.

Example 10

Under proposed section 951B, foreign corporations treated as CFCs as a result of the repeal of section 958(b)(4) may instead become foreign CFCs, and foreign-controlled U.S. shareholders of those foreign CFCs would have potential subpart F and GILTI inclusions. However, outside the application of subpart F, section 951A, and section 965, those foreign corporations would not be CFCs as defined in section 957, and those foreign-controlled U.S. shareholders would not be U.S. shareholders as defined in section 951(b) (subject to Treasury and the IRS exercising the regulatory authority discussed below) — a change that would address some unintended consequences of the repeal that are the result of CFC and U.S. shareholder status.

Proposed section 951B would apply retroactively to the last tax year of foreign corporations beginning before January 1, 2018, and each subsequent tax year of those foreign corporations, and to tax years of U.S. persons in which or with which those tax years of foreign corporations end. Proposed section 951B(d) would give Treasury the authority to prescribe regulations or other guidance as may be necessary or appropriate to carry out the purposes of section 951B, including regulations or other guidance to treat a foreign-controlled U.S. shareholder or a foreign CFC as a U.S. shareholder or as a CFC, respectively, for purposes of provisions outside subpart F and to prevent avoidance of the purposes of section 951B.

Given that it has been three years since section 958(b)(4) was repealed, and four years since the repeal became effective for some taxpayers, the politics of relief may be more complicated. Some taxpayers may have changed their structures to avoid negative effects of the repeal or even obtain tax benefits, while other taxpayers are paying more U.S. tax because of the repeal. As noted earlier, the repeal of section 958(b)(4) was taxpayer favorable in some cases, and its retroactive reinstatement and the enactment of a new section 951B would negatively impact those taxpayers. Some have asserted that such legislation could violate the due process clause of the Constitution,97 while others have rejected these arguments.98 These issues could lead Congress to modify the approach taken in the earlier legislation, such as, for example, holding taxpayers harmless that relied on the plain language of repeal in some cases.99 Any modifications, however, could require reconsideration of the “technical correction” status enjoyed by the current legislative proposals. As a technical correction, the legislative proposal described above does not have a revenue impact under congressional revenue-estimating rules, whereas a legislative proposal that alters the policy intended by the legislation in which the error appeared (in this case, the TCJA) would be scored as changing federal revenues, potentially adding a wrinkle to the political process.

After the TCJA was enacted, it seemed at times that the unintended ramifications of the repeal of section 958(b)(4) would almost certainly be fixed — by Congress or by Treasury and the IRS — because the collateral damage was so significant. Three years later, a few other errors in the TCJA have been corrected, such as the “retail glitch” (the failure to assign qualified improvement property a 15-year recovery period and thus allow it to be eligible for bonus depreciation) and the “grain glitch” (which allowed higher tax deductions in many cases to patrons who sold commodities to cooperatives rather than to noncooperatives). However, the “attribution glitch” remains, and despite efforts by Treasury and the IRS to limit unintended ramifications, without action by Congress, it will continue to have significant consequences for taxpayers of many types and across industries.

FOOTNOTES

1 Those closely following tax reform noted the significance of repeal before enactment. See, e.g., Meyer Fedida and Corey Goodman, “TCJA Technical Glitches, Minority Investments in Foreign Corps,” Tax Notes, Nov. 20, 2017, p. 1169; and Michael L. Schler, “Reflections on the Pending Tax Cuts and Jobs Act,” Tax Notes, Dec. 18, 2017, p. 1731.

4 Sections 951 and 951A.

5 Section 957(a).

6 A U.S. person for these purposes is generally defined under section 7701(a)(3) and thus includes a citizen or resident of the United States; a domestic partnership; a domestic corporation; any non-foreign estate; and any trust if a court within the United States is able to exercise primary supervision over the administration of the trust, and one or more U.S. persons have the authority to control all substantial decisions of the trust. Section 957(c).

7 Section 951(b). The TCJA expanded the definition of a U.S. shareholder under section 951(b) to include not only (as under prior law) a U.S. person that owns 10 percent of the voting stock of a foreign corporation but also any U.S. person that owns 10 percent or more of the total value of shares of all classes of stock of a foreign corporation. The expanded definition of U.S. shareholder applies to tax years of foreign corporations beginning after December 31, 2017, and to tax years of U.S. shareholders with or within which those tax years of foreign corporations end. TCJA section 14214.

8 Section 958(a)(2).

9 See section 951(a) and reg. section 1.951A-1(b).

10 Section 318(a)(3)(A).

11 Section 318(a)(3)(B)(i). A contingent interest of a beneficiary in a trust is considered remote if, under the maximum exercise of discretion by the trustee in favor of that beneficiary, the value of the interest, computed actuarially, is 5 percent or less of the value of the trust property.

12 Section 318(a)(3)(B)(ii).

13 Section 318(a)(3)(C).

14 TCJA section 14213.

15 H.R. Rep. No. 115-466, at 633 (Dec. 15, 2017) (Conf. Rep.). Similar statements are made in the Senate Finance Committee explanation, which is contained in the Senate Budget Committee explanation of the Finance Committee’s fiscal 2018 reconciliation legislation. S. Prt. No. 115-20, “Reconciliation Recommendations Pursuant to H. Con. Res. 71,” at 378 (Dec. 2017).

16 Section 965(e)(1).

17 Section 965(a).

18 Section 881(c)(1).

19 Section 881(c)(3)(C); see also section 864(d)(4).

20 See, e.g., letter from the Florida Bar Tax Section to the IRS (Dec. 2, 2019).

21 See REG-110059-20. The proposed regulations are discussed in greater detail in Section III.D.3.

22 Generally, Form 5471 must be filed by several categories of filers, including category 5 filers, which include a U.S. shareholder that (1) owns stock in a foreign corporation that is a CFC at any time during any tax year of the foreign corporation and (2) owned that stock on the last day in that year on which it was a CFC.

25 Reg. section 1.965-1(f)(45)(ii).

27 REG-110059-20.

28 Rev. Proc. 2019-40, section 8.

29 Id. at sections 4 through 6.

30 Id. at section 7.

31 Id. at section 4.

32 Id. at section 5.

33 For this purpose, the term “related person” means, for a person, another person described in section 954(d)(3), substituting the first-mentioned person for “CFC” each place “CFC” occurs. Section 954(d)(3) provides that a person is a related person for a CFC if the person is (1) an individual who controls the CFC; (2) a corporation, a partnership, a trust, or an estate that controls or is controlled by the CFC; or (3) a corporation, a partnership, a trust, or an estate that is controlled by the same person or persons that control the CFC. For a corporation, control means the direct or indirect ownership of stock possessing more than 50 percent of (1) the total voting power of all classes of stock entitled to vote or (2) the total value of stock of the corporation.

34 Rev. Proc. 2019-40, section 6.

35 Id. at section 8.

36 Id. at section 10.

38 See section 958(b); see also section 954(d)(3)(B).

39 See section 954(d) and (e).

40 See, e.g., section 954(c)(2)(A), (c)(3), and (c)(6).

41 See preamble to T.D. 9883, 84 F.R. 63802, 63803 (Nov. 19, 2019).

43 Reg. section 1.954-1(f)(2)(iv)(B)(1).

44 Reg. section 1.954-1(f)(3)(i) and (iii).

45 T.D. 9908.

47 Reg. section 1.958-2(g)(4) and (h).

48 Preamble to T.D. 9908, 85 F.R. 59428, 59430 (Sept. 22, 2020).

49 Id.

50 Reg. section 1.267(a)-3(b).

51 Reg. section 1.267(a)-3(c)(2).

52 Reg. section 1.267(a)-3(c)(4).

53 Reg. section 1.332-8(a).

54 See reg. section 1.367(a)-3(b)(1).

55 See reg. section 1.367(a)-8(j).

56 Reg. section 1.367(a)-8(k)(14).

57 Reg. section 1.367(a)-8(k)(14)(ii).

58 Reg. section 1.672(f)-2(a).

59 Reg. section 1.706-1(b)(6)(ii).

60 Section 863(d)(1).

61 Reg. section 1.863-8(b)(2)(ii).

62 Section 863(e)(2).

63 Section 863(e)(1)(B)(i).

64 Reg. section 1.863-9(b)(2)(ii).

65 Reg. section 1.863-8(b)(2)(ii) and -9(b)(2)(ii).

66 See section 904(d)(3).

67 See reg. section 1.904-4(b)(2)(iii). General category income consists of income other than passive category income, foreign branch income, and amounts includable in gross income as GILTI. Section 904(d)(2)(A)(ii).

68 See section 904(d)(2)(C)(i).

69 REG-104223-18.

70 Reg. section 1.904-5(a)(4)(i).

71 Reg. section 1.6049-5(c)(5).

72 Reg. section 1.6049-5(c)(5)(i)(C).

73 T.D. 9936.

74 REG-104223-18.

75 Section 1297(a)(2). A foreign corporation that does not meet the asset test will still be a PFIC if 75 percent or more of its gross income for the tax year is passive income. Section 1297(a)(1).

76 Reg. section 1.1297-1(d)(1)(v)(B)(2).

77 Reg. section 1.1297-1(g)(2).

78 REG-110059-20.

79 T.D. 9908.

80 Prop. reg. section 1.367(a)-3(c)(11)(ii).

81 Prop. reg. section 1.954(c)(6)-2(b).

82 Id.

83 A 5 percent transferee shareholder is a person that owns at least 5 percent of either the total voting power or the total value of the stock of the transferee foreign corporation immediately after the transfer described in section 367(a)(1). Reg. section 1.367(a)-3(c)(5)(ii).

84 The active trade or business test generally is satisfied if (1) the transferee foreign corporation or any qualified subsidiary (as defined in reg. section 1.367(a)-3(c)(5)(vii)) or any qualified partnership (as defined in reg. section 1.367(a)-3(c)(5)(viii)) is engaged in an active trade or business outside the United States (within the meaning of reg. section 1.367(a)-2(d)(2), (3), and (4)) for the entire 36-month period immediately before the transfer; (2) at the time of the transfer, neither the transferors nor the transferee foreign corporation (and, if applicable, the qualified subsidiary or qualified partnership engaged in the active trade or business) have an intention to substantially dispose of or discontinue that trade or business; and (3) the substantiality test (as defined in reg. section 1.367(a)-3(c)(3)(iii)) is satisfied. Reg. section 1.367(a)-3(c)(3)(i).

85 Reg. section 1.367(a)-3(c)(1)(i)-(iv).

86 Reg. section 1.367(a)-3(c)(4)(iv).

87 LTR 202045007 is dated May 22, 2020, but was not released until November 6, 2020.

88 Reg. section 1.367(a)-3(c)(9)(ii).

89 Prop. reg. section 1.367(a)-3(c)(4)(iv).

90 Prop. reg. section 1.954(c)(6)-2(a).

91 REG-110059-20.

92 For example, the U.S. Council for International Business submitted a comment letter dated November 13, 2020, stating that to achieve the intended purpose of the proposed regulations, section 954(c)(6) should apply to payments from a CFC that would not be a CFC but for downward attribution from a foreign person, provided the CFC payer has a section 958(a) U.S. shareholder, and especially when the CFC payer and CFC payee have the same section 958(a) U.S. shareholder. The letter notes that such an approach would isolate the application of section 954(c)(6) to payments between CFCs of a U.S. multinational group.

93 See letter from Aaron Payne of Eversheds Sutherland (US) LLP to Treasury and the IRS (Nov. 20, 2020).

94 T.D. 9908.

95 Id. Section 1248 requires that any gain recognized on the sale or exchange of the stock of a CFC by specified U.S. persons (by reference to ownership under section 958) be treated as a dividend to the extent of the E&P of the foreign corporation attributable to the period the stock was held by that person while the foreign corporation was a CFC.

96 Section 2209 of S. 3548 (2020); see also S. 2589 (2019); and H.R. 4509 (2019).

97 See letter from Kenneth J. Kies of the Federal Policy Group to Treasury officials (Feb. 6, 2020) (attaching a should-level opinion asserting that retroactive reinstatement of section 958(b)(4) and enactment of section 951B would violate the due process clause under the reasoning of United States v. Carlton, 512 U.S. 26 (1994)). See also letter from Jeffrey M. O’Donnell, Robert H. Dilworth, and Matthew A. Lykken to congressional taxwriting leaders (Dec. 20, 2018).

98 See letter from Rocco V. Femia and Marc J. Gerson of Miller & Chevalier Chtd. to congressional taxwriting leaders (Dec. 31, 2018) (arguing that a technical correction is appropriate and does not raise due process concerns).

99 See Marie Sapirie, “Would Removing Downward Attribution Retroactively Be a Gift?” Tax Notes Federal, Dec. 2, 2019, p. 1404.

END FOOTNOTES

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