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Ford Seeks Changes to Allocation, Apportionment Rules in FTC Regs

UNDATED

Ford Seeks Changes to Allocation, Apportionment Rules in FTC Regs

UNDATED
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The Honorable David J. Kautter
Assistant Secretary for Tax Policy
U.S. Department of the Treasury
1500 Pennsylvania Ave., NW
Washington, D.C. 20220

The Honorable Charles P. Rettig
Commissioner of Internal Revenue
Internal Revenue Service
1111 Constitution Avenue, NW
Washington, D.C. 20224

Lafayette “Chip” G. Harter III
Deputy Assistant Secretary (International Tax Affairs)
U.S. Department of the Treasury
1500 Pennsylvania Ave., NW
Washington, D.C. 20220

William M. Paul
Acting Chief Counsel and Deputy Chief Counsel (Technical)
Internal Revenue Service
1111 Constitution Avenue, NW
Washington, D.C. 20224

Re: Request for Comments on the Foreign Tax Credit Proposed Regulations (REG-105600-18)

Dear Messrs. Kautter, Rettig, Harter and Paul:

On November 28, 2018, the U.S. Department of Treasury and the Internal Revenue Service (collectively “Treasury”) issued proposed regulations (the “Proposed Regulations”) on foreign tax credits, reflecting changes in the international tax rules under the Tax Cuts and Jobs Act (P.L. 115-97). We appreciate the opportunity to provide comments and submit this letter to recommend that Treasury modify the Proposed Regulations to provide more appropriate rules to apportion research and interest expenses.

Founded in 1903 in Dearborn, MI, Ford Motor Company leads all automakers in vehicles produced in America, hourly workers employed in America, and vehicles exported from America. Ford employs over 85,000 U.S. employees and its U.S. footprint extends to over 5,400 U.S. suppliers in 48 states and more than 3,200 U.S. dealers supporting over 160,000 jobs nationwide. Ford is not only a leading American manufacturer but a leading innovator. We engage in engineering, research, and development primarily to improve the performance (including fuel efficiency), safety, and customer satisfaction of our products, and to develop new products and services. Engineering, research, and development expenses for 2017 totaled $8 billion.

A. Allocation and Apportionment of Research Expenses

Since the late 1990s, Ford has employed a “licensor” model to manage creation and use of its group's global product development intellectual property. Under its licensor model, Ford pays for the product development research conducted by both (i) Ford in the U.S. and (ii) Ford's CFCs in foreign countries (by reimbursing the CFCs for research expenses incurred). Relevant Ford CFCs are permitted to use Ford's global product development intellectual property in exchange for royalty payments. The royalties are charged as a percentage of the CFC's sales. This percentage is generally determined by dividing the Ford group's cumulative product development spend for a five-year period by its cumulative automotive sales for such period.

Because the royalties paid by CFCs to use the intellectual property owned by Ford U.S. are not treated as §951A category income, the Proposed Regulations reach an inappropriate result for Ford's licensor model. Ford's research expenses would be apportioned to the §951A category even though the related §951A category income from the CFC that paid royalties has already been reduced by the royalty expense. The result is that the CFC's §951A category income foreign tax credit limitation is reduced twice for the same benefit: first by the paid royalty expense and second by the apportioned research expenditures.

The result of Ford's licensor model is very similar to a cost sharing arrangement. In a cost sharing arrangement, CFC participants share in the cost of intangibles based on their reasonably anticipated benefits. Because these CFCs have paid for their share of the cost of research, no apportionment of the U.S. taxpayer's research cost is required (and thus no double reduction of the §951A category foreign tax credit limitation occurs); the CFCs are not considered to benefit from the U.S. taxpayer's share of research costs.1 Under a licensor model, CFCs bear their portion of the cost of Ford's global product development research through the royalties they pay for use of product development intellectual property. Similar to cost sharing, no additional allocation and apportionment of research expenses is appropriate. Accordingly, the Proposed Regulations should be modified to permit an exception from allocation and apportionment of research expenses for taxpayers who pay a royalty for the use of product development intellectual property under a licensor model similar to Ford's. While we believe the best option to avoid a double reduction in §951A category income foreign tax credit limitation is to permit an exception similar to cost sharing arrangements, an alternative would be to allow royalties paid by the CFC to be netted against the research expenses that would otherwise be apportioned to it under Treasury Regulations §1.861-17. Either option would achieve a fairer result more consistent with the purpose of the expense allocation and apportionment rules.

B. Allocation and Apportionment of Interest Expense

Ford's wholly-owned subsidiary, Ford Motor Credit Company LLC (Ford Credit), is disregarded as a separate entity for U.S. tax purposes. Ford Credit finances wholesale purchases of Ford vehicles by independent franchised dealers and retail purchases and leases of its vehicles from independent dealers. Ford Credit is subject to non-bank finance company regulations. Ford Credit directly or indirectly owns several finance company subsidiaries in other countries including non-bank finance companies and two regulated banks. At year-end 2017, Ford Credit had consolidated net investments in finance receivables and operating leases of more than $142 billion. Ford Credit is a financial intermediary; it borrows money through commercial paper, term debt and securitization transactions to fund loans to wholesale customers and loans and leases to retail customers. In 2017, Ford Credit's financial intermediary activity resulted in consolidated net interest income of more than $2 billion.

None of Ford Credit's debt is used to fund Ford's manufacturing CFCs. However, under the general fungibility of money approach of Treasury Regulations §1.861-9T, a substantial portion of Ford Credit's gross interest expense could inappropriately be apportioned to §951A category income of Ford's manufacturing CFCs. Ford Credit borrows money and incurs interest expense deductions so that it can loan the borrowed money at a higher rate and earn interest income. Were it not for Treasury Regulations §1.861-9T, Ford Credit's interest expense deductions would likely be considered directly related to the interest income it earns within the general expense allocation provisions of Treasury Regulations §1.861-8(a) and (b).

Internal Revenue Code §864(e)(7) provides Treasury with authority to permit the direct allocation of interest expense. It provides:

REGULATIONS. — The Secretary shall prescribe such regulations as may be necessary or appropriate to carry out the purposes of this section, including regulations providing —

(B) for direct allocation of interest expense incurred to carry out an integrated financial transaction to any interest (or interest-type income) derived from such transaction and in other circumstances where such allocation would be appropriate to carry out the purposes of this subsection, (emphasis supplied)

Treasury has exercised its authority under Code §864(e)(7) in Treasury Regulations §1.861-10T. Treasury should expand Regulations §1.861-10T to broadly permit the specific allocation of interest expense of a finance activity to related interest income so that only net interest expense of a finance activity is apportioned based on asset values.2

C. Summary

Treasury should modify the research and interest expense allocation and apportionment rules so that such expenses will not be inappropriately apportioned to income categories to which they do not relate. CFCs that have already paid an appropriate royalty for use of U.S.-owned intellectual property should not also have research expenses apportioned to their §951A category income. Similarly, interest expense that U.S. finance companies incur on debt that has been used solely to earn U.S. interest income and retail lease revenue, should not be allocated to §951A category income earned by automotive CFCs.

Ford thanks you for the opportunity to comment on these proposed regulations. We would be happy to discuss these issues with you further as you develop final regulations. Please contact JT Young in our Washington office at (202) 962-5379.

Ron Lang
Chief Tax Officer
Ford Motor Company

cc:
Douglas L. Poms (International Tax Counsel — U.S. Department of Treasury)
Gary R. Scanlon (Attorney-Advisor — U.S. Department of the Treasury)
Brian H. Jenn (Deputy International Tax Counsel — U.S. Department of the Treasury)
Jason Yen (Attorney-Advisor — U.S. Department of the Treasury)
Marjorie A. Rollinson (Associate Chief Counsel (International) — Internal Revenue Service)
Daniel M. McCall (Deputy Associate Chief Counsel (International — Technical) — Internal Revenue Service)

FOOTNOTES

1Treasury Regulations §1.861-17(c)(3)(iv) provides:

Effect of cost sharing arrangements. If the corporation controlled by the taxpayer has entered into a cost sharing arrangement, in accordance with the provisions of § 1.482-7, with the taxpayer for the purpose of developing intangible property, then that corporation shall not reasonably be expected to benefit from the taxpayer's share of the research expense.

2These rules would be similar to the net interest rules applicable to deemed tangible income return under GILTI.

END FOOTNOTES

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