Some CFCs Must Get Dividends Received Deduction, Group Argues

September 16, 2019

Internal Revenue Service,
CC:PA:LPD:PR (REG-106282-18),
Room 5203,
Post office Box 7604,
Ben Franklin Station,
Washington, DC 20044

Re: Comments on proposed regulations implementing IRC 245A (NPRM REG-106282-18)

Dear Sir or Madam:

The Alliance for Competitive Taxation (“ACT”) is a coalition of leading American companies from a wide range of industries that supports a globally competitive corporate tax system that aligns the United States with other advanced economies.

Attached are ACT's comments on proposed regulations implementing section 245A of the Internal Revenue Code (“Code”) as amended by the Tax Cuts and Jobs Act (“TCJA”). We recognize and commend the extraordinary efforts of Treasury and IRS staff in issuing TCJA guidance in a timely and comprehensive manner.

We appreciate your consideration of these comments. ACT representatives welcome future discussion of these comments with your staff.

Yours sincerely,

Alliance for Competitive Taxation

cc:
L. G. “Chip” Harter, Deputy Assistant Secretary (International Tax Affairs), U.S. Treasury Department
Joshua P. Roffenbender, Office of Associate Chief Counsel (International)
Jorge M. Oben, Office of Associate Chief Counsel (International)
Doug Poms, International Tax Counsel, U.S. Treasury Department
Peter Blessing, Associate Chief Counsel (International), Internal Revenue Service

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COMMENTS BY ALLIANCE FOR COMPETITIVE TAXATION ON PROPOSED REGULATION SIMPLEMENTING SECTION 245A

I. Introduction

Section 245A is the cornerstone of the TCJA, creating a territorial regime where the untaxed earnings of a specified 10-percent owned foreign corporation are generally not subject to U.S. taxation upon repatriation. Specifically, section 245A provides a domestic corporation that is a U.S. shareholder of a specified 10-percent owned foreign corporation a deduction equal to 100 percent of the foreign source portion of any dividend received.¹ The reference in section 245A(a) to a “domestic corporation” has created ambiguity as to whether a Controlled Foreign Corporation (“CFC”), through application of Treas. Reg. § 1.952-2, may be afforded the deduction on dividends received from 10-percent owned foreign corporations that would otherwise be subpart F income. ACT believes, as discussed below, that in order for the territorial regime to function as Congress intended, CFCs must be afforded the section 245A deduction.²

II. Application of section 245A at the CFC level

Proposed Regulations

The section 245A proposed regulations provide that Treasury and the IRS are studying whether, and to what extent, a dividend received by a CFC is eligible for the section 245A deduction.

Treasury Explanation

The preamble provides that guidance will clarify that, in general, any provision expressly limited in its application to domestic corporations will not apply to CFCs by reason of Treas. Reg. § 1.952-2.

ACT Recommendation

ACT recommends that dividends received by CFCs first be analyzed under section 951(a) to determine whether the dividend would create a subpart F inclusion; including whether an exception applies that would prevent a subpart F inclusion (e.g., the exceptions under sections 954(c)(3) and 954(c)(6)). If no exception applies excepting the dividend from a subpart F inclusion, ACT then recommends CFCs have the ability to apply the section 245A deduction at the CFC level.³

Reasons for ACT Recommendation

The TCJA established the new participation exemption system by adding to the Internal Revenue Code section 245A. Congress also repealed section 902 and modified section 960 to require the amount of deemed paid taxes, for foreign tax credit purposes, to be determined on a current year basis.⁴ In effect, the section 245A participation exemption replaced the section 902 foreign tax credit system as the mechanic to prevent double taxation. If section 245A does not apply to CFCs on dividends that would otherwise qualify had the U.S. shareholder received the dividend directly, there is no mechanic to prevent double taxation. There is no policy rationale that can support such disparate treatment.

Treasury and the IRS have included some exceptions in Treas. Reg. § 1.952-2, and others could be added to the extent sound tax policy dictates.⁵ Allowing CFCs to claim the section 245A dividend received reduction is necessary for the dividend exemption system to operate as intended when dividends are distributed through a chain of foreign corporations. For example, a dividend received by a CFC from a 10% owned noncontrolled foreign corporation would not benefit from the dividend exemption system unless section 245A applies to CFCs because the dividend would be subpart F income. This is an inequitable result that cannot be rationalized. This could result in double taxation for some taxpayers who may not be able to mitigate through restructuring (or may lead to tax-motivated restructuring that lacks a non-tax business purpose). In addition, if the CFC look-through rule in section 954(c)(6) is not extended, a dividend received by a CFC from another CFC similarly would not benefit from the dividend exemption system unless section 245A applies to CFCs.

Congress addressed the application of section 245A and its interaction with Treas. Reg. § 1.952-2 in the Conference Report accompanying the TCJA. In Footnote 1486 Congress foresaw application of section 245A to foreign corporations in limited circumstances despite the fact that “domestic corporation”, in its plain meaning, would prohibit a foreign corporation from utilizing the deduction. Expanding on the term “domestic corporation” Footnote 1486 provides:

Including a controlled foreign corporation treated as a domestic corporation for purposes of computing the taxable income thereof. See Treas. Reg. sec. 1.952-2(b)(1). Therefore, a CFC receiving a dividend from a 10-percent owned foreign corporation that constitutes subpart F income may be eligible for the DRD with respect to such income.

Thus, as evidenced in the Conference Report, it was Congress' intent to provide the section 245A deduction to CFCs in certain circumstances, including when a foreign corporation qualified as a CFC and received a dividend from a 10-percent owned foreign corporation that would constitute subpart F income.

Regulatory Authority for Recommendation

Treasury has a broad grant of authority under section 245A(g) to issue regulations as necessary or appropriate to carry out the provisions of section 245A.