The IRS said it plans to issue regulations to help curb tax avoidance by multinational corporations that anticipate large foreign-initiated tax adjustments.
In a notice, the IRS said it will focus on tax-planning strategies in which Section 902 companies separate foreign tax payments from their underlying income. Section 902 corporations are foreign companies that are at least 10% owned by a U.S. company.
The regulations will be issued under a section of the tax code that suspends taxes and credits until the related income is taken into account. This prohibits foreign tax credit “splitter arrangements” that let companies artificially inflate credits to cut their U.S. tax bills.
The new regs will identify two new splitter arrangements:
- Changes to ownership structures made in anticipation of the foreign-initiated adjustment, and
- Extraordinary distributions before paying the adjustment to generate substantial amounts of foreign taxes deemed paid without a corresponding U.S. income inclusion.
EU state aid law
The IRS is aware that, in anticipation of a large foreign-initiated adjustment that relates to a previous tax year, a taxpayer may separate the additional payment of foreign income tax from the income to which it relates. Foreign-initiated adjustments may arise under European Union (EU) state aid laws, to the extent state aid payments result in creditable foreign taxes. The IRS move follows state-aid investigations by the EU and the European Commission’s order that Apple Inc. repay $14.5 billion in Irish tax breaks.
The new regs are intended to address changes in ownership structures that, in connection with a foreign-initiated adjustment, result in a foreign tax credit splitting event. The regs will provide that a splitter arrangement arises when a Section 902 corporation pays “covered taxes” during a tax year (the splitter year) as a result of a “covered transaction.”
The second type of splitter arrangement arises from distributions made before the payment of additional tax under foreign-initiated adjustments. The IRS notes that taxpayers could achieve a result similar to the first arrangement by using distributions that effectively move certain undistributed earnings from one Section 902 corporation to another. That move would occur before the first company makes a tax payment under a specified foreign-initiated adjustment. The new regs will provide that a splitter arrangement results when a Section 902 corporation pays covered taxes during the splitter year and the payer (or a predecessor) has made a covered distribution.
The forthcoming regs will apply to foreign taxes paid on or after September 15, 2016.