Academic journal article Journal of Accountancy

OBRA and CFCs: Still More Complexity

Academic journal article Journal of Accountancy

OBRA and CFCs: Still More Complexity

Article excerpt


The Omnibus Budget Reconciliation Act of 1993 adds an additional layer of complexity to the current tax on controlled foreign corporation (CFC) earnings. Newly created tax code section 956A applies to CFCs that have "excess passive assets" and is effective for taxable years of foreign corporations beginning after September 30, 1993.

Normally, shareholders of foreign corporations are not subject to U.S. tax on foreign corporate earnings until the earnings are distributed. However, provisions limiting such deferral apply to foreign corporations that are CFCs (generally, foreign corporations more than 50% owned by U.S. shareholders, including only U.S. shareholders that each own at least 10% of the CFC's stock).

One provision limiting deferral applies when CFCs earn subpart F income (which includes passive income and certain income earned outside the CFC's country of formation). A second deferral-limiting provision applies when a CFC invests earnings in certain types of U.S. property, such as a related U.S. corporation's stock.

Yet another provision applies to passive foreign investment companies (PFICs). Foreign corporations are PFICs if either 75% of their income or 50% of their assets are passive. U.S. persons holding shares in a PFIC must pay interest charges on deferred earnings when they either receive an excess distribution from the PFIC or sell PFIC shares. Alternatively, an election may be made for U.S. shareholders to include their pro rata share of a PFIC's earnings in their current taxable income.

Section 956A was enacted to create, for a CFC that does not meet the threshold of the PFIC provisions, a greater incentive to repatriate earnings not reinvested in the CFC's active business. …

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