Academic journal article Journal of Accountancy

REGS Shut Down Artificially Generated FTCs

Academic journal article Journal of Accountancy

REGS Shut Down Artificially Generated FTCs

Article excerpt

The IRS issued final, temporary and proposed regulations providing guidance on determining the amount of taxes paid for purposes of determining the foreign tax credit. The regulations are designed to curb certain transactions that the IRS says "produce inappropriate foreign tax credit results." The final regulations (TD 9535), issued July 13, adopt temporary regulations issued in 2008, with some modifications. Identically worded temporary and proposed regulations (TD 9536 and REG-126519-11), issued July 14, added a paragraph to the regulations clarifying the treatment of withholding taxes.

The final regulations provide that amounts paid to a foreign taxing authority that are attributable to a "structured passive investment arrangement" are not treated as an amount of tax paid for purposes of the foreign tax credit. Structured passive investment arrangements are generally designed to exploit differences between U.S. and foreign tax law by artificially creating a foreign tax liability that allows the U.S. party to claim a U.S. foreign tax credit and a foreign counterparty to claim a duplicative foreign tax benefit. The U.S. and foreign parties share the cost of the purported foreign tax payments through pricing of the arrangement, the IRS said in the preamble to the 2008 temporary regulations (TD 9416).

The new regulations list six conditions that all must be met to qualify an arrangement as a structured passive investment arrangement:

1. The SPV condition. The arrangement uses an entity (a special-purpose vehicle, or SPV) that meets two requirements: (A) Substantially all of the entity's gross income, as determined under U.S. tax principles, is attributable to passive investment income, and substantially all of the entity's assets are held to produce such passive investment income; and (B) there is a foreign payment attributable to income of the entity. Although the 2008 temporary regulations had contained an exception for withholding tax, the final regulations removed it, stating that withholding tax imposed on a dividend or other distribution from a foreign entity related to equity of the entity made to a U. …

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