As we draw closer to the end of a notorious 2020, significant U.S. international tax legislation is being released at a fast and furious pace. The IRS and Treasury Department continue to issue regulatory guidance interpreting the Tax Cuts and Jobs Act (TCJA). At the same time, countries from around the globe and the Organization for Economic Cooperation and Development (OECD) are continuing to discuss comprehensive reform of international tax rules, specifically related to digital taxation. Responding to challenging times has resulted in unilateral measures by countries, such as a tax on digital services. While uncertainty remains, the Treasury and IRS will continue to be active in guidance related to multinationals and ensuring the U.S. remains competitive in a global tax landscape.
In July 2020, the Treasury and IRS issued final regulations (T.D. 9901) regarding the deduction for foreign-derived intangible income (FDII) and global intangible low-taxed income (GILTI) under section 250. The final regulations finalize the proposed section 250 regulations issued in March 2019 with a number of modifications discussed below. The final regulations replace the strict FDII documentation requirements contained in the proposed section 250 regulations with more relaxed substantiation requirements. The final regulations also removed the taxable income limitation ordering rule contained in the proposed regulations and allow taxpayers to use any reasonable method in determining the limitation (including using the proposed regulation’s ordering rule until further guidance is issue). Also, the final regulations provided guidance related to digital content transactions, electronically supplied services and advertising services. Finally, the final regulations revise the property services provisions to allow property to be temporarily located in the U.S. in certain circumstances, resulting in an expansion of taxpayers that might now be eligible for a FDII deduction (e.g., certain U.S. contract/toll manufacturers). The final regulations apply for tax years beginning on or after Jan. 1, 2021. For tax years beginning before 2021, taxpayers may rely on either the final regulations or the proposed regulations. However, the set of regulations chosen must be applied by the taxpayer in their entirety (with some exceptions such as the application of the transition documentation rule when applying the proposed regulations for all tax years beginning before 2021).
In July 2020, the Treasury and IRS also issued final (T.D. 9902) and proposed (REG-127732-19) GILTI and Subpart F income high-tax exception regulations. The final regulations provide for an annual election to apply the GILTI high-tax exclusion and maintain the threshold rate at which income is deemed high-taxed income as a rate in excess of 90% of the highest U.S. corporate rate (i.e., 18.9% under current law). Qualifying computations of high-taxed income are made on a newly defined “tested unit” basis, rather than on a controlled-foreign-corporation-by-controlled-foreign-corporation (CFC-by-CFC) or qualified business unit-by-qualified business unit basis. Additionally, under the final regulations, the controlling domestic shareholder (subject to newly prescribed notice requirements) makes the GILTI high-tax exclusion election and, once made, is binding on all U.S. shareholders of the CFC group. The regulations also contain consistency rules requiring application of an annual election to all CFCs in a “CFC group.” The final GILTI high-tax regulations are effective for years beginning on or after July 23, 2020; but retroactive application of the final regulations to years beginning after Dec. 31, 2017, and before July 23, 2020, is permitted if certain requirements are satisfied. Taxpayers filing amended returns to retroactively to apply the GILTI high-tax are subject to prescribed filing deadlines (e.g., filing within 24 months of the unextended due date for the original return). The 2020 proposed regulations, if enacted as issued, will provide for a single unified high-tax exception election for both GILTI-tested income and Subpart F. Additionally, there are new requirements under the proposed regulations for maintenance by U.S. shareholder of contemporaneous documents supporting high-tax exception computations.
In August 2020, the Treasury and IRS published final proposed regulations under section 245A that limit the deduction for certain dividends received by U.S. persons from foreign corporations under section 245A and the exception to Subpart F income under section 954(c)(6) for certain dividends received by CFCs. The final regulations generally adopt the approach and the structure of the 2019 proposed regulations with certain modifications. The 2020 proposed regulations provide detailed mechanics for the coordination of the extraordinary disposition rules under the final regulations and the disqualified basis rules under the 2019 final GILTI regulations. Very broadly, section 245A(e) denies a section 245A(a) dividends-received deduction for hybrid dividends and tiered hybrid dividends for domestic and CFCs, respectively. Section 267A generally disallows a deduction for interest or royalties paid or accrued to the extent payment produces a deduction/no income inclusion as a result of a hybrid or branch arrangement. The final regulations retained the basic structure of proposed hybrid arrangement regulations issued in 2019 with certain revisions such as: (1) withholding taxes generally should not be viewed as neutralizing a deduction/no inclusion outcome; (2) clarifying application of the hybrid deduction account method and (3) revising the long-term deferral provisions. The proposed regulations adjust hybrid deduction accounts to take into account earnings and profits of a CFC that are included in income by a U.S. shareholder and contain conduit financing rules involving equity interests that give rise to deductions (or similar benefits) under foreign law.
In September 2020, the Treasury and IRS released final (T.D. 9905) and proposed (REG-107911-18) section 163(j) regulations covering the potential limitation of business interest expense deduction to the sum of the taxpayer’s business interest income, 30% of adjusted taxable income (ATI) and floor plan financing income for the year. The proposed and final regulations confirm that section 163(j) applies to CFCs and other foreign corporations with income relevant for U.S. federal income tax purposes. Most of the international provisions are contained in the proposed regulations. The 2020 proposed section 163(j) regulations overhaul the requirements related to CFCs that can be members of a CFC group and now apply quasi-U.S. consolidated group rules to determine members of a CFC group and calculate a group’s single section 163(j) limitation. The CFC group election is revocable after being in effect for 60 months — but cannot be made again until 60 months after revocation. The 2020 proposed section 163(j) regulations allow a U.S. shareholder with a CFC group election to increase its ATI for its portion of certain deemed inclusions of a CFC that are attributable to the CFC’s excess taxable income (if any). The final section 163(j) regulations generally are effective for tax years beginning 60 days after the date they are published in the Federal Register (Sept. 3, 2020) but can be applied to taxable years beginning after 2017 if taxpayers and related parties satisfy certain consistency requirements. The 2020 proposed section 163(j) regulations would generally apply to taxable years beginning on or after 60 days after the date they are published as final regulations in the Federal Register. However, taxpayers and related parties may apply the 2020 proposed section 163(j) regulations to tax years beginning after 2017 if they early adopt the final regulations and certain consistency requirements are satisfied. Alternatively, taxpayers and related parties can apply the 2018 proposed section 163(j) regulations to taxable years beginning after December 2017 and before the effective date of the 2020 proposed section 163(j) regulations, if certain consistency requirements are satisfied.
In September 2020, the Treasury and IRS released final regulations under section 59A (T.D. 9910). The BEAT rules require certain corporations to pay a minimum tax on taxable income as computed without certain deductions for certain payments to foreign related parties. The 2020 final regulations generally adopt the 2019 proposed regulations issued Dec. 2, 2019, with certain modifications, including allowing taxpayers an election to waive deductions for purposes of calculating their base erosion percentage. The final regulations provide additional guidance on determining the aggregate group and provide rules related to partnerships.
In September 2020, the Treasury issued Notice 2020-69 providing notice that regulations are expected that would allow certain S corporations to elect entity-level treatment for purposes of the GILTI rule. The election can be made for a timely filed return (including extensions) for tax years ending on or after Sept. 1, 2020. Until regulations are issued, Notice 2020-69 states that taxpayers may rely upon the notice provided the S corporation and all shareholders that are U.S. shareholders of the CFC consistently apply the rules of the notice.
In September 2020, final regulations (T.D. 9908) and a notice of proposed rulemaking published in the proposed rules section of the Federal Register (REG-110059-20) providing certain relief provisions after the repeal of the “downward attribution” rules of section 958(b)(4) were issued. The final regulations finalize proposed regulations that were issued in October 2019 with certain modifications such as: (1) expanding the scope to apply to amounts payable under section 267(a)(3) to a related foreign CFC that does not have any section 958(a) U.S. shareholders and (2) finalizing certain reporting requirements. The notice of proposed rulemaking provides regulations covering the section 954(c)(6) look-through rules to ensure that their operation is consistent with application before the repeal of section 958(b)(4). The notice of proposed rulemaking also modifies the regulations under section 367(a) regarding the direct or indirect transfer of stock or securities of a domestic corporation by a U.S. person to a foreign corporation to ensure the attribution rules are applied consistently following the repeal of section 958(b)(4).
In late September 2020, the Treasury and IRS issued proposed regulations providing guidance on many aspects of foreign tax credits including (1) expense allocation; (2) foreign tax liability; (3) deductions of life insurance companies and (4) the definition of foreign branch category and financial services income. In addition, final regulations under T.D. 9922 finalized proposed foreign tax credit regulations published in December 2019. Final section 901(m) regulations (T.D. 9895) covering the limitation of foreign taxes paid or accrued in connection with covered asset acquisitions as foreign tax credits, issued in March 2020. The final regulations generally adopted the 2016 proposed regulations and separate notices with certain revisions and made modifications to the 2016 proposed regulations necessary to reflect statutory changes by the TCJA.
On Sept. 17, 2020, the Treasury and IRS issued Notice 2020-73 announcing their intention to amend the applicability date of certain final section 987 and related final regulations by one additional year. As such, certain 2016 final regulations and the related 2019 final regulations would apply to the taxable year beginning on Jan. 1, 2022, for calendar-year taxpayers.
In October 2020, the IRS issued final regulations (T.D. 9921) addressing the source of income from property sales. The regulations retain the rules of the proposed December 2019 regulations with some revisions. For example, the final regulations provide that certain principles of Treas. Reg. Sec. 1.954-3(a)(4) may apply in determining the location of production activities for sourcing purposes.
Rev. Proc. 2020-20 provided relief to some nonresident individuals who, but for COVID-19 emergency travel disruptions, would not have been present in the U.S. in 2020 long enough to be considered resident aliens. Relief was achieved by excluding up to 60 consecutive days spent in the U.S. starting on or after Feb. 1, 2020, and on or before April 1, 2020, (with the specific start date to be chosen by each individual) under the substantial presence test’s medical exception provision. Rev. Proc. 2020-20 also provided procedures for individuals to exclude certain days present in the U.S. in order to claim tax treaty benefits for dependent personal services income.
In 2020, the IRS issued Rev. Proc. 2020-24 providing guidance on net operating loss (NOL) carryback election provisions introduced in the CARES Act. Generally, the revenue procedure provided for (1) waiver of the NOL (NOL carryback period for applicable NOLs); (2) an election to exclude from the carryback period any taxable year in which the taxpayer had a section 965(a) repatriation tax inclusion or (3) an election to waive any carryback period, to reduce any carryback period or to revoke any election made under section 172(b) to waive any carryback period for a taxable year that began before Jan. 1, 2018, and ended after Dec. 31, 2017. The IRS also released frequently asked questions (FAQ) to clarify certain issues from the application of Rev. Proc. 2020-24 including taxpayers may file an election to either waive the entire carryback period or to exclude all of section 965 years from the carryback period, and the statements that taxpayers use to make the elections.
Rev. Proc. 2020-27 provided relief to individuals that reasonably expected to qualify for the section 911 exclusions that left (1) China on or after Dec. 1, 2019 or (2) another foreign country on or after Feb. 1, 2020, (but on or before July 15, 2020) if the individual otherwise established he or she would have met the ordinarily applicable qualified individual eligibility requirements but for a “COVID-19 emergency.”
Rev. Proc. 2020-30 addressed the application of COVID-19 travel restrictions (such as transportation disruptions, shelter-in-place orders, quarantines etc.) on foreign branches. According to the revenue procedure, certain activities conducted in a foreign country for a consecutive 60 calendar-day period in 2020 by individuals temporarily present there due to travel disruptions will not be taken into account for purposes of determining whether a domestic corporation has a foreign branch separate unit. As a result, such activities will not give rise to a foreign branch separate unit under section 1503(d) and the taxpayer will not have an obligation to file a Form 8858, Information Return of U.S. Persons with Respect to Foreign Disregarded Entities (FDEs) and Foreign Branches (FBs).
The international community has committed to an inclusive framework initiative on tax challenges to the digitalization of the economy. In May 2019, the OECD issued a work plan presenting a two-pillar approach: Pillar One addressed taxable nexus and the allocation of taxing rights among jurisdictions and Pillar Two addressed the global anti-base erosion (GloBE) issue and a global minimum tax. Initial targets aimed for agreement on Pillar One and Two approaches to be adopted by 2020 year-end. Recent updates have altered this projected timeline. See the following major 2020 updates:
A European Union summit on digital issues is expected to be held in March 2021. Early OECD analyses estimated a $100 billion increase in global tax revenue from Pillar One and Pillar Two.
Multiple European countries adopted and proposed DSTs as means to finance efforts made to combat COVID-19. The European Union Commission enacted measures to tax digital MNEs contrary to plans being considered by the OECD. Countries which have announced DSTs include Austria, France, Hungary, Italy, Spain, Turkey and the UK. U.S. trade representative investigations into simultaneous European DSTs have, in part, pushed the U.S. Treasury Department to announce retraction from Pillar One negotiations with the OECD and member nations (see above). Absent a compromise to the inclusive framework, DSTs may be implemented by most countries.
Transfer pricing continues to be the top concern in global tax reform. Global tax transparency has led to a focus on the income allocation rules and how countries will seek to generate more tax revenues and increase transfer pricing enforcement. The expected outcome will inevitably be greater uncertainty, increased compliance costs and increased litigation. A strategic and comprehensive transfer pricing policy that is adaptable to these changes will be critical for multinational businesses.
The OECD released guidance for determining whether the conditions of certain financial transactions between associated enterprises are consistent with the arm’s-length principle. This guidance describes applications of transfer prices in financial transactions such as intragroup loans, cash pooling, hedging, financial guarantees and transactions within insurance companies. Guidance on these aspects of financial transactions have been introduced to avoid transfer pricing disputes and double taxation.
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