Participation Exemption, GILTI, Sec 962

Technical topics regarding tax preparation.
#1
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Following up with my clients on various end-of-year consulting engagements that have been on the back burner since September and October.

For this one, I believe the most advantageous answer for the client is "do nothing", which coincidentally is my favorite answer.

Fact pattern:

Taxpayer “A” and taxpayer “B” are US citizens living as expats in a foreign country (“FC”). FC does not have a tax treaty with the US. FC taxes corporations' net taxable income at a flat rate of 22%.

Taxpayers A and B are business partners, and currently have ownership in foreign corps incorporated in FC:

Foreign Corp 1 (51% taxpayer A, 49% taxpayer B)
Foreign Corp 2 (30% taxpayer A, 30% taxpayer B, 40% non-US investors)
Foreign Corp 3 (19% taxpayer A, 18% taxpayer B, 63% non-US investors)

FC 1 and 2 are CFCs. FC 3 is not a CFC. All corps are in the food service / food preparation industry.

5471s and repatriation inclusion (Sec 965) were prepared for the 2017 tax returns.

I’m interested in hearing thoughts on if it make sense to move taxpayer’s interest to a US holding C-Corp based on the new participation exemption and GILTI tax?

It would seem under the current structure (individuals directly holding the interest), GILTI is avoided under the exclusion for high-taxed income under IRC Sec 951A(c)(2)(A)(i)(III). That is, FC income tax rate of 22% is higher than 18.9% (21% x .9). So taxpayers have no exposure to GILTI?

It also appears there’s no advantage to trying to obtain the participation exemption (100% DRD) under a US C Corp if that means exposure to PHC and AET. The alternative, electing C Corp rates under Sec 962 and using foreign tax credits would yield zero US tax on the taxpayers' 1040s.

Agree?
 

#2
Smktax  
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The preamble to the proposed GILTI regulations states:
[S]ection 951A(c)(2) requires that the gross income of the CFC for the taxable year be determined without regard to certain items. One of these items is gross income excluded from foreign base company income (as defined in section 954) or insurance income (as defined in section 953) of the CFC by reason of electing the exception under section 954(b)(4) (“high-tax exception”). In response to comments, the proposed regulations clarify that this exclusion applies only to income that is excluded from foreign base company income and insurance income solely by reason of an election made to exclude the income under the high-tax exception of section 954(b)(4). Accordingly, the exclusion does not apply to income that would not otherwise be subpart F income * * *.


If the income earned by your client’s CFCs would not be Subpart F Income, then it would not be excluded from GILTI under Section 951A(c)(2)(A)(i)(III).
 

#3
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Thank you Smktax.

It appears GILTI considerations will be unavoidable for most US shareholders in CFCs after reading more.

A lot to think about here...

Use a C Corp to hold the foreign corp interests? That would bring the 50% deduction (10.5% effective rate) into play and allow the 80% indirect tax credit.

Keep under the individuals but make a Sec 962 election. That would give them a 21% rate -- but no 50% deduction -- and allow them the 80% indirect tax credit. It looks like 962 really is just a deferral. If the money is ever repatriated tax would be due at full individual rates.

C Corp would give them the benefit of 100% DRD under Sec 245A, but brings AET exposure and I believe PHC exposure.

I'm coming to the conclusion there's not really a perfect answer, more like the lesser of two evils... They're not going to like my fees for next year.
 


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