5 Takeaways from the Tax Law’s Repatriation Rules

The clock is ticking. U.S. shareholders face a looming deadline with the 2017 Tax Cuts and Jobs Act, Section 965, which introduced a one-time repatriation tax on specified foreign corporations’ previously untaxed earnings, to be paid at two reduced rates for domestic corporations – 15.5% on cash (and cash equivalents) and 8% on illiquid assets. Individuals may be taxed at an effective rate that is lower or higher than the rates referred to above based on the individuals’ tax bracket.

For corporations and individuals that plan to elect to pay in installments over an eight-year period, an April 15 deadline for the first payment is right around the corner. Don’t be left scurrying for information at the last minute – keep these points in mind as you navigate this unfolding tax rule.

New attribution rules create additional exposure.

More far-reaching stock attribution rules have since extended the definition of a controlled foreign corporation to include additional entities. Now a foreign parent company’s shares could be attributed to the U.S. subsidiary. In practical terms, that means that if the foreign parent company owns 95% of shares, for example, and the U.S. subsidiary owns 5%, the latter is now considered to own 100% of the CFC – and subject to the repatriation tax. In other cases, where a U.S. partnership owns 100% of the CFC, all shareholders are now subject to the deemed repatriation rule even if each owns less than 10% of the partnership.

The general calculation and tax rate just got trickier.

The case of dividends calculations makes that clear. Simply put, in the event you think any distribution amassed could be taxed under previous tax rules, think again. The new tax law requires you to add back any distributions during the year, and, in turn, becomes part of your December 31, 2017 E&P pool. In essence, any distribution that is made during the year is added back and reconstructed to be part of Section 965, including dividends that predated the new law.

The need to invest resources in an E&P study is more essential than ever.

Certainly, the main purpose for calculating earnings and profits has typically been to gauge whether a distribution represents a taxable dividend. Lacking a triggering event, however, most companies previously overlooked an E&P study, operating under the assumption they would never be taxed. Not surprisingly, then, the E&P schedule under Form 5471 was often viewed as a perfunctory step, at best. Now the E&P listed under 5471 may not be as accurate as it should be. In light of new tax provisions, consider whether your business can afford to operate under previous accounting protocols.

There’s an election to forego use of net operating losses.

A U.S. shareholder who has deferred income from a foreign corporation, along with an NOL carryforward, has the option to forego the use of the U.S. NOL deduction in a Section 965 inclusion year. The election will allow the U.S. shareholder to preserve the NOLs against future income on which the tax would not have been eligible for the eight-year repayment period.

S corporations can enjoy an indefinite deferral – sort of.

With a valid, timely filed election, S corporations can enjoy an indefinite deferral on the repatriation tax, until the time of a triggering event. In the event of a disposition of shares, a new acquirer can agree to the terms and conditions of an indefinite deferral, thereby stepping in the legal shoes of the previous owner and thwarting a potential triggering event. Such scenarios are equally relevant in cases where the owner of an estate passes away. In such an event, it is essential to have a succession plan in place to ensure subsequent owners are bound by similar terms and conditions that were in place before the owner’s passing.

Business Tax Quarterly - Spring 2018

• Business Tax Executive Summary
• 5 Takeaways from the Tax Law's Repatriation Rules
• Avoid These Mistakes When Automating Business Tax Processes
• Business Tax Recommended Reading