[Federal Register Volume 76, Number 67 (Thursday, April 7, 2011)]
[Rules and Regulations]
[Pages 19268-19275]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2011-8229]
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DEPARTMENT OF THE TREASURY
Internal Revenue Service
26 CFR Part 1
[TD 9521]
RIN 1545-BG54
Reduction of Foreign Tax Credit Limitation Categories Under
Section 904(d)
AGENCY: Internal Revenue Service (IRS), Treasury.
ACTION: Final regulations and removal of temporary regulations.
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SUMMARY: This document contains final regulations that provide guidance
relating to the reduction of the number of separate foreign tax credit
limitation categories under section 904(d) of the Internal Revenue
Code. Changes to the applicable law were made by the American Jobs
Creation Act of 2004 (AJCA) reducing the number of section 904(d)
separate categories from eight to two, effective for taxable years
beginning after December 31, 2006. The final regulations provide
guidance needed to comply with these changes and affect individuals and
corporations claiming foreign tax credits.
DATES: Effective Date: These regulations are effective on April 7,
2011.
Applicability Dates: For dates of applicability see Sec. Sec.
1.904-2(i)(3), 1.904-4(n), 1.904-5(o)(3), 1.904-7(g)(6), and 1.904(f)-
12(h)(6).
FOR FURTHER INFORMATION CONTACT: Jeffrey L. Parry, (202) 622-3850 (not
a toll-free number).
SUPPLEMENTARY INFORMATION:
Background
On December 21, 2007, a notice of proposed rulemaking by cross-
reference to temporary regulations (REG-114126-07) under section 904 of
the Code and temporary regulations (TD 9368) (the 2007 temporary
regulations) were published in the Federal Register (72 FR 72645) and
(72 FR 72582), respectively. Corrections to those temporary regulations
were published on March 21, 2008, in the Federal Register (73 FR
15063). No written comments were received. A public hearing was not
requested and none was held. This Treasury decision adopts the proposed
regulation with the changes discussed in this preamble.
Explanation of Changes in This Final Rule
I. Gain From the Sale of a Partnership Interest
Section 954(c)(4), which was enacted by the AJCA, provides a look-
through rule for sales of 25-percent-owned partnerships. Because the
definition of passive income in section 904(d)(2)(B) refers to section
954(c), Sec. 1.904-5T(h)(3)(ii) of the 2007 temporary regulations
provides that in the case of a sale of a partnership interest by a 25-
percent partner, under the principles of section 954(c)(4)(B) the
income recognized on such sale is assigned to the separate category for
general category income, to the extent that the gain would not be
classified as foreign personal holding company income under the section
954(c)(4) look-through rule. The rule has been revised to clarify that
the look-through rule applies to a sale by any 25-percent owner of a
partnership (and not just controlled foreign corporations that are 25-
percent partners). The language of this provision has also been revised
to be more consistent with the language of the look-through rule as
provided under section 954(c)(4).
II. Losses in and Losses With Respect to the Pre-2007 Separate Category
for High Withholding Tax Interest
Section 1.904(f)-12T(h) of the 2007 temporary regulations provides
transition rules for recapture in a taxable year beginning after
December 31, 2006 (post-2006 taxable year) of an overall foreign loss
(OFL) or separate limitation loss (SLL) in a pre-2007 separate category
(as defined in Sec. 1.904-7T(g)(ii)) that offset U.S. source income or
income in another pre-2007 separate category, respectively. Section
1.904(f)-12T(h)(3) provides that to the extent a taxpayer had an OFL or
SLL at the end of the taxpayer's last pre-2007 taxable year in the pre-
2007 separate category for high withholding tax interest, the
allocation of such OFL or SLL to the taxpayer's post-2006 separate
categories follows the taxpayer's allocation of excess taxes in the
high withholding tax interest loss category for section 904(c)
carryover purposes. If there were no excess taxes in the loss category
that carried over to post-2006 taxable years, an OFL or SLL in the pre-
2007 separate category for high withholding tax interest is allocated
to the post-2006 separate category for passive category income.
Similarly, Sec. 1.904(f)-12T(h)(3) provides that where a taxpayer had
an SLL in a pre-2007 separate category that offset high withholding tax
interest (that is, an SLL with respect to a pre-2007 separate category
for high withholding tax interest), the SLL will be recaptured in
subsequent taxable years pro rata as income in the post-2006 separate
categories for general category income and passive category income
based on how the taxpayer allocated excess taxes in the pre-2007
separate category for high withholding tax interest. If no excess taxes
in the pre-2007 separate category for high withholding tax interest
were carried over to post-2006 taxable years, the SLL will be
recaptured in subsequent taxable years as income in the post-2006
separate category for passive category income.
A question was raised as to whether it was appropriate, in the case
of a financial services entity that had a loss in, or a loss with
respect to, a pre-2007 separate category for high withholding tax
interest, and no excess taxes in the loss category were carried over to
post-2006 taxable years, that the loss be allocated to the post-2006
separate category for passive category income (in the case of a loss in
the pre-2007 separate category for high withholding tax interest) or
that the loss be recaptured in subsequent taxable years as income in
the post-2006 separate category for passive category income (in the
case of a loss with respect to a pre-2007 separate category for high
withholding tax interest).
Section 904(d)(2)(C)(i), as amended by the AJCA, provides that
financial services income is treated as general category income in the
case of a member of a financial services group and any other person
predominantly engaged in the active conduct of a banking, insurance,
financing or similar business (a financial services entity). Financial
services income includes passive income that is received or accrued by
any person predominantly engaged in the active conduct of a banking,
insurance, financing, or similar business, but does not include
specified passive category income. See section 904(d)(2)(D)(i)(II).
Accordingly, in post-2006 taxable years, income that otherwise would be
treated as passive income (and assigned to the separate category for
passive category income) will instead be treated as general category
income in the case of a financial services entity.
The IRS and the Treasury Department believe that, in the case of a
financial
[[Page 19269]]
services entity, the appropriate treatment of a loss in, or a loss with
respect to, a pre-2007 separate category for high withholding tax
interest, where no excess taxes in the loss category were carried over
to post-2006 taxable years, is to allocate the loss to the post-2006
separate category for general category income or to recapture the loss
in subsequent years as general category income, as the case may be.
Accordingly, the regulations have been revised to provide that if a
financial services entity allocated under Sec. 1.904(f)-12T(h)(3) an
OFL or SLL at the end of its last pre-2007 taxable year in the pre-2007
separate category for high withholding tax interest to the post-2006
separate category for passive category income, and no excess taxes in
the loss category were carried over to post-2007 taxable years, the
amount of any such loss that has not yet been recaptured will be
allocated to the post-2006 separate category for general category
income. Similarly, if a financial services entity allocated under Sec.
1.904(f)-12T(h)(3) at the end of its last pre-2007 taxable year an SLL
with respect to a pre-2007 separate category for high withholding tax
interest, and no excess taxes in the separate category for high
withholding tax interest were carried over to post-2007 taxable years
(that is, the SLL would be subject to recapture as passive category
income), the amount of any such SLL that has not yet been recaptured
will be recaptured in subsequent taxable years as general category
income. The regulations have also been revised to clarify that, in the
case of a financial services entity, to the extent an SLL in the post-
2006 separate category for general category income is recaptured as
income in the post-2006 separate category for passive category income,
the amount that would otherwise be recaptured as passive income (as
opposed to specified passive category income) will be recaptured as
general category income.
III. Section 952(c) Recapture Accounts
Section 1.904-7(g)(3) of the final regulations clarifies that
section 952(c)(2) recapture accounts maintained by a controlled foreign
corporation with respect to subpart F income in a separate category
that was subject to the earnings and profits limitation of section
952(c)(1)(A) are allocated to separate categories in the same manner as
the associated post-1986 undistributed earnings.
IV. Safe Harbors
The 2007 temporary regulations provide several safe harbors that a
taxpayer may apply in lieu of generally applicable rules. Section
1.904-2T(i)(1)(ii) provides a safe harbor for the carryover of unused
foreign taxes in a pre-2007 separate category to a post-2006 separate
category; Sec. 1.904-2T(i)(2)(ii) provides a safe harbor for the
carryback of unused foreign taxes in a post-2006 separate category to a
pre-2007 separate category; Sec. 1.904-7T(g)(3)(ii) provides safe
harbors for allocating pools of post-1986 undistributed earnings and
post-1986 foreign income taxes in the pre-2007 separate categories of
controlled foreign corporations and noncontrolled section 902
corporations to the post-2006 separate categories; and Sec. 1.904(f)-
12T(h)(5) provides an alternative method for determining the recapture
in post-2006 taxable years of separate limitation losses and overall
foreign losses incurred in pre-2007 taxable years.
A question was raised as to how a safe harbor method election is to
be made and the time frame for making the election. The final
regulations provide that taxpayers may choose to use a safe harbor
method on a timely filed (original or amended) tax return or during
audit. If a taxpayer chooses to use the safe harbor method on an
amended return or in the course of an audit, the taxpayer must make
appropriate adjustments to eliminate any double benefit arising from
application of the safe harbor method to years that are not open for
assessment. A taxpayer's choice to use the safe harbor method is
evidenced by simply employing the method in determining its foreign tax
credit limitation. No separate statement need be filed.
V. Effective/Applicability Dates
The effective/applicability dates are the same as those in the
proposed and temporary regulations with minor clarifying changes.
Special Analyses
It has been determined that this notice of proposed rulemaking is
not a significant regulatory action as defined in Executive Order
12866. Therefore, a regulatory assessment is not required. It has also
been determined that section 553(b) of the Administrative Procedure Act
(5 U.S.C. chapter 5) does not apply to these regulations, and because
the regulations do not impose a collection of information on small
entities, the Regulatory Flexibility Act (5 U.S.C. chapter 6) does not
apply.
Drafting Information
The principal author of these regulations is Jeffrey L. Parry of
the Office of Chief Counsel (International). However, other personnel
from the Treasury Department and the IRS participated in their
development.
List of Subjects in 26 CFR Part 1
Income taxes, Reporting and recordkeeping requirements.
Adoption of Amendments to the Regulations
Accordingly, 26 CFR part 1 is amended as follows:
PART 1--INCOME TAXES
0
Paragraph 1. The authority citation for part 1 continues to read in
part as follows:
Authority: 26 U.S.C. 7805 * * *
0
Par. 2. Section 1.904-0 is amended by adding entries for Sec. Sec.
1.904-2(i), 1.904-4(a), (b), (h)(3), and (l), 1.904-5(h)(3) and (o)(3),
and1.904-7(g) to read as follows:
Sec. 1.904-0 Outline of regulation provisions for section 904.
* * * * *
Sec. 1.904-2 Carryback and carryover of unused foreign tax.
* * * * *
(i) Transition rules for carryovers and carrybacks of pre-2007 and
post-2006 unused foreign tax.
(1) Carryover of unused foreign tax.
(i) General rule.
(ii) Safe harbor.
(2) Carryback of unused foreign tax.
(i) General rule.
(ii) Safe harbor.
(3) Effective/applicability date.
* * * * *
Sec. 1.904-4 Separate application of section 904 with respect to
certain categories of income.
(a) In general.
(b) Passive category income.
(1) In general.
(2) Passive income.
(i) In general.
(ii) Exceptions.
(iii) Active rents or royalties.
(A) In general.
(B) Active conduct of trade or business.
(iv) Examples.
(3) Specified passive category income.
* * * * *
(h) * * *
(3) Exception.
* * * * *
(l) Priority rule.
* * * * *
Sec. 1.904-5 Look-through rules as applied to controlled foreign
corporations and other entities.
* * * * *
[[Page 19270]]
(h) * * *
(3) Income from the sale of a partnership interest.
(i) In general.
(ii) Exception for sale by 25-percent owner.
* * * * *
(o) * * *
(3) Rules for income from the sale of a partnership interest.
Sec. 1.904-7 Transition rules.
* * * * *
(g) Treatment of earnings and foreign taxes of a controlled foreign
corporation or a noncontrolled section 902 corporation accumulated in
taxable years beginning before January 1, 2007.
(1) Definitions.
(i) Pre-2007 pools.
(ii) Pre-2007 separate categories.
(iii) Post-2006 separate categories.
(2) Treatment of pre-2007 pools of a controlled foreign corporation
or a noncontrolled section 902 corporation.
(3) Substantiation of post-2006 character of earnings and taxes in
a pre-2007 pool.
(i) Reconstruction of earnings and taxes pools.
(ii) Safe harbor method.
(A) In general.
(B) General safe harbor method.
(C) Interest apportionment safe harbor.
(iii) Consistency rule.
(4) Treatment of pre-1987 accumulated profits.
(5) Treatment of earnings and foreign taxes in pre-2007 pools of a
lower-tier controlled foreign corporation or noncontrolled section 902
corporation.
(6) Effective/applicability date.
0
Par. 3. Section 1.904-2(i) is revised to read as follows:
Sec. 1.904-2 Carryback and carryover of unused foreign tax.
* * * * *
(i) Transition rules for carryovers and carrybacks of pre-2007 and
post-2006 unused foreign tax--(1) Carryover of unused foreign tax--(i)
General rule. For purposes of this paragraph (i), the terms post-2006
separate category and pre-2007 separate category have the meanings set
forth in Sec. 1.904-7(g)(1)(ii) and (iii). The rules of this paragraph
(i)(1) apply to reallocate to the taxpayer's post-2006 separate
categories for general category income and passive category income any
unused foreign taxes (as defined in Sec. 1.904-2(b)(2)) that were paid
or accrued or deemed paid under section 902 with respect to income in a
pre-2007 separate category (other than a category described in Sec.
1.904-4(m)). To the extent any such unused foreign taxes are carried
forward to a taxable year beginning after December 31, 2006, such taxes
shall be allocated to the taxpayer's post-2006 separate categories to
which those taxes would have been allocated if the taxes were paid or
accrued in a taxable year beginning after December 31, 2006. For
example, any foreign taxes paid or accrued or deemed paid with respect
to financial services income in a taxable year beginning before January
1, 2007, that are carried forward to a taxable year beginning after
December 31, 2006, will be allocated to the general category because
the financial services income to which those taxes relate would have
been allocated to the general category if it had been earned in a
taxable year beginning after December 31, 2006.
(ii) Safe harbor. In lieu of applying the rules of paragraph
(i)(1)(i) of this section, a taxpayer may allocate all unused foreign
taxes in the pre-2007 separate category for passive income to the post-
2006 separate category for passive category income, and allocate all
other unused foreign taxes described in paragraph (i)(1)(i) of this
section to the post-2006 separate category for general category income.
A taxpayer may choose to use the safe harbor method on a timely filed
(original or amended) tax return or during an audit. A taxpayer that
uses the safe harbor method on an amended return or in the course of an
audit must make appropriate adjustments to eliminate any double benefit
arising from application of the safe harbor method to years that are
not open for assessment. A taxpayer's choice to use the safe harbor
method is evidenced by employing the method. The taxpayer need not file
any separate statement.
(2) Carryback of unused foreign tax--(i) General rule. The rules of
this paragraph (i)(2) apply to any unused foreign taxes that were paid
or accrued or deemed paid under section 902 with respect to income in a
post-2006 separate category (other than a category described in Sec.
1.904-4(m)). To the extent any such unused foreign taxes are carried
back to a taxable year beginning before January 1, 2007, a credit for
such taxes shall be allowed only to the extent of the excess limitation
in the pre-2007 separate category, or categories, to which the taxes
would have been allocated if the taxes were paid or accrued in a
taxable year beginning before January 1, 2007. For example, any foreign
taxes paid or accrued or deemed paid with respect to income in the
general category in a taxable year beginning after December 31, 2006,
that are carried back to a taxable year beginning before January 1,
2007, will be allocated to the same separate categories to which the
income would have been allocated if such income had been earned in a
taxable year beginning before January 1, 2007.
(ii) Safe harbor. In lieu of applying the rules of paragraph
(i)(2)(i) of this section, a taxpayer may allocate all unused foreign
taxes in the post-2006 separate category for passive category income to
the pre-2007 separate category for passive income, and may allocate all
other unused foreign taxes described in paragraph (i)(2)(i) of this
section to the pre-2007 separate category for general limitation
income. A taxpayer may choose to use the safe harbor method on a timely
filed (original or amended) tax return or during an audit. A taxpayer
that uses the safe harbor method on an amended return or in the course
of an audit must make appropriate adjustments to eliminate any double
benefit arising from application of the safe harbor method to years
that are not open for assessment. A taxpayer's choice to use the safe
harbor method is evidenced by employing the method. The taxpayer need
not file any separate statement.
(3) Effective/applicability date. This paragraph (i) applies to
taxable years beginning after December 31, 2006 and ending on or after
December 21, 2007.
Sec. 1.904-2T [Removed].
0
Par. 4. Section 1.904-2T is removed.
0
Par. 5. In Sec. 1.904-4, paragraphs (a), (b), (h)(3), and (l) are
revised, paragraphs (f) and (g) are removed and reserved, and a new
sentence is added immediately after the heading of paragraph (n) to
read as follows:
Sec. 1.904-4 Separate application of section 904 with respect to
certain categories of income.
(a) In general. A taxpayer is required to compute a separate
foreign tax credit limitation for income received or accrued in a
taxable year that is described in section 904(d)(1)(A) (passive
category income), 904(d)(1)(B) (general category income), or Sec.
1.904-4(m) (additional separate categories).
(b) Passive category income--(1) In general. The term passive
category income means passive income and specified passive category
income.
(2) Passive income--(i) In general. The term passive income means
any--
(A) Income received or accrued by any person that is of a kind that
would be foreign personal holding company income (as defined in section
954(c)) if the taxpayer were a controlled foreign corporation,
including any amount of gain on the sale or exchange of stock in excess
of the amount treated as a dividend under section 1248; or
[[Page 19271]]
(B) Amount includible in gross income under section 1293.
(ii) Exceptions. Passive income does not include any export
financing interest (as defined in section 904(d)(2)(G) and paragraph
(h) of this section), any high-taxed income (as defined in section
904(d)(2)(F) and paragraph (c) of this section), or any active rents
and royalties (as defined in paragraph (b)(2)(iii) of this section). In
addition, passive income does not include any income that would
otherwise be passive but is characterized as income in another separate
category under the look-through rules of section 904(d)(3), (d)(4), and
(d)(6)(C) and the regulations under those provisions. In determining
whether any income is of a kind that would be foreign personal holding
company income, the rules of section 864(d)(5)(A)(i) and (6) (treating
related person factoring income of a controlled foreign corporation as
foreign personal holding company income that is not eligible for the
export financing income exception to the separate limitation for
passive income) shall apply only in the case of income of a controlled
foreign corporation (as defined in section 957). Thus, income earned
directly by a United States person that is related person factoring
income may be eligible for the exception for export financing interest.
(iii) Active rents or royalties--(A) In general. For rents and
royalties paid or accrued after September 20, 2004, passive income does
not include any rents or royalties that are derived in the active
conduct of a trade or business, regardless of whether such rents or
royalties are received from a related or an unrelated person. Except as
provided in paragraph (b)(2)(iii)(B) of this section, the principles of
section 954(c)(2)(A) and the regulations under that section shall apply
in determining whether rents or royalties are derived in the active
conduct of a trade or business. For this purpose, the term taxpayer
shall be substituted for the term controlled foreign corporation if the
recipient of the rents or royalties is not a controlled foreign
corporation.
(B) Active conduct of trade or business. Rents and royalties are
considered derived in the active conduct of a trade or business by a
United States person or by a controlled foreign corporation (or other
entity to which the look-through rules apply) for purposes of section
904 (but not for purposes of section 954) if the requirements of
section 954(c)(2)(A) are satisfied by one or more corporations that are
members of an affiliated group of corporations (within the meaning of
section 1504(a), determined without regard to section 1504(b)(3)) of
which the recipient is a member. For purposes of this paragraph
(b)(2)(iii)(B), an affiliated group includes only domestic corporations
and foreign corporations that are controlled foreign corporations in
which domestic members of the affiliated group own, directly or
indirectly, at least 80 percent of the total voting power and value of
the stock. For purposes of this paragraph (b)(2)(iii)(B), indirect
ownership shall be determined under section 318 and the regulations
under that section.
(iv) Examples. The following examples illustrate the application of
paragraph (b)(2) of this section.
Example 1. P is a domestic corporation with a branch in foreign
country X. P does not have any financial services income. For 2008,
P has a net foreign currency gain that would not constitute foreign
personal holding company income if P were a controlled foreign
corporation because the gain is directly related to the business
needs of P. The currency gain is, therefore, general category income
to P because it is not income of a kind that would be foreign
personal holding company income.
Example 2. Controlled foreign corporation S is a wholly-owned
subsidiary of P, a domestic corporation. S is regularly engaged in
the restaurant franchise business. P licenses trademarks,
tradenames, certain know-how, related services, and certain
restaurant designs for which S pays P an arm's length royalty. P is
regularly engaged in the development and licensing of such property.
The royalties received by P for the use of its property are
allocable under the look-through rules of Sec. 1.904-5 to the
royalties S receives from the franchisees. Some of the franchisees
are unrelated to S and P. Other franchisees are related to S or P
and use the licensed property outside of S's country of
incorporation. S does not satisfy, but P does satisfy, the active
trade or business requirements of section 954(c)(2)(A) and the
regulations under that section. The royalty income earned by S with
regard to both its related and unrelated franchisees is foreign
personal holding company income because S does not satisfy the
active trade or business requirements of section 954(c)(2)(A) and,
in addition, the royalty income from the related franchisees does
not qualify for the same country exception of section 954(c)(3).
However, all of the royalty income earned by S is general category
income to S under Sec. 1.904-4(b)(2)(iii) because P, a member of
S's affiliated group (as defined therein), satisfies the active
trade or business test (which is applied without regard to whether
the royalties are paid by a related person). S's royalty income that
is taxable to P under subpart F and the royalties paid to P are
general category income to P under the look-through rules of Sec.
1.904-5(c)(1)(i) and (c)(3), respectively.
(3) Specified passive category income means--
(i) Dividends from a DISC or former DISC (as defined in section
992(a)) to the extent such dividends are treated as income from sources
without the United States;
(ii) Taxable income attributable to foreign trade income (within
the meaning of section 923(b)); or
(iii) Distributions from a FSC (or a former FSC) out of earnings
and profits attributable to foreign trade income (within the meaning of
section 923(b)) or interest or carrying charges (as defined in section
927(d)(1)) derived from a transaction which results in foreign trade
income (as defined in section 923(b)).
* * * * *
(f) [Reserved].
(g) [Reserved].
(h) * * *
(3) Exception. Unless it is received or accrued by a financial
services entity, export financing interest shall be treated as passive
category income if that income is also related person factoring income.
For this purpose, related person factoring income is--
(i) Income received or accrued by a controlled foreign corporation
that is income described in section 864(d)(6) (income of a controlled
foreign corporation from a loan for the purpose of financing the
purchase of inventory property of a related person); or
(ii) Income received or accrued by any person that is income
described in section 864(d)(1) (income from a trade receivable acquired
from a related person).
* * * * *
(l) Priority rule. Income that meets the definitions of a separate
category described in paragraph (m) of this section and another
category of income described in section 904(d)(2)(A)(i) and (ii) will
be subject to the separate limitation described in paragraph (m) of
this section and will not be treated as general category income
described in section 904(d)(2)(A)(ii).
* * * * *
(n) * * * Paragraphs (a), (b), (h)(3), and (l) of this section
shall apply to taxable years of United States persons and, for purposes
of section 906, foreign persons beginning after December 31, 2006 and
ending on or after December 21, 2007, and to taxable years of a foreign
corporation which end with or within taxable years of its domestic
corporate shareholder beginning after December 31, 2006 and ending on
or after December 21, 2007. * * *
Sec. 1.904-4T [Removed].
0
Par. 6. Section 1.904-4T is removed.
0
Par. 7. In Sec. 1.904-5, paragraphs (h)(3) and (o)(3) are revised to
read as follows:
[[Page 19272]]
Sec. 1.904-5 Look-through rules as applied to controlled foreign
corporations and other entities.
* * * * *
(h) * * *
(3) Income from the sale of a partnership interest--(i) In general.
To the extent a partner recognizes gain on the sale of a partnership
interest, that income shall be treated as passive category income to
the partner, unless the income is considered to be high-taxed under
section 904(d)(2)(B)(iii)(II) and Sec. 1.904-4(c).
(ii) Exception for sale by 25-percent owner. In the case of a sale
of an interest in a partnership by a partner that is a 25-percent owner
of the partnership, determined by applying section 954(c)(4)(B) and
substituting ``controlled foreign corporation'' with ``partner'' every
place it appears, for purposes of determining the separate category to
which the income recognized on the sale of the partnership interest is
assigned such partner shall be treated as selling the proportionate
share of the assets of the partnership attributable to such interest.
* * * * *
(o) * * *
(3) Rules for income from the sale of a partnership interest.
Paragraph (h)(3) of this section shall apply to taxable years of United
States persons and, for purposes of section 906, foreign persons
beginning after December 31, 2006 and ending on or after December 21,
2007, and to taxable years of a foreign corporation which end with or
within taxable years of its domestic corporate shareholder beginning
after December 31, 2006 and ending on or after December 21, 2007.
Sec. 1.904-5T [Removed].
0
Par. 8. Section 1.904-5T is removed.
0
Par. 9. Section 1.904-7, paragraph (g) is revised to read as follows:
Sec. 1.904-7 Transition rules.
* * * * *
(g) Treatment of earnings and foreign taxes of a controlled foreign
corporation or a noncontrolled section 902 corporation accumulated in
taxable years beginning before January 1, 2007--(1) Definitions--(i)
Pre-2007 pools means the pools in each separate category of post-1986
undistributed earnings (as defined in Sec. 1.902-1(a)(9)) that were
accumulated, and post-1986 foreign income taxes (as defined in Sec.
1.902-1(a)(8)) paid, accrued, or deemed paid, in taxable years
beginning before January 1, 2007.
(ii) Pre-2007 separate categories means the separate categories of
income described in section 904(d) as applicable to taxable years
beginning before January 1, 2007, and any other separate category of
income described in Sec. 1.904-4(m).
(iii) Post-2006 separate categories means the separate categories
of income described in section 904(d) as applicable to taxable years
beginning after December 31, 2006, and any other separate category of
income described in Sec. 1.904-4(m).
(2) Treatment of pre-2007 pools of a controlled foreign corporation
or a noncontrolled section 902 corporation. Any post-1986 undistributed
earnings in a pre-2007 pool of a controlled foreign corporation or a
noncontrolled section 902 corporation shall be treated in taxable years
beginning after December 31, 2006, as if they were accumulated during a
period in which the rules governing the determination of post-2006
separate categories applied. Post-1986 foreign income taxes paid,
accrued, or deemed paid with respect to such earnings shall be treated
as if they were paid, accrued, or deemed paid during a period in which
the rules governing the determination of post-2006 separate categories
(including the rules of section 904(d)(3)(E)) applied as well. Any such
earnings and taxes in pre-2007 pools shall constitute the opening
balance of the foreign corporation's post-1986 undistributed earnings
and post-1986 foreign income taxes on the first day of the foreign
corporation's first taxable year beginning after December 31, 2006, in
accordance with the rules of paragraph (g)(3) of this section. Similar
rules shall apply to characterize any deficits in the pre-2007 pools
and previously-taxed earnings and profits described in section
959(c)(1) and (2) that are attributable to earnings in the pre-2007
pools. Any section 952(c)(2) recapture account with respect to a
separate category shall be allocated in the same manner as the post-
1986 undistributed earnings in the associated pre-2007 pool.
(3) Substantiation of post-2006 character of earnings and taxes in
a pre-2007 pool--(i) Reconstruction of earnings and taxes pools. In
order to substantiate the post-2006 characterization of post-1986
undistributed earnings (as well as deficits and previously-taxed
earnings, if any) and post-1986 foreign income taxes in pre-2007 pools
of a controlled foreign corporation or a noncontrolled section 902
corporation, the taxpayer shall make a reasonable, good-faith effort to
reconstruct the pre-2007 pools of post-1986 undistributed earnings (as
well as deficits and previously-taxed earnings, if any) and post-1986
foreign income taxes following the rules governing the determination of
post-2006 separate categories for each taxable year beginning before
January 1, 2007, beginning with the first year in which post-1986
undistributed earnings were accumulated in the pre-2007 pool.
Reconstruction shall be based on reasonably available books and records
and other relevant information. To the extent any pre-2007 separate
category includes earnings that would be allocated to more than one
post-2006 separate category, the taxpayer must account for earnings
distributed and taxes deemed paid in these years for such category as
if they were distributed and deemed paid pro rata from the amounts that
were added to that category during each taxable year beginning before
January 1, 2007.
(ii) Safe harbor method--(A) In general. Subject to the rules of
paragraph (g)(3)(iii) of this section, a taxpayer may allocate the
post-1986 undistributed earnings and post-1986 foreign income taxes in
pre-2007 pools of a controlled foreign corporation or a noncontrolled
section 902 corporation (as well as deficits and previously-taxed
earnings, if any) under one of the safe harbor methods described in
paragraphs (g)(3)(ii)(B) and (g)(3)(ii)(C) of this section. A taxpayer
may choose to use the safe harbor method on a timely filed (original or
amended) tax return or during an audit. A taxpayer that uses the safe
harbor method on an amended return or in the course of an audit must
make appropriate adjustments to eliminate any double benefit arising
from application of the safe harbor method to years that are not open
for assessment. A taxpayer's choice to use the safe harbor method is
evidenced by employing the method. The taxpayer need not file any
separate statement.
(B) General safe harbor method--(1) Any post-1986 undistributed
earnings (as well as deficits and previously-taxed earnings, if any)
and post-1986 foreign income taxes of a noncontrolled section 902
corporation or a controlled foreign corporation in a pre-2007 separate
category for passive income, certain dividends from a DISC or former
DISC, taxable income attributable to certain foreign trade income, or
certain distributions from a FSC or former FSC shall be allocated to
the post-2006 separate category for passive category income.
(2) Any post-1986 undistributed earnings (as well as deficits and
previously-taxed earnings, if any) and post-1986 foreign income taxes
of a noncontrolled section 902 corporation or a controlled foreign
corporation in a pre-2007 separate category for financial services
income, shipping income or
[[Page 19273]]
general limitation income shall be allocated to the post-2006 separate
category for general category income.
(3) Except as provided in paragraph (g)(3)(ii)(B)(4) of this
section, any post-1986 undistributed earnings (as well as deficits and
previously-taxed earnings, if any) and post-1986 foreign income taxes
of a noncontrolled section 902 corporation or a controlled foreign
corporation in a pre-2007 separate category for high withholding tax
interest shall be allocated to the post-2006 separate category for
passive category income.
(4) If a controlled foreign corporation has positive post-1986
undistributed earnings and post-1986 foreign income taxes in a pre-2007
separate category for high withholding tax interest, such earnings and
taxes shall be allocated to the post-2006 separate category for general
category income if the earnings would qualify as income subject to high
foreign taxes under section 954(b)(4) if the entire amount of post-1986
undistributed earnings were treated as a net item of income subject to
the rules of Sec. 1.954-1(d). If the high withholding tax interest
earnings would not qualify as income subject to high foreign taxes
under section 954(b)(4), then the earnings and taxes shall be allocated
to the post-2006 separate category for passive category income.
(C) Interest apportionment safe harbor. A taxpayer may allocate the
post-1986 undistributed earnings (as well as deficits and previously-
taxed earnings, if any) and post-1986 foreign income taxes in pre-2007
pools of a controlled foreign corporation or a noncontrolled section
902 corporation following the principles of paragraph (f)(4)(ii) of
this section.
(iii) Consistency rule. The election to apply a safe harbor method
under paragraph (g)(3)(ii) of this section in lieu of the rules
described in paragraph (g)(3)(i) of this section may be made on a
separate category by separate category basis. However, if a taxpayer
elects to apply a safe harbor to allocate pre-2007 pools of more than
one pre-2007 separate category of a controlled foreign corporation or a
noncontrolled section 902 corporation, such safe harbor (the general
safe harbor described in paragraph (g)(3)(ii)(B) of this section or the
interest apportionment safe harbor described in paragraph (g)(3)(ii)(C)
of this section) shall apply to allocate post-1986 undistributed
earnings (as well as deficits and previously-taxed earnings, if any)
and post-1986 foreign income taxes for the pre-2007 pools in each pre-
2007 separate category of the foreign corporation for which the
taxpayer elected to apply a safe harbor method in lieu of
reconstructing the pre-2007 pools.
(4) Treatment of pre-1987 accumulated profits. Any pre-1987
accumulated profits (as defined in Sec. 1.902-1(a)(10)) of a
noncontrolled section 902 corporation or a controlled foreign
corporation shall be treated in taxable years beginning after December
31, 2006, as if they had been accumulated during a period in which the
rules governing the determination of post-2006 separate categories
applied. Foreign income taxes paid, accrued, or deemed paid with
respect to such earnings shall be treated as if they were paid,
accrued, or deemed paid during a period in which the rules governing
the determination of post-2006 separate categories applied as well. The
taxpayer must substantiate the post-2006 characterization of the pre-
1987 accumulated profits and pre-1987 foreign income taxes in
accordance with the rules of paragraph (g)(3) of this section,
including the safe harbor provisions. Similar rules shall apply to
characterize any deficits or previously-taxed earnings and profits
described in section 959(c)(1) and (2) that are attributable to pre-
1987 accumulated profits.
(5) Treatment of earnings and foreign taxes in pre-2007 pools of a
lower-tier controlled foreign corporation or noncontrolled section 902
corporation. The rules of paragraphs (g)(1) through (4) of this section
apply to post-1986 undistributed earnings (as well as deficits and
previously-taxed earnings, if any) and post-1986 foreign income taxes
in pre-2007 pools, and pre-1987 accumulated profits and pre-1987
foreign income taxes, of a lower-tier controlled foreign corporation or
noncontrolled section 902 corporation.
(6) Effective/applicability date. This paragraph (g) shall apply to
taxable years of United States persons and, for purposes of section
906, foreign persons beginning after December 31, 2006 and ending on or
after December 21, 2007, and to taxable years of a foreign corporation
which end with or within taxable years of its domestic corporate
shareholder beginning after December 31, 2006 and ending on or after
December 21, 2007.
Sec. 1.904-7T [Removed].
0
Par. 10. Section 1.904-7T is removed.
0
Par. 11. Section 1.904(f)-0 is amended by adding an entry for Sec.
1.904(f)-12(h) to read as follows:
Sec. 1.904(f)-0 Outline of regulation provisions.
* * * * *
Sec. 1.904(f)-12 Transition rules.
* * * * *
(h) Recapture in years beginning after December 31, 2006, of
separate limitation losses and overall foreign losses incurred in years
beginning before January 1, 2007.
(1) Losses related to pre-2007 separate categories for passive
income, certain dividends from a DISC or former DISC, taxable income
attributable to certain foreign trade income or certain distributions
from a FSC or former FSC.
(i) Recapture of separate limitation loss or overall foreign loss
incurred in a pre-2007 separate category for passive income, certain
dividends from a DISC or former DISC, taxable income attributable to
certain foreign trade income or certain distributions from a FSC or
former FSC.
(ii) Recapture of separate limitation loss with respect to a pre-
2007 separate category for passive income, certain dividends from a
DISC or former DISC, taxable income attributable to certain foreign
trade income or certain distributions from a FSC or former FSC.
(2) Losses related to pre-2007 separate categories for shipping,
financial services income or general limitation income.
(i) Recapture of separate limitation loss or overall foreign loss
incurred in a pre-2007 separate category for shipping income, financial
services income or general limitation income.
(ii) Recapture of separate limitation loss with respect to a pre-
2007 separate category for shipping income, financial services income
or general limitation income.
(3) Losses related to a pre-2007 separate category for high
withholding tax interest.
(i) Recapture of separate limitation loss or overall foreign loss
incurred in a pre-2007 separate category for high withholding tax
interest.
(ii) Recapture of separate limitation loss with respect to a pre-
2007 separate category for high withholding tax interest.
(4) Elimination of certain separate limitation loss accounts.
(5) Alternative method.
(6) Effective/applicability date.
Par. 12. Section 1.904(f)-12(h) is revised to read as follows:
Sec. 1.904(f)-12 Transition rules.
* * * * *
(h) Recapture in years beginning after December 31, 2006, of
separate limitation losses and overall foreign losses incurred in years
beginning before January 1, 2007--(1) Losses related to pre-2007
separate categories for passive income, certain dividends
[[Page 19274]]
from a DISC or former DISC, taxable income attributable to certain
foreign trade income or certain distributions from a FSC or former
FSC--(i) Recapture of separate limitation loss or overall foreign loss
incurred in a pre-2007 separate category for passive income, certain
dividends from a DISC or former DISC, taxable income attributable to
certain foreign trade income or certain distributions from a FSC or
former FSC. To the extent that a taxpayer has a balance in any separate
limitation loss or overall foreign loss account in a pre-2007 separate
category (as defined in Sec. 1.904-7(g)(1)(ii)) for passive income,
certain dividends from a DISC or former DISC, taxable income
attributable to certain foreign trade income or certain distributions
from a FSC or former FSC, at the end of the taxpayer's last taxable
year beginning before January 1, 2007, the amount of such balance, or
balances, shall be allocated on the first day of the taxpayer's next
taxable year to the taxpayer's post-2006 separate category (as defined
in Sec. 1.904-7(g)(1)(iii)) for passive category income.
(ii) Recapture of separate limitation loss with respect to a pre-
2007 separate category for passive income, certain dividends from a
DISC or former DISC, taxable income attributable to certain foreign
trade income or certain distributions from a FSC or former FSC. To the
extent that a taxpayer has a balance in any separate limitation loss
account in any pre-2007 separate category with respect to a pre-2007
separate category for passive income, certain dividends from a DISC or
former DISC, taxable income attributable to certain foreign trade
income or certain distributions from a FSC or former FSC at the end of
the taxpayer's last taxable year beginning before January 1, 2007, such
loss shall be recaptured in subsequent taxable years as income in the
post-2006 separate category for passive category income.
(2) Losses related to pre-2007 separate categories for shipping,
financial services income or general limitation income--(i) Recapture
of separate limitation loss or overall foreign loss incurred in a pre-
2007 separate category for shipping income, financial services income
or general limitation income. To the extent that a taxpayer has a
balance in any separate limitation loss or overall foreign loss account
in a pre-2007 separate category for shipping income, financial services
income or general limitation income at the end of the taxpayer's last
taxable year beginning before January 1, 2007, the amount of such
balance, or balances, shall be allocated on the first day of the
taxpayer's next taxable year to the taxpayer's post-2006 separate
category for general category income.
(ii) Recapture of separate limitation loss with respect to a pre-
2007 separate category for shipping income, financial services income
or general limitation income. To the extent that a taxpayer has a
balance in any separate limitation loss account in any pre-2007
separate category with respect to a pre-2007 separate category for
shipping income, financial services income or general limitation income
at the end of the taxpayer's last taxable year beginning before January
1, 2007, such loss shall be recaptured in subsequent taxable years as
income in the post-2006 separate category for general category income.
(3) Losses related to a pre-2007 separate category for high
withholding tax interest--(i) Recapture of separate limitation loss or
overall foreign loss incurred in a pre-2007 separate category for high
withholding tax interest. To the extent that a taxpayer has a balance
in any separate limitation loss or overall foreign loss account in a
pre-2007 separate category for high withholding tax interest at the end
of the taxpayer's last taxable year beginning before January 1, 2007,
the amount of such balance shall be allocated on the first day of the
taxpayer's next taxable year on a pro rata basis to the taxpayer's
post-2006 separate categories for general category and passive category
income, based on the proportion in which any unused foreign taxes in
the same pre-2007 separate category for high withholding tax interest
are allocated under Sec. 1.904-2(i)(1). If the taxpayer, other than a
financial services entity as defined in Sec. 1.904-4(e)(3), has no
unused foreign taxes in the pre-2007 separate category for high
withholding tax interest, then any loss account balance in that
category shall be allocated to the post-2006 separate category for
passive category income. If the taxpayer is a financial services
entity, as defined in Sec. 1.904-4(e)(3), and has no unused foreign
taxes in the pre-2007 separate category for high withholding tax
interest, then any loss account balance in that category shall be
allocated to the post-2006 separate category for general category
income.
(ii) Recapture of separate limitation loss with respect to a pre-
2007 separate category for high withholding tax interest. To the extent
that a taxpayer has a balance in a separate limitation loss account in
any pre-2007 separate category with respect to a pre-2007 separate
category for high withholding tax interest at the end of the taxpayer's
last taxable year beginning before January 1, 2007, such loss shall be
recaptured in subsequent taxable years on a pro rata basis as income in
the post-2006 separate categories for general category and passive
category income, based on the proportion in which any unused foreign
taxes in the pre-2007 separate category for high withholding tax
interest are allocated under Sec. 1.904-2(i)(1). If the taxpayer,
other than a financial services entity as defined in Sec. 1.904-
4(e)(3), has no unused foreign taxes in the pre-2007 separate category
for high withholding tax interest, then the loss account balance shall
be recaptured in subsequent taxable years solely as income in the post-
2006 separate category for passive category income. If the taxpayer is
a financial services entity, as defined in Sec. 1.904-4(e)(3), and has
no unused foreign taxes in the pre-2007 separate category for high
withholding tax interest, then the loss account balance shall be
recaptured in subsequent taxable years solely as income in the post-
2006 separate category for general category income.
(4) Elimination of certain separate limitation loss accounts. After
application of paragraphs (h)(1) through (h)(3) of this section, any
separate limitation loss account allocated to the post-2006 separate
category for passive category income for which income is to be
recaptured as passive category income, as determined under those same
provisions, shall be eliminated. Similarly, after application of
paragraphs (h)(1) through (h)(3) of this section, any separate
limitation loss account allocated to the post-2006 separate category
for general category income for which income is to be recaptured as
general category income, as determined under those same provisions,
shall be eliminated.
(5) Alternative method. In lieu of applying the rules of paragraphs
(h)(1) through (h)(3) of this section, a taxpayer may apply the
principles of paragraphs (g)(1) and (g)(2) of this section to determine
recapture in taxable years beginning after December 31, 2006, of
separate limitation losses and overall foreign losses incurred in
taxable years beginning before January 1, 2007. A taxpayer may choose
to use the alternative method on a timely filed (original or amended)
tax return or during an audit. A taxpayer that uses the alternative
method on an amended return or in the course of an audit must make
appropriate adjustments to eliminate any double benefit arising from
application of the alternative method to years that are not open for
assessment. A taxpayer's choice to use the alternative method is
evidenced by
[[Page 19275]]
employing the method. The taxpayer need not file any separate
statement.
(6) Effective/applicability date. This paragraph (h) shall apply to
taxable years beginning after December 31, 2006, and ending on or after
December 21, 2007. However, taxpayers may choose to apply 26 CFR
1.904(f)-12T(h) as it appeared in the Code of Federal Regulations as of
April 1, 2010, in lieu of this paragraph (h) to taxable years beginning
after December 31, 2006 and ending on or after December 21, 2007, but
ending before April 7, 2011 provided that appropriate adjustments are
made to eliminate duplicate benefits arising from application of 26 CFR
1.904(f)-12T(h) to taxable years that are not open for assessment. In
addition, if a taxpayer that is a financial services entity (as defined
in Sec. 1.904-4(e)(3)) chooses to apply 26 CFR 1.904(f)-12T(h) to
taxable years ending before April 7, 2011, then as of the beginning of
the taxpayer's first taxable year ending on or after April 7, 2011 any
remaining balance in a passive category loss account that is
attributable to a loss account in a pre-2007 separate category for high
withholding tax interest shall be allocated to the general category or
eliminated pursuant to Sec. 1.904(f)-12(h)(4), and any remaining
balance in a separate limitation loss account with respect to passive
category income that is attributable to a loss account with respect to
a pre-2007 separate category for high withholding tax interest will be
recaptured in such year and subsequent taxable years as general
category income or eliminated pursuant to Sec. 1.904(f)-12(h)(4).
Sec. 1.904(f)-12T [Removed].
0
Par. 13. Section 1.904(f)-12T is removed.
Approved: March 29, 2011.
Steven T. Miller,
Deputy Commissioner for Services and Enforcement.
Michael Mundaca,
Assistant Secretary of the Treasury (Tax Policy).
[FR Doc. 2011-8229 Filed 4-6-11; 8:45 am]
BILLING CODE 4830-01-P