Like its House bill, the Senate Mark released Thursday provides for a one-time transition tax on untaxed accumulated earnings and profits (“E&P”) of certain non-U.S. corporations. The proposal splits E&P between cash and non-cash amounts with cash taxed at a 10% effective rate and non-cash taxed at a 5% effective rate. The highlights:
Basic Framework. Under the proposal, 10% U.S. shareholders of a non-U.S. corporation generally will include in income their pro rata share of the foreign corporation’s previously untaxed accumulated E&P, determined as of November 9, 2017 or some undefined other appropriate measurement date (whichever produces more E&P). Non-U.S. corporations subject to the rules – “specified foreign corporations” – include any “controlled foreign corporation” and any foreign corporation with respect to which one or more domestic corporations is a 10% U.S. shareholder.
Rate Split. The proposal differentiates between E&P that has been retained in the form of cash and other amounts of foreign E&P. The effective tax rate applicable to cash position amounts is generally 10%, and the effective tax rate applicable to foreign E&P in excess of the corporation’s cash position is generally 5%. The House bill taxes cash positions at 14% and foreign E&P in excess of the cash position at 7%.
E&P Deficit Netting. The bill permits netting of E&P deficits and surpluses among the specified foreign corporations held by the same U.S. shareholder. While the House bill permits such netting among all members of an affiliated group, it is unclear without actual legislative text whether the Senate bill allows the same.
Relevant “Cash” Determinations. The significant spread between the rates at which cash positions and non-cash E&P would be taxed makes the definition of “cash position” critical. In stark contrast to the detailed rules provided by the House bill, the Senate proposal does not provide specifics for the definition of “cash position.”
With respect to any U.S. shareholder, the aggregate cash position is determined by taking the greater of the pro rata share of the cash position of each specified foreign corporation as of (i) the last day of the taxable year of the inclusion or (ii) the average of the cash position determined on the last day of each of the two taxable years ending immediately before the measurement date.
Installment Payments Permitted. A U.S. shareholder of a deferred foreign income corporation may elect to pay its resulting net transition tax liability over eight annual installments. Unlike the House bill, which provides for eight equal installments, the Senate proposal sets each of the first 5 installments at 8% of the net liability, the 6th installment at 15%, the 7th installment at 20% and the final installment at 25%.
Foreign Tax Credits. A portion of the U.S. shareholder’s foreign tax credits that would otherwise be available in respect of the deemed inclusion are disallowed in an amount of 71.4% for the cash portion of the inclusion and 85.7% for the non-cash portion. This is similar to the rule proposed by the House bill with the portions adjusted to account for the different rate proposals (the revised House bill disallows 60% of the cash portion and 80% of the non-cash portion).
Anti-Inversion Provisions. Any U.S. shareholder which becomes an expatriated entity (generally an entity which is held by a foreign corporation of which greater than 60% but less than 80% of the stock is owned by the former shareholders of the U.S. shareholder) during the ten-year period following the enactment of the Senate proposal is denied any deductions claimed with respect to the deemed repatriation and is taxed at a 35% rate on the entire inclusion. This tax arises in the year in which the shareholder becomes an expatriated entity.