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Treasury Releases Final GILTI High-Tax Exclusion Regulations

by Jon Davies

On July 20, the U.S. Treasury finalized the much-awaited global intangible low-taxed income (GILTI) high-tax exception rules. In response to the comments received on the 2019 proposed regulations [REG-101828-19 under sections 951, 951A, 954, 956,958, and 1502 in the Federal Register (84 FR 29114, as corrected at 84 FR 37807)], the final regulations allow companies to choose to apply the GILTI high-tax exclusion to taxable years of foreign corporations that begin after December 31, 2017, and before July 23, 2020.

The final regulations now provide that GILTI high-tax exclusion is an annual election and have eliminated the 60-month restriction to revoke or make changes to the election, which was put in the proposed regulations to prevent abuse.

The GILTI high-tax exclusion applies if the effective foreign tax rate is 90% of the rate that would apply if the income were subject to the maximum rate of tax specified in section 11 (currently 18.9%, based on a maximum rate of 21%).

If GILTI high-tax exclusion applies and is availed, such income will not be subject to U.S. federal income tax.

Below are the key takeaways of the final regulations:

  1. Modify application of high-tax exclusion (i.e. determination of the effective foreign tax rate) based on a qualified business unit by qualified business unit (QBU by QBU) approach to a tested unit approach. Did not adopt a controlled foreign corporation by controlled foreign corporation (CFC by CFC) approach as requested under numerous comments.
    1. QBU is defined under section 989(a) as any separate and clearly identifiable unit of a trade or business of a taxpayer that maintains separate books and records.
    2. In contrast, the tested unit approach generally applies to the extent an entity, or the activities of an entity, are actually subject to tax, as either a tax resident or a permanent establishment (or similar taxable presence), under the tax law of a foreign country. In principle, the final regulations provide three categories of tested unit: (a) a CFC itself; (b) a pass-through entity held directly or indirectly by a CFC; and (c) a branch – (i) resulting in a CFC’s taxable presence in the country in which the branch is located, or (ii) giving rise to taxable presence under the owner’s tax law and that owner’s tax law provides an exclusion, exemption, or other similar relief (such as a preferential rate) for income attributable to the branch.
  2. Conform GILTI high-tax exclusion rules with the rules implementing the subpart F high-tax exception and thereby eliminate the disparity between the two elections and the incentive for taxpayers to structure into the subpart F high-tax exception.
  3. Retain the 2019 proposed regulations that effective foreign tax rate be determined by referencing the amounts of income and taxes at the CFC level, rather than the amount of taxes that would be deemed paid, under section 960, at the U.S. shareholder level.
  4. Require the reallocation of gross income attributable to disregarded payments between the tested units, to appropriately associate the income with the tested unit in which it is subject to tax. There are additional rules on ordering of reallocation with respect to multiple disregarded payments.
  5. Do not consider the comments that allow taxpayers to elect to adjust either the numerator or denominator of the effective foreign tax rate fraction to take into account foreign net operating loss carryforwards and other similar items.
  6. Allow, in general, combination rule pursuant to which the tested units of a CFC (including the CFC tested unit), other than certain nontaxed branch tested units, are treated as a single tested unit if the tested units are tax residents of, or located in, the same foreign country.
  7. Retain consistency requirements pursuant to which a GILTI high-tax exclusion election is either made with respect to each member of the CFC group or is not made for any member of the CFC group. CFC group is defined under the final regulations as an affiliated group under section 1504(a), with certain modifications.
  8. Allow U.S. shareholders to make (or revoke) the GILTI high-tax exclusion election with an amended income tax return. Provide special rules in the event a CFC has multiple U.S. shareholders; in that case, requires all U.S. shareholders rather than controlling U.S. shareholders to make (or revoke) such election.

We’re Here to Help

For a detailed discussion on how these provisions may apply to your organization’s specific facts, reach out our international tax team.

July 22, 2020

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Authors
Jon Davies - Partner, Tax - San Jose CA | Armanino
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