Multinationals want the IRS to adjust foreign tax credit rules so that the benefits of a new stimulus perk aren’t eroded.
The first virus response package restored a net operating loss carry back provision that lets companies generate tax refunds by offsetting taxable income from previous years.
The problem is that proposed foreign tax credit rules, released in December 2019, don’t allow companies to calculate the NOL benefit based on income categories that existed before the 2017 tax law passed.
That means any company that’s benefited from a 2017 tax law deduction for income earned from exports, called the foreign-derived intangible income deduction, or FDII, would see a reduced benefit from the NOLs perk meant to ease economic distress caused by the coronavirus outbreak.
“There is a chronology and sequence when you apply the net operating loss rules that puts taxpayers in a straitjacket, and I think what they want is a rule that lets them mix and match,” said John Warner, a shareholder at Buchanan Ingersoll & Rooney PC in Washington.
Practitioners told the IRS in comment letters and at an IRS hearing that foreign tax credit rules—which include the method for calculating deductions—should be framed in a way that allow NOLs to be tied to the income it is offsetting, regardless of whether it is before or after the 2017 tax law. But because the 2017 tax law shifted all foreign income and corresponding deductions to be calculated in the same year, that could make the IRS reluctant to overhaul the system to fix a taxpayer-specific problem.
“You’re always going to have difficulties in the transition from the past tax system to the one we have now,” said Robert Russell, a partner at Kostelanetz & Fink LLP in Washington. “And through no one’s fault, you get this idiosyncratic problem where Treasury now needs to make a policy call.”
The foreign-derived intangible income deduction is meant to offset a tax on a new category of foreign income called global intangible low-taxed income, or GILTI.
The new GILTI regime requires all foreign income and corresponding deductions to be calculated in the same year. Practitioners say the framework of that regime, which impacts other international tax rules, could make the IRS hesitant to frame the final foreign tax credit rules in a particular way.
“That is the risk, that they say all the calculations have to be year-by-year, and that is what we’re trying to prevent,” said Leslie Schneider, a tax partner at Ivins, Phillips & Barker, Chartered in Washington.Schneider brought up the issue on May 20 at an IRS teleconference hearing.
But Schneider said there were some areas of the foreign tax credit rules that are less bound to the year-by-year system of calculation, which could be used as examples for why the final rules could be written in a way that fixes the issue.
“We’re trying to get them to be consistent and all go in the same way,” he said.
But those changes might come at a cost. Some practitioners warn that even though fixing the problem could bring some multinationals millions of dollars in tax savings, doing so could add a new layer of complexity to the return-filing process.
“It would be yet another system of having to track sub-categories of earnings and corresponding deductions for all purposes,” Warner said, “It would be mind-numbing.”