US tax reforms’ ‘unintended consequences’ for CFCs

The American Institute of CPAs (AICPA) is calling for regulatory relief for certain controlled foreign corporation (CFC) taxpayers affected by what it describes as ‘unintended consequences’ from President Trump’s recent tax reforms

AICPA says relief is needed to exclude a foreign corporation, which is considered a CFC solely as a result of the new rules, because the change means a non-corporate US shareholder could unexpectedly own an interest in a specified foreign corporation (SFC) as defined in section 965, which will result in an income inclusion to the US shareholder of a portion of the corporation’s accumulated post-1986 deferred foreign income.

The repeal of Internal Revenue Code section 958(b)(4) by the new Tax Cuts and Jobs Act (TCJA) leads to unintended consequences for certain CFCs because they are subject to ‘downward attribution’ from a foreign person to a US person.

The repeal of section 958(b)(4) applies retroactively to a foreign corporation’s last taxable year beginning before 1 January 2018 and each subsequent taxable year, which will cause an income inclusion on the US shareholder’s 2017 tax return.  It also applies to taxable years of US shareholders in which or with which the taxable years of those foreign corporations’ end.

In a letter to the Internal Revenue Service (IRS) and Treasury, the institute said: ‘The AICPA believes that the income inclusion to the US shareholder is inconsistent with the intent of Section 965 and the repeal of section 958(b)(4).’

It is urging the IRS to immediately provide prospective penalty relief to any first-time filer of Form 5471, Information Return of U.S. Persons with Respect to Certain Foreign Corporations, whose filing obligation results solely from the imposition of ‘downward attribution’.

In an earlier letter, AICPA also highlighted the consequences of IRS Notice 2018-13, which eliminated the requirement for certain US shareholders of CFCs to file a Form 5471. The relief was a ‘welcome acknowledgement of the unnecessary burden otherwise imposed on many taxpayers’ by the Act’s repeal of Internal Revenue Code section 958(b)(4), the AICPA wrote.

However, the AICPA stated: ‘Many other taxpayers will face a new requirement to file Form 5471 without realising it.’

The exception for filing Form 5471 granted by Notice 2018-13 does not apply to an unrelated third party who is a US person and who owns stock in a CFC. Those taxpayers need immediate prospective penalty relief because the requirement to file Form 5471 applies to tax year 2017, as well as all future years, the AICPA wrote.

‘Failure to timely file Form 5471 results in immediate imposition of a $10,000 penalty by the IRS. Taxpayers have historically faced difficulties in having this penalty abated, even when taxpayers believed they had reasonable cause,’ the AICPA noted.

AICPA’s letter is here.

Report by Pat Sweet

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