Section 965 of the Internal Revenue Code requires certain U.S. Shareholders to pay a transition tax on the untaxed foreign earnings of certain Specified Foreign Corporations as if those earnings had been repatriated to the United States. Section 965 may give rise to a 2017 tax liability to:
· a US shareholder of a Deferred Foreign Income Corporation (DFIC) or
· a direct or indirect partner in a:
1) domestic partnership,
2) shareholder in an S corporation,
3) beneficiary of another pass-through entity that is a United States shareholder of a DFIC
U.S. Shareholders have the option to pay the tax liability over an 8-year period, payable in annual installments of 8% of the transition charge for the first 5 years, 15% of the transition charge for the sixth year, 20% of the transition charge for the seventh year, and 25% of the transition charge for the eighth year
· DFIC = “Specified Foreign Corporation”
· A “Specified Foreign Corporation” is any “CFC” and Non-Passive Foreign Investment Company (“Non-PFIC”) foreign corporations with a “Corporate U.S. Shareholder” (a domestic Corporation) that owns 10% of the value of such foreign corporation.
· The IRS defines a Controlled Foreign Corporation (CFC) as: “any foreign corporation in which more than 50 percent of the total combined voting power of all classes of stock entitled to vote is owned directly, indirectly, or constructively by U.S. shareholders on any day during the taxable year of such foreign corporation or more than 50% of the total value of the stock is owned directly, indirectly or constructively by U.S. shareholders on any day during the taxable year of the corporation”.
· A U.S. Shareholder is a domestic corporation, partnership, trust, estate and a U.S. individual that owns 10% of the value of a foreign corporation.
What happens if there is income to report under Section 965?
An IRC 965 Transition Tax Statement, signed under penalties of perjury and, in the case of an electronically filed return, in Portable Document Format, must be included with the 2017 Tax Return. The IRC 965 Transition Tax Statement must include the following information:
· The person’s total amount required to be included in income under section 965
· The person’s aggregate foreign cash position
· The person’s total deduction under section 965
· The person’s deemed paid foreign taxes with respect to the total amount required to be included in income by reason of section 965
· The person’s disallowed deemed paid foreign taxes pursuant to section 965
· The total net tax liability under section 965
· The amount of the net tax liability under section 965 to be paid in installments under section 965
· The amount of the net tax liability under section 965, the payment of which has been deferred, under section 965
The IRC 965 Transition Tax Statement also includes a listing of applicable elections under Section 965 that the Taxpayer has made:
Ø Election to Pay Net Tax Liability under Section 965 in Installments under Section 965
Ø S Corporation Shareholder Election to Defer Payment of Net Tax Liability under Section 965
Ø Statement for Real Estate Investment Trusts Electing Deferred Inclusions under Section 951 By Reason of Section 965
Ø Election Not to Apply Net Operating Loss Deduction under section 965
Ø Election to Use Alternative Method to Compute Post-1986 Earnings and Profits
The Tax Cuts and Jobs Act (TCJA) implemented this mandatory “transition tax” or “repatriating charge”. U.S. Shareholder Taxpayers have to pay the transition tax regardless of whether earnings have actually been repatriated. Although the TCJA provides a payment plan for this repatriation charge, many U.S. Taxpayers might be faced with an unexpected tax burden.
Don’t be a victim of your own making. Taxpayers may have to pay tax resulting from section 965 of the Code when filing their 2017 tax returns. The IRC 965 Transition Tax Statement is cumbersome and complicated. Consult your tax specialist now.