December 2010 Tax Legislation Extended Two International Tax Provisions
On December 17, 2010, President Obama signed into law the Tax Relief, Unemployment Insurance Reauthorization and Job Creation Act of 2010 (the “Act”). The Act contained a number of international tax changes, two of which we consider to be of particular importance to our clients because they provide exceptions to Subpart F income. Valuable tax planning mechanisms that were temporarily allowed to lapse, these provisions were subsequently extended, thereby offering a limited amount of additional time to benefit from them:
Two-Year Extension of CFC Look-Through Rule
In general, dividends, interest, rent and royalties received or accrued by a controlled foreign corporation (CFC) are currently taxable to the U.S. shareholders of the CFC under the U.S. Subpart F regime, even if such income is not distributed. In 2006, a “CFC look-through rule” was enacted, and provided an exception to this general Subpart F rule for dividends, interest, rent and royalties received or accrued by one CFC from a related CFC to the extent those payments are attributable to non-Subpart F income earned by the related CFC. However, this CFC look-through rule was only a temporary exception to Subpart F income and thus expired as of December 31, 2009.
The Act extends the application of the CFC look-through rule for two more years (i.e., to taxable years of CFCs beginning before 2012, and for taxable years of U.S. shareholders with or within which such taxable years of the CFC ends). Accordingly, U.S. companies with multiple CFCs will continue to benefit from the CFC look-through rule through 2011 without having to currently structure their foreign operations (e.g., by checking-the-box on CFCs to avoid Subpart F income on intercompany payments).
Two Year Extension of Active Financing Exception
Under another temporary exception to Subpart F income that was originally enacted in 1997 (and then extended and modified several times over the years), income derived by a CFC in the active conduct of a banking, financing or similar business, or in the conduct of an insurance business (so-called “active financing income”) is not treated as Subpart F income currently taxable to the CFC’s U.S. shareholders. Similar to the CFC look-through rule, noted above, the active financing exception was only a temporary provision and expired as of December 31, 2010.
The Act extends the application of the active financing exception to Subpart F for two more years (i.e., to taxable years of CFCs beginning before 2012, and for taxable years of U.S. shareholders with or within which such taxable years of the CFC ends).