Increased compliance burden with new foreign tax redetermination rules

Apr 09, 2021
International tax

On Sept. 29, 2020, the IRS and the Treasury published new rules regarding the Foreign Tax Credit (FTC) under the 2020 Final and Proposed Regulations. These regulations significantly changed important rules governing the tax treatment of foreign tax redeterminations, potentially affecting a wide variety of taxpayers who have paid foreign taxes.

There are several instances where a taxpayer may file a return before knowing the actual tax liability and as a result a taxpayer may need to reassess the foreign tax credit where the credit claimed differs from the final foreign taxes paid. A foreign tax redetermination generally arises when such a difference occurs. In that event, the taxpayer must generally recompute the foreign tax credit. Tax redeterminations commonly occur when a taxpayer elects the accrual basis for foreign tax credit purposes but does not pay the actual foreign tax prior to the U.S. tax return deadline, or a foreign tax authority later determines that the original amount paid is incorrect.

The 2020 final regulations have expanded the definition of foreign tax redeterminations to include a change in the foreign tax liability that affects the U.S. tax liability, even if it has no impact on the foreign tax credit. Most notably, a foreign tax redetermination may be triggered by a foreign tax change if that change affects the amount or character of a distribution or the amount of an inclusion under GILTI or Subpart F or Section 1293 (relating to QEFs) or the application of the high-tax exception (under GILTI or Subpart F). In addition, failure of an accrual-based taxpayer to pay accrued foreign income taxes 24 months after the close of the taxable year can trigger a redetermination as well.

This expansion of the scope of 905(c) has significantly increased the taxpayer compliance burden. A foreign redetermination generally requires taxpayers to notify the IRS and redetermine their U.S. tax liability by filing an amended tax return. In some cases, amended returns may be required for years subsequent to the year to which the foreign redetermination relates if the tax attributes in subsequent years are affected by the change in foreign tax. This could result in significant U.S. tax filing obligations for U.S. taxpayers (including U.S. shareholders of controlled foreign corporations). Our recent article, “Australian tax incentives: Significant savings for U.S. multinationals” demonstrates how a retroactive foreign tax incentive may now trigger a U.S. tax redetermination increasing compliance burdens for the taxpayer. U.S. taxpayers must now carefully monitor any potential area for redetermination and file amended returns as needed to avoid losing any foreign tax credits. Penalties for failure to file under 6689 and 301-6689-1 can be up to 25% of the U.S. tax liability due to the redetermination.

If your client is facing some issues relating to foreign tax redeterminations, please contact us today. We are here to help.

RSM contributors