Form 8992 GILTI Calculation Pitfall – Latest To Know For 2020
The Tax Cuts and Jobs Act (TCJA), passed in December 2017 made significant changes in the tax law that apply to shareholder’s of foreign corporations and required the creation of the IRS Form 8992 and Form 8993 as well as a revision of Form 5471. This has drastically and fundamentally impacts=ed how controlled foreign corporations (CFCs) and U.S. taxpayers will operate abroad as well as calculation of related U.S. income tax liability. It is important to plan accordingly for these changes.
GILTI – Global Intangible Low-Taxed Income
Under the TCJA, new rules requiring the inclusion of global intangible low-taxed income (known as “GILTI”) from controlled foreign corporations (CFCs) were added under Section 951A and related sections of the Internal Revenue Code (IRC). The inclusion essentially aims to tax U.S. shareholders on their allocable share of earnings from a CFC.
This is to the extent that the earnings exceed a ten percent return on tangible assets allocated to the U.S. shareholder.
With this significant change in tax law, a U.S. person that owns at least 10 percent of the value or voting rights (ownership is either direct, indirect or constructive ownership) in one or more CFCs must include its global intangible low-taxed income, also known as GILTI, as currently taxable income, regardless of whether any amount is distributed to the shareholder.
Effective January 1st, 2018, the TCJA repealed Section 958(b)(4) of the code. As a result, one can now constructively own stock via downward attribution through foreign entities. For example, stock ownership by a person that owns 50 percent or more in value of the stock of another corporation is treated as owned by such other corporation.
Further, U.S. shareholders of non-voting stock may also be subject to the new reporting requirements as the definition of a CFC has expanded to include corporations that have greater than 50% U.S. owners, measured by vote or value.
Prior to the TJCA, the definition in Section 951(b) only considered voting stock.
A U.S. person includes U.S. individuals, domestic corporations, partnerships, trusts and estates.
Hybrid Territorial System
The transition from a worldwide income system to a hybrid territorial system via a participation exemption (i.e., dividends received deduction) has brought about a one-time repatriation tax under section 965.
As a result, the U.S. has seen a significant repatriation of profits.
The hybrid territorial tax system combined with new low corporate U.S. tax rate of 21 percent has made the U.S. extremely competitive in the global economy.
This is of great benefit to U.S. multinationals (i.e. domestic corporations). But, it is a costly and complex change for closely held foreign corporations that are owned by individuals.
The implementation of these new rules has been quite arduous for the Treasury Department and IRS along with tax practitioners.
On July 23, 2020, the U.S. Department of Treasury and Internal Revenue Service finalized regulations with respect to the high-tax exception for GILTI income & issued proposed regulations that generally conform Subpart F high-tax exception under Section 954(b)(4) to the finalized GILTI high-tax exception.
The final regulations retain the basic approach & structure from the 2019 proposed regulations with minor revisions. This allows taxpayers to elect the high-tax exclusion (the “GILTI high-tax exclusion”) for certain high-taxed income of a controlled foreign corporation regardless of whether the income would otherwise be foreign base company income (“FBCI”) or insurance income.
Determining application of the GILTI high-tax exclusion involves comparing the effective foreign tax rate with 90 percent of the rate that would apply if the income were subject to the maximum rate of tax specified (currently 18.9%, based on a maximum rate of 21%).
The Treasury Department and the IRS agree that the GILTI high-tax exclusion and the subpart F high-tax exception should be conformed but have determined that the rules applicable to the GILTI high-tax exclusion are appropriate and better reflect the changes made as part of the Act than the existing subpart F high-tax exception.
What Is The Purpose Of The GILTI Calculation And Form 8992
As a U.S. shareholder of a CFC, you must file Form 8992, U.S. Shareholder Calculation of Global Intangible Low-Taxed Income (GILTI) , Schedule A to report the pro rata share of amounts for each CFC (the taxable year of which ends with or within the shareholder’s taxable year) from each CFC’s Form 5471, Schedule I-1, Information for Global Intangible Low-Taxed Income, to determine the U.S. shareholder’s GILTI, if any, and to determine the amount of the U.S. shareholder’s GILTI, if any, allocated to each CFC (caution: please note that this is only a draft version of the Form 8992).
On September 13, 2018, the IRS released proposed regulations as guidance relating to the GILTI provisions under the new U.S. tax law.
According to the IRS release, the proposed regulations describe the new reporting rules including the filing of Form 8992.
These proposed regulations do not include foreign tax credit computational rules relating to global intangible low-taxed income, which will be addressed separately in the future.
It remains unclear whether a U.S. individual shareholder will be able to claim an indirect foreign tax credit for foreign income taxes deemed paid on GILTI income by the foreign corporation. GILTI will have its own basket for the foreign income tax credit.
The TCJA requires that a U.S. shareholder of a controlled foreign corporation (CFC) include its proportionate share of a CFC’s global intangible low-taxed income (“GILTI”) in the shareholder’s annual income and thus subject to immediate taxation at ordinary rates.
The Form 8992 reports the details of these calculations.
It is important to note that the GILTI calculation is separate from any Subpart F calculations and a U.S. shareholder may have both a GILTI calculation and a Subpart F calculation.
In addition, even if there is no Subpart F due to no current earnings and profits, there still can be a GILTI inclusion.
GILTI is determined by subtracting Net Deemed Tangible Income Return (DTIR) from the Net CFC Tested Income (tested income minus tested loss).
Net CFC Tested Income means gross income minus deductions and certain items of excludable income that are properly allocated to the gross income.
Excludable items of income for this purpose includes, among other items, income that is already included in the United States Shareholder’s income as subpart F income, income associated with the high-tax exception for subpart F income, and income that is effectively connected to a United States trade or business.
Net Deemed Tangible Income Return is calculated by multiplying the qualified business asset investment (QBAI) by 10% and then subtracting net interest properly allocated to net tested income.
Net interest expense may not reduce the 10% of QBAI below zero. Interest applicable to a CFC’s active business (in either financing or insurance) is excludable from this calculation.
QBAI – Qualified Business Asset Investment
Qualified business asset investment (QBAI)is defined as the average of such corporation’s aggregate adjusted bases as of the close of each quarter of such taxable year in specified tangible property.
This applies to all assets used in a trade or business of the corporation and assets for which a deduction is permissible under Section 167.
As a result, QBAI is generally property, plant, and equipment used in a trade or business and allowed a depreciation deduction under the code.
Deprecation must be calculated under Section 168(g).
It is important to determine the QBAI with an understanding of which assets are used to generate net tested income as an allocation will apply if assets are used to generate gross income that is excluded from the tested income (e.g. subpart F income). A dual-use ratio will be used to properly allocate the QBAI in this circumstance.
The IRS has given anti-abuse rules under Prop Treas. Reg §951A-3(h), stating that certain property transferred or purchased with the intent of reducing the GILTI inclusion will be disregarded.
This includes transfers of property to a related party even if the principal purpose of the transaction was not to reduce the GILTI inclusion.
Reporting GILTI Inclusion
Once each component of the GILTI formula has been determined at the CFC level and the pro rata share of each component has been determined for each U.S. shareholder of the CFC and the Form 8992 is prepared, then the U.S. shareholder must report their GILTI inclusion for the shareholder’s taxable year.
For an individual taxpayer, the GILTI inclusion will be reported on the “other income” line of the Form 1040 and taxed at the ordinary income tax rate.
Further calculations are necessary if the U.S. person is a corporation.
In addition, if the U.S. shareholder is a corporation, they may also benefit from foreign tax credits associated with the GILTI inclusion. An individual may make a Section 962 election on a timely filed return to be treated as a corporation with regard to Section 951 & GILTI income. Consequences & implications of making such an election should be discussed with a tax professional. A corporate shareholder submits completed Form 8993 with their annual income tax return and is eligible for a 50% deduction (Form 8993 discussed next).
Since GILTI is included in adjusted gross income, it will be taxable on many U.S. state income tax returns as well.
Be sure to check with the specific laws applicable to your state if unsure.
What Is The Form 8993 Deduction?
If you are eligible for a deduction for your GILTI inclusion under Section 250, the Form 8993, Section 250 Deduction for Foreign-Derived Intangible Income (FDII) and Global Intangible Low-Taxed Income (GILTI) is used to report your eligible deduction (caution: please note that this is only a draft version of the Form 8993).
This Section provides a 37.5 percent deduction of foreign-derived intangible income, a 50 percent deduction of the GILTI inclusion amount, and an amount (attributable to the GILTI inclusion amount) treated as a dividend received by the domestic corporation under Section 78.
Who Needs To File Form 8992
Any U.S. shareholder of one or more CFCs that must take into account its pro rata share of the “tested income” or “tested loss “of the CFC(s) in determining the U.S. shareholder’s GILTI inclusion, if any, under section 951A must file the Form 8992.
The new law applies to the first tax year of a CFC beginning after December 31, 2017, and the U.S. shareholder’s year with or within which that year ends, and all subsequent tax years.
What Is A CFC?
A CFC is a foreign corporation that has U.S. shareholders that own (directly, indirectly, or constructively, within the meaning of sections 958(a) and (b)) on any day of the tax year of the foreign corporation, more than 50% of:
- The total combined voting power of all classes of its voting stock; or
- The total value of the stock of the corporation.
Thus, if a foreign corporation loses its CFC status during the tax year, it will still be a CFC for that tax year and will be subject to the Form 8992 filing requirements.