1. Foreign Tax Credit Tx 8300

2. Learning Objectives You should be able to:
Identify characteristics of a _________ tax,
Determine a DC’s ______ paid credit,
Calculate the foreign tax credit _________,
Explain the function of FTC _______,
Compute a U.S. person’s ____ from outbound investments, and
Explain tax _______.

3. Dealing with Double Tax
___________ systems exempt FSI.
______ systems allow FTC.
______ systems exempt some income and otherwise allow the FTC.
________ often modify how these systems address double tax problems.

4. Basic Choices in U.S. Deduct: Credit foreign income tax, §901(a)
Foreign ______ tax, §164(a)(3)
Any foreign ___ of trade or business, §162(a)
Any foreign ___ of investment activity, §212(1)
Credit foreign income tax, §901(a)
Annual _________
_____ return to change election

5. Creditable Foreign Levies
Must be a ___ and
Either:
Its ___________ character is that of income tax in ____ sense or
It ___________ for generally-imposed income tax

6. What Is a Tax? __________ transfer
Excludes payments > ____ foreign tax liability
Must exhaust all practical ________
Pursuant to government’s ______ authority
Excludes _____, penalties, interest, custom duties, and compulsory _____
Excludes levies for specific _________ ________ not otherwise available

7. Example: Dual Capacity
Domco earns $4.2 million before-tax profit mining diamonds in Hostia. Hostia imposes a “diamond tax” at ___% of the profit. Since Domco pays the diamond tax, it does not pay the general income tax of 25%. What is Domco’s creditable tax?
CHECK
Profit (pre-royalty)
Diamond tax
Income tax
Royalty deduction
Profit
Income tax rate Creditable tax

8. Predominant Character
Likely to reach net ____
____________ test,
Gross _______ test, and
___ income test
Not a ____-up levy

9. Realization Test Focuses on ______ of tax’s assessment
Satisfied if assessment follows:
___________ event
Pre-___________ event in some cases

10. Gross Receipts Test Foreign tax base must begin with:
Actual _____ ________ or
Estimated gross receipts if result does not ______ actual gross receipts
Gross receipts may be estimated when transactions occur between _______ persons
_____estimating gross receipts is okay

11. Net Income Test
Foreign tax must allow _________ of costs and expenses to determine tax base
____estimating costs and expenses okay

12. Soak-Up Tax Applies only to extent ___ is permitted
Since U.S. law does not allow, foreign government does not ______ soak-up tax

13. Substitute for Income Tax
Requirements:
Must apply __ ____ __ income tax
Cannot be a _______ tax
Examples:
___________ taxes on nonresidents
Special ________ taxes

14. Summary: Creditable Taxes
Predominant Character
Realization test
Gross receipts test
Net income test
Not a soak-up
Must Be a Tax
Compulsory
Per tax authority
Substitute for Income Tax
In lieu of
Not a soak-up

15. Creditable Taxes Include
Foreign income tax paid ________, §901
Partnership’s tax _____ through to U.S. partners
Foreign branch’s tax __________ to U.S. corporation
Foreign tax in lieu of income tax, §___
Withholding tax on foreign investment income
Special industry tax
______ paid tax, §902

16. Cite Code Section Identifying Each Levy as Creditable Tax
U.S. “green card holder” pays Belgian income tax on foreign profits
U.S. citizen has Dutch tax withheld on her Dutch dividends
U.S. individual is partner in U.K. partnership that pays U.K. income tax
U.S. corporation has Cyprian sales office that pays Cyprian income tax
U.S. corporation pays Polish income tax on profit dependent agent generates
U.S. corporation’s German subsidiary pays German income tax
U.S. family’s closely-held Mexican corporation pays Mexican income tax

17. DPT Requirements DC owns foreign sub DC receives ________
Direct ownership of ___% at each link
Indirect ownership of __% in each sub
For tiers ___, foreign subs are CFCs
For tiers ___, DC is U.S. “shareholder”
DC receives ________
FC1
FC2
FC3
FC4
FC5
FC6

18. Example: DPT Requirements
When FC2 remits dividends to FC1 and FC1 remits dividends to DC, can DC claim a foreign tax credit for FC2’s foreign income taxes? DC
40%
FC1
10%
FC2

19. DC with Foreign Branch Profit $100 U.S. rate FTC U.S. tax Profit $100
Remit $75 DC FB
Profit $100
U.S. rate
FTC
U.S. tax
Profit $100
FIT
Remit

20. DC with Foreign Subsidiary
Dividend $75 DC FC
Dividend + gross up $100
U.S. tax rate
Tax before DPC
Deemed paid credit
U.S. tax
Profit $100
FIT
E&P

21. Calculating Deemed Paid Tax

22. Example: DPT for Single Tier
Domco owns 40% of Forco. Forco earns $1,000 profit, pays $300 in foreign income tax, and remits $____ to Domco as dividends. What is Domco’s deemed paid tax? By how much do the dividends increase Domco’s gross income?
Domco
Dividend
40%
Profit $1,000
FIT
E&P $ 700
Forco

23. Example: DPT for Single Tier
Forco is Domco’s newly-organized, 100%-owned foreign subsidiary. Forco earns $100 profit, pays $36 in foreign income tax, and remits $___ to Domco as dividends. Domco’s foreign branch makes $500 gross profit from sales and pays $50 foreign income tax.
What is Domco’s deemed paid tax?
2. What is Domco’s gross income?
3. Assuming Domco’s FTC limit is $67, what is Domco’s FTC?
Domco
Branch
Gross $500
FIT
Dividend
100%
Profit $100
FIT
E&P $ 64
Forco

24. Example: DPT for Two Tiers
Domco owns 100% of Forco1, and Forco1 owns 100% of Forco2. Forco1 earns $1,000 profit, pays $400 in foreign income tax, and remits $____ to Domco as dividends. Forco2 earns $100 profit, pays $25 in foreign income tax, and remits $30 to Domco as dividends. What is Domco’s deemed paid tax? By how much do the dividends increase Domco’s gross income?
Domco
Dividend
100%
Profit $1,000
FIT
$ 600
Forco1
100%
Dividend $30
Profit $100
FIT
E&P $ 75
Forco2

25. Example: DPT for Two Tiers
Domco owns 90% of Forco1, and Forco1 owns 80% of Forco2. Forco1 earns $2,000 profit, pays $500 in foreign income tax, and remits $____ to Domco as dividends. Forco2 earns $1,000 profit, pays $400 in foreign income tax, and remits $200 to Forco1 as dividends. What is Domco’s deemed paid tax? By how much do the dividends increase Domco’s gross income?
Domco
Dividend
90%
Profit $2,000
FIT
$1,500
Forco1
80%
Dividend $200
Profit $1,000
FIT
E&P $ 600
Forco2

26. Foreign Tax Credit Basics
Foreign tax credit is lesser of:
Creditable tax or
FTC limitation
Creditable tax is sum of:
Foreign income tax (§____)
Tax in lieu of FIT (§____)
Deemed paid tax (§____)

27. Tax Rate Basics

28. Example: Foreign Tax Credit
Domco’s U.S. ETR is 34%. Domco earns $____ foreign profit and $300 U.S. profit. Its creditable taxes are $60. Compute the following for Domco:
Foreign ETR
§904 limitation
Foreign tax credit
U.S. tax liability
Excess credit or excess limit
Worldwide ETR
MTR on foreign profit

29. Example: Foreign Tax Credit
Domco’s U.S. ETR is 34%. Domco earns $200 foreign profit and $300 U.S. profit. Its creditable taxes are $___. Compute the following for Domco:
Foreign ETR
§904 limitation
Foreign tax credit
U.S. tax liability
Excess credit or excess limit
Worldwide ETR
MTR on foreign profit

30. Examples: Marginal Tax Rates
What is Domco’s MTR on its foreign profit in each of the following situations?
1. U.S. ETR is 34%, and foreign ETR is 30%.
2. U.S. ETR is 34%, and foreign ETR is 36%.
3. U.S. ETR is 34%, and foreign ETR is 42%.
4. U.S. ETR is 34%, and foreign ETR is 25%.

31. Examples: U.S. Residual Tax
Assume the U.S. effective tax rate is 35%. In the following situations, what is Domco’s U.S. residual tax rate on its foreign profits?
1. Foreign ETR is 30%.
2. Foreign ETR is 36%.
3. Foreign ETR is 42%.
4. Foreign ETR is 25%.

32. Business in Low-Tax Countries
Capital ______ neutral
Residual U.S. tax due when ______ ________
MTR equals ____ ___ if profits remitted currently
Creates incentive for ____-taxed _______ income

33. Business in High-Tax Countries
Capital ______ neutral
No ____ ________ tax due
MTR equals _______ ___
Creates incentive for ___-taxed _______ income

34. Excess Credit Planning
Decrease foreign ETR
Remit foreign profits in __________ form
______ offshore in high-tax countries
Use _______ _______ to shift income from high-to low-tax countries
Increase low-taxed FSTI
Export, passing title ______
Lease ______ assets and buy ____ assets
License technology for use abroad in country with ___ royalty ___________ tax

35. Deferral Effect on MTR
When DCs conduct business abroad through foreign subsidiaries, deferring dividends ______ the MTR on foreign profits.
In low-tax countries, ____ ________ tax is deferred.
In high-tax countries, _______ ___________ tax is deferred.

36. Example: MTR in Low-Tax Country
Domco’s wholly-owned foreign subsidiary, Forco, operates in a country with a ___% ETR. Assume the U.S. ETR is 34%, and Forco distributes all its E&P as dividends in the current year. What is Domco’s MTR on Forco’s foreign profits?
Assume the same facts except that Forco does not plan to distribute current profits for 4 years and the applicable discount rate is 12%. What is Domco’s MTR on Forco’s foreign profits?

37. Example: MTR in High-Tax Country
Domco’s wholly-owned foreign subsidiary, Forco, operates in a country with a ___% ETR and a ___% dividend withholding tax. Assume the U.S. ETR is 34%, and Forco distributes all its E&P as dividends in the current year. What is Domco’s MTR on Forco’s foreign profits?
Assume the same facts except that Forco does not plan to distribute current profits for 4 years and the applicable discount rate is 12%. What is Domco’s MTR on Forco’s foreign profits?

38. FTC Baskets Cross-crediting decreases U.S. ________ ___
Investment income is highly ______
Congress decided to limit _______________
Nine baskets, each containing
__________ taxes
FTC __________
_________ periods

39. Corporation Dividends
Pre-2007 FTC Baskets
Cross-crediting ______ baskets is permitted
Cross-crediting _____ baskets is not
Each basket has its own §904 _________ formula and ________ period
No segmentation by ______
Residual
Income
FSC
Dividends
Passive
Income
FSC Foreign
Trade Income
High Withholding
Tax Interest
DISC
Dividends
Noncontrolled §902
Corporation Dividends
Shipping
Income
Financial Services
Income

40. Passive Income Basket
Portfolio dividends, some interest, non-business _____ and royalties, annuities, some net _____
High-taxed income is “______-___”
___-tax basket

41. Residual Basket ____________, marketing, and service income
_______ profit (other than FSC or DISC)
Business rent and _______ income
“______ ___” passive income

42. Example: FTC Baskets Domco earns income and pays taxes as follows:
Taxable Income
U.S. Tax Before FTC
Foreign Tax
Foreign Operations
$ 400,000
$ 136,000
$ 180,000
U.S. Operations
500,000
170,000
Foreign Portfolio Dividends
100,000
34,000
10,000
Totals
$1,000,000
$ 340,000
$ 190,000
What is Domco’s foreign tax credit if it ignores separate baskets?

43. Example: FTC Baskets Domco earns income and pays taxes as follows:
Taxable Income
U.S. Tax Before FTC
Foreign Tax
Foreign Operations
$ 400,000
$ 136,000
$ 180,000
U.S. Operations
500,000
170,000
Foreign Portfolio Dividends
100,000
34,000
10,000
Totals
$1,000,000
$ 340,000
$ 190,000
What is Domco’s foreign tax credit if it considers separate baskets?

44. CFC Look-Through
CFCs are foreign corporations that U.S. shareholders _______.
Look through rules allocate foreign _______ income U.S. companies receive from ____ among baskets.

45. Example: Look-Through
Domco receives $______ dividends from its wholly-owned foreign subsidiary, Forco. Forco pays ___% of its dividends from E&P attributable to its business operations and the rest from E&P attributable to its passive investment activities. How does Domco treat these dividends for FTC purposes?

46. Recapture of Foreign Loss
U.S. companies pay U.S. tax on _________ income.
Thus, overall losses from foreign activities are deductible against ____ source income.
However, this reduces ____ tax on ____ source income.
So, §904(f) contains a _________ rule.

47. Recapture of Foreign Loss
If overall foreign loss occurs,
______ against U.S. income but
Recapture in later year
Involves treating ___ as ____
Affects ___ limitation
Recapture lesser of:
_______ foreign ____ account or
___% of current year’s ____

48. Example: OFL Recapture
Domco earns income and pays taxes as follows:
Irish Income
Irish Taxes
U.S. Income
U.S. Tax Before FTC
2003
$-24,000
$ 74,000
$ 7,500
2004
-10,000
80,000
12,500
2005
30,000
3,750
70,000
22,500
2006
40,000
5,000
60,000
22,250
What is Domco’s foreign tax credit in 2005 and 2006?

49. Tax Sparing Host countries may allow “tax ________”
Holiday creates incentive to invest when ____ country has:
___________ system or
Tax _______
Sparing allows residents to ______ foreign taxes the host country ______

50. Tax Sparing
“Tax sparing credits” are the same as foreign tax credits except investors ___ __ foreign income tax
__ U.S. treaties allow tax sparing
A company invests abroad and earns $100. Assuming home and host country tax rates of 50% and ___%, respectively, determine the total tax liability with:
• No tax holiday
• Tax holiday without tax sparing
• Tax holiday with tax sparing

51. Tax Sparing Example No Tax Holiday Tax Holiday without Sparing
Tax Holiday with Sparing
Host Country
Tax liability
Home Country
Initial tax
Tax credit
Tax liability