TEI Roundtable No. 40 Foreign Tax Credit Regulations
November 21, 2022, Tax Executive
Michael Caballero's commentary about revisions to foreign tax credit regulations was featured in an article appearing in
Tax Executive.
According to Michael, "all of the old historical rules, which there was no compelling need to adjust at this moment in time, have really been tightened up significantly, requiring very close conformity with U.S. tax rules, and thus affecting the creditability of a lot of taxes that have historically been creditable for quite some time. And those rules are also very complicated—in the case of digital taxes, they’re just clearly out. There’s not a lot of analysis that has to be done, and they’re often not very significant in their magnitude, at least at this stage. But that second part, these cost recovery and other factual-based tests, are proving extremely challenging for taxpayers to assess if they are still entitled to claim a foreign tax credit."
Michael states later in the piece, "You’re analyzing foreign law, and every foreign tax system is a very complicated set of rules. So there’s a very significant challenge there. The other thing is, notwithstanding the fact that every country is basically taxing the same amount of income in my experience—because the concept of what net income is reasonably consistent—every tax code is very idiosyncratic. The Internal Revenue Code isn’t just Section 61 and Section 162. It’s not just income less deductions. Over 100 years, Congress has come up with a number of ways to limit deductions. Just in the case of interest, there are multiple reasons why they’ve enacted the various different limitations in Section 163. And so, taxpayers are forced to try and line up a wide variety of decisions by both our legislature and the legislatures of foreign countries to make sure they are in close enough conformity, whether based on the principles or the policies or even the technical operation of how these rules apply. And that is a very challenging thing if you only had one country to deal with, but of course, many multinationals have twenty, forty, sixty, or more countries where they’re facing this challenge."
Royalties is another complicated issue as well. To Michael, "The headlines when they came out were largely focused on digital taxes. but adjusting the cost recovery rules and tightening them raises issues for a much wider range of foreign taxes, but even that could be seen as an elaboration on prior rules. But there are aspects of these regulations that are a complete reversal in where the U.S. has been for the past hundred years. Admittedly, it’s framed as this technical debate about how the sourcing roles operate in the context of royalty withholding tax, but as a practical matter, it is undoing the creditability of royalty withholding taxes in places where the United States has granted a credit for decades. And I don’t think there’s been a policy or a technical concern about any of those circumstances. So, you’re really talking about a 180-degrees shift in policy, at least in these contexts, with very significant double taxation concerns."
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