Potential Implications of IRS Changes to Foreign Tax Credits

Regulatory changes to the Foreign Tax Credit have recently been proposed by the IRS. Because these changes – part of the ever-evolving Tax Cuts and Jobs Act (TCJA) of 2017 – concern both foreign businesses and some foreign individuals, we’re taking a closer look to share with you everything expats should know about the proposed changes at hand.

Why are Changes Being Considered?

The sweeping legislation enacted as part of the TCJA affected several sections of the US tax code. One result is that changes were made to the way in which the US taxes certain foreign activities.

What Changed Previously?

As a result of the TCJA, new changes at the beginning of the 2018 tax year include:

  • Provisions that include a dividends-received deduction for dividends from foreign subsidiaries
  • The addition of Global Intangible Low-Taxed Income (“GILTI”) rules that subject certain foreign earnings to US taxation
  • Disregarding certain expenses related to income eligible for the dividends-received deduction, and repealing the use of the fair market value (“FMV”) method of allocating interest expense

What are the recent foreign tax credit changes?

Foreign Tax Credits on Dividends Received by a US Corporation

The changes include a 100% deduction on foreign dividends received from foreign corporations that are owned by US corporations. This is subject to a one-year holding period and here is no foreign tax credit available for the qualifying dividend.

Changes to Foreign Tax Credit Limitations by Income Type

The IRS now separates income for non-passive Global Intangible Low Tax Income (GILTI) and “foreign branch income,” which is the profit from qualified business units in foreign countries. This means you’ll no longer be able to carry foreign tax credits between these categories.

Unused Domestic Losses

The TCJA allows businesses to recapture unused domestic losses prior to 2018 and apply them to future tax years, up until 2028.

Expansion of Subpart F

Subpart F aims to prevent US citizens and corporations from deferring taxable income through foreign entities. The TCJA changed the calculation method for deemed-paid taxes, foreign taxes, and GILTI inclusions.

Changes to Income Sources for Inventory Sales

The source of inventory sales income is determined based on where the inventory was produced. So, if inventory was 100% produced in the US, the sales income is 100% US sourced. If the inventory was produced in more than one location, including the US and the foreign country, the income will be partially US-sourced and partially foreign-sourced.

Want to Know More About How the Foreign Tax Credit Changes Affect You?

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