Florida Tax Attorney Blog

New tax news coming out of Tokyo today - on June 11, 2013, the Treasury Department announced an intergovernmental agreement between the United States and Japan intended to facilitate information reporting by financial institutions under the U.S. Foreign Account Tax Compliance Act ("FATCA").

Under FATCA, foreign financial institutions must report U.S.-owned accounts to IRS or face, in some instances, a 30 percent withholding tax on payments received on U.S. investments

Under the new agreement between the U.S. and Japan, Japanese financial institutions will report U.S. account information directly to the Internal Revenue Service.

Timeframe for Implementation - Japanese financial institutions must register with the IRS by January 1, 2014, and implement requirements for foreign financial institutions.

A well-respected oncologist at MD Anderson is facing a felony charge after she allegedly poisoned the coffee of a fellow MD Anderson physician whom she was dating. According to court documents, Dr. Ana Gonzalez-Angulo (the defendant) and Dr. George Blumenschein (the colleague whom she was dating) were together at a home when she handed him a cup of coffee laced with ethylene glycol, a chemical commonly used in antifreeze.

According to the charging documents, Dr. Ana Maria Gonzalez-Angulo is being charged with aggravated assault of a family member in connection with the incident, which is a first degree felony under Texas law.

Attorney and TV legal analyst Brianne DeSellier joined Good Morning America this morning to weigh in on the case.

Beginning in 2012, taxpayers classified as Category 5 filers who constructively own stock of a controlled foreign corporation ("CFC") will be eligible for the constructive ownership exception from filing IRS Form 5471, Information Return of U.S. Persons with Respect to Certain Foreign Corporations, with their U.S. tax returns. Previously, the constructive ownership exception from 5471 filing was only available to Category 3 and Category 4 filers.

What is IRS Form 5471?

Form 5471 is used by certain U.S. citizens and residents who are officers, directors, or shareholders in controlled foreign corporations (as that term is defined by the Internal Revenue Code). This form must be included with the U.S. tax return to satisfy certain reporting requirements set forth in the Internal Revenue Code.

Categories of Filers

The IRS has set forth several categories of filers. Generally, any U.S. person that falls within one of these categories must file Form 5471 with the IRS. A Category 5 filer includes a U.S. shareholder who: (1) owns stock in controlled foreign corporation for an uninterrupted period of 30 days or more during the foreign corporation's tax year; and (2) owned that stock on the last day of the foreign corporation's tax year. In this respect, a Category 5 filer's stock ownership can be direct, indirect, or constructive.

Prior to 2012, Category 5 filers who indirectly owned stock of a CFC were required to file Form 5471 with their U.S. tax returns, notwithstanding the fact that they did not actually own any stock of the CFC. However, going forward, Category 5 filers who do not directly own stock of a CFC may be exempt from filing Form 5471 under the constructive ownership exception. This change comes via revised form instructions for Form 5471 published by the IRS on January 18, 2013. The extension of the constructive ownership exception to Category 5 filers should reduce compliance burdens for many taxpayers and should reduce administrative burdens for the IRS.

To qualify for the exception, a Category 3, 4, or 5 filer must satisfy each of the following requirements:

(1) the U.S. person must have no ownership of a direct interest in the foreign corporation;

(2) the U.S. person must be required to furnish the information requested solely because of constructive ownership through another U.S. person; and

(3) the U.S. person through whom the indirect shareholder constructively owns an interest in the foreign corporation must file Form 5471 to report all of the required information.

As a final matter, it should be noted that Category 5 taxpayers who qualify for the constructive ownership exemption from filing Form 5471 going forward should also be exempted from filing IRS Form 8858 for foreign disregarded entities (FDEs) owned by the CFC because the constructive ownership exception exempts such taxpayers from filing Form 8858.

According to a circular released by the Chinese Ministry of Science and Technology on January 11, 2013, Chinese tax authorities have begun a large scale audit of technology companies that claim a special tax status as High and New Technology Enterprises ("HNTEs"). See Circular Guokefahuo No. 1220. Currently, companies that qualify as HNTEs pay a corporate income tax rate of 15%, which is ten percentage points less than the standard Chinese corporate tax rate of 25%.

In terms of qualifying for this special tax status, both Chinese and non-Chinese companies doing high-tech work in areas such as electronics, information technology, biotech and new medical technologies, energy conservation, environmental technology, aerospace, and high-tech transformation of traditional industries are potentially eligible for the HNTE tax break. Companies that fail to qualify as HNTEs under this audit will have their HNTE status revoked and will consequently experience a tax rate increase of 10%. In addition to current year tax increases, these companies may be liable for back taxes, fines, and penalties.

Most likely, this large scale audit is being driven by non-tax fiscal and political factors - namely, the growth rate of China's economy has begun to slow down; as a result, Chinese tax authorities are likely feeling pressured to collect adequate revenues. A crackdown on the HNTE tax break is a potential revenue source because, as of December 31, 2012, more than 60,000 technology companies had claimed this special tax status for Chinese tax purposes, possibly amounting to as much as $USD 32 billion in tax breaks.

Given the large scale of this audit by Chinese tax authorities, companies that claim HNTE status (or have claimed HNTE status in the past) should contact a tax firm to ensure that they satisfy all HNTE eligibility requirements. This self-audit of sorts should be done as soon as possible so that any necessary remedial or protective action can be promptly implemented. Note that even companies that satisfy the criteria for HNTE status often make mistakes that could cause Chinese tax authorities to question their HNTE status during this large-scale audit. Consequently, any company claiming this tax benefit for Chinese tax purposes would be well-advised to engage a tax firm to analyze their eligibility for HNTE status.

The American Taxpayer Relief Act of 2012 was signed into law by President Barack Obama on January 2, 2013. However, many of the resulting tax law changes apply retroactively to the 2012 tax year. As a result, there are going to be delays in this year's filing season as the IRS works to update and modify affected tax forms to account for the new law changes.

Individual Tax Returns

Filing for individual tax returns technically opened on January 30, 2013. However, only the simplest individual returns are currently eligible for electronic filing. The IRS estimates that it will be late February or early March before all forms are available for filing.

Business Tax Returns

The IRS will not be accepting electronic filing for 2012 business tax returns until all forms and systems are updated for the changes. The IRS has not yet indicated when it will begin accepting electronically filed business tax returns, but delays until late February or early March are expected.

Tax-Exempt Entities

The IRS announcement regarding delays in electronic filing of business tax returns also applies to Form 990, "Exempt Business Income Tax Return." In addition, Form 990-T, "Exempt Organization Business Income Tax Return," will be affected. To be clear, Form 990-T is not filed electronically; however, many of the forms needed for completing Form 990-T will not be available until late February or early March.

As a final matter, it should be noted that the IRS has indicated that it will not process paper returns for individual, business, and tax-exempt entities prior to the time that the forms are available for electronic filing.

If someone owes you money that you do not think you will be able to collect, you may have a bad debt for tax purposes. Pursuant to I.R.C. § 162(a), there shall be allowed as a deduction all the ordinary and necessary expenses paid or incurred during the taxable year in carrying on any trade or business. In this respect, I.R.C. § 166(a)(1) allows a deduction for any debt which becomes worthless during the taxable year. As a threshold matter, two things must be established in order for a taxpayer to qualify for a bad debt deduction: (1) that the debt was bona fide at the time it was created; and (2) that the debt became worthless within the tax year.

Bona Fide Debt

A debt is "bona fide" if it arises from a valid and legally enforceable promise to pay a fixed or determinable sum of money. As a threshold matter, it is necessary to confirm that the loan at issue is, in fact, debt (as opposed to disguised equity). In this respect, the basic question is: was there was a genuine intention to create a debt, with a reasonable expectation of repayment, and did that intention comport with normal business practices? The answer to this question turns on the application of judicially developed factors to the facts and circumstances of the particular case.

Worthlessness

In order for a bad debt deduction to be claimed for tax purposes, the debt at issue must be "worthless." In this respect, worthlessness is a question of fact to be determined by the totality of the circumstances. In general, a debt is "worthless" if the facts and circumstances indicate: (1) that the debt is uncollectible; and (2) that legal action to enforce payment would in all probability not result in satisfaction on a judgment. Uncollectibility and unlikely recovery must be established by reference to identifiable events that demonstrate worthlessness and justify abandonment of hope of recovering the debt.

For federal tax purposes, a foreign-based company must have a U.S. "permanent establishment" in order to be subject to federal taxation. In this respect, the concept of a U.S. permanent establishment essentially means a fixed place of business in the United States. Significantly, however, the permanent establishment concept, which drives federal taxation of foreign-based businesses, is generally irrelevant in the state tax context.

For state tax purposes, an in-state presence does not have to be fixed or permanent. To the contrary, the requisite level of presence for state taxing jurisdiction can be created by the transitory presence of an employee, non-employee representatives, or even non-physical presence. In other words, the level of contact required to establish state taxing nexus is substantially less than the level of contact required to establish federal taxing nexus. As a result, the absence of a permanent establishment for federal tax purposes does not necessarily mean that a foreign-based company is not subject to state taxation in the United States.

It is important for foreign-based companies to be aware of this for several reasons. From a compliance perspective, the compliance costs can be substantial even if the state tax liability itself is nominal - i.e. bookkeeping, tax calculation, return preparation. In addition, from a liability perspective, many state laws, including Florida, often allow for collection of unpaid state taxes from individuals associated with a business who should have been aware of the business's state tax obligations and of the business's failure to comply with those obligations - e.g., partners, officers, managers.

The American Taxpayer Relief Act of 2012 ("2012 Taxpayer Relief Act") was signed into law by President Obama on January 2, 2013. The 2012 Taxpayer Relief Act overrides several tax increases that were scheduled to go into effect in 2013 and preserves several favorable tax provisions that were set to expire at the end of 2012. At the same time, the 2012 Taxpayer Relief Act increases income taxes for certain high income earners and slightly increases transfer tax rates.

Below is a summary of how the provisions of the 2012 Taxpayer Relief Act will impact individual taxpayers.

Preservation of Income Tax Rates for Most Individuals

Income tax rates for most individuals will remain at 10%, 15%, 25%, 28%, 33%, and 35% (as opposed to moving to 15%, 28%, 31%, 36%, and 39.6% as would have otherwise occurred). Note, however, that certain high-income individuals will be subject to an increased tax rate of 39.6% beginning in 2012.

Tax Rate Increases For High Income Individuals

Although the 2012 Taxpayer Relief Act preserved lower income tax brackets for the majority of Americans, tax rates will increase for certain high income individuals. Specifically, a 39.6% rate will apply to income that exceeds an "applicable threshold." The "applicable threshold" is $450,000 for joint filers, $425,000 for heads of household, $400,000 for single filers, and $225,000 for married taxpayers filing separately. These dollar amounts are subject to adjustments for inflation for tax years after 2013.

Capital Gain and Dividend Rate Increases for Higher-Income Taxpayers.

The 2012 Taxpayer Relief Act raised the maximum rate for capital gains and dividends to 20% (up from 15%) for taxpayers with incomes exceeding $400,000 ($450,000 for married filing jointly). In addition, these high-income taxpayers will be subject to the 3.8% surtax on investment income under Section1411 of the Internal Revenue Code, resulting in an aggregate tax rate of 23.8% for higher-income taxpayers.

Capital Gain and Dividend Rates for Other Taxpayers

For taxpayers who are taxed on ordinary income at a rate below 25%, capital gains and dividends will permanently be subject to a 0% rate. Thus, some lower-income taxpayers may actually realize tax savings as compared to the previous rates.

For taxpayers who are taxed on ordinary income at a rate of 25% or more (but whose income levels fall below the $400,000/$450,000"applicable threshold") will continue to be subject to a 15% rate on capital gains and dividends.

In addition, certain taxpayers will be subject to the 3.8% surtax (i.e. married taxpayers with modified adjusted income in excess of $250,000 ($125,000 if married filing separately), all other taxpayers with modified adjusted income in excess of $200,000). For these taxpayers, the maximum tax rate for capital gains and dividends will be 18.8% (15% + 3.8% surtax).

Alternative Minimum Tax ("AMT") Relief

In a nutshell, the AMT is the excess, if any, of the tentative minimum tax for the year over the regular tax for the year. The tentative minimum tax is calculated by adjusting the regularly computed tax liability for certain items. The resulting amount is the alternative minimum taxable income (AMTI), which is subject to an AMT rate of 26% or 28%. The purpose of the AMT is to ensure that higher income taxpayers who would otherwise be able to offset substantial income through the use of favorable deductions and tax credits are liable for a minimum amount of tax. This summary vastly oversimplifies the AMT and is only meant to provide general background information.

Without the 2012 Taxpayer Relief Act, the individual AMT exemption amounts for 2012 would have been $33,750 for single taxpayers, $45,000 for joint filers, and $22,500 for married taxpayers filing separately. Tthe 2012 Taxpayer Relief Act retroactively increased these exemption amounts to $50,600 for single taxpayers, $78,750 for joint filers and $39,375 for married taxpayers filing separately.

Also, without the 2012 Taxpayer Relief Act, many nonrefundable personal tax credits were allowed only to the extent that an individual taxpayer's regular income tax liability exceeded his tentative minimum tax. The 2012 Taxpayer Relief Act retroactively (for tax years beginning after 2011) allows an individual taxpayer to offset his entire regular tax liability and AMT liability by the nonrefundable personal credits.

Retention of Transfer Tax Exemption Amounts (Subject to Rate Increase)

The 2012 Taxpayer Relief Act thwarted a sharp increase in estate, gift and generation-skipping transfer taxes that were scheduled to occur for individuals dying and gifts made after 2012 by permanently preserving the $5 million exemption amount (subject to adjustment for inflation). Note, however, that the 2012 Taxpayer Relief Act also increases the maximum estate, gift and generation-skipping transfer rate from 35% to 40%. As a final note, the 2012 Taxpayer Relief Act maintains the portability feature that allows the estate of the first spouse to die to transfer his or her unused exclusion to the surviving spouse.

Extension of Certain Favorable Tax Provisions for Individuals

The 2012 Taxpayer Relief Act extends the following favorable tax items for individuals that were set to expire at the end of 2012:

American Opportunity Tax Credit extended for 5 years - permits eligible taxpayers to claim a tax credit equal to 100% of the first $2,000 of qualified tuition and related expenses, and 25% of the next $2,000 of qualified tuition and related expenses (for a maximum tax credit of $2,500 for the first four years of post-secondary education)

Deduction for Classroom Expenses of Elementary and Secondary School Teachers - originally expired at the end of 2011; has been revived for 2012 and 2013

Exclusion of Discharge of Qualified Principal Residence Indebtedness from Income - originally applicable to discharges before January 1, 2013; now extended to apply to discharges before January 1, 2014

Treatment of Mortgage Insurance Premiums as Qualified Residence Interest - expired at the end of 2011; has been revived for 2012 and 2013

Option to Deduct State and Local Sales Taxes - expired at the end of 2011; has been revived for 2012 and 2013

Special Rule for Contributions of Capital Gain Real Property made for Conservation Purposes - expired at the end of 2011; has been revived for 2012 and 2013

Above-the-line Deduction for Qualified Tuition Expenses - expired at the end of 2011; has been revived for 2012 and 2013

Tax-Free Distributions from Individual Retirement Plans for Charitable Purposes - expired at the end of 2011; has been revived for 2012 and 2013. (Note: Because 2012 has already passed, a special rule allows distributions taken in 2012 to be transferred to charities for a limited period in 2013. In addition, certain distributions made in 2013 can be treated as deemed made on December 31, 2012)

50% Bonus Depreciation - extended for 1 year so that bonus depreciation continues to be available for qualified property placed in service before 2014

Most states take the position that corporations owned by Native Americans are subject to generally applicable corporate income taxes on the ground that a corporation is a legal entity separate and apart from its Native American shareholders. Indians cannot enjoy the benefits of corporate limited liability while simultaneously rejecting the burden of taxation that comes along with it ... they have their cake and eat it too, right? Actually, maybe they can if all of the corporation's income is earned from activities on the reservation.

Central Machinery Company v. Arizona State Tax Commission involved an isolated sale of tractors to Indians on a reservation by a non-Indian corporation with no permanent establishment on the reservation. There, the Supreme Court invalidated Arizona's gross receipts tax, holding that the transaction was "plainly subject to federal regulation" (emphasis added). To be clear, a gross receipts tax is in the nature of a sales tax, not an income tax. But if the gross receipts tax in Central Machinery was so plainly preempted by federal regulation of Native Americans, it is hard to imagine that income derived from regular sales to Indians on a reservation by an Indian-owned corporation deriving all of its income from activities on the reservation would not be similarly exempt from state taxation.

The Indian Reorganization Act of 1934 encouraged Indians to self-govern and manage their own affairs. One contemplated way of doing this was through the "creation of chartered corporations." See Mescalero Apache Tribe v. New Mexico. Moreover, the Act sought to put control of Indian affairs "in the hands of an Indian council or . . . a corporation organized by the Indians." Id. Given Congress' specific contemplation of Native American owned corporations as mechanisms to facilitate Indian sovereignty and self-governance, this comprehensive federal regulatory scheme arguably preempts a state corporate income tax with respect to a corporation that is wholly owned by Native Americans and that derives all of its income from activities on the reservation.

Under the general provisions of I.R.C. § 332, no gain or loss is recognized by a parent company upon liquidation of an 80% or more owned subsidiary. However, this result may be changed when a foreign subsidiary is the subject of the liquidation.

To the extent that the foreign subsidiary has accumulated earnings and profits ("E&P") from active foreign business operations, that E&P will be subject to U.S. taxation at the domestic parent company level upon liquidation. This is because these earnings and profits were generated by non-subpart F income that was not "effectively connected" with an active U.S. trade or business. Therefore, these earnings and profits have never been subjected to U.S. taxation. If these earnings and profits were allowed to travel up to the domestic parent company tax-free under Section 332, then untaxed E&P would effectively become available for distribution to the domestic parent company's shareholders.

The way the Internal Revenue Code deals with this is to impose a toll charge of sorts upon repatriation of the foreign subsidiary's assets into the United States. More specifically, the U.S. parent company must include a deemed dividend in income based on something called the "all E&P amount." The "all E&P amount" is basically the untaxed E&P that has accumulated in the foreign subsidiary under the parent company's period of ownership. As a final note, it is worth mentioning that there may be foreign tax credit implications as a result of this inclusion. In this respect, the deemed dividend included by the U.S. parent would be a foreign source dividend. This foreign source dividend, in turn, may carry with it a portion of foreign taxes paid with respect to that E&P and the related foreign tax credits.

Under Subpart F of the Internal Revenue Code, U.S. shareholders of a controlled foreign corporation ("CFC") must include the CFC's "subpart F income" on their U.S. income tax returns. I.R.C. § 951. For a foreign corporation to be classified as a CFC for tax purposes, it must be controlled by U.S. shareholders. Significantly, the terms "control" and "U.S. shareholder" are specifically defined legal terms. In this respect, "control" means more than 50% of the vote and value of the corporation and a "U.S. shareholder" means a shareholder who holds 10% or more of the total voting power. Thus, a foreign corporation is considered a CFC if 10% shareholders collectively own more than 50% of the corporation.

But how is "U.S. shareholder" status determined when a U.S. partnership owns a foreign corporation? For instance, consider the scenario where a U.S. general partnership owns 100% of a foreign corporation that generates subpart F income. Assume that none of the individual partners hold a greater than 5% partnership interest. Since none of the individual partners hold a greater than 5% partnership interest, none of them can constructively be considered "U.S. shareholders" by application of upward entity attribution (because 10% ownership is required). Therefore, the foreign corporation cannot be considered a CFC, and none of the individual partners will be required to recognize subpart F income, right? Wrong. A U.S. partnership is considered a "U.S. person" for tax purposes. I.R.C. § 7701(a)(30). Moreover, nothing in Subpart F or the regulations thereunder indicates that a domestic partnership cannot be a "U.S. shareholder" for Subpart F purposes. Consequently, the U.S. partnership would be considered to be a U.S. shareholder because it satisfies the 10% or more ownership test. Moreover, since the U.S. partnership owns more than 50% of the foreign corporation, the foreign corporation would be considered a CFC. As a result, the partnership will have Subpart F income, and because a partnership is a pass-through entity, this Subpart F income will pass-through to the individual partners, notwithstanding the fact that none of them are "U.S. shareholders" within the definition of that term.

Takeaway: Partners of a U.S. partnership with an interest in a foreign corporation may have Subpart F income to report.

Partnerships and LLCs taxed as partnerships are pass-through entities in the sense that all of the income and expense items pass through the entity to the individual partners and are reported on the partners' individual tax returns. In order to prevent abuse, the tax code places several limits on the deductibility of partnership losses. One such limit is the "at risk" principle found in Section 465 of the Internal Revenue Code. Pursuant to that statute, a partner (or LLC member in an LLC taxed as a partnership) may deduct partnership losses only to the extent that he or she is "at risk." In other words, partnership losses are deductible only to the extent of the partner's financial risk exposure (i.e. how much money the partner stands to lose). Of course, a partner is "at risk" to the extent of cash contributions that have been made to the partnership. I.R.C. § 465(b)(1). However, a partner is not considered at risk for required future capital contributions unless and until the partner actually contributes the funds. Prop. Treas. Reg. § 1.465-22(d).

At the same time, however, a partner's amount at risk includes borrowed amounts to the extent that the partner is personally liable for repayment of a partnership debt. I.R.C. § 465(b)(2); Prop. Treas. Reg. § 1.465-24(a). In this respect, a partner is "personally liable" for at-risk purposes if he has ultimate liability to repay the partnership debt obligation. In other words, we are looking for the person upon whom the liability will eventually fall upon as a practical matter. At a high level then, the determination as to whether a partner is "at risk" with respect to a partnership or LLC debt appears to be a specific application of economic substance principles. Since economic reality controls the at-risk analysis, logic would dictate that a partner should be entitled to an increased at-risk amount to the extent that a deferred or future contribution obligation makes the partner potentially liable for a partnership debt, notwithstanding the rule articulated in Prop. Treas. Reg. § 1.465-22(d). This result is arguably supported by judicial authority.

In Hubert v. Commissioner, the Sixth Circuit effectively held that a partner's contribution obligation can support an increased at-risk amount to the extent that it operates in a way that causes the partner to become liable for a portion of the partnership's debts. Similarly, the Tax Court has held a partner to be at risk with respect to a deferred contribution obligation where the partnership pledged its right to receive that future contribution to an unrelated institutional lender as collateral for a bank loan. See Melvin v. Commissioner. The Tax Court reasoned that the deferred capital contributions would ultimately serve as the source of repayment in the event of the partnership's default on the loan.

In light of the foregoing, a partner may be at risk with respect to future contribution obligations. This increased at-risk amount would allow the partner to deduct a greater portion of his distributive share of a partnership loss. Note, however, that the circumstances under which a future contribution obligation is sufficient to support at-risk basis are very specific.

If you need help calculating your at-risk amount or structuring a partnership loan transaction to support an increased at-risk amount, contact me today.

The Supreme Court is set to review the Defense of Marriage Act ("DOMA") soon. In my opinion, DOMA violates at least three separate provisions of the U.S. Constitution. Most obviously, DOMA clearly violates the explicit guarantee of equality contained in the Equal Protection Clause. In addition, DOMA violates the Due Process Clause insofar as it deprives a significant minority of Americans of the constitutional right of marriage. Finally, DOMA arguably violates the First Amendment's guarantees of religious freedom insofar as primary opposition to same-sex marriage appears to be religiously based. In light of the foregoing, I expect the Supreme Court to invalidate DOMA. From a tax perspective, the invalidation of DOMA will trigger a right to tax refunds for prior year overpayments (because same-sex married couples have been denied the favorable tax treatment associated with being married). From a tax planning perspective, same-sex couples who may be entitled to a tax benefit should not wait for a final decision from the Supreme Court before filing a protective refund claim with the Internal Revenue Service. Rather, same-sex couples who are legally married should file claims now in order to protect their refund rights from expiring under the three-year statute of limitations that applies with respect to tax refund claims.

The U.S. Supreme Court has agreed to consider whether a domestic taxpayer is entitled to a foreign tax credit based on its payment of a windfall tax to the U.K. government. The Court's decision to grant certiorari in PPL Corp is expected to resolve a split among the circuit courts of appeal.

Facts

Beginning in the mid-1980s, the U.K. privatized several utility companies by selling shares in the public market. Following privatization, costs were reduced, and these utility companies became enormously profitable as a result. The shareholders who initially purchased stock of the utility companies were therefore able to sell the shares at enormous profits. Upon seeing this, the U.K. government effectively concluded that the utility companies were privatized at too low of a price (i.e. the government did not get enough money for the shares). Accordingly, the government decided to impose a windfall profits tax. The windfall tax was a one-time 23 percent tax on the difference between each company's profit-making value and the price for which the U.K. government had sold it. Many U.S. taxpayers had acquired shares in these utility companies. Consequently, the question quickly became whether the windfall profits tax was a creditable tax for foreign tax credit purposes.

Procedural History

The taxpayer involved in PPL filed a refund claim seeking a foreign tax credit for windfall profits tax paid to the U.K. The IRS disallowed the refund and the taxpayer petitioned the Tax Court.

The Tax Court initially held that the taxpayer was entitled to a foreign tax credit on the ground that the tax was on profits making it essentially in the nature of an income tax. However, the IRS appealed, and the Third Circuit Court of Appeals concluded that the windfall profits tax was not a creditable foreign tax and reversed the Tax Court. Significantly, however, the Fifth Circuit Court of Appeals agreed with the Tax Court in a companion case (Entergy Corp.).

Certiorari Granted

As previously mentioned, the Third Circuit and the Fifth Circuit reached opposite conclusions regarding the deductibility of the U.K. windfall profits tax. The Supreme Court opinion will resolve this judicial split between the Third and Fifth Circuits. Hopefully it will also provide some insight for future analysis of foreign tax credit issues. However, the U.K. windfall profits tax is very unique and therefore the opinion will likely be narrow and specific to the nature and characteristics of the U.K. windfall profits tax. With that being said, I would not expect on too much insight beyond what we already have in terms of foreign tax credit analysis as a practical matter.