Net investment income tax may result in double taxation and more complexity

Global Watch ()
The Internal Revenue Service (IRS) recently released final regulations regarding the application of the Net Investment Income Tax (NIIT) as well as final Form 8960, Net Investment Income Tax—Individuals, Estates, and Trusts and corresponding instructions. The NIIT affects tax years that begin on or after January 1, 2013 and applies to US citizen and resident individuals with higher incomes on passive-type income (such as interest, dividends, and capital gains.) The final regulations address many questions that were previously unclear with respect to how the NIIT applies in a cross-border context (see prior Global Watch).

A critical issue is whether the NIIT may be offset by foreign tax credits for US federal income tax purposes. This question has been resolved under the final regulations in an unfavorable manner for US taxpayers—no foreign tax credit may be claimed to reduce the NIIT imposed under Section 1411 of the Internal Revenue Code (Code). Though the final regulations did not directly rule out the possibility of a foreign tax credit being possibly available under the terms of an income tax treaty, comments in the preamble to the final regulations indicate that both the Treasury Department and the IRS do not believe that such a credit should generally be permitted.   

As a result, many high earning US taxpayers with net investment income that is subject to both the NIIT and foreign income tax may be faced with double income taxation. Should this happen, companies that tax equalize international assignees on ‘personal’ income may suffer increased assignment costs and those that don’t may have employees questioning why their personal tax costs have increased.

This Tax Insight highlights several important questions with respect to how the NIIT applies in a cross-border context and how they are resolved under final guidance. Mobility professionals should determine how these issues may impact assignment tax reimbursement costs, policies and procedures, and communication plans. For example, do policies provide that the company bear the cost of any US tax on an assignee’s overall taxable income? In addition, what procedures are in place to allow the assignee to increase his/her withholding to cover this additional tax?