The global intangible low-taxed income (GILTI) regime under Section 951A requires a US shareholder of a controlled foreign corporation (CFC) to include the shareholder’s GILTI inclusion amount in gross income, effective for tax years of a CFC beginning after December 31, 2017, and the shareholder’s tax years in which the CFC’s tax years end.
Final regulations under Section 951A published on June 21, 2019, advised that the IRS and Treasury intended to publish a revenue procedure providing automatic consent for certain accounting method changes to the alternative depreciation system (ADS) and updating terms and conditions in Rev. Proc. 2015-13 (the general procedures for accounting method changes) to take into account the enactment of Section 951A. The IRS recently issued Rev. Proc. 2021-26, providing these procedures.
Taxpayers subject to the GILTI regime may want to consider whether a change to the ADS for GILTI purposes may be necessary or beneficial.
For more information on the GILTI final regulations, see the Insight Treasury issues final and proposed rules under Section 951A.
A US shareholder’s GILTI is determined by a formula based on certain items of each CFC that the shareholder owns, including tested income, tested loss, and qualified business asset investment (QBAI). A CFC’s QBAI is intended to distinguish the CFC’s intangible income from its tangible income.
For Section 951A purposes, QBAI is the average of a CFC’s aggregate adjusted bases in specified tangible property that is used in its trade or business and is depreciable under Section 167. The adjusted basis in any property for purposes of calculating QBAI is determined by using the ADS under Section 168(g). Section 168(g)(1)(A) generally requires the use of ADS to depreciate tangible property predominantly used outside of the United States during the tax year. However, certain foreign corporations (including a CFC) computing their income and earnings and profits (E&P) instead may apply a depreciation method used for book purposes (non-ADS method), provided the adjustments required to conform to ADS are not material.
Under Rev. Proc. 2015-13 and Rev. Proc. 2019-43 (listing the automatic method changes), a CFC that uses an impermissible non-ADS method to compute income and E&P could change its method of accounting to the ADS under the automatic procedures, but a CFC on a permissible non-ADS method could not use the automatic procedures to change to the ADS. Rev. Proc. 2021-26 modifies Rev. Proc. 2019-43 to add a new automatic method change under Section 6.22 of Rev. Proc. 2019-43, which generally allows a CFC that uses a permissible non-ADS method to use the automatic procedures to change its method of accounting to the ADS for income and E&P purposes.
As a result of Rev. Proc. 2021-26, both changes from impermissible and permissible non-ADS methods now may be made automatically under new Section 6.22 of Rev. Proc. 2019-43. Both types of changes are implemented with a Section 481(a) adjustment. Unlike typical depreciation method changes, the CFC must provide a Section 481(a) adjustment on an asset-by-asset basis rather than in one amount that includes all property subject to the change.
Limitations on making an automatic method change in the year of engaging in certain Section 381(a) transactions, in the final year of a trade or business, or if the taxpayer has changed its overall method of accounting or method of accounting for the same item in the last five tax years, do not apply to this change.
These provisions apply to method change requests filed on or after May 11, 2021, for a CFC’s tax year ending before January 1, 2024. An accounting method change request filed under the nonautomatic procedures that was pending on May 11, 2021, and that now is covered under the automatic procedures, optionally may be converted to an automatic request.
Rev. Proc. 2021-26 modifies the terms and conditions in Rev. Proc. 2015-13 for accounting method changes of a CFC. Most significantly, it provides generally that a Section 481(a) adjustment is taken into account in determining the CFC’s tested income or tested loss, as gross tested income for a positive adjustment and as a deduction properly allocable to gross tested income for a negative adjustment. These modifications apply to method change requests filed on or after May 11, 2021.
Taxpayers making accounting method changes under the automatic procedures generally receive audit protection for using an impermissible method in the tax years preceding the year of the accounting method change. However, a CFC does not receive audit protection for tax years before the requested year of change in which any of the CFC's corporate US shareholders computed an amount of foreign taxes deemed paid under Sections 902 and 960 that exceeded 150% of the average amount of foreign taxes deemed paid under Sections 902 and 960 in the shareholder's three prior tax years.
Rev. Proc. 2021-26 clarifies that the 150% threshold is based on the amount of foreign taxes deemed paid regardless of the extent to which a foreign tax credit is allowed.
Rev. Proc. 2021-26 clarifies the treatment of Section 481(a) adjustments for tested income/loss purposes for CFC method changes, which previously had been an area of uncertainty. CFCs should consider filing method changes to the ADS for computing income or E&P if necessary or beneficial, and should review the procedures to determine if they are eligible for audit protection when filing any method change for depreciation or other material items.