Treasury and the IRS on March 20 final regulations relating to the limitation on foreign tax credits (FTCs) for foreign taxes paid or accrued in connection with covered asset acquisitions (CAAs) under Section 901(m). Section 901(m) disallows a portion of the FTC attributable to a basis difference in assets acquired in a CAA. The final regulations are generally consistent with temporary and proposed regulations issued on December 6, 2016, with targeted revisions to address some comments received from taxpayers.
The previously effective temporary regulations expanded on the ‘disposition rule’ announced in Notice 2014-44 (July 21, 2014) and Notice 2014-45 (July 30, 2014), which allocate the basis difference attributable to a CAA to a US tax year, following a subsequent disposition. The temporary regulations also excluded withholding taxes from the scope of Section 901(m) and provided certain definitions necessary to apply Section 901(m).
The proposed regulations contained significant additional guidance, including: (1) three additional categories of CAAs; (2) rules that preserve/carry over a basis difference that otherwise would be allocated to a tax year when the basis difference, in whole or in part, would not have the effect of disqualifying foreign taxes from being claimed as a credit; and (3) an election to determine the basis difference arising from a CAA by comparing the US basis to the basis under foreign law.
The final regulations generally are effective for CAAs occurring on or after March 23, 2020, the date that they were published in the Federal Register. However, the portions of the final regulations relating to the ‘disposition rule’ are effective for CAAs that occur on or after the dates announced in Notices 2014-44 and 2014-45 (generally, July 21, 2014), and to any unallocated basis difference remaining from CAAs that occurred from January 1, 2011 to before July 21, 2014.
The disallowance of FTCs under Section 901(m) can have a material effect on the economics of cross-border M&A, as well as related-party transactions. . The final regulations are complex and can require significant analysis to apply even to straightforward transactions. Furthermore, the newly adopted aggregate basis difference carryover and successor rules may limit taxpayers’ ability to mitigate the impact of Section 901(m). Now that the regulations are effective for all taxpayers, businesses should consider the impact of Section 901(m) on all cross-border transactions.