June 4, 2018 / North America
As companies are currently preparing for second quarter releases, estimated tax payments and cash tax planning, we are feverishly modeling the impact of Global Intangible Low-Taxed Income (GILTI), revealing several glitches and uncertainties. Among these uncertainties, one nuanced issue generating substantial frustration for companies involves code Section 78. The issue relates to a potential limit on a taxpayer’s ability to use foreign tax credits against GILTI, which may result in significantly raised exposures. Many conservative attest firms have previously concluded that taxpayers are limited. Below we discuss the issue and our view.
In short, our position is in favor of using foreign tax credits. This could reduce the exposure for companies by affecting earnings releases, estimated tax payment obligations and future planning.
Purpose of the Section 78 Gross-Up
The deemed paid foreign tax credit provided by Section 960 (and previously by now repealed Section 902) creates a fiction whereby a U.S. parent company is treated as if it directly paid its allocable portion of income taxes paid by its 10 percent or more foreign subsidiaries, for which the parent may receive a foreign tax credit. When a U.S. parent company is deemed to have paid the taxes of its foreign subsidiary(ies), Section 78 requires the U.S. parent to gross-up the income inclusion from its foreign subsidiaries by the amount of the deemed paid taxes. In this way, the parent reports the same amount of income and foreign taxes as it would have reported if it earned the income directly, rather than through a foreign subsidiary.