Advising International Business Ventures: “Tested Income” under GILTI

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Jason B. Freeman

Jason B. Freeman

Managing Member

214.984.3410
jason@freemanlaw.com

Mr. Freeman is the founding member of Freeman Law, PLLC. He is a dual-credentialed attorney-CPA, author, law professor, and trial attorney.

Mr. Freeman has been named by Chambers & Partners as among the leading tax and litigation attorneys in the United States and to U.S. News and World Report’s Best Lawyers in America list. He is a former recipient of the American Bar Association’s “On the Rise – Top 40 Young Lawyers” in America award. Mr. Freeman was named the “Leading Tax Controversy Litigation Attorney of the Year” for the State of Texas for 2019 and 2020 by AI.

Mr. Freeman has been recognized multiple times by D Magazine , a D Magazine Partner service, as one of the Best Lawyers in Dallas, and as a Super Lawyer by Super Lawyers, a Thomson Reuters service. He has previously been recognized by Super Lawyers as a Top 100 Up-And-Coming Attorney in Texas.

Mr. Freeman currently serves as the chairman of the Texas Society of CPAs (TXCPA). He is a former chairman of the Dallas Society of CPAs (TXCPA-Dallas). Mr. Freeman also served multiple terms as the President of the North Texas chapter of the American Academy of Attorney-CPAs. He has been previously recognized as the Young CPA of the Year in the State of Texas (an award given to only one CPA in the state of Texas under 40).

Advising International Business Ventures: “Tested Income” under GILTI

Freeman Law frequently advises international business ventures.  International operations often give rise to unique (and sometimes unanticipated) compliance obligations and complex reporting requirements. Recent tax reform rules and regulations have imposed a number of new requirements.  The IRS and Treasury Department have elaborated on these new rules through proposed regulations and other guidance.  This post provides a short introduction to the concept of “tested income” under the new GILTI tax regime.

As described in our prior Insight post, Tax Reform’s New GILTI Tax, the new GILTI tax will impact many businesses, particularly those that have a high profit margin compared to their fixed asset base.  For example, service companies, software and other technology companies, distribution companies, and companies that typically realize a significant international return on intangible assets, may be particularly impacted by the Code’s new GILTI provisions.

The Tax Cuts and Jobs Act, Pub. L. 115- 97 (2017) (“the TCJA”) enacted new section 951A, which imposes the new tax on Global Intangible Low-Taxed Income (the “GILTI tax”)—a central part of the new international tax regime.  The TCJA largely shifted the U.S. corporate tax system from a worldwide tax system to a “quasi-territorial” system.  However, like the existing Subpart F regime, the GILTI tax creates an important category of income that is subject to current taxation.

The proposed regulations require that taxpayers annually file a new Form 8992U.S. Shareholder Calculation of Global Intangible Low-Taxed Income, as well as a new Schedule I-1, Information for Global Intangible Low-Taxed Income, with their annual Forms 5471Information Return of U.S. Persons With Respect To Certain Foreign Corporations.

“Tested Income”

The concept of “tested income” plays an important role in calculating GILTI.  For purposes of calculating GILTI, “tested income” is generally defined as the gross income of a CFC, but without regard to certain specifically excluded categories of income.  Tested income is defined at §1.951A-2(b)(1) of the proposed regulations.

The proposed regulations technically define “tested income” as “the excess (if any) of a controlled foreign corporation’s gross tested income for a CFC inclusion year, over the allowable deductions (including taxes) properly allocable to the gross tested income for the CFC inclusion year.”

The term “gross tested income” is defined as the gross income of a controlled foreign corporation for a CFC inclusion year determined without regard to–

(i) Items of income described in section 952(b),

(ii) Gross income taken into account in determining the subpart F income of the corporation,

(iii) Gross income excluded from the foreign base company income (as defined in section 954) or the insurance income (as defined in section 953) of the corporation solely by reason of an election made under section 954(b)(4) and §1.954-1(d)(5),

(iv) Dividends received by the corporation from related persons (as defined in section 954(d)(3)), and

(v) Foreign oil and gas extraction income (as defined in section 907(c)(1)) of the corporation.

The proposed regulations further provide that the allowable deductions that offset the “gross tested income” in order to arrive at “tested income” are determined by applying the rules set forth in regulations under §1.952-2 for determining the subpart F income of a controlled foreign corporation.  Thus, as in other contexts, GILTI is calculated by leveraging the existing regulatory infrastructure related to Subpart F.

 

For more topics related to International tax reform, see other Insights such as: Advising International Business Ventures: Tax Reform’s Section 245A Participation Exemption RegimeAdvising International Business Ventures: Tax Reform’s “Transition” TaxAdvising International Business Ventures: Tax Reform’s New GILTI TaxAdvising International Business Ventures: Controlled Foreign Corporations and Subpart F; and Advising International Business Ventures: Passive Foreign Investment Companies (PFICs).

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