1

367

Thru

1503(d)

Presented by

Edward Umling, CPA, LLM

August 17 – 18, 2009

Policy Overview

Section 367 of the Code, which originated in the

Revenue Act of 1932, is one of several tax

provisions that gave the Service greater

discretion and flexibility in the application of

other Code provisions in order to prevent the

use of those provisions for tax avoidance.

Policy Overview

Section 367(a)(1) provides generally that

transfers of appreciated property by a U.S.

person to a foreign corporation will be currently

taxable to the transferor.

Policy Overview

Section 367 prevents taxpayers from using

various non-recognition provisions to avoid tax

and requires either a payment of tax or in some

cases to enter into gain recognition agreement.

Section 367 does allow tax-free transfers of

certain assets that will be used in the active

conduct of a trade or business.

Policy Overview

Section 367 also contains a ―foreign branch loss

recapture‖ provision. This provision requires

that the US taxpayers to report as taxable

income any prior foreign branch losses that

were deducted when the branch is incorporated

See 1-34

Incorporation of Branch Losses

Example on 1-34

Suppose this Structure

For. Co.

US Hold

Co

See Page 1-35

Transfer of Share Example

For. Co.

US Hold

Co.

Assume Foreign Patent wishes to obtain a

20% interest in the profitable subsidiary in

exchange for a capital contribution

See Page 1-35

Transfer of Share Example

For Co

US Hold Co

Hold Co’s transfer of shares to the

Foreign Parent are taxable at the FMV

See Page 1-35

20%

Reporting Requirements

Form 926

Schedule O on the 5471

Schedule O on the 5472

367 Statements

Module 6 “Foreign Currency”

What is ―Functional Currency‖ Look at Rules in

§985.

Definition ―QBU‖ –A separate and clearly

identifiable unit of a trade or business which has

a separate set of books.

See Page 1-36

§ 985 Functional currency

―functional currency‖ means—

the currency of the economic environment in

which a significant part of such unit's activities

are conducted and which is used by such unit in

keeping its books and records.

See 1-36

Overview of rules

When a taxpayer acquires a non-functional

currency, it acquires an asset with a historical

basis based on the dollar value expended to buy

such currency.

Example: US taxpayer purchase yen to pay a yen

denominated debt. The yen is a non-functional

currency.

Discussion of Rules

A taxpayers functional currency is the key

determinant as to when a taxable event occurs

with regard to foreign exchange provisions.

SEE Page 1-37

NON-FUNCTIONAL CURRENCY IS NOT MONEY.

IT IS PROPERTY WITH A HISTORICAL BASIS.

See 1-37

See 1-37 and 1-38

Example US taxpayer purchases 1,000 shares of

Canadian Company for 1M. (Fx is .95:1)

Subsequently sells when Fx 1:1

What is the gain?

Discussion

Functional currency is defined as the currency of

the economic environment the taxpayer

conducts a significant part of its business

Date of purchase US Co paid $950,000 (1M *.95)

basis is therefore 950K.

Sale is 1.1M when Fx is 1:1

Gain is 150K

Expense Example 1-40

Invoiced 10K yen when Fx is 130:1

US Co books journal entry (10K/1.3) 76,923

Payment date Fx 1.25:1 80,000

(3,077)

Debrief

Taxpayers functional currency is the key

determinate whether a taxable event occurred

Acquisition and dispositions of ―non-functional

currency by a US taxpayer are taxable events

Section 988 treats these gains and losses as

ordinary

Non-functional Currency is not money - it is

property with a historical tax basis

21

Dual Consolidated

Losses

Policy Concerns

Congress was concerned that allowing the dual

consolidated corporation to use the same loss

deduction in two different groups gave an undue

advantage to certain foreign investors that made

U.S. investments through dual resident

corporations

23

What is a Dual Consolidated Loss?

The term “dual consolidated loss” means any net

operating loss incurred in a year in which the

corporation is a dual resident company; AND

in the case of a separate unit, the net loss

attributable to the separate unit

The DCL rules are generally designed to prevent companies

with tax residency in two jurisdictions from using the same

losses to obtain tax benefits in both jurisdictions

I.R.C. 1.1503-1(b)(5)(i)

24

Where do I look to find the tax law on “Dual

Consolidated Losses” (“DCL”)?

I.R.C. 1503(d)

25

A “dual consolidated loss” shall not include

any loss which, under the foreign income

tax law, does not offset the income of any

foreign corporation.

What is NOT considered a Dual Consolidated Loss

I.R.C. 1503(d)(B)

Definition Dual Resident Company

Section 1503(d) – a domestic corporation

subject to tax in a foreign country on either a

world wide basis or ―residence‖ basis

This happens because

A company satisfies a single relations

in both countries simultaneously

Treas. Reg. 1.1503(d)-5(b)(1)

Any NOL incurred in a year in which the

corporation is a DRC.

Determined under U.S. tax principles

NOL C/F and C/B not included

Capital Loss C/F and C/B not included

Simple Example

Loss (90)

Income +100

Definition Dual Resident Company

US Co

LtdUS sub

BVAsp

US Co

LtdUS sub

BVUK

32

Corporation “Double Dip”

UK

US/UK

US

Bank

Third Party

Lender

Interest Expense

included

Interest

Expense

Included

Dual

Resident

Company-

Loss in Both

Jurisdictions

33

Branch “Double Dip”

US

FC

Bank

Third Party

Lender

FC

Interest Expense (100)Income 100

Because of this ability to

use losses in both

jurisdictions in

1988, Congress came up

with the “Separate Unit

loss” concept.

34

New “DCL” Regulations

Regulations designed to accommodate the proliferation of disregarded entity structures and how to treat them under DCL situations

Dual Resident Companies

Separate Units

Important

Concepts

35

USCO FCO

DRP

Net Loss (100)

Change in Regulations for 2007

1992 Regs.

DRP is

Separate Unit

and also a

DCL

2007 Regs

DRP is NOT

a Separate

Unit and NO

DCL

36

USP1 USP2

HE1 HE2

Income 110 Loss (100)

1992

Regs

Separat

e Units

and

DCL

2007

Regs

Combine

into

Single

Separate

Unit with

10 of

income

Separate Unit

Combination Rule

37

Reverse Hybrid Application on New Regulations

An Entity that is subject to tax in the United

States as a corporation and is a flow through for

foreign tax purposes is not subject to 1503(d)

because it is neither:

A Separate Unit of a Domestic Corporation

Dual Resident Company

Separate Unit is either:

•A Foreign Branch

•A Hybrid Entity

38

Illustration of

Domestic Reverse

Hybrid Not Subject to

1503(d)

FP

USCO

US

Debt located

in US

+100

(100)

+100

Interest

Expense

offsets Taxable

income of

Parent

Interest

Expense

offsets

Consolidated

Taxable

income of US

Group

39

Let’s do DCL Accounting

USCO

(200)

Foreign

Branch

+100

USCO

(200)

FDE

+100

USCO Loss is allocated

between US and

Foreign under 864(c)

Only Items on the FDE

ledger is used to

compute DCL

Dual Consolidated Loss

Definition – Section 1503(d) ―dual consolidated

loss‖ any net operating loss of a domestic

corporation incurred in a year in which the

corporation is a ―dual resident corporation‖

Debrief

Dual consolidated loss is any NOL incurred in a

year that a corporation is a DRC

Determined under U.S. tax principles

A ―dual consolidated loss‖ shall not include any

loss which, under the foreign income tax

law, does not offset the income of any foreign

corporation.