Are you aware of the new transition tax stipulations under section 965 of the IRC and how they can affect your filing, reporting and payment requirements? Read on to make sure you haven’t missed out on any crucial information!
An Overview of Section 965 of the Internal Revenue Code (IRC)
The Internal Revenue Service (IRS) released a list of FAQs with regards to the transition tax imposed under section 965 of the Internal Revenue Code (IRC). This information pertains to tax payment obligations and return filing. Section 965 stipulates that shareholders in the United States, as defined in section 951(b) of the IRC, must defray transition tax on any untaxed income from controlled foreign corporations (CFC) and other foreign companies, collectively adhered to as specified foreign corporations (SFCs), as if that income had been repatriated to the United States.
In general, taxpayers are allowed to reduce the inclusion amount while taking into account the deficits in profits and earnings from other specified foreign corporations, as stipulated under section 965 of the Code. As described in section 965(c) of the Code, these income inclusions have their respective applicable tax rates that are adjusted by a participation deduction.
Under section 965(g) 2 Kaplan Professional Education ©2018 Kaplan Professional Education of the Code, the inclusion also takes into consideration a reduced foreign tax credit as a tax relief stipulation. In accordance with section 965(h) of the Code, taxpayers have the option of paying transition tax over an eight-year period in installments.
Q1. Under section 965 of the Code, who is obligated to report amounts on a 2017 tax return?
A shareholder of an S corporation (a closely held corporation, partnership or limited liability company), a person who is a direct United States shareholder belonging to a deferred foreign income company (DFIC), defined under section 965(d) of the Code, a direct or indirect party in a domestic partnership or a beneficiary of a DFIC shareholder must mandatorily report amounts on its 2017 tax return as stipulated in section 965 of the Code.
Q2. Under section 965 of the Code, how must the items relating to amounts on a 2017 tax return be reported?
The nature in which the amounts on a 2017 tax return are to be reported are reflected in this table. The table only addresses the nature in which amounts on a 2017 tax return must be reported. It does not cover reporting on distributions made in 2017 and other such items.
Q3. In connection with section 965, are there any other requirements to report amounts on a 2017 tax return?
Yes. A person who has taxable income under section 965 must provide an IRC 965 Transition Tax Statement that includes the following information:
The total amount of income to be included as per section 965(a) of the Code
Aggregate foreign cash information
Total deduction under Section 965(c)
Deemed paid foreign taxes based on the total amount included in income as per section 965(a)
Disallowed deemed paid foreign taxes as per section 965(g)
Net tax liability as per section 965(h)(6)
The net tax liability that is required to be defrayed in installments as per section 965(h)
A listing of elections made by the taxpayer, if applicable
Q4. Regarding the 2017 tax return, what elections does section 965 make available?
Section 965 allows for multiple elections relating to the amounts to be included in the 2017 tax return. The net tax liability of the taxpayer as per section 965(h)(6), statutory elections as per section 965(h), (i), (m), and (n) and elections relating to post-1986 earnings and profits from an SFC are made available.
Q5. Regarding the 2017 tax return, who is eligible to make an election as per section 965 of the Code?
The following persons are eligible to make an election as per section 965 of the Code:
Taxpayers who have a net tax liability as per section 965(h) of the Code
Taxpayers who have a net tax liability and are shareholders of S corporations as per section 965(i)
Taxpayers who are REITs (Real Estate Investment Trusts) as per section 965(m)
Taxpayers with a NOL (Net Operating Loss) as per section 965(n)
An S corporation that is a DFIC United States shareholder or a domestic partnership are not allowed to make elections as per section 965 of the Code.
Q6. Under section 965 of the Code, when must an election be made?
As per the Code, all elections, (including their extensions) are required to be made by the stipulated due date for filing returns for the financial year. If the net tax liability is paid in installments, the first installment is required to be made by the stipulated due date for filing returns for the financial year.
Q7. Under section 965 of the Code, how must an election on a 2017 tax return be made?
In their 2017 tax return, taxpayers are required to include a statement for each election that must be signed under penalties of perjury. If the taxpayer has filed their tax return electronically, they must attach a PDF for each election.
Q8. Is Form 5471 required to be filed with the 2017 tax return whether or not the foreign corporations are CFCs?
All SFCs (including CFCs) must file a Form 5471 for the duration for which they are a US shareholder. The relevant information must be included in Schedule A and Schedule J of Form 5471.
Q9. What are the reporting requirements for passthrough entities, S corporations, and domestic partnerships?
Passthrough entities, S corporations and domestic partnerships are required by section 965 to report the mandatory inclusion , deductions and other specified information about their beneficiaries, partners and shareholders. These entities are required to provide an explanatory statement detailing the mandatory information. The statement must also outline the footnote information given to partners, disclosed with or on their Schedules K-1s.
The above prerequisites especially pertain to partnerships in real estate fund sectors, private equity and asset management. Section 965 has not clearly specified the reporting requirements for non-US partnerships that are in partnership with US entities and file US tax returns.
Q10. Regarding the 2017 tax returns, how should a taxpayer pay the tax as per section 965?
The answer is twofold. A taxpayer will mandatorily have to incur two separate payments: the first will be with regards to the tax owed as stipulated by Section 965 and the second is tax owed that has no relation to Section 965. No extensions will be permitted on either payment and these must be made by the applicable returns due date.
These payments may be made through money order, check or wire transfer. The section 965 payment in particular cannot be made through EFTPS and will have to be done via a wire transfer, or the taxpayer faces a penalty. The section 965 payment may be subject to the full tax liability or just for the first instalment.
Q11. When should a taxpayer electronically file a 2017 tax return if they haven’t filed it already?
Electronic filing needs to be done on or after April 2018. Those whole file via paper have the freedom to file whenever they like.
Q12. What should a taxpayer who has already filed a 2017 tax return do?
In order to avoid complications relating to interest or penalties that arise in the case of inaccurate reporting, a taxpayer should file an amended return that takes into consideration the information dispersed in the FAQ.
Q13. Under section 965, how will the estimated tax payments and credit elects from 2016 on net tax liability be applied?
The estimated tax payments will be applied by the IRS to the net income liability as specified in section 965(h)(6)(A)(ii) without regard to section 965. The estimated tax payments will then be applied to the net tax liability under section 965. This will also include those amounts that have to be paid in instalments.
Q14. Will the taxpayer receive a refund of excess amounts or have such excess credited to the the following years’ estimated income tax if tax payments exceed net income tax liability?
No. A taxpayer is only entitled to get a refund or have the excess amounts credited to the following years’ estimated income tax if the payments exceed the total unpaid income tax liability of 2017. To be eligible for the refund or credit, the payments must also exceed the instalments to be paid in the subsequent years as per section 965(h).
Understanding the reporting requirements under section 965 are important to ensuring a stress free tax season. Consult with US Tax Law today to receive the right advice on planning, preparation and compliance.