Foreign Tax Redeterminations under § 905(c) and
Other Procedural Issues in Claiming the Foreign Tax Credit
Last Updated January 10, 2015
© 2015 William R. Skinner, Esq.
wrskinner@fenwick.com
Fenwick & West LLP
This publication has been prepared for general guidance on matters of interest only, and
does not constitute professional advice. You should not act upon the information contained
in this publication without obtaining specific professional advice. No representative or
warranty (expressed or implied) is given as to the accuracy or completeness of the
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necessarily those of Fenwick & West LLP.
William R. Skinner is a partner in the Tax Group of Fenwick & West LLP. Mr. Skinner
focuses his practice on U.S. international and corporate taxation, including international tax
planning, tax controversies, Federal tax matters and the taxation of corporate / financial
transactions. Prior to joining Fenwick & West LLP, Mr. Skinner clerked for the Honorable
Carlos T. Bea of the Ninth Circuit Court of Appeals. He teaches international taxation as an
adjunct professor in San Jose State University’s MST program, and speaks and writes frequently
on international tax issues. Mr. Skinner graduated with a J.D., with distinction from Stanford
Law School in 2005, where he was a member of the Stanford Law Review. He received a B.A.
in history in 2001 from the University of California, Berkeley.
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1) The Statute of Limitations for Claiming an FTC – Ruling Developments.
a) There is a longer statute of limitations for claiming a refund of an overpayment
attributable to creditable foreign income taxes. Specifically, Section 6511(d)(3)(A)
provides for a 10-year statute of limitation from the date for filing the return for the year
in which the foreign taxes were actually paid or accrued, with respect to “an overpayment
attributable to any taxes paid or accrued to any foreign country . . . for which credit is
allowed … in accordance with the provisions of section 901 . . . .” This statutory
provision has led to significant interpretive difficulty and controversy. Even in recent
years, several IRS chief counsel advice memoranda have been issued addressing issues
arising under § 6511(d)(3)(A).
b) ILM 201204008 – The ILM addresses two statute of limitations issues arising from an
election to deduct rather than credit FTCs on an amended return under § 1.901-1(d). In
scenario #1, Taxpayer amended its Year 2 return on “Date 5,” to deduct FTCs, which
resulted in a carry-back of an NOL to Year 1 that created a refund. The question was
whether § 6511(d)(2)(A) (three-year NOL carryback statute) or § 6511(d)(3)(A) (10-year
FTC statute) allowed the refund from the election to deduct FTCs.
With respect to this issue, the Service found that the claim was untimely because “Date
5” was more than 3 years from the filing of the return for Year 2 (the source year). The
NOL statute was applicable, but not satisfied in the case.
The IRS found § 6511(d)(3) to be inapplicable because it refers to claims of FTCs that
are “allowed” to the taxpayer, as opposed to “allowable.” In the case of an election to
deduct FTCs, the IRS viewed the FTC as allowable but not actually allowed. This
position would effectively mean that a taxpayer is not permitted to change its election to
credit to deduct FTCs after the expiration of the 3-year statute of limitations. By contrast,
if the taxpayer changed an election to deduct FTCs to an election to credit FTCs, so that
the FTCs were “allowed,” the 10-year statute would continue to apply.
This ILM takes a different approach than the earlier 2011 CCA discussed below. It also
seems to be an unjustifiably cramped reading of Treas. Reg. § 1.901-1(d), which permits
the taxpayer to change its election to deduct or credit FTCs any time within the statute of
limitations prescribed by § 6511(d)(3).
c) CCA 201330031 – this CCA addresses similar FTC statute of limitations issues to the
ILM above, and reaches similar conclusions. The Taxpayer claimed a refund of Year 1
Taxes due to an election, made in Year 17, to deduct rather than credit foreign taxes in
Year 8. This created additional NOLs in Year 8 that, under an extended 5-year carryback
relevant for that year, applied to Year 3, and freed up FTCs for further carryback to Year
1. As with the ILM above, the CCA denied the claim on two grounds: (1) the change in
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election to deduct, rather than credit FTCs is not eligible for the year 10-year statute of
limitations; and (2) the refund caused by the “cascading” carrybacks was not “attributable
to the carryback.” The reasoning of the CCA on this point largely follows that of the
2012 ILM discussed above.
Practical Consideration. If a taxpayer faces a perennial § 904(c) limitation, it may
effectively be forced to deduct its foreign taxes to increase an NOL carryforward rather
than having FTC carryforwards expire unutilized. In this situation, if the IRS’s
interpretation of § 6511(d)(3) is correct, would it be possible to wait until the end of the
10-year period in § 904(c) to change an election to credit foreign income taxes? Or
would this fall outside of the relevant statute of limitations?
d) CCA 201136021 – Taxpayer filed an amended return under § 1.901-1(d) in 2012 to
deduct FTCs in 2003. This created an NOL that carried back to 2000. Then the NOL
carryback eliminated taxable income in 2000 on which FTCs had been claimed, causing
FTCs to carryback and obtain a refund in 1998. The IRS ruled that the claim for refund
attributable to FTCs in 1998 was untimely because filed after the 10-year statute
applicable to 1998 and more than 3 years after the 3-year statute applicable to the 2000
NOL.
The IRS relied on Rev. Rul. 71-533, where 1969 NOLs were carried back to 1966, which
freed up a 1966 FTC to carry back to 1964. The IRS held there that the taxpayer had a
10-year statute from 1966 to claim the refund in 1964, because it looked to the attribute
that proximately carried back to create the refund.
The taxpayer also sought to file a “protective claim” for one of the years, to change back
from electing the deduction to electing the credit, in case the IRS assessed more foreign
source income for the year. However, the CCA did not view this as a valid protective
claim because it was not contingent on future change in law or determination by the
Service.
By contrast, in FAA 20125202F (Mar. 1, 2013), the IRS found a taxpayer’s protective
claim for FTCs, contingent on the final determination of applicable withholding tax by
the foreign authorities. The taxpayer filed amended Forms 1120x explaining the
procedural posture of the foreign tax controversy, that it was challenging the controversy,
and claiming FTC on the event that the foreign authority sustained the FTC. This
amended return stating the protective claim was filed within the 10-year statute described
in § 6511(d)(3). The FAA described the claim as “sufficiently clear and definite to
apprise the Service of the essential nature of the claims, even though it does not state
facts sufficient to establish that the taxpayer is actually entitled to recover an
overpayment.” It cited GCM 38786 and U.S. v. Kales, 314 US 186 (1941), as the
relevant legal authority governing valid protective claims.
Tactically, this FAA illustrates that filing a valid protective claim may be a viable
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alternative for addressing contested taxes in lieu of paying under protest as described in
Rev. Rul. 84-125.
e) FAA 20105001F – In 1997, there was a withholdable payment potentially subject to
foreign withholding tax; taxpayer, however, contested the tax liability. In 2000, the
foreign government assessed the tax, which the taxpayer continued to contest. In 2009,
the taxpayer settled the dispute, which resulted in a payment of foreign tax. The taxpayer
promptly filed a refund claim as to 2000, to treat the additional assessment of
withholding tax as an FTR in that year. The IRS Chief Counsel found the refund claim
untimely. Under the relation-back doctrine of Central Cuba Sugar, the 10-year statute of
limitations began to run in 1997, the foreign taxable year in which the underlying liability
arose.
Note: the FAA’s position on this issue appears to be the position underlying the case in
Albemarle Corp. v. United States. In a recent decision by the US Court of Claims, the
IRS’s position on the statute of limitations was initially upheld. See id., 2014-2 U.S.T.C.
¶50,479.
2) Proving Entitlement to Foreign Tax Credits.
a) Generally, the best evidence of payment of a foreign tax is an original receipt or certified
copy of the receipt showing payment to the foreign tax authority, or the foreign tax return
on which such tax was based. See Treas. Reg. § 1.905-2(a)(2). If this direct evidence is
not available, the IRS may, but is not required to accept, secondary evidence of payment.
See Treas. Reg. § 1.905-2(b). For example, where the foreign tax return is unavailable,
the taxpayer might show the foreign tax paid by means of (1) a certified statement of the
amount claimed to have accrued, (2) excerpts from the taxpayer’s accounts showing the
foreign income and tax accrued thereon in its books, and (3) a computation of the foreign
tax based on the income carried on the taxpayer’s books. See § 1.905-2(b)(2).
b) Receipts from a foreign government showing payment of a tax enjoy the “presumption of
regularity” accorded by common law to acts of government officials. See Riggs National
Corp. & Subs v. Commissioner, 295 F.3d 16, 21 (D.C. Cir. 2002), rev’g T.C. Memo.
2001-12. Although foreign tax receipts are not conclusive proof of payment, the IRS
appears to be limited to challenging the authenticity of the documents issued by the
government. To overcome the “presumption of regularity,” it must adduce “clear and
specific evidence” that the tax receipts are inaccurate representations of the amount of tax
paid. See id.
c) In the case of withholding taxes, the taxpayer is required to produce evidence not only
that the taxes were withheld by the withholding agent, but that the taxes were paid to the
foreign taxing authority. See Continental Illinois Corp. v. Commissioner, 998 F.2d 513
(7th Cir. 1993) (applying these rules in a potentially collusive situation). Under the
regulations, again, the only conclusive evidence that must be accepted by the Service is a
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certified copy of a receipt of payment. In cases where the taxpayer cannot secure this
evidence, it may prove that the taxes were paid through secondary evidence (i.e., a copy
of the check submitted by the borrower to the government). In Continental Illinois,
however, the court rejected the taxpayer’s efforts to substantiate the credit by means of a
naked letter from the borrowers regarding payment.
3) Section 905(c) Redeterminations.
a) Background on § 905(c).
Section 905(c) governs situations in which the amount of foreign taxes claimed as credits
under § 901 or § 902 are subsequently adjusted, increased, or refunded. There is a need
for § 905(c) because of the “relation back doctrine” that is applied to accrual foreign
taxes and the “contested taxes” doctrine.
Unlike other liabilities, a contested tax liability is accrued for the underlying foreign
assessment year, not the year in which the tax is finally determined. See Rev. Rul. 70290, 1970-1 C.B. 160, clarified by Rev. Rul. 84-125, 1984-2 C.B. 125; see also, e.g., IBM
Corp. v. United States, 38 Fed. Cl. 661 (1997). When the liability ultimately is fixed, it
“relates back” to the year of the original assessment and is deemed to arise as a foreign
income tax expense in the original assessment year. Similarly, if a tax that has paid is
refunded, the refund is treated as reducing foreign tax expense in the earlier year. Under
§ 905(c), the amount of the § 901 credit for the earlier year generally must be adjusted up
or down for amended return, rather than giving rise to an adjustment to the § 901 credits
in the current year.
The overall purpose for this rule appears to be sync up the amount of FTC claimed in the
year with the foreign income on which the tax is imposed. This prevents the
mismatching of credits with the § 904 limitation to which the credits relate.
b) Status of § 905(c) Regulations.
In late 2007, § 905(c) regulations were issued in temporary and proposed form. Under
the 3-year sunset rule of § 7805(e)(2), the Temporary Regulations expired in December
2010. However, since the regulations were issued in proposed form, it is appropriate to
continue to rely on the Temporary Regulations. It appears that the IRS will provide
transitional relief to the extent the Final Regulations differ from the current Proposed
Regulations. See CCA 201145015.
c) Rules for Accrual of Foreign Tax as a Liability.
i) To be accrued as a liability, a foreign tax must satisfy the three-pronged test of
§ 461(h): (1) fixed in fact; (2) determinable in amount; and (3) economic performance.
Economic performance of a tax liability generally occurs when the tax is paid.
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However, for foreign taxes that are creditable under § 901, this requirement is waived
and economic performance is deemed to occur in the assessment year to match taxes
with the related § 904 income. See Reg. § 1.461-4(g)(6)(ii)(B).
ii) The contested taxes doctrine determines the year for which the tax accrues, but does not
determine when the tax meets the requirements of § 461. Thus, a contested tax is not
accrued as a creditable tax until it is finally determined. See Rev. Rul. 84-125,
amplifying Rev. Rul. 58-55. However, the U.S. year may be closed to refund under
§ 6511(d)(3) at the time of the final settlement. Rev. Rul. 84-125 allows the taxpayer to
pay the tax under protest, subject to later redetermination under § 905(c) if the refund
claim succeeds.
iii) Generally, the accrual date is the end of the foreign taxable period in which the relevant
income is computed. (Until the end of that year, the existence of a tax liability is
uncertain). See A.M. 2008-005 (citing Rev. Rul. 61-93). This is the case if no further
event after the close of the foreign computation year could remove the liability. See
Universal Winding Co. v. Commissioner, 39 BTA 962 (1939). In some cases, where
the assessment is delayed from the income year, and depends, e.g., on the foreign
corporation remaining in business in the assessment year, the IRS has ruled that the
taxes do not accrue until the end of the later assessment year. See Rev. Rul. 76-39.
The IRS recently applied this year-of-accrual rule in ECC 201438027. Taxpayer was
an individual US citizen resident in Hong Kong with a taxable year ending March 31
for HK tax purposes that had elected to take into account foreign income taxes on the
accrual basis. HK taxes imposed on the exercise of stock options in the post-March 31
part of Year 1 arose in the Taxpayer’s Calendar year 2 US tax return.
iv) The accrual of foreign taxes on the foreign year end can create difficulties in cases
where the foreign year end differs from the U.S. year-end:
(1) Section 338 election. Foreign T’s year is deemed to close. For FTC purposes,
T’s taxes for the year of the election are allocated under Reg. § 1.1502-76(b)
between the two short periods. See Reg. § 1.338-9(d).
(2) Incorporation or sale of a DRE / Hybrid Entity. Treas. Reg. § 1.901-2(f)(4) (Feb.
2012) prevents the separation of income from credits in cases where a hybrid
entity undergoes a midyear change of ownership, such as a sale, disposition or
other similar event. The new Regulation prorates taxes in that case under
principles of Reg. § 1.1502-76(b).
(3) Section 898. If the CFC does not conform to the US shareholder’s year for
foreign tax purposes, or its 1-month deferral election year under § 898, then the
CFC’s US year will not include its foreign year. Prop. Reg. § 1.898-4(c)(2)
provides rules to compute income and E&P across the short years. However, it
does not address foreign tax accruals. Chief Counsel Advice 03681 ruled that
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subpart F income in an § 898 year would not include foreign taxes associated with
the same income accruing in the later foreign year. The CCA viewed the IRS and
Treasury as concluding it lacked authority under § 898 to pro rate taxes in this
case.
v) Cash v. Accrual Method.
(1) Under § 905(a), an individual or other cash method taxpayer may elect to take
into account taxes when they are accrued irrespective of its normal method of
accounting.
(2) Under the cash method of accounting, taxes are claimed as FTCs in the year of
payment. In the case of disputed taxes that relate to multiple foreign taxable
years, taking into account the foreign income taxes entirely in the year of payment
can lead to mismatching issues. In CCA 201016062, the IRS stated that the
“relation back doctrine” of § 905(c) and Central Cuba Sugar, infra., did not apply
to a cash method taxpayer. The result of the approach in the CCA was to cause
taxes to be bunched in the year of payment, even if this year was many years later
from the year in which the underlying income was taken into account for US tax
purposes. In the CCA, the IRS interpreted Section 905(c) not to provide relief
from this mismatching issue in the case of a cash-method taxpayer. See also
Strong v. Willicuts, 36-1 USTC ¶9032 (D. Minn. 1936); United States v. Rogers,
122 F.2d 485 (9th Cir. 1942).
d) Events Constituting Foreign Tax Redeterminations.
i) Taxes, when paid, differ from taxes accrued.
ii) Accrued taxes are not paid within two years of the end of the year to which the tax
relates.
(1) If the taxes accrued are not paid within this two year period, the foreign tax is
redetermined to eliminate any accrued, but unpaid, tax.
(2) Subsequent payments of the tax that was eliminated under this rule are treated as
additional redeterminations of the tax. In the case of a § 901 credit, the
redetermination is made with respect to the year to which the tax originally
relates. If the tax was paid by a CFC claiming § 902 or § 960 credits, then the
subsequent payment is treated as an additional foreign tax in the year of the tax
payment and a prospective pooling adjustment. § 905(c)(2)(B)(ii). This
exception turns off the relation back doctrine for § 902 redeterminations.
(3) Special currency translation rules are applicable to additional taxes covered by the
two-year rule.
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iii) Taxes paid are refunded by the foreign tax authority.
There is no specific definition of a “refund” for § 905(c) purposes. Should this be
determined on a cash basis, as soon as a cash refund of taxes is paid? For example, if
the taxpayer receives a refund from the foreign government pending review of the
taxpayer’s claim, does the payment trigger a § 905(c) event? If so, then the addition to
foreign taxes paid may come too late for the taxpayer to file a timely claim under
§ 6511(d)(3), or may adverse impacts under the “pooling” adjustment rules for § 902
credits. In one pending case, the Tax Court may be asked to consider this issue where
the government issued a tentative refund pending an audit determination of the
underlying issues.1
The regulations define a “foreign tax redetermination” as a “change in the foreign tax
liability that may affect the amount of a taxpayer’s foreign tax credit.” Reg. § 1.9053T(c). This language seems to contemplate that there will be an adjustment under
foreign law to the underlying foreign tax liability. On the other hand, in Rev. Rul. 80231, the IRS ruling seems to conclude that § 905(c) also applies to an event that causes
a portion of a claimed foreign tax credit to be deemed a non-creditable voluntary
payment for U.S. tax purposes.
The regulations also provide that currency-related adjustments of less than the lesser of
2% of the foreign taxes or $10,000 are not taken into account under this rule.
e) Consequences of a redetermination.
i) U.S. taxpayer’s direct credits. The redetermination of a domestic taxpayer’s foreign
taxes that have been credited under § 901 generally results in an adjustment to the U.S.
taxpayer’s liability for the year in which the foreign tax credits affected by the
redetermination were originally claimed. The U.S. taxpayer must report the
redetermination of the liability on pursuant to the reporting rules set out in Temp.
Treas. Reg. § 1.905-4T(b). The one exception for redetermination of a U.S. taxpayer’s
direct tax credits is where the redetermination results solely from a difference between
exchange rates between the date when the taxes were accrued and the date when the
taxes were paid and where the total adjustment is less than the lesser of $10,000 or 2%
of the total taxes credited from that foreign country in the year.
ii) Where a redetermination is required by § 905(c), the statute of limitations on assessing
a deficiency resulting from the redetermination remains open until the taxpayer reports
the redetermination. See Pacific Metals Co. v. Commissioner, 1 T.C. 1028 (1943).Once
the IRS receives notice of the re-determination, the statute requires payment “on notice
and demand by the Secretary.” § 905(c)(3).
1
See Sotiropoulos v. Commissioner, 142 T.C. No. 15 (2014) (initial procedural ruling on a § 905(c) issue that raises
this issue).
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iii) Scope of the Reopening of the Statute of Limitations. It has been stated that the
extended statute of limitations under § 905(c)(3) only permits the IRS additional time to
assess deficiencies that are “caused by factors which are not ascertainable either at the
time of the computation of the credit originally claimed or within the period of
limitations provided by section 6501(a) of the Code.” Rev. Rul. 72-525, 1972-2 C.B.
443, which follows Texas Co (Carribean) Ltd. v. Commissioner, 12 T.C. 925 (1949).
Thus, these authorities held that a computational error in the FTC calculation could not
be adjusted by the IRS under the extended statute of limitations granted by § 905(c), to
the extent that the facts underlying the calculation were evident on the return as filed.
However, the question remains as to how broadly the effect of § 905(c) extends to
allow the IRS to make other changes after the statute of limitations has closed on the
original year. A number of rulings and authorities touch on the ancillary or spillover
effects of § 905(c) redeterminations:
(1) Rev. Rul. 83-80, 1983-1 C.B. 130 - In the ruling, the CFC’s foreign tax was
increased as a result of disallowing a deduction claimed for foreign tax purposes.
When, after the 3-year statute of limitations, the parent claimed a refund resulting
from the additional foreign tax, the Service argued that it was permitted to offset
the refund with an adjustment to the CFC’s E&P conforming to the foreign tax
authority's underlying adjustment (disallowing the deduction).
The ruling cites § 905(c) as re-opening the statute of limitations for this purpose.
The ruling distinguished Rev. Rul. 72-525, where the IRS stated that “additional
assessments permitted under section 905(c) of the Code are limited to adjustments
of foreign tax credits caused by factors which are not ascertainable either at the
time of the computation of the credit originally claimed or within the period of
limitations provided by section 6501(a) of the Code.”
In the alternative, the IRS cited Lewis v. Reynolds as an authority for the Service’s
power to make an offsetting E&P adjustment as a defense to the refund allowed
under § 905(c). See also PLR 8646009 (also asserting a Lewis v. Reynolds theory
in another § 905(c) case).
(2) TAM 9817001 – refunded taxes had been claimed as a deduction in computing
subpart F income in the prior year under § 954(b)(5). The IRS ruled that refund
of the tax, therefore, required recapture of the reduction in subpart F income. On
the facts of the TAM, the IRS suggested that re-characterization of current-year
E&P, rather than an amendment to prior year returns, might be appropriate. This
TAM is discussed further below.
(3) Rev. Rul. 71-454, obsoleted by Rev. Rul. 2003-99 – holding that the taxpayer
should re-do its prior year § 963 minimum distribution calculation to reflect the
reduction of foreign taxes affecting the prior year involving the calculation.
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(4) Reg. §§ 1.904-4(c)(6) and 1.904-4(c)(7) - Coordination with the High-Taxed
Exception – Reg. § 1.904-4(c)(6) provides rules for increases in foreign income
taxes through foreign tax redeterminations. Generally, the high-taxed exception
to subpart F is calculated once and for all in the year of the inclusion, see Reg.
§ 1.904-4(c)(6)(i). Thus, additional taxes withheld on a distribution of PTI would
not cause otherwise low-taxed income to qualify for the exception. Similarly,
subsequent reductions in foreign tax do not cause an item to fall out of the hightaxed exception.
The § 1.904-4 regulations provide an exception for reductions in tax that are
attributable to the distribution of PTI. In this limited case, the high-tax kick out
calculation is recalculated to reflect the § 905(c) adjustment to the prior year tax.
Special rules are provided to allocate increases of foreign tax in this situation,
which override the more normally applicable rules of § 1.904-6.2
(5) Analogous authority – Rev. Rul. 77-79. Taxpayer calculated its percentage
depletion allowance taking into account certain state severance taxes. It was
audited by the state and paid additional taxes under protest, which it deducted in
the year of payment under § 461(f). The allocation of the taxes to its taxable
income from the property caused its depletion allowance to be limited under
§ 613(a).
Subsequently, the taxes were refunded and the taxpayer included an item in
income under § 111 (Tax Benefit Rule). In calculating the amount included in
income under the § 111 regulations, the taxpayer was entitled to reduce the
$1,500 refund by the $500 that would have been excluded through additional
depletion in the original year had the taxes not been originally paid.
iv) Special rules
(1) Tolling of interest. Where the redetermination results in an increase in U.S. tax
liability, U.S. underpayment interest is limited to the foreign overpayment rate on
the refund for the period up to the date on which the foreign refund is paid.
§ 905(c)(5).
(2) Foreign tax on a foreign refund. If the foreign country imposes tax on a refund of
taxes paid, then the tax is treated as an offset to the amount of the redetermination
under § 905(c), rather than as a separate creditable tax. See Temp. Treas. Reg.
§ 1.905-3T(e).
(3) Availability of Deficiency Procedures. As noted above, when the taxpayer
notifies the secretary of a redetermination, the IRS may assess the amounts due
2
See Reg. § 1.904-4(c)(6)(iii).
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under “notice and demand.” Absent a § 905(c) notice, the IRS may seek to
collect a deficiency attributable to reversal of FTCs through normal deficiency
procedures. That is, the IRS is not obligated to await the taxpayer’s § 905(c)
notice before collecting the additional tax due.3 Use of deficiency procedures,
however, may affect the Service’s ability to assert accuracy-related penalties.
v) Reporting the Re-determination.
The taxpayer generally must report each redetermination separately on an amended
return, with new Form 1116 / Form 1118, and a statement under penalties of perjury
with the information required by Temp. Treas. Reg. § 1.905-4T(c). If the
redetermination increases the U.S. taxpayer’s liability, the filing must be made by the
due date (with extensions) for the original return for the year in which the
redetermination occurs. However, the status of the statute of limitations for the original
credit year does not limit the taxpayer’s requirement to report under § 905(c).
If the redetermination reduces U.S. tax liability, it may be reported at any time within
the 10-year statute of limitations for seeking a refund under § 6511(d)(3)(A). The 10year statute on seeking a refund for additional taxes paid may limit the claim for refund
at a certain point. See § 6511(d)(3).
Generally, if foreign taxes are re-determined multiple times for a single year, multiple
amended returns must be filed reporting the re-determinations. However, multiple
redeterminations as to a single taxable year that occur within two years may be
combined on a single statement if that would be timely reporting of both
redeterminations. See Temp. Treas. Reg. § 1.905-4T(b)(1)(vi) (providing example of
filing requirements and timing).
Finally, special procedures apply for reporting a redetermination affecting a year that is
under examination by the LMSB. Id., § 1.905-4T(b)(3). In this case, the Taxpayer
must notify its examiner, generally within 120 days of the latest of the (1) foreign event
triggering § 905(c), (2) the opening exam conference, or (3) the opening letter for the
Exam. However, if the event occurs more than 180 days after the later of the opening
conference or opening letter, then notification of Exam in lieu of filing an amended
return is optional for the taxpayer; also, the Examiner may require the taxpayer to file
an amended return under the normal procedures instead.
If there is only a pooling adjustment, then the taxpayer must reflect the § 905(c) event
on a Form 1118 filed by the due date of the first return for which the § 905(c) event
affects the § 902 / § 960 credit. If no retroactive adjustment is made, this would
typically involve the current year.
3
See Sotiropoulos v. Commissioner, 142 T.C. No. 15 (2014) & cases cited at id., p. 15, n. 5.
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Section 904(c) carryovers. Where the redetermination has no effect on the U.S.
taxpayer’s liability for a prior year due to carryover of unused foreign tax credits under
§ 904(c), the taxpayer may file an information statement adjusting the § 904(c)
carryover credits with its original return for the year of the redetermination in lieu of
amending the earlier affected years.
Penalties for failure to comply with reporting requirements. If the taxpayer fails to
report an FTC redetermination in a timely manner, § 6689 prescribes a penalty equal to
5% of the deficiency for each month (or part of a month) that the report is late. The
maximum penalty is 25% of the deficiency. There is an exception for failures due to
reasonable cause and not wilful neglect. See Temp. Treas. Reg. § 301.6689-1T(d).
f) Adjustments to Post-’86 Tax and E&P pools.
i) If the redetermination occurs at the CFC level, the general rule is that no U.S. level
redetermination is required, and instead the CFC’s pools of E&P and taxes are adjusted
prospectively to reflect the increase or decrease in the CFC’s taxes. Absent one of the
triggering events below, there is no immediate effect on the U.S. shareholder. Rather,
the increased or decreased amount of foreign taxes affects the rate on future
distributions out of the CFC.
ii) The following examples illustrates how pooling adjustments occur:
(1) Temp. Treas. Reg. § 1.905-3T(d)(2), Ex. 2. In 2008, CFC had general post-1986
undistributed earnings of 200u and $160u of related foreign taxes. In 2008, CFC
distributed 50u to its US shareholder. In 2009, CFC received a 5u foreign tax
refund. Since this amount is not subject to a triggering rule, the CFC’s 2009
pools are adjusted to 155u of E&P and 35u of remaining foreign taxes. When P
receives a distribution in 2009, the amount of deemed-paid foreign taxes takes
into account the FTC redetermination.
iii) As noted above, the pooling adjustment to taxes also results in a corresponding
adjustment to E&P. The corresponding adjustment has the same § 904 and subpart F
character as the original allocation of tax expense. See Reg. § 1.905-3T(b)(4).
iv) A foreign tax redetermination that requires only an adjustment to the CFC’s E&P and
tax pools on an adjusted Form 1118 that must be reported in the first year it is relevant
to the U.S. taxpayer’s computation of § 902 credits. See Reg. 1.905-4T(b)(2). This
typically would be the year of the redetermination.
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g) Triggering events with respect to a redetermination of a CFC’s foreign taxes.
A U.S. shareholder is required to re-determine its U.S. tax liability to reflect a CFC-level
redetermination in any one of the following four circumstances:
(1) The foreign tax liability being re-determined is denominated in a hyperinflationary currency.
(2) The redetermination reduces the U.S. shareholder’s deemed paid tax credits by
10% or more with respect to a distribution or subpart F inclusion in any prior year
from the original assessment year through the present.
Temp. Treas. Reg. § 1.905-3T(d)(3)(iii) Example 1:
(i) At the beginning of 2008, CFC had E&P of 500u and taxes of $200 in the
general basket.
(ii) During the year, at an average exchange rate of $1:1u, CFC earned 500u
of E&P and accrued 100u ($100) of additional foreign taxes in the general
basket. CFC’s cumulative totals at the end of 2008 were 1,000u of E&P
and $300 of taxes, respectively.
(iii) During 2008, CFC distributed 100u. USP is deemed to pay $30 in foreign
taxes.
(iv) In 2009, CFC makes payment of its 2008 taxes in the amount of 80u. This
corrects the overaccrual of 20u in taxes. This is a redetermination that
reduces CFC’s 2008 taxes by $20. (Note: per Temp. Treas. Reg. § 1.9053T(b)(3), the correction of the overaccrual is translated at the 2008
exchange rate).
(v) § 905(c) reduction calculation: If 2008 taxes had been only 80u, the tax
pool in 2008 would have been $280. This would have resulted in deemed
paid credits of $28. The reduction in 902 credits ($2) is less than 10% of
the amount of credits originally claimed ($30). Therefore, no triggering
event has occurred.
(vi) As a result, as of 2009, CFC’s taxes are decreased by $20 from $270 to
$250. CFC’s remaining general basket E&P are increased by 20u from
900u to 920u.
(3) In the case of multiple redeterminations, the effect of the redeterminations is
rolled forward cumulatively to determine whether a triggering event has occurred,
as illustrated by the following example:
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Consider Reg. § 1.905-3T(d)(2), Example 2:
(i) In 2009, when the exchange rate is 1.5u:$1, CFC earns general basket
E&P of 350u and accrues taxes of 150u ($100). Therefore, at end of the
2009, its cumulative totals are 1,270u and $350.
(ii) In 2009, CFC distributes 100u. This distribution carries a deemed paid
credit of $27.55. This reduced its E&P to 1,170u and its tax pool to
$322.45.
(iii)In 2010, the CFC lost 500u in the general basket and paid no foreign tax.
Its closing balances were, therefore, 670u and $322.45 of E&P and taxes,
respectively.
(iv) In 2011, the carry-back of the loss for foreign purposes triggers a refund of
2008 taxes of 80u. This is analyzed in the following manner:
1. In 2008, E&P would have been increased by 80u to a total of 1,100u.
This is equal to 500u opening balance + 500u current E&P as
originally calculated + 20u corrected overaccrual + 80u carryback
refund.
2. Foreign taxes available for credit in 2008 would have been reduced to
$200. This is equal to the opening balance in the tax pool in 2008,
since, as finally determined, there were no 2009 taxes.
3. The dividend in 2008 would have carried 902 credits of only $18.18
(100u/1,100u x $200), instead of $30. This $11.82 cumulative
reduction is more than 10% of the amount of 902 credits originally
claimed ($30). Therefore, the U.S. shareholder must file an amended
return and § 905(c) notice for 2008 to report a reduction in § 902
credits of $11.82.
4. The CFC’s E&P and tax pools for 2008 are correspondingly adjusted
for the refund.
5. The effect on 2009 also must be analyzed. Had the redetermination
occurred and the 2008 distribution carried $18.18 of foreign tax
credits, the CFC’s E&P and tax pools in 2009 (after including current
E&P and taxes) would have been 1,350u and $281.82, respectively.
6. Had the taxes for 2009 been so affected, the 2009 distribution of 100u
would have carried deemed paid taxes of $20.87, rather than $27.55.
Since the resulting difference is greater than a 10% reduction, 2009 tax
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liability must also be re-determined.
(b) Note that the IRS’s position is that 10% reduction rule only goes one way—
i.e., it only applies if the redetermination would net an underpayment of U.S.
tax.
In PLR 200127011, the IRS addressed a case where a CFC (Corp B) paid
additional taxes in year X relating back to Years 2 -5. In years 2 – 5, the
CFC’s U.S. shareholder had included all of the CFC’s income under subpart F
and claimed all of the credits under § 960. After year 5, the CFC liquidated
into the U.S. group as a result of a Form 8832 election.
Generally, an increase to foreign taxes paid would be reflected as a pooling
adjustment, rather than as additional § 960 credits in years 2 – 5. However,
the pools no longer existed, since Corp B was now a branch of the U.S.
parent. To avoid the FTCs disappearing, the IRS allowed the taxpayer to
make an adjustment to the pools of post-86 E&P and taxes in Years 1 – 5 for
purposes of calculating the § 960 credit in those years.
See also FSA 200035019 (seeming to require that an increase to a CFC’s
foreign tax be treated as a forward pooling adjustment, rather than a correction
to the § 902 / § 960 credit in the prior year).
(4) The redetermination of taxes deemed paid would create a deficit in a foreign
corporation’s tax pools. This rule is essentially the same as the rule concerning
upper-tier and lower-tier CFCs discussed above. A deficit in a foreign tax pool is
untenable and must be immediately corrected.
(a) Temp. Treas. Reg. § 1.905-3T(d)(2), Ex. 3. This example illustrates the effect
of redetermination when earnings and taxes are distributed to a higher-tier
CFC. Both examples assume that a lower-tier CFC (CFC2) distributes
earnings to a higher-tier CFC (CFC1). CFC2 then receives a refund of the
distributed taxes.
(i) Situation 1. The refund is small enough that it does not cause CFC2’s tax
pool to go negative after making the redetermination. Thus, CFC2 adjusts
its pools to take into account the redetermination and there is no effect on
CFC1.
(ii) Situation 2. The refund is large enough that it causes CFC2’s remaining
tax pool (after distribution to CFC1) to become negative. Since this
situation cannot be maintained, CFC1 must also make an adjustment to its
E&P and tax pools.
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Specifically, the regulations redetermine CFC1’s tax pools to reflect the
amount of credits that would have been deemed paid by CFC1 if CFC2
had never paid the refunded tax. This amount of foreign taxes is removed
from CFC1’s pools. There is no effect on CFC1’s earnings pool (since the
redetermination does not affect the amount of CFC1’s dividend.
(iii)CFC2 must adjust its earnings pool to reflect the full amount of the
increase due to the refund. CFC2’s tax pools are decreased solely by the
amount of tax refund not already allocated to CFC1.
(5) Redetermination is triggered by distribution of PTI. If corporate tax is refunded
on a distribution by the CFC, and the distribution is made out of PTI, then the
U.S. shareholder must re-determine its U.S. tax liability.
h) § 905(c) Issues in the Acquisition Context.
i) Where a U.S. taxpayer sells a CFC and claims an § 902 indirect credit on an actual or
deemed § 1248 dividend, the subsequent redetermination of that CFC’s foreign taxes
may impact the parties’ foreign tax credit in surprising ways. For example, the Buyer
may receive a refund of foreign income taxes deemed paid by the seller under § 902
and § 1248 and taxes that seller is obligated to indemnify under the purchase
agreement.4 Conversely, the buyer of a foreign disregarded entity may be assessed
additional foreign income taxes that may relate back to a pre-closing period and, under
§ 905(c), may be properly claimed only by the Seller. Without explicit contractual
language addressing the allocation of the benefit or cost of the § 905(c) impact, the
statutory regime may lead to the inequitable results.
ii) Namely, the acquisition agreement likely will require US Seller to indemnify buyer for
CFC’s pre-closing taxes. US Seller may also be entitled to any refund of CFC’s preclosing taxes received in a post-closing period. However, to the extent the § 905(c)
regulations require an increase to foreign tax credits to be accounted for as a pooling
adjustment, effectively, any indemnified foreign income taxes funded by the Seller
would inure to the Buyer’s benefit. Correspondingly, a refund of pre-closing taxes may
contractually be paid over to the Seller as a purchase price adjustment, even though the
§ 905(c) impact is a reduction of the CFC’s tax pools that depletes a tax attribute of the
buyer. Can proper drafting of the tax provisions of an acquisition agreement, with an
eye on § 905(c), avoid these issues?
iii) In the case of a foreign disregarded entity, section 905(c) may apply to require a seller
to re-determine its foreign income taxes due to an event occurring many years postclosing. The application of § 905(c) here obviously causes administration and
4
See, e.g., Steel Improvement and Forge Company v. Commissioner, 36 T.C. 265 (1959) (refund of foreign
subsidiary’s taxes received by Buyer required Seller’s foreign tax credit to be reduced).
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information sharing concerns.
i) Foreign Taxes paid by pass-through entities. A recent NYSBA report highlights
interesting § 905(c) issues in the context of a RIC that elects to pass-through foreign
taxes paid to its shareholders under § 853.5 Where the foreign tax later is refunded, how
does the RIC match up the reduction in FTCs with the shareholders who claimed the
FTCs, given that its shares may have turned over? To avoid these practical issues,
NYSBA recommends treating the refund as a current year reduction to foreign taxes paid,
borne by the current shareholders of the RIC. If the RIC’s foreign taxes would be driven
negative by a refund, it would be carry forward the negative FTC amount to later taxable
years.
The same basic problem could arise in the context of a partnership or S corporation,
where the members’ interests change in the intervening period between the original
payment date and the subsequent redetermination.
j) Currency translation rules.
i) General rule. Translate foreign taxes, and any adjustments thereto, at the average
exchange rate for the year to which the foreign taxes relate. § 986(a)(1)(A). Thus,
payments of foreign tax are generally translated at the average exchange rate for the
assessment of year. The payment, therefore, does not cause a change in Foreign Tax
that must be reported under § 905(c).
(1) Exception – two-year rule. If foreign taxes are not paid within two years of the
end of the assessment year, they must be reversed under § 905(c) until paid. The
payment of the taxes then becomes a new foreign tax redetermination that is
translated at the spot rate on the date of payment. See § 986(a)(1)(B)(i) &
§ 986(a)(2).
(2) Exception – estimated tax payments. Estimated tax payments made before the
beginning of the foreign tax year to which they relate are translated at the spot
rate on the date of payment. See § 986(a)(1)(B)(ii). In this case, the actual
accrual of liability will give rise to an adjustment to foreign tax under § 905(c) to
the extent exchange rates differ. This may fall into the de minimis rule for direct
credits, or may be treated as a pooling adjustment at a CFC level.
(3) Exception – Spot Rate Election (§ 986(a)(1)(D)). For years after 2004, the
taxpayer may elect to make a one time election to translate all foreign income
taxes into dollars at the spot rate on the date of payment. See § 1.9053T(b)(1)(ii)(D). The election may apply to all foreign income taxes of the
taxpayer, or only for foreign taxes attributable to QBUs with a dollar functional
5
See NYSBA Report, dated Feb. 27, 2013.
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currency. The election is binding and may be revoked only with consent of the
Commissioner.
(a) The election can be beneficial to tie withholding taxes on royalties, dividends,
etc. paid to the U.S. taxpayer to the rate on which the dividend, royalty, etc., is
translated into dollars. This sort of use of the election would be limited to
“the dollar QBUs only” approach.
(b) The election can also be made more broadly to all § 901 and § 902 credits.
However, since a non-dollar QBU’s profit and loss is translated at the average
exchange rate for the year under § 987, it typically would be better to use the
default rule that translates the QBU’s taxes at the same average exchange rate.
ii) Translation of Refunds (§ 1.905-3T(b)(3)). Refunds of foreign tax are translated at the
exchange rate for the year to which the refunds relate (including deemed refunds as a
result of the two-year rule). Thus, a refund received many years after the fact will be
translated at the exchange rate of the original assessment year. This rate may be far
different from the exchange rate in the current year. E&P is also adjusted at the same
exchange rate.
iii) § 988 consequences of receiving / disposing of the refunded units of currency (§ 1.9053T(b)(5)).
(1) If the tax is denominated in a non-functional currency, then the units of refunded
currency take a tax basis equal to their translated value under the rules above.
Thus, the refunded units have a built-in currency gain or loss under § 988. This
gain or loss would typically be recognized as the units are disposed of – reversing
some of the currency effects of receiving a refund at a non-market exchange rate.
(2) Query whether the business needs exception should apply to the § 988 gain or loss
on the refunded units of currency.
k) Reg. 1.905-5T – Redeterminations with respect to Pre-Pooling Years.
i) The 2007 Temporary Regulations also include grandfathering provisions for foreign tax
redeterminations affecting years before a foreign corporation became subject to the
pooling rules (see § 902(c)(6)). Reg. § 1.905-5T(a) states that these rules apply with
respect to redeterminations occurring before Jan. 1, 1987 or redeterminations with
respect foreign tax deemed paid under § 902 or § 960 with respect to pre-1987 E&P.
Generally, the 2007 Temporary Regulations apply the rules of pre-1986 § 905(c) to
such redeterminations:
(1) Foreign taxes paid in a foreign currency are translated into US dollars at the spot
rate of payment (in the case of a § 901 credit) or at the spot rate on the date of
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distribution of earnings (in the case of a § 902 credit). See Reg. § 1.905-3T(b).
(2) An adjustment to foreign income taxes deemed paid by the U.S. shareholder in a
CFC triggers a redetermination of US tax liability of the shareholder under § 902,
rather than being accounted for through a pooling adjustment. See Reg. § 1.9055T(c).
ii) ILM 201444039 (May 28, 2014).
(1) Facts. Foreign Parent was the owner of a Foreign Group under FC1 and a US
group under US Parent. FC1 owned FC3 and FC4. In 2008, FP transferred
ownership of FC1 under USP. FC1 and its subs, FC3 and FC4, therefore became
CFCs and pooling corporations beginning on January 1, 2009. In 2010, USP
included income from FC4 under § 956 due to factoring of certain US group
receivables. See § 956(c)(3). Further, FC4 settled a series of foreign audits,
resulting in additional tax payments with respect to the 1994 to 2008 taxable
years.
(2) Analysis. The ruling considered whether FC4’s additional tax payments were to
be accounted for as adjustments to the post-1986 tax pool and E&P pool or as
adjustments to the relevant pre-1987 annual layers. The IRS interpreted § 1.9055T and § 902(c)(6)(A) to apply to redeterminations of foreign taxes paid by the
CFC with respect to pre-1987 taxable years. Accordingly, the additional taxes
were allocated to FC4’s pre-1987 taxable years and could only be claimed as a
deemed paid credit if and when FC4 distributed all of its post-1986 earnings. The
IRS’s interpretation seems to have been largely policy driven. For example, the
IRS cited HH Robertson v. Commissioner, 59 T.C. 53, 78-79 (1972) for the view
that, under the pre-1987 indirect credit rules, taxes must be matched with the
related accumulated profits on which they are imposed.
(3) By contrast, the text of Reg. § 1.905-5T(a) would seem to apply only where there
is a redetermination of a deemed paid credit claimed by the US shareholder with
respect to pre-1987 E&P, not an adjustment to taxes imposed on earnings in such
a layer. Also, Section 902(c)(6)(A) only refers to “this section,” i.e., § 902, as
incorporating the pre-1987 rules for pre-1987 E&P. There is no comparable
indication in the text of § 905(c) that Congress wanted the former version of
§ 905(c) to be applied in lieu of the pooling rules that it adopted in 1997 Tax
Reform Act.
iii) ILM 201441015 (June 23, 2014).
(1) Summary. This chief counsel advice is the latter of two rulings on the application
of Reg. § 1.905-5T to redeterminations of taxes paid by a CFC with respect to its
pre-pooling taxable years. As in the prior ruling, the IRS analysis was that the
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redetermined taxes were required to be added to the relevant pre-1987 annual
layers, rather than being treated as pooling adjustments. Again, the IRS analysis
seems to have been heavily influenced by policy considerations.
(2) Facts. The fact pattern involved a US taxpayer that made a creeping acquisition
of a Country X group of CFCs in 2001 and 2002 (X CFC3). In 2007, the Country
X group settled a foreign tax audit, which resulted in the payment of additional
Country X taxes for the 1994-2001 years. Some of these additional taxes were
paid by lower-tier subsidiaries of X CFC3 which were below the 4th tier.
Subsequently, as part of a restructuring in 2010, the other members of the Country
X group made check-the-box liquidations into X CFC3 that were treated as § 381
transactions. X CFC3 then filed a check-the-box election and was deemed
liquidate into its US and CFC owners in a § 331 liquidation. The § 1248 amount
did not include any pre-1987 profits of the CFC.
(3) Analysis. Based on the same reasoning as the earlier ILM cited above, the IRS
ruled that the re-determined taxes arose in, and were allocable to, pre-1987 annual
layers of CFC3. Since the pre-1987 E&P were eliminated in the § 331 liquidation
and not included in the § 1248 amount, the related taxes were eliminated in the
IRS’s view. Also, the IRS ruled that taxes paid by 4th tier and lower Country X
subsidiaries for years when they were not CFCs were tainted as non-creditable
taxes because paid by such corporations with respect to taxable years when they
were outside of the qualified group. Again, the analysis related back the tax
payment to the period before the foreign corporation was covered by the post1986 pooling rules.
(4) One related fact pattern not addressed by the ILMs is the treatment of a payment
of a contested foreign tax after a CFC has checked the box. In other words, how
would § 905(c) have applied if X CFC3 had paid the relevant foreign tax after
having been converted to a partnership for US tax purposes?
l) Other Notable Private Rulings Applying § 905(c).
i) TAM 9817001 (Sept. 30, 1997) (issues #3 and 4).
(1) Simplified facts of TAM. The TAM concerns the application of the U.K.
Advance Corporation Tax (“ACT”) rules. In the TAM, UK Holding (Parent)
surrendered a Year 2 ACT refund to UK Sub 1. UK Sub 1, in part, used this
refund to reduce its Year 2 corporate tax liability. It also carried back the
surrendered ACT refund to obtain a refund, in part, of its Year 1 corporation
taxes. Issue #3 of the TAM concludes that this was properly treated as a § 905(c)
redetermination with respect to UK Sub 1’s Year 1 foreign taxes. Under the
former § 905(c) regulations, this was treated as an adjustment to UK Sub 1’s E&P
and tax pools.
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(2) Analysis. In Year 1, UK Sub 1’s foreign tax liability was allocated as a deduction
against UK Sub 1’s gross foreign base company income under § 954(b)(5). Had
the refunded Year 1 tax never been paid, UK Sub 1 would have had an additional
subpart F inclusion. In light of this fact, the TAM considered how to account for
the redetermination:
(a) Alternative #1 – adjust USP’s subpart F income in Year 1 to reflect the redetermined foreign taxes deductille under § 954(b)(5).
(b) Alternative #2 – leave Year 1 untouched. However, account for the increase
in E&P in Year 2 as additional subpart F E&P in the same amount as the
redetermined taxes were deducted in Year 1.
(3) The Service applied Alternative #2. It relied on the tax benefit principles of
Hillsborough National Bank to conclude that the tax benefit doctrine required the
benefit of the redetermined tax deduction in Year 1 to be recaptured in Year 2.
(4) Consider how this common law “tax benefit” analysis might interact with the
statutory recapture rules under § 952.
ii) PLR 200127011 (Apr. 3, 2001).
(1) Simplified facts of the PLR. In several prior years, a lower-tier CFC (Corp. B)
earned subpart F income that was reported by members of the U.S. consolidated
group. This income was subject to foreign taxes for which the U.S. parent
claimed § 960 credits.
(a) As part of a restructuring plan, Corp B merged into its first-tier CFC parent
(Corp. H). In other steps in the same plan, Corp. H adopted a plan of
complete liquidation and also elected to be treated as a partnership for U.S.
tax purposes. Corp H is wholly owned by members of the U.S. consolidated
group. Corp. H then transferred substantially all of its assets to a disregarded
entity owned by members of the same consolidated group.
(b) As a result of the steps above, Corp. B now had become part of Corp. H,
which was now a branch of a member of the same consolidated group.
(c) After the restructuring was completed, the foreign country imposed additional
taxes on Corp. B for the years in which its income was deemed distributed
under subpart F.
(2) Rulings. Since Corp B no longer exists, the foreign tax redetermination cannot be
reflected in an adjustment to Corp B’s foreign tax pools. Therefore, Corp B must
adjust its E&P and taxes, and the U.S. consolidated group must redetermine its
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U.S. tax liability to reflect the effect of the adjustment.
(3) Comments. This was a favorable result in the taxpayer’s case because it allowed
the consolidated group to claim additional foreign tax credits. The ruling would
seem to apply a refund awarded after a liquidation as well.
(4) Although the integrated transaction appeared to be an upstream merger or
liquidation into a member of the same consolidated group, the ruling does not cite
§ 381 in reaching its conclusion. Would the same result have applied if Corp B
liquidated into a partnership in a § 331 transaction?
(5) The ruling does not address the treatment of FTC redeterminations occurring
before or after the sale of the foreign corporation that is subject to the
redetermination.
iii) FSA 200035019
(1) In year 4, FSUB sold stock in a 10/50 company and recognized a gain. The gain
was treated as non-taxable under local law, and no foreign taxes were paid or
accrued. However, for U.S. tax purposes, the US taxpayer recognized a subpart F
inclusion for FPHC income of F Sub.
(2) From year 5 – 9, Local authorities challenged F Sub’s position that the stock sale
was nontaxable. Ultimately, in year 9, F Sub settled the audit by agreeing to pay
additional year 4 tax.
(3) Under the contested taxes doctrine, the IRS treated this is as a redetermination of
year 4 tax. The IRS interpreted the pooling adjustment rules to be mandatory,
such that the increase in passive basket tax and decrease in passive basket E&P
were required to be reflected in an adjustment to the pools as of Year 9.
(4) The IRS noted possible inequity in that the passive basket E&P was reduced
below zero, which might cause the credits to be trapped under § 1.902-1(b)(4).
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