The IRS Large Business & International Division (LB&I) has issued a memorandum (LB&I-04-0218-007, the LB&I Memo) with guidelines for handling delinquent Forms 1120-F, U.S. Income Tax Return of a Foreign Corporation, and associated requests under Reg. Section 1.882-4(a)(3)(ii) to waive, based on acting reasonably and in good faith, the 18-month filing deadline to claim deductions and credits.

Background

Foreign corporations that engage in a US trade or business must file Form 1120-F. Under Section 882(c)(2) and the corresponding regulations, such corporations generally may not take deductions and credits if they fail to timely file Form 1120-F by the earlier of: (1) the date that the IRS notifies the corporation that a return is due, or (2) 18 months after the due date under Section 6072. Instead, if the corporations fail to timely file Form 1120-F, their income generally becomes subject to tax at graduated rates under Section 11 based on their gross income.

Under Reg. Section 1.882-4(a)(3)(vi), foreign corporations with limited activities in the US that determine that these activities do not give rise to effectively connected income may file a return for the tax year to protect their rights to receive the benefit of deductions and credits in the event that it is later determined, after the return is filed, that the determination was incorrect. The protective return does not need to report any income as effectively connected income or report deductions or credits but should include a statement that the return is being filed to preserve the foreign corporation's right to deductions and credits.

Under Reg. Section 1.882-4(a)(3)(ii), the IRS may waive the Form 1120-F filing deadline, thereby allowing a delinquent-filing foreign corporation to claim deductions and credits. To be granted a waiver, the foreign corporation must establish, based on all the facts and circumstances, that it acted reasonably and in good faith in failing to timely file a return (including a protective return).

LB&I Memo

The LB&I Memo states that its purpose is to ensure that examiners analyze waiver requests in a "fair, consistent and timely manner." The guidelines therein are effective February 1, 2018, and will be incorporated into Internal Revenue Manual (IRM) 4.61. The guidelines are set forth in three attachments to the LB&I Memo:

A) Form 1120-F Waiver Summary Analysis
B) Form 1120-F Waiver Procedure Guidelines
C) Form 1120-F Waiver Flow Chart

Waiver summary analysis

The "waiver summary analysis" highlights six factors for examiners to consider in determining whether a foreign corporation acted reasonably and in good faith when it failed to timely file Form 1120-F:

1. Whether the corporation voluntarily identified itself to the IRS as having failed to file a US income tax return before the IRS discovered the failure to file

2. Whether the corporation did not become aware of its ability to file a protective return by the deadline for filing a protective return

3. Whether the corporation had not previously filed a US income tax return

4. Whether the corporation failed to file a US income tax return because, after exercising reasonable diligence (taking into account its relevant experience and level of sophistication), the corporation was unaware of the necessity for filing the return

5. Whether the corporation failed to file a US income tax return because of intervening events beyond its control

6. Whether other mitigating or exacerbating factors existed

In addition, the waiver summary analysis asks whether the corporation cooperated in the process of determining its income tax liability for the tax year for which the return was not filed.

Waiver procedure guidelines

The LB&I Memo sets forth separate guidelines to apply in two scenarios: (1) a taxpayer not under examination approaches the IRS seeking to file a delinquent Form 1120-F, and (2) LBI determines that a taxpayer under examination failed to timely file Form 1120-F. In the first scenario, the guidelines state that LB&I should inform the taxpayer of its duty to file the Form 1120-F and waiver request in accordance with the Form 1120-F Instructions; LB&I should not accept the delinquent return, nor discuss the waiver request. Under the second scenario, the guidelines vary depending on whether the taxpayer has submitted a waiver request. If it has, LB&I should follow procedures for reviewing the request. If it has not, LB&I should inform the taxpayer of its option to request a waiver, without advising any particular action.

The exam team will analyze a waiver request by a taxpayer and make a recommendation on whether to grant the request. The exam team will then prepare and forward a "Waiver Request Package," including the waiver summary analysis (described previously) and certain additional documents, to the Territory Manager. After the Territory Manager reviews the request and recommendation with the exam team and it agrees to grant or deny a request, the recommendation will be forwarded to the Cross-Border Activities (CBA) Directors of Field Operations (DFO) for a determination whether to grant the request. If the recommendation is to deny the request, the CBA DFO will forward the completed recommendation to a committee to be formed to evaluate the denial.

Implications

The LB&I Memo incorporates specific guidance into the Internal Revenue Manual (IRM) for LB&I employees to consider in evaluating a waiver request under Reg. Section 1.882-4(a)(3)(ii) for late Forms 1120-F. This is especially important considering that one of LB&I's enforcement campaigns is to identify Form 1120-F non-filers (see Tax Alert 2017-0234). In addition, for taxpayers not already under examination, it is noteworthy that LB&I will not discuss or consider waiver requests on a no-name basis or in any other informal fashion. Taxpayers that have delinquent Forms 1120-F beyond the 18-month period should review the LB&I Memo, prepare a reasonable cause statement that addresses the relevant factors, and submit it in accordance with the established procedures.

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