December 20, 2023
New US interim CAMT guidance offers welcome relief from possible double-counting of CFC earnings in AFSI, but possible compliance burdens
In Notice 2024-10 (the Notice), the IRS provides interim guidance clarifying certain provisions of the CAMT, which was enacted as part of the Inflation Reduction Act of 2022. The Notice addresses the impact of certain distributions from a CFC (Covered CFC Distributions) in a taxpayer's applicable financial statement income (AFSI), with guidance that should significantly reduce the potential for the duplication of items in the taxpayer's AFSI. In addition, the Notice modifies and clarifies previously issued guidance in Notice 2023-64 for determining the AFS for an affiliated group of corporations filing a consolidated tax return.
The Treasury Department and IRS will issue forthcoming proposed regulations consistent with the Notice, as well as existing interim guidance in Notices 2023-7, 2023-20, and 2023-64. See Tax Alerts 2023-0091, 2023-0384 and 2023-1570.
The IRS requests comments on the Notice by January 15, 2024. Late submissions may be considered if they do not delay the issuance of forthcoming proposed regulations.
The CAMT applies to an "applicable corporation" whose "tentative minimum tax" exceeds its regular US federal income tax liability plus its base erosion anti-abuse tax (BEAT) liability. An applicable corporation's tentative minimum tax equals 15% of its AFSI less the CAMT foreign tax credit (FTC) for the tax year. AFSI refers to a corporation's net income or loss for a tax year as specified in its AFS, adjusted according to IRC Section 56A.
An "applicable corporation" generally refers to any corporation (excluding S corporations, regulated investment companies, and real estate investment trusts) with an average annual AFSI greater than $1 billion for any three consecutive tax years that end after December 31, 2021, and precede the tax year. For corporations (or their predecessors) with less than three years of existence, the number of years the corporation has existed is substituted for three. Any tax year shorter than 12 months must be annualized. The AFSI of all entities considered a single employer with the corporation per IRC Section 52(a) or (b) is included in calculating a corporation's AFSI for the $1 billion test.
For a corporation that is a member of a foreign-parented multinational group (FPMG), the three-year average AFSI needs to exceed (1) $1 billion for all FPMG members and (2) $100 million taking into account US corporation(s), a U.S. Shareholder 's pro rata share of CFC income, effectively connected income, and certain partnership income. A FPMG consists of two or more entities that (1) have at least one domestic corporation and another foreign corporation, (2) are included in the same financial statement, and (3) have a foreign corporation as their common parent (or treated as having a foreign corporation as a common parent).
AFSI adjustments for certain CFCs distributions
If a corporation is not included on a taxpayer's consolidated return (e.g., a CFC), IRC Section 56A(c)(2)(C) determines the taxpayer's AFSI with respect to the other corporation by only taking into account dividends received from the other corporation (reduced to the extent provided by regulations or other guidance) and other amounts included in gross income or deductible as a loss with respect to the other corporation. In addition, IRC Section 56A(c)(3)(A) requires a taxpayer that is a U.S. Shareholder of a CFC to include in AFSI the taxpayer's pro rata share of the net income or loss set forth on the CFC's AFS (Adjusted Net Income or Loss). IRC Section 56A(c)(15) authorizes the Secretary to issue regulations or other guidance to provide for adjustments to AFSI as necessary to carry out the purposes of IRC Section 56A, including adjustments to prevent the omission or duplication of any item in AFSI.
According to the Notice, taxpayers have expressed concern that, in certain cases, distributions by CFCs may result in earnings of CFCs being included in the taxpayer's AFSI more than once, causing CFCs to defer making distributions until guidance is issued. For example, duplication may occur if a U.S. Shareholder includes in AFSI under IRC Section 56A(c)(2)(C) a dividend of earnings that are associated with Adjusted Net Income or Loss of a CFC that the U.S. shareholder included in AFSI under IRC Section 56A(c)(3).
Duplication may also occur if a U.S. Shareholder includes in its AFSI the Adjusted Net Income or Loss of both an upper-tier CFC and a lower-tier CFC, and there is also dividend distribution from the lower-tier CFC to the upper-tier CFC. If the Adjusted Net Income or Loss of the upper-tier CFC includes, under the principles of IRC Section 56A(c)(2)(C), the dividend received from the lower-tier CFC, and the dividend was funded by earnings included in the lower-tier CFC's Adjusted Net Income or Loss, the U.S Shareholder's AFSI may include duplicated items.
Section 3 of the Notice, which is intended to address such potential duplication of items, provides interim guidance on "Covered CFC Distributions" that may result in a U.S. Shareholder's AFSI including earnings from CFCs more than once.
A Covered CFC Distribution is a distribution that is received with respect to a CFC's stock and is a dividend (within the meaning of IRC Section 316), determined without regard to IRC Section 959(d) (which treats certain distributions of previously taxed earnings and profits (PTEP) as distributions that are not dividends). The Notice does not provide guidance on the treatment of distributions that are not Covered CFC Distributions, nor does it address amounts associated with stock dispositions (including the treatment of dividends under IRC Section 1248), or any other amounts that may relate to owning CFC stock.
Covered CFC Distributions received by U.S. Shareholders
For Covered CFC Distributions received by a U.S. Shareholder from a CFC, the U.S. Shareholder determines its AFSI by:
EY insight: The guidance on Covered CFC Distributions received by U.S. Shareholders will likely be well-received by many taxpayers. Because IRC Section 959(d) generally excludes PTEP distributions from a CFC to its U.S. shareholder from gross income, the Notice should allow taxpayers to exclude PTEP distributions received by U.S. Shareholders from AFSI. This appears to be the result regardless of when the PTEP was created. In other words, a PTEP distribution is excluded from a U.S. Shareholder's AFSI under the Notice even if the PTEP:
Because the Notice provides that AFSI does not take IRC Section 78 into account, U.S. Shareholders do not increase AFSI for the IRC Section 78 gross-up associated with any taxes deemed paid under IRC Section 960(b).
The Notice's requirement to include in AFSI the U.S. Shareholder's items of income and deduction presumably was intended to allow taxpayers receiving distributions of untaxed E&P to include in AFSI both the dividend income and any associated dividends-received deduction (DRD) allowed under IRC Section 245A. Consequently, the receipt of an IRC Section 245A DRD-eligible dividend appears not to have any net impact on a U.S. Shareholder's AFSI. Conversely, the receipt of a dividend from a CFC that is not eligible for an IRC Section 245A DRD should result in a net increase to AFSI. Again, this appears to be the result regardless of when the untaxed E&P was generated.
Covered CFC Distributions received by a CFC from another CFC
For Covered CFC Distributions received by a CFC from another CFC, the recipient CFC determines its Adjusted Net Income or Loss by:
However, the amounts included in Adjusted Net Income or Loss are reduced to the extent the Covered CFC Distribution is excluded from either:
EY insight: The rules for Covered CFC Distributions received by CFCs from other CFCs appear intended to result in the exclusion of a significant portion of distributions from Adjusted Net Income or Loss, and consequently from the U.S. Shareholder's AFSI after the application of IRC Section 56A(c)(3).
The exclusion of amounts subject to IRC Section 959(b) should generally result in the exclusion of CFC-to-CFC PTEP distributions from Adjusted Net Income or Loss, consistent with the AFSI result of a PTEP distribution from a CFC to a U.S. Shareholder. The Notice does not require that such PTEP be previously included in Adjusted Net Income or Loss, nor does it require that the U.S. Shareholder be an applicable corporation when the PTEP was generated.
For distributions between CFCs of amounts not subject to IRC Section 959(b) (such as untaxed E&P), Adjusted Net Income or Loss excludes income resulting from those distributions as long as the dividend is excluded from both FPHCI (under the same country exception or CFC look-through rule) and tested income.
Taxpayers should keep in mind that not all distributions or dividends meet the Covered CFC Distribution definition, and thus may not be eligible for the AFSI adjustments provided by the Notice. For example, the Notice does not apply to distributions received from US corporations, or from foreign corporations that are not CFCs (even if those corporations distribute PTEP).
Application of the CAMT to a tax consolidated group
Section 4 of Notice 2024-10 modifies and clarifies the interim guidance provided in Notice 2023-64 on applying the CAMT to a tax consolidated group (i.e., an affiliated group of corporations filing a consolidated return for any tax year) because tax consolidated group members are not always included in a single consolidated financial statement.
As additional background to the modifications in Section 4 of Notice 2024-10, Notice 2023-64 provided guidance for determining a taxpayer's AFS when the taxpayer's financial results are included in a consolidated financial statement. If a taxpayer's financial results are consolidated with the financial results of one or more other taxpayers on a consolidated financial statement, Section 4.02(5)(a) of Notice 2023-64 generally provides that the taxpayer's AFS is the consolidated financial statement; if the taxpayer's financial results are also separately reported on a separate financial statement that is of equal or higher priority to the consolidated financial statement, however, then the taxpayer's AFS is the separate financial statement.
Section 4.02(5)(b) of Notice 2023-64 provided two exceptions to this general rule. The relevant exception for purposes of Notice 2024-10 requires a corporation that is a member of a tax consolidated group to use as its AFS the consolidated financial statement containing the financial results of all members of the tax consolidated group, regardless of whether the corporation's financial results are also reported on a separate financial statement that is of equal or higher priority to the consolidated financial statement. The IRS and Treasury Department decided it was appropriate to modify and clarify these rules in Notice 2024-10 because members of a tax consolidated group are not always included in a single consolidated financial statement.
Section 4 of Notice 2024-10 modifies and clarifies Notice 2023-64 by providing rules for four scenarios. Under Notice 2024-10, if the corporation (Tax Consolidated AFS Member) is not a member of a FPMG and the Tax Consolidated AFS Member has:
If the taxpayer is a member of a FPMG and the FPMG common parent prepares a consolidated AFS that includes the taxpayer, the taxpayer must use the FPMG consolidated AFS, regardless of whether its financial results also are reported on a separate AFS that is of equal or higher priority than the FPMG consolidated AFS.
If, after applying the rules in Notice 2024-10, the AFS of each Tax Consolidated AFS Member is not the same consolidated AFS, then the tax consolidated group must combine the financial results reflected on the different AFSs of the Tax Consolidated AFS Members to form a single consolidated AFS that is treated as the AFS of the tax consolidated group. Notice 2024-10 clarifies that the financial results of each Tax Consolidated AFS Member may not be included in the tax consolidated group AFS more than once, and the tax consolidated group must make any AFS consolidation entries as if a tax consolidated group AFS was prepared.
Taxpayers may rely on the interim guidance described in Section 3 of the Notice for Covered CFC Distributions received on or before the date forthcoming proposed regulations are published in the Federal Register. Regardless of when forthcoming proposed regulations are published in the Federal Register, however, taxpayers may rely on the interim guidance described in Section 3 of this Notice for Covered CFC Distributions received before January 1, 2024.
Taxpayers may rely on the interim guidance described in certain sections of Notice 2023-64, as modified by Section 4 of Notice 2024-10, for tax years ending before the date forthcoming proposed regulations are published in the Federal Register. However, a taxpayer may rely on the interim guidance described in the sections of Notice 2023-64, as modified by Notice 2024-10, for any tax year beginning before January 1, 2024, regardless of when forthcoming proposed regulations are published in the Federal Register. A taxpayer may not rely on the unmodified text of Sections 4.02(5)(b)(i) or 6.02 of Notice 2023-64 for any tax return filed on or after December 15, 2023.
The Treasury Department and the IRS request comments on any questions arising from the interim guidance provided in this Notice.
Comments may be submitted electronically through the Federal eRulemaking Portal or by mail to Internal Revenue Service, CC:PA:LPD:PR (Notice 2024-10), Room 5203, P.O. Box 7604, Ben Franklin Station, Washington, D.C., 20044.
Comments are due by January 15, 2024. The IRS, however, indicates that it will consider comments submitted after that date, if the consideration of those comments will not delay the issuance of forthcoming proposed regulations.
The guidance on Covered CFC Distributions should alleviate many taxpayers' concerns over the double-counting of CFC earnings in AFSI. The exclusions are broad — applicable to earnings generated both before and after the exactment of CAMT, and regardless of whether such amounts were previously included in AFSI under IRC Section 56A(c)(3). This should reduce the likelihood that CAMT creates a "lockout" effect in which taxpayers are hesitant to repatriate earnings due to concerns over increased CAMT liabilities. Furthermore, the adjustment rules in the Notice avoid, at least temporarily, the creation of a "CAMT PTEP" regime that would require the onerous tracking of a new set of CAMT attributes for each CFC.
The Notice allows taxpayers to rely on its rules for Covered CFC Distributions received (i) on or before the date forthcoming proposed regulations are published in the Federal Register or (ii) before January 1, 2024, regardless of when proposed regulations are published. There is no guarantee, but the general expectation is that the proposed regulations will be released in early 2024.
Although Treasury and the IRS suggest that Section 4 of Notice 2024-10 is intended to address members of a tax consolidated group not included in a single consolidated financial statement, the Notice does not identify the circumstances that might create this issue. One possibility would be a tax consolidated group that contains some sort of special status member (e.g., one subject to outside regulators). Nonetheless, the modifications and clarifications provided in Section 4 of Notice 2024-10 may require taxpayers to reevaluate whether the financial statement used for determining AFSI is the proper AFS under Notice 2023-64 as modified by Notice 2024-10, particularly if the tax consolidated group was using its US consolidated federal income tax return as its AFS after Notice 2023-64. Additionally, the requirement to create consolidated entries in certain circumstances may be burdensome and require significant time and resources from a company's tax department.
Published by NTD’s Tax Technical Knowledge Services group; Maureen Sanelli, legal editor