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Today, the Treasury Department (Treasury) released proposed regulations (REG-105128-23; Proposed Regulations) addressing the interaction of the dual consolidated loss (DCL) rules with Pillar Two of the OECD's Global Anti—Base Erosion Model Rules (GloBE Rules). The proposed regulations would also revisit several other important aspects of the DCL rules.

The Proposed Regulations provide that a Qualified Domestic Minimum Top-Up Tax (QDMTT) or an Income Inclusion Rule (IIR) may be an income tax for purposes of the DCL rules. As a result, a foreign use of a DCL may result from a DCL being taken into account in (1) computing a taxpayer's QDMTT or IIR liability, or (2) qualifying for the Transitional CbCR Safe Harbour. The Proposed Regulations provide no guidance on the treatment of interactions between the DCL rules and the UTPR (commonly referred to as the undertaxed profits rule), though Treasury indicated that it continues to analyze issues around the UTPR.

The Proposed Regulations would also:

• Introduce a limited extension and expansion of the temporary relief provided in Notice 2023-80, meaning that a Pillar Two top-up tax will not cause a foreign use of any DCL incurred in a tax year beginning before the Proposed Regulations are filed with the Federal Register (6 August 2024)
• Eliminate the favorable "inclusions on stock" rule in Treas. Reg. Section 1.1503(d)-5(c)(4)(iv) and exclude subpart F inclusions, global intangible low-taxed income (GILTI) inclusions and most dividends for purposes of computing the income or DCL of any separate unit
• Provide guidance on the interaction of the DCL rules with the intercompany transaction rules of Treas. Reg. Section 1.1502-13, reflecting a shift to separate-entity treatment, including by limiting the effect of the matching rule for purposes of computing a consolidated group member's DCL and the group's consolidated taxable income
• Require a domestic owner of a disregarded entity or foreign branch (a disregarded payment entity) to recognize income equal to a "disregarded payment loss," which is generally the net loss attributable to certain disregarded payments that are taken into account for purposes of foreign income tax law
• Clarify that items of income, gain, deduction or loss that have not and will not be reflected on the books and records of the hybrid entity separate unit (including disregarded payments) are not taken into account when conforming those items to US federal income tax principles
• Incorporate a new anti-avoidance rule authorizing "appropriate adjustments" where a transaction, series of transactions, plan or arrangement is intended to avoid the purposes of the DCL rules

The changes in the Proposed Regulations are generally proposed to apply to tax years ending on or after the date the Proposed Regulations are filed with the Federal Register, so the changes would generally apply to current tax years. The changes to the intercompany transaction rules are proposed to apply when final regulations are filed with the Federal Register. After the proposed changes are final, taxpayers may apply them retroactively to open years, subject to a consistency requirement for members of a consolidated group.

The rules for consenting to the "disregarded payment loss" rules are proposed to apply to entity-classification elections filed on or after the date the Proposed Regulations are filed with the Federal Register (irrespective of the effective date of the election). Owners of existing disregarded payment entities would be deemed to consent to those rules, although the rules on deemed consent are proposed to apply on or after 6 August 2025. Treasury said in the Preamble that this deferred applicability date was intended to allow taxpayers time to restructure existing arrangements to avoid the application of the disregarded payment loss rules.

A detailed Tax Alert is forthcoming.