International tax laws add another layer of complexity to a global business landscape that’s already a challenge to navigate. Some regulations have longer roots, like the Foreign Bank Account Report (FBAR), which dates back to 1970. More recently, further reporting requirements came about under the 2010 Foreign Account Tax Compliance Act (FATCA) and the 2017 Tax Cuts & Jobs Act (TCJA). Since then, international tax laws have only continued to evolve. To help businesses understand where some of the international tax laws introduced under the Trump Administration stand, we’re looking at some key points involved in GILTI tax, the FDII deduction, and 965 transition tax.
Global Intangible Low-Taxed Income (GILTI) Tax
In an effort to discourage US corporations from shifting specific profits to low-tax jurisdictions abroad, the TCJA imposed a 10.5% minimum tax on global intangible low-taxed income (GILTI). For tax years 2018-2025, this essentially means C corporation shareholders of controlled foreign corporations (CFCs) not engaging in US trade or business are eligible to deduct 50% of GILTI. In 2026, the minimum tax rate will increase from 10.5% to 13.125%.
Despite its name, the tax doesn’t apply exclusively to intangible assets. GILTI inclusion must be calculated each year and must be included annually in federal taxable income. For US corporations, the tax applies to earnings exceeding a 10% return on their invested foreign assets. The calculation is complex, but, in general, a 10% or greater US shareholder of a CFC is responsible for their pro rata share of the CFC’s GILTI.
For US individuals that are 10% or greater US shareholders in a CFC, their portion of the foreign income must be included in their federal adjusted gross income and is, unfortunately, taxed at a rate of 37%. We can help you assess the options available to you and how they may affect your situation, such as filing an election to be taxed as a corporation.
Some C corporations may also be eligible to claim an 80% foreign tax credit against foreign taxes paid or accrued on GILTI, providing strict limitations and regulations are met. Determining deduction eligibility is a service we often provide to clients. The IRS has proposed guidance on the table, which, among other things, may affect C corporation deductions. We are working with our clients on the related known and potential implications, and we invite your questions.
Foreign-Derived Intangible Income (FDII) Deduction
The TCJA also introduced the FDII deduction, a tax break which incentivizes domestic corporations to export goods and services to foreign markets. The deduction applies to C corporations, whether based in the US or non-US corporations doing business in the US. As with GILTI, FDII does not have to come from intangible assets, despite the name. By placing a fixed rate of return on a corporation’s tangible assets, the FDII provision deems any income over that rate to be the result of intangible assets.
For 2018 through 2025, C Corporations are eligible for a 37.5% deduction against taxable income, which allows for their foreign-derived sales and service income to be taxed at a rate of 13.125%. Beginning in 2026, the deduction decreases to 21.87%, and the tax rate on foreign-derived sales and service income increases to 16.83%.
C corporations must maintain detailed records, on export and sales transactions, for example, in order to accurately calculate their FDII deduction. There are a number of complex calculations involved. Don’t let the regulations make you shy away. The potential benefits are well-worth looking into this deduction. We can work with you to determine your FDII and deduction eligibility.
We’re also watching developments around the proposed guidance issued by the IRS, which would provide clarity on the definition of “electronically supplied services” and their consideration for the purposes of the FDII deduction. We will work with clients on related tax implications, as the legislation continues to evolve.
Section 965 Transition Tax
The transition tax, under IRC Section 965, is a one-time tax that applies to untaxed foreign earnings accumulated after 1986 and as of the last tax year beginning before 2018. The first inclusion year, for the calculation and determination of the tax, would be for the year including December 31, 2017. The tax is imposed as if those earnings had been repatriated to the US. The reach of this transition tax is broad, and may include US shareholders of domestic corporations, as well as US individuals, S corporations, partnerships, estates, trusts, and tax-exempt organizations.
The transition tax may be paid in installments over an 8-year period (with 8% due for the first 5 installments, 15% for the 6th installment, 20% for the 7th installment, and 25% for the eighth installment). We want to remind clients to continue making timely installment payments. The due date for calendar-year filers was extended to July 15, 2020, due to COVID-19; however, fiscal year due dates remain unchanged, and all installment payments should be made on or before the due date for your return moving forward. Failure to pay any required installment by its respective due date is considered an acceleration event, and you may become responsible for all remaining installments at that time.
For US S corporation shareholders of a deferred foreign income corporation, payment may be delayed entirely until a triggering event occurs. We want to remind clients to notify your CPA ahead of these events, such as liquidation or sale of assets or transfer of stock. And notify your CPA ahead of M&A transactions involving CFCs. We can help you stay ahead of potential pitfalls and plan the timing of the transaction to coincide with the optimum tax reduction efforts.
LGA’s International Services Team can help you find your way through these and other increasingly complex international tax laws. As a member of Russell Bedford International (RBI), we can provide access to a breadth and depth of resources, wherever a company decides to do business.
Our internal team collaborates with external international tax professionals to efficiently and effectively provide sophisticated strategies for international tax structuring and compliance that balance our clients’ business and tax minimization objectives. Contact Steven Gallant or Larry Andler today to discuss your international tax service needs.
Steven Gallant is a Partner at LGA and has over 30 years of experience in public accounting. He is well-versed in all areas of taxation, including corporate, partnership, individual, trust and estate taxation, and specializes in foreign entity tax, dual citizenship, and expatriate issues. Steve has worked extensively with closely held companies, as well as with investment partnerships, venture capital firms, and related portfolio companies.
Larry Andler is a Principal at LGA and has over 20 years of experience working with companies of all sizes in a variety of industries. He focuses on high net worth individuals with complex reporting challenges and their related businesses and trusts, startups, and C corporations. Larry works with individuals and entities in navigating the US tax system’s inbound and outbound foreign reporting requirements.