Category Archives: Subpart F income

Part 9: Responding to the Sec. 965 “transition tax”: From the "Pax Americana" to the "Tax Americana"

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This is the ninth in my series of posts about the Sec. 965 Transition Tax and whether/how it applies to the small business corporations owned by taxpaying residents of other countries (who may also have U.S. citizenship). These small business corporations are in no way “foreign”. They are certainly “local” to the resident of another country who just happens to have the misfortune of being a U.S. citizen.
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Part 8: Responding to the Sec. 965 “transition tax”: This small business thought it was saving to invest in business expansion – Wrong, they were saving to be robbed by America!

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This is the eighth in my series of posts about the Sec. 965 Transition Tax and whether/how it applies to the small business corporations owned by taxpaying residents of other countries (who may also have U.S. citizenship). These small business corporations are in no way “foreign”. They are certainly “local” to the resident of another country who just happens to have the misfortune of being a U.S. citizen.
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Part 6: Responding to the Sec. 965 “transition tax”: A "reprieve" until June 15, 2018

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Introduction
This is the sixth in my series of posts about the Sec. 965 Transition Tax and whether/how it applies to the small business corporations owned by tax paying residents of other countries (who may also have U.S. citizenship). These small business corporations are in no way “foreign”. They are certainly “local” to the resident of another country who just happens to have the misfortune of being a U.S. citizen.
This post will draw on the lessons/discussion from the first five posts. The specific purpose of this post is to argue that what the United States calls “taxation” (presumably because it is found in the Internal Revenue Code), as applied to “nonresidents” is actually a separate tax regime that:
1. Imposes different tax rules on “nonresidents” (certain individuals who live outside the United States); and
2. Those rules for “nonresidents” are designed to operate primarily as “confiscations of non-U.S. assets.
The Internal Revenue Code of the United States is based on three principles:
Principle 1: A hatred for all things foreign
Principle 2: A hatred of all forms of deferral (except IRAs, 401Ks and other U.S. sanctioned forms of deferral)
Principle 3: Attempts of prevent “leakage” of “U.S. person” owned assets from the U.S. tax system.
The interaction of these three principles creates a complex, penalty laden, “anti-deferral regime”, that specifically targets income and assets earned in other countries and located in other countries.
The time has come for countries who have U.S. tax treaties that contain the “savings clause” and which have signed to FATCA IGAs to “wake up” to this reality.
To put it simply: What the U.S. calls “taxation” is actually the “confiscation” of assets located in other countries. The “transition tax” is a timely and exceptionally brazen example of how this confiscation works.
The first five posts in my “transition tax” series were:
Part 1: Responding to The Section 965 “transition tax”: “Resistance is futile” but “Compliance is impossible”
Part 2: Responding to The Section 965 “transition tax”: Is “resistance futile”? The possible use of the Canada U.S. tax treaty to defeat the “transition tax”
Part 3: Responding to the Sec. 965 “transition tax”: They hate you for (and want) your pensions!
Part 4: Responding to the Sec. 965 “transition tax”: Comparing the treatment of “Homeland Americans” to the treatment of “nonresidents”
Part 5: Responding to the Sec. 965 “transition tax”: Shades of #OVDP! April 15/18 is your last, best chance to comply!
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If you want to be a shareholder in our Canadian business then you must renounce U.S. citizenship

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The unified message from all should be that: The United States should stop imposing “worldwide taxation” on people who have “tax residency” in other countries and do NOT live in the United States! This is a message that all advocates of tax reform can support. As recently explained in a post from “ACA”, the mechanism (RBT vs TTFI) used to achieve this change is less important.


It is no secret that Congressman George Holding is working on a proposal to end the U.S. practice of imposing “worldwide taxation” on those who have “tax residency” in other countries. If successful, this would be a positive change for the United States, U.S. citizens who choose to live outside the United States and the residents of other (including “accidental Americans”) countries. None of these should be burdened by the extra-territorial application of U.S. tax laws!
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Part 5: Responding to the Sec. 965 “transition tax”: Shades of #OVDP! April 15/18 is your last, best chance to comply!

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Introduction
This is the fifth in my series of posts about the Sec. 965 Transition Tax and whether/how it applies to the small business corporations owned by tax paying residents of other countries (who may also have U.S. citizenship). These small business corporations are in no way “foreign”. They are certainly “local” to the resident of another country who just happens to have the misfortune of being a U.S. citizen.
The purpose of this post is to argue that (as applied to those who do not live in the United States) the transition tax is very similar to the OVDP (“Offshore Voluntary Disclosure Programs”) which are discussed here. Some of my initial thoughts (December 2017) were captured in the post referenced in the following tweet:


The first four posts in my “transition tax” series were:
Part 1: Responding to The Section 965 “transition tax”: “Resistance is futile” but “Compliance is impossible”
Part 2: Responding to The Section 965 “transition tax”: Is “resistance futile”? The possible use of the Canada U.S. tax treaty to defeat the “transition tax”
Part 3: Responding to the Sec. 965 “transition tax”: They hate you for (and want) your pensions!
Part 4: Responding to the Sec. 965 “transition tax”: Comparing the treatment of “Homeland Americans” to the treatment of “nonresidents”
*A review of what what the “transition tax” actually is may be found at the bottom of this post.
This post is for the purpose of the arguing that, as applied to those who live outside the United States, payment of the “transition tax” in 2018, is the financial equivalent to participation in 2011 OVDI (“Offshore Voluntary Disclosure Program”).
 


Seven Reasons Why The U.S. Transition Tax as applied to “nonresidents” is similar to the “Offshore Voluntary Disclosure Program As Applied To “Nonresidents”. In both cases there are benefits to Homeland Americans and extreme detriments to “nonresidents”. These detriments amount to a punishment for living outside the United States and becoming a “tax resident” of another country.
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Part 2: Responding to The Section 965 "transition tax": Is "resistance futile"? The possible use of the Canada U.S. tax treaty to defeat the "transition tax"

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Beginning with the conclusion (for those who don’t want to read the post) …

For the reasons given in this post, I believe that there are grounds to argue that the imposition of the Sec. 965 “transition tax” on Canadian resident/citizens DOES violate the Canada U.S. tax treaty. It is my hope that this post will generate some badly needed discussion on this issue.
If you are an individual who believes you may be impacted by the “transition tax”, you should consider raising this issue with the Competent Authority. I would be happy to explore this with you.

Need some background on the Sec. 965 “U.S. transition tax”?
The following tweet references a 7 part video series about the Internal Revenue Code Sec. 965 “Transition Tax” created by John Richardson and Dr. Karen Alpert.


(Video 6 gives examples of what various approaches to “Transition Tax Compliance” might look like.)
A reminder of what the possible imposition of the “transition tax” would mean to certain Canadian residents

Interesting article that demonstrates the impact of the U.S. tax policy of (1) exporting the Internal Revenue Code to other countries and (2) using the Internal Revenue Code to impose direct taxation on the “tax residents” of those other countries.
Some thoughts on this:
1. Different countries have different “cultures” of financial planning and carrying on businesses. The U.S. tax culture is such that an individual carrying on a business through a corporation is considered to be a “presumptive tax cheat”. This is NOT so in other countries. For example, in Canada (and other countries), it is normal for people to use small business corporations to both carry on business and create private pension plans. So, the first point that must be understood is that (if this tax applies) it is in effect a “tax” (actually it’s confiscation) of private pension plans!!! That’s what it actually is. The suggestion in one of the comments that these corporations were created to somehow avoid “self-employment” tax (although possibly true in countries that don’t have totalization agreements) is generally incorrect. I suspect that the largest number of people affected by this are in Canada and the U.K. which are countries which do have “totalization agreements”.
2. None of the people interviewed, made the point (or at least it was not reported) that this “tax” as applied to individuals is actually higher than the “tax” as applied to corporations. In the case of individuals the tax would be about 17.5% and not the 15.5% for corporations. (And individuals do not get the benefit of a transition to “territorial taxation”.)
3. As Mr. Bruce notes people will not easily be able to pay this. There is no realization event whatsoever. It’s just: (“Hey, we see there is some money there, let’s take it). Because there is no realization event, this should be viewed as an “asset confiscation” and not as a “tax”.
4. Understand that this is a pool of capital that was NEVER subject to U.S. taxation on the past. Therefore, if this is a tax at all, it should be viewed as a “retroactive tax”.
5. Under general principles of law, common sense and morality (does any of this matter?) the retained earnings of non-U.S. corporations are first subject to taxation by the country of incorporation. The U.S. “transition tax” is the creation of a “fictitious taxable event” which results in a preemptive “tax strike” against the tax base of other countries. If this is allowed under tax treaties, it’s only because when the treaties were signed, nobody could have imagined anything this outrageous.
6. It is obvious that this was NEVER INTENDED TO APPLY TO Americans abroad. Furthermore, no individual would even imagine that this could apply to them without “Education provided by the tax compliance industry”. Those in the industry should figure out how to argue that this was never intended to apply to Americans abroad, that there is no suggestion from the IRS that this applies to Americans abroad, that there is no legislative history suggesting that this applies to Americans abroad, and that this should not be applied to Americans abroad.
7. Finally, the title of this article refers to “Americans abroad”. This is a gross misstatement of the reality. The problem is that these (so called) “Americans abroad” are primarily the citizens and “tax residents” of other countries – that just happen to have been born in the United States. They have no connection to the USA. Are these citizen/residents of other countries (many who don’t even identify as Americans) expected to simply “turn over” their retirement plans to the IRS???? Come on!

Some of these thoughts are explored in an earlier post: “U.S. Tax Reform and the “nonresident corporation owner”: Does the Section 965 “transition tax apply”?
And now, on to our “regularly scheduled programming”: The possible use of the U.S. Canada Tax Treaty to as a defense to the U.S. “transition tax”

In Part 1 of this series, I wrote: “Responding to the Section 965 “transition tax”: “Resistance is futile and compliance is impossible“. I ended that post with a reminder that the imposition of Section 965 “transition tax” on Canadian residents has (at least) four characteristics:

1.The U.S. Transition Tax is a U.S. tax on the “undistributed earnings” of a Canadian corporation; and
2. Absent deliberate and expensive mitigation provisions, the U.S. transition tax contemplates the “double taxation” of Canadian residents who hold U.S. citizenship.
3. The “transition tax” is a preemptive “tax strike” against a corporation in Canada. Historically Canada would have the first right of taxation over Canadian companies.
4. The U.S. Transition Tax creates a “fictitious” taxable event. It is not triggered by any action on the part of the shareholder.

The purpose of this post is to argue that the Canada U.S. tax treaty may be a defense to the application of the Section 965 “Transition Tax”
Part A – Exploring  what a “Subpart F” inclusion really is
Part B – The Canada U.S. Tax Treaty: Relevant provisions

Part C – Impact of the “Savings Clause”
Part D – The Interpretation of the tax treaty: WHO interprets the treaty and HOW is the treaty to be interpreted
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Part 1: Responding to The Section 965 "transition tax": "Resistance is futile" but "Compliance is impossible"

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Introduction and background …

“This legislation is being interpreted by a number of tax professionals to mean that individual U.S. citizens living outside the United States are required to simply “fork over” a percentage of the value of their small business corporations to the IRS. Although technically “CFCs” these companies are certainly NOT foreign to the people who use them to run businesses that are local to their country of residence. Furthermore, the “culture” of Canadian Controlled Private Corporations is that they are actually used as “private pension plans”. So, an unintended consequence of the Tax Cuts Jobs Act would be that individuals living in Canada are somehow required to collapse their pension plans and turn the proceeds over to the U.S. government” -John Richardson

I have previously suggested that the Section 965 “transition tax” should not be interpreted to apply to Americans abroad. This argument was based largely on a “lack of legislative intention” coupled with the fact that individuals (whether in the USA or living abroad) do NOT get the benefits of the transition to “territorial taxation”.
These are difficult times for many Canadians who are the owners of Canadian Controlled Private Corporations. Canadian residents use Canadian Controlled Private Corporations (“CCPCs”) to operate small businesses and to create pension plans for their retirement. Importantly a Canadian corporation meets the definition of a “CCPC” only if it is controlled by residents of Canada. By definition all “CCPCs” are local to their owners. The use of “CCPCs” reflects the reality of Canadian tax laws going back to 1972. Governments the world over are taking steps to ensure that corporations cannot be used for the deferral or avoidance of taxation.
The election of the Trudeau Liberals resulted in the Government of Canada taking an interest in “Tax Reform” (or at least “tax reform” in relation to Canadian Controlled Private Corporations). On February 27, 2018 Finance Minister Morneau delivered the Liberals third budget. Although not widely publicized, the budget including major changes in how the passive income of CCPCs is to be taxed in Canada.
Of course those “CCPC” owners who have U.S. citizenship must also deal with the U.S. tax system. Interestingly, both the Government of Canada and the Government of the United States have the owners of “CCPCs” on their radar.
Canada – On the “Home front” (meaning in Canada) the Liberal Government of Justin Trudeau and Finance Minister Bill Morneau are targeting the “retained earnings” in their corporations. Specifically they believe that “retained earnings” that were subject to the lower small business tax rate provide an unfair tax deferral, resulting in more capital to invest, which allows for the creation of additional passive income. The February 27, 2018 Canadian budget is a direct response to this perception.
The United States – The “Homeland” has just passed the TCJA (“Tax Cuts Jobs Act”). One provision of the TCJA amended Internal Revenue Code Section 965 to impose a one time tax on the “United States shareholders” of “Deferred Foreign Income Corporations” (a “DFIC”). This tax is based on the “undistributed earnings” of corporations. The application of this tax to U.S. citizens living outside the United States is newsworthy, is debatable (and is being debated). The application of the Section 965 “transition tax (assuming the applicability of the tax to Canadian resident owners of “CCPcs”), would be a direct, retroactive tax on the “retained earnings” of Canadian Controlled Private Corporations. Notably these “retained earnings” were NEVER subject to U.S. taxation before (it’s retroactive). The mechanism that the U.S. Government is using to impose direct taxation on the retained earnings of “CCPCs” is to (1) attribute the corporate undistributed earnings to the individual shareholder and (2) impose taxation directly on the individual shareholder. For “Tax Geeks” (and those who want boring cocktail conversation), from a U.S. perspective this process of income attribution is called “Subpart F” income. (You can learn all about it by reading Internal Revenue Code Sections 951 – 965). I emphasize that a Subpart F inclusion (by definition) attributes corporate income to a “shareholder” without any realization event whatsoever.
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Republicans Overseas asks for hearings on how the @USTransitiontax unfairly impacts Americans abroad

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I have previously written about the confiscatory effect of the “transition tax” on small business owners living outside the United States here and here. This is a “tax” – based on the Subpart F regime – on certain shareholders of “controlled foreign corporations“. For Canadians this “tax” represents a U.S. partial confiscation of their pensions. Interestingly the recent “Tax Cuts and Jobs Act” has significantly increased both the number of “United States Shareholders” and the number of “Controlled foreign corporations”.
All of this is taking place in the context of more countries enacting CFC (“Controlled Foreign Corporation”) rules. For example, Russia recently enacted its own “Controlled foreign corporation rules. In general the worldwide climate toward corporations is becoming more and more hostile.
The advocacy of Republicans Overseas is a welcome development. It is hoped that the leadership of Republicans Overseas will encourage other groups that claim to represent non-U.S. residents to join the fight against “non-resident taxation”.
Their official announcement is here and a copy of their submission is here.
To read a copy of their submission …
RO-Transition-Tax-Overview
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TCJA and Expanding the definition of and number of "Controlled Foreign Corporations" subject to Subpart F

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As goes the number of “Controlled Foreign Corporations“, so goes the size of the U.S. tax base. The “messaging” was that the United States was moving to a system of “Territorial Taxation” for corporations. The reality is that the TCJA has actually increased the number of “non-U.S. corporations” that the United States claims to be be its “tax subjects”. (This has been accomplished by increasing the ways in which “non-U.S. corporations” can be treated as “controlled foreign corporations”. Furthermore, those “non-U.S. corporations (“controlled foreign corporations”), subject to U.S. tax jurisdiction, will be subject to U.S. tax on more income. I do understand that those “non-U.S. corporations” cannot be taxed directly by the United States. Fair enough. But “non-U.S. corporations” are clearly taxed indirectly by attributing income earned by the “controlled foreign corporation” to “United States Shareholders” under the Subpart F regime. In the same way that the United States is imposing taxation on the “worldwide” income of individuals who are “tax residents” of other nations, the United States is imposing taxation on the “worldwide income” of “non-U.S. corporations”. (This is done indirectly by imposing taxation on the “United States Shareholder” rather than on the “controlled foreign corporation” directly.) Although this has always been true, the “Tax Cuts and Jobs Act” has significantly expanded this taxation. This has been accomplished in at least three ways:
1. Expanding the definition of “United States Shareholder” in the Internal Revenue Code – Internal Revenue Code Sec.. 951
2. Expanding the circumstances under which the income from a “Controlled Foreign Corporation” is attributed to “United States Shareholders – Deleting the 30 day requirement – Internal Revenue Code Sec. 951
3. Increasing the number of “United States Shareholders” through changes in the “attribution rules” – Say “Good Bye” to Internal Revenue Code Sec. 958(b)(4)
This list is not intended to be exhaustive. I will discuss each of these in turn.
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