In an effort to minimize the shifting of corporate profits to low-tax countries, the Tax Cuts and Jobs Act of 2017 (TJCA) introduced a new category of foreign income called the “global intangible low-tax income”, or GILTI. GILTI is essentially a minimum tax on foreign earnings that applies to all U.S. shareholders – individuals who own 10% or more of a controlled foreign corporation (CFC) and C Corporations that own 10% or more of a foreign corporation. The 10% or more threshold may include stock owned directly, indirectly and through family members. Effective for tax years beginning after 12/31/2017, GILTI will be taxed on an annual and on-going basis. This is a dramatic shift in international taxation, whereas under prior law U.S. shareholders of CFCs were not taxed on their operating profits until the profits were distributed in the form of a dividend to the U.S. shareholder.
Comparison of U.S. Shareholders
While GILTI applies to both individual and C Corporation U.S. shareholders, there is a significantly higher tax cost to individual shareholders than C Corporation shareholders. C Corporation shareholders are entitled to a deduction of 50% of the GILTI in calculating the amount subject to U.S. tax. The deduction combined with the new 21% U.S. federal corporate tax rate ultimately results in an effective U.S. tax rate of 10.5% on GILTI income. Additionally, C Corporation shareholders are eligible for a foreign tax credit of up to 80% of the foreign taxes paid on the GILTI. U.S. individual shareholders are generally not eligible for the above mentioned 50% deduction or a credit for any foreign taxes paid on GILTI.
U.S. individual shareholders are generally not eligible for the above mentioned 50% deduction or a credit for any foreign taxes paid on GILTI. As a result, U.S. individual shareholders will be subject to tax on the entire amount of GILTI up to the highest individual tax rate of 37%. In addition, while unclear at this point, GILTI could possibly be subject to the 3.8% tax on net investment income. Further IRS guidance on this and other GILTI matters is expected late in the summer of 2018.
The disparity in the tax consequences between the ownership of the CFC as an individual or a corporation should not be ignored. Comparing the potential GILTI tax liability as a U.S corporate shareholder and U.S. individual shareholder is an important first step. Once the potential tax liability has been determined, there are planning opportunities that individual shareholders of CFCs should consider to help minimize the impact of GILTI:
- Ownership of the CFC through a C Corporation – An individual shareholder could transfer stock in CFC to a new U.S. C Corporation that directly owns the CFC.
- IRC 962 election – If this election is made, individual shareholders are treated as C Corporation shareholders for computing income tax on GILTI. Individual shareholders would be eligible for the 21% corporate tax rate and the foreign tax credit. It is unclear if individual shareholders who make the 962 election are eligible for 50% deduction from GILTI.
- Elect to treat eligible CFC as a disregarded entity or pass-through entity – GILTI would no longer apply, but there are other consequences that must be considered.
Planning and implementation should be done before the end of 2018 because there are advantages, disadvantages and timing considerations for each of these strategies.
The GILTI provisions that affect U.S. shareholders of foreign corporations are new and complex. Proper planning can help minimize the tax consequences. Kerkering Barberio strongly recommends that taxpayers who are shareholders of foreign corporations or who are considering international operations consult with our International Tax advisors to understand the full impact of the GILTI.
To discuss you international tax and financial planning needs, contact Chris Corneroli, Tax Manager, at (941)365 4617 or by email, .