The IRS has released Frequently Asked Questions (FAQs) to address a taxpayer’s filing obligations and payment requirements with respect to the transition tax. The FAQ’s instructions are for filing 2017 returns with any amount of transition tax. In addition, a taxpayer’s failure to follow the FAQs could result in return processing issues. Also, taxpayers required to file electronically are asked to wait until April 2, 2018, to file returns so that the IRS can make system changes.
In general, Code Sec. 965 imposes a one-time tax on the untaxed post-1986 foreign earnings of foreign subsidiaries of U.S. businesses by deeming the earnings to be repatriated. Foreign earnings held in the form of cash and cash equivalents are taxed at a 15.5 percent rate and the remaining earnings are taxed at an 8 percent rate. However, the taxpayer may elect to pay the tax in installments over eight years.
Amounts must be reported by U.S. shareholders of a deferred foreign income corporation (DFIC) or by a direct or indirect partner in a domestic partnership, a shareholder in an S corporation, or a beneficiary of another passthrough entity that is a U.S. shareholder of a DFIC.
Transition Tax Guidance
The Appendix to Q&A 2 contains a table that describes, separately for individuals and entities, how items should be reported on a 2017 tax return. For example, an individual reports the Code Sec. 965(a) amount on Form 1040, Line 21, with the notation SEC 965.
In addition, a person with income under Code Sec. 965 must include with its return an IRC 965 Transition Tax Statement, signed under penalties of perjury. An electronically filed return must include the statement in pdf format with the filename 965 tax. The FAQs provide a Model statement. Also, taxpayers must keep adequate records to support:
- the Code Sec. 965 inclusion amount;
- the deduction under Code Sec. 965(c);
- the net tax liability under Code Sec. 965; and
- any other underlying calculations of these amounts.
Moreover, the FAQs provide details on how to make the multiple Code Sec. 965 elections, including the election to pay the tax in installments over eight years. For each election, the taxpayer must attach a statement to the return signed under the penalties of perjury. Electronically filed returns must include the statements in pdf format.
Also, Form 5471 must be filed with the 2017 return of a U.S. shareholder of a specified foreign corporation, regardless of whether the specified foreign corporation is a CFC. Moreover, taxpayers must attach a statement containing information about the inclusion amount to the K-1s of domestic partnerships, S Corporations, or other passthrough entities.
A taxpayer must pay the tax owed in two separate payments. One payment will reflect the tax owed, without Code Sec. 965. The second payment is the Code Sec. 965 payment. Moreover, both payments must be made by the due date of the applicable return (without extensions). Additional details for paying the tax are provided in the FAQs.
Persons who have already filed a 2017 tax return should consider filing an amended return based on the information in these FAQs and Appendices.
Questions and Answers about Reporting Related to Section 965 on 2017 Tax Returns