Volume No. US-19-07
We have described in past US Tax Tips the
recently enacted, Global Intangible Low Taxed Income (GILTI) provisions and the
potential impacts on United States persons in Canada who own enough shares in
Canadian corporations such that those Canadian corporations would be a
controlled foreign corporations (CFC) for U.S. tax purposes.
GILTI is treated as a new form of subpart F
income meaning that the United States shareholder must include their pro-rata
share of GILTI on their U.S. income tax return even though it may not be
taxable personally in Canada. Even
worse, where the United States shareholder is a natural person, there is no
credit for the underlying corporate tax paid by the Canadian corporation.
GILTI is also subject to being included in
its own foreign tax credit basket. As
such the inclusion of GILTI can result in an actual tax liability for United
States shareholders. An election, under
IRC §962, may be made by the taxpayer to address the potential double tax
Under this election, a United States
shareholder, who is an individual, can elect that certain income of the
Canadian corporation, be taxed as if the shareholder was a United States
corporation as opposed to an individual. This allows the corporate income to be
(i) taxed at the U.S. corporate rate of 21% (instead of at the individual’s
marginal tax rate which may be as high as 37%) and (ii) by doing so the
underlying actual corporate taxes are eligible to be claimed as a foreign tax credit. If the IRC §962 election is being made with
respect to GILTI, however, the eligible foreign taxes are reduced by 20% in
computing the foreign tax credit.
Other potential relief, however, appears to
be on its way.
In determining what income is subject to
the GILTI provisions, the corporation’s gross income is reduced for certain
items of income that are already subject to U.S. tax under other provisions of
the Internal Revenue Code. Such
exceptions include U.S.-source effectively connected income, passive income
subject to the subpart F inclusion provisions and other passive investment
income that would be subpart F income except for the high tax kick out
provision. In general, foreign source
active business income would be caught under the GILTI provisions.
On June 14th, 2019 the U.S.
Treasury and the IRS released Notice 2019-12436 entitled “Guidance under
Section 958 (Rules for Determining Stock Ownership) and Section 951A (Global
Intangible Low-Taxed Income).”
What is being proposed is a new exception
in determining what gross income would be classified as gross tested income (GILTI). The CFC’s controlling shareholder(s) would
make an election to exclude, from gross tested income, gross income that is
subject to foreign tax at an effective rate that is greater than 90% of the
maximum U.S. corporate rate. The maximum
U.S. corporate rate is currently 21% so the threshold would be 18.9% (21% x
90%). If the Canadian effective tax rate
is in excess of 18.9% then that income will not be subject to a GILTI inclusion
on the U.S. return.
Canadian corporate tax rates vary depending
on whether the corporation is a CCPC or not.
If the corporation is not a CCPC (or if a CCPC the active business
income is well above the Small Business Deduction (“SBD”) threshold
such the effective tax rate on Active Business Income (“ABI”) exceeds
18.9%) the 2019 general corporate tax rate varies from a low of 26.5% (Ontario
and the Northwest Territories) to a high of 31% (Nova Scotia and Prince Edward
Island). The lowest general corporate
rate of 26.5% is in excess of 18.9% so any ABI subject to these rates would be
excluded from GILTI under these provisions.
This particular item of relief, however,
would not assist CCPCs which take advantage of Small Business Deduction. The 2019 small business rates vary from 9%
(Manitoba) to 15% (Quebec). These
rates, by themselves, are below the current threshold of 18.9%.
For CCPCs, the shareholders may consider making the IRC §962 election. The IRS, however, had previously ruled that a United States shareholder, who is an individual, may claim the 50% deduction, under IRC §250, for any GILTI or Foreign-Derived Intangible Income (FDII) when an IRC §962 election is being made. As such, the effective U.S. corporate tax rate, on the GILT inclusion would 10.5% (1/2 of 21%). 80% of eligible foreign taxes paid may be claimed as a foreign tax credit against the GILTI U.S. tax. For a CCPC in Manitoba 80% of 9% equals 7.2%. Using this example, there would U.S. tax of 3.3% (10.5% – 7.2%) as the CCPC has not paid enough Canadian corporate tax to eliminate the U.S. tax. As such, small Canadian business may still be subject to a small level of double taxation under GILTI.
United States persons who are Canadian
residents, generally, did not establish their Canadian corporations to defer or
eliminate U.S. tax. They did so, because
they live and work in Canada, invest in Canada, they plan and conduct their
affairs as Canadians, which they are.
In our opinion, many provisions of the TCJA
failed to address how these changes would impact U.S. persons who live
abroad. These individuals are simply not
on the U.S. Congress’ radar.
Canada applies a de minimis threshold in
regard to many of its foreign reporting requirements. For example, a T106, “Information Return of Non-Arm’s Length Transactions with Non-Residents”,
is not required to be filed unless the reportable transactions exceed Cdn
The U.S. could easily include such a de
minimis threshold. There could even be
recapture provisions to clawback the de minimis threshold for larger taxpayers
(those who are the real targets of these provisions) such that Treasury does
not lose any tax revenue to which they are entitled. Such a provision would eliminate a
significant number of foreign small businesses from these far reaching and,
frankly, intrusive provisions. Something
to consider (in our opinion anyway).
Obviously the GILTI provisions rules are
extremely complex. Cadesky U.S. Tax Ltd.
is a full service firm providing U.S. consulting, planning and compliance
services. We monitor U.S. tax news that
may be of interest to our readers and share our thoughts in U.S. Tax Tips. If you require our assistance please do not
hesitate to reach out to us.
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The material provided in US Tax Tip is believed to be accurate and reliable as of the date of posting. Tax laws are complex and are subject to frequent change. Professional advice should always be sought before implementing any tax planning arrangements. Cadesky U.S. Tax cannot accept any liability for the tax consequences that may result from acting based on the contents hereof.