Unit
- Definition: A Controlled Foreign Corporation (CFC) is a foreign corporation where more than 50% of the voting power or value is owned by 'United States shareholders' (US persons owning at least 10% of the vote or value).
- US shareholders: Include individuals, corporations, partnerships, trusts, and estates that are US persons. Attribution and constructive ownership rules can expand the ownership count.
- Control test: Control is measured by vote or value. The 50% threshold applies to the aggregate ownership of all US shareholders, not just one.
- Purpose of CFC rules: They prevent US taxpayers from deferring US tax on passive or highly mobile income earned through controlled foreign subsidiaries by requiring current inclusion of certain income.
- Subpart F and GILTI: These are the two main categories of CFC inclusions. Subpart F targets tainted income (passive, base company sales), while GILTI aims at global intangible low-taxed income.
- Legislative history: CFC rules were enacted in 1962 as part of the Revenue Act to combat tax haven abuse. The Tax Cuts and Jobs Act of 2017 added GILTI and modified the CFC framework.
- Global context: Many countries have similar anti-deferral regimes (e.g., UK CFC rules, Germany's Hinzurechnungsbetrag). Understanding US rules aids cross-border comparisons.
- Entity classification: Whether a foreign entity is treated as a corporation or flow-through for US tax purposes affects CFC analysis. Check elections under the 'check-the-box' rules.
- Attribution rules: Constructive ownership under Section 318 applies to determine US shareholder status. Stock owned by family members, entities, or through options is attributed to related parties, potentially creating CFC status even without direct ownership.
- High Tax Exception for GILTI: A taxpayer can elect to exclude foreign income subject to an effective foreign tax rate above 90% of the US corporate rate (currently 18.9%). This prevents double taxation on highly taxed income while still requiring Form 5471 filing.
- Section 962 election: Individual US shareholders can elect to be taxed at corporate rates on GILTI and Subpart F inclusions, then claim a deemed paid foreign tax credit. This election can reduce current tax but complicates future dividend treatment.
- Qualified Business Asset Investment (QBAI): For GILTI computation, a 10% deemed tangible return on QBAI is excluded from net CFC tested income. QBAI includes depreciable tangible property used in a trade or business, reducing the GILTI inclusion for asset-intensive operations.
Regulatory Requirement
Regulation: IRC Sections 951-965 and Treas. Reg. §1.951A et seq.
The CFC rules require annual reporting on Form 5471 for any US person who is an officer, director, or shareholder owning 10% or more of a foreign corporation meeting the CFC definition. Failure to file can lead to significant penalties.
Quick Revision
- A CFC is a foreign corporation with/50% aggregate US shareholder ownership.
- US shareholders are US persons with at least 10% direct or indirect ownership.
- CFC rules force current inclusion of Subpart F and GILTI income.
- Anti-deferral regimes exist globally to prevent tax base erosion.