Wednesday, November 2, 2022
Wells: Foreign Tax Credit Redux
Bret Wells (Houston; Google Scholar), Foreign Tax Credit Redux, 26 Chap. L. Rev. __ (2023):
In the preamble to its 2022 final regulations, the Treasury Department provided multiple justifications for its amendments based on the historic policy goals of Section 901 and the manner that judicial case law has construed this provision. Yet, in fact, the amendments made by the 2022 final regulations deviate away from the historic policy goals of the U.S. foreign tax credit without any Congressional authorization for doing so. Moreover, these 2022 final regulations represent a strong repudiation of the Supreme Court’s own articulation of the Biddle doctrine in the PPL decision by attempting to formulate an interpretation of the Biddle doctrine that is inconsistent with the Supreme Court’s own interpretation of its own doctrine. The U.S. Treasury Department has forged a diametrically opposite policy approach in this era compared to the one that Congress chose to pursue in the circa 1918-1921 era when it enacted Section 901’s predecessor. In 1918, Congress adopted a unilateral foreign tax credit before a consensus on international taxation norms was forged, and the United States worked for a consensus on international norms in the succeeding years.
In contrast, in 2022, the Treasury Department has sought to deny foreign tax credit relief on destination-based taxes until a further international consensus on taxation of the digital economy is fully implemented. In 1918, Congress prioritized mitigation of international double taxation above the interests of the U.S. fisc and then worked to create a consensus on international taxation. In contrast in 2022, the Treasury Department reversed the prioritization and created the real possibility of international double income taxation, which is antithetical to the policy goal that undergirds Section 901. Seen in light of its historical objectives and historical context, the Treasury Department’s amendments to its Section 901 final regulations fail to satisfy the text, purpose and policy goals that guided the original enactment of the foreign tax credit regime. Instead of pursuing the path that it has taken, the Treasury Department should withdraw its 2022 amendments.
The Treasury Department also did not address the policy implications of the implementation of the OECD Pillar Two framework even though the Treasury Department has endorsed that initiative. Under Pillar Two, a top-up tax would be applied to ensure that a minimum tax is paid by multinational enterprises regardless of where they are headquartered or operate. These top-up taxes are conceptually an additional tax needed to arrive at a minimum tax and thus do not present a double taxation concern. As a result, these top-up taxes applied by jurisdictions that adopt the OECD Pillar Two regime should be denied foreign tax credit relief. In 2022, Congress adopted a corporate alternative minimum tax that does not comply with the GloBE rules. By enacting a provision that does not fit neatly with the GloBE rules, the enacted corporate minimum tax may represent a better outcome than if the United States had enacted a qualified IIR in compliance with the GloBE rules. But, the enacted legislation contains a deficiency. What should have been done concurrently with the enactment of this corporate alternative minimum tax (but was not done) was a need to make a companion amendment to Section 901 so that Section 901 would not afford foreign tax credit relief for any non-covered tax that is imposed as a top-up tax under the GloBE rules. Failing to do so has put the residual U.S. tax jurisdiction at risk of being eroded through minimum taxes imposed by other nations in preference to the corporate alternative minimum tax imposed by the United States. The OECD framework envisions that top-up taxes modelled after the GloBE rules would not be afforded foreign tax credit relief among nations, and so a denial of foreign tax credit relief for such top-up taxes by the United States would have been consistent with the international consensus endorsed by the OECD framework. Thus, the US failure to make this conforming amendment to Section 901 represents a self-inflicted wound. Congress should correct this mistake by amending Section 901 to make it clear that top-up taxes under a qualifying IIR or a qualifying UTPR would not be afforded U.S. foreign tax credit relief. This is the reform that is needed under Section 901, not the imposition of close conformity requirements or the jurisdictional nexus requirements envisioned by the 2022 final regulations. Reform along these lines effectuates the policy goals sought by the OECD framework and also protects the U.S. tax base. It is now time for Congress and the Treasury Department to correct these mistakes.