News Releases
Repatriated Dividends
By Stewart Berger, CPA, Tax Manager
Section 965 of the Internal Revenue Code, added by the American Jobs Creation Act of 2004 (“AJCA”) allows US companies to repatriate earnings from their foreign subsidiaries at a reduced tax rate. Section 965provides that US companies may elect for one taxable year to receive an 85% deduction for eligible dividends from their foreign subsidiaries. The election applies to actual cash dividends, not to any deemed dividends or foreign tax credit gross-ups. Distributions of previously taxed income are excluded. The dividends eligible for the deduction are limited to the greatest of (1) $500 million; (2) the earnings shown as permanently invested outside the U.S. on the most recently audited financial statements certified before July 1, 2003; or (3) in the case of a financial statement that fails to show a specific earnings permanently reinvested outside the U.S. but that shows the tax liability attributable to such earnings, the amount of the tax liability divided by 0.35.
For the dividends to qualify for the repatriation dividends- received deduction (repatriation DRD), they must be invested in the United States under a properly approved domestic reinvestment plan (IRC Sec. 965(b) (4)). Eligible taxpayers can elect to claim the deduction from either the taxpayer’s last tax return that begins before October 22, 2004 or the first tax return that begins during the one-year period commencing on October 22, 2004.
The dividend must be extraordinary. The code uses a formula to determine if the dividends are extraordinary: eligible dividends are the excess of dividends received during the taxable year over a base period average. The base period is three of the most recent five tax years ending before July 31, 2003, excluding the years with the highest and lowest of actual and deemed distributions. In computing the dividends for the base period, Code Sec. 965(b)(2)(B) counts dividends actually received plus dividends included in the shareholder’s gross income due to the controlled foreign corporation rule and amounts that would have been included but for Code Sec. 959 (relating to tiered ownership). The dividend cannot be financed by related party loans.
A domestic reinvestment plan must be approved by the company’s president, CEO or comparable officer as well as approved by the company’s management committee or board of directors before the funds are repatriated. The plan must describe specific anticipated investments in the United States as well as a reasonable time period for its completion. There is no specific form but the plan must state the total dollar amount for each principal investment. The plan may provide for alternative investments to be made if the principal investments specified cannot be made. Notice 2005-10, 2005-6 I.R.B. (1/13/2005), Sec. 4.03.
Permitted investments include but are not limited to the following:
- Hiring and training of workers;
- Infrastructure and capital improvements;
- Research and development;
- Financial stabilization for the purpose of U.S. job retention or creation;
- Certain acquisitions of business entities with U.S. assets;
- Advertising and marketing; and
- Acquisition of rights to intangible property, such as patent rights. Notice 2005-10, Sec. 5.
Expenditures that are not permitted investments include the following:
- Executive compensation;
- Intercompany transactions;
- Dividends and other shareholder distributions;
- Stock redemptions;
- Portfolio investments;
- Debt instruments; and
- Tax payments. Notice 2005-10, Sec. 6.
Taxpayer elects Sec. 965 by attaching Form 8895 to its timely filed return (including extensions). If form 8895 is not yet available, taxpayer may attach a statement to its return. Information must be reported to the IRS annually regarding investments made under a domestic reinvestment plan.
Before enactment of the AJCA, a company could deduct up to 100% of the dividends received as a special deduction under IRC Section 243 or 245. With the enactment of the AJCA, IRC Section 965(c)(4) states that if an election is made for a dividend received deduction (“DRD”) than no deduction is allowed under IRC Section 243 or 245. The DRD under IRC Section 965is taken as an expense to arrive at taxable income.
The new repatriation DRD provides significant planning opportunities for U.S. companies with interests in controlled foreign companies. Because the election is elective and reduces foreign tax credit eligibility, advance planning will be beneficial in order to determine the best cause of action to take.
The American Jobs Act of 2004 is brand new law and as such is open to interpretation until the Treasury has issued regulations.
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