United States: Guidance On CFC ‘Downward Attribution Rules' Provides Limited Relief To US Taxpayers

Last Updated: October 11 2019
Article by Shearman & Sterling LLP

On October 1, 2019, the Internal Revenue Service (IRS) issued Revenue Procedure 2019-40 (Revenue Procedure) and proposed regulations (Proposed Regulations) addressing issues related to the repeal of section 958(b)(4)1 by the Tax Cuts and Jobs Act (TCJA).2

The repeal of section 958(b)(4) caused many foreign corporations that were not previously treated as controlled foreign corporations (CFCs) to become CFCs for U.S. federal income tax purposes; corporations that are CFCs because of the repeal of section 958(b)(4) are called “foreign-controlled CFCs” in the October 1 guidance.3 The Proposed Regulations address many of the technical and information reporting issues arising in situations in which Congress or Treasury established, prior to the TCJA, special rules for CFCs that did not anticipate the treatment of foreign-controlled CFCs as CFCs. In addition, the Revenue Procedure changes the way in which U.S. persons will approach determining whether a foreign joint venture in which they will own a stake of 50 percent or less is a CFC and allows certain U.S. owners of foreign-controlled CFCs to use alternative information to calculate their “subpart F” income within the meaning of section 951(a)(1) and global intangible low-taxed income (GILTI) under section 951A on an estimated basis if they are deemed unable to obtain information necessary to report subpart F income or GILTI income with precision. However, neither the Revenue Procedure nor the Proposed Regulations provide a carve-out from the normal operation of the CFC rules to unrelated U.S. shareholders of CFCs that result from the repeal of section 958(b)(4).


According to the legislative history of the TCJA, the repeal of section 958(b)(4) was originally intended to stop certain transactions that were engaged in to minimize subpart F income, including “de-control” transactions where a controlling U.S. Shareholder would restructure its foreign subsidiaries such that the foreign subsidiaries that were previously CFCs would not be CFCs.4 The legislative history states that the repeal of section 958(b)(4) was “not intended to cause a foreign corporation to be treated as a controlled foreign corporation with respect to a U.S. shareholder as a result of attribution of ownership under section 318(a)(3) to a U.S. person that is not a related person. . . .” 5 However, section 958 does not reflect the intent that the repeal contain such a carve-out. The repeal of section 958(b)(4) has led to a number of foreign corporations being treated as CFCs and significant tax compliance and reporting consequences that may have been unintended. House of Representative Republicans released a technical corrections draft bill in January 2019 that restores section 958(b)(4) but provides an exception for certain limited situations. However, the current Congress has taken no significant action on the technical corrections legislation.

Under the constructive ownership rules of section 318(a)(3)(A), (B), and (C), stock owned by a person is attributed to the partnerships, estates, trusts and corporations (in certain cases) in which the person has an interest (referred to as “downward attribution”). Prior to its repeal, section 958(b)(4) provided that downward attribution would not cause a U.S. person to constructively own stock owned by a foreign person in order to cause a foreign corporation to be a CFC, to cause a U.S. person to be considered a 10 percent U.S. shareholder of the CFC or for certain other purposes. As a result of the repeal of section 958(b)(4), a foreign corporation that is majority-owned by foreign shareholders and previously could not be considered a CFC may now be considered a CFC through downward attribution.

Before the TCJA, when a foreign person owned stock of both a foreign corporation and a U.S. corporation, section 958(b)(4) blocked the downward attribution of the foreign person’s ownership of stock of the foreign corporation to the U.S. corporation. Because of the repeal of section 958(b)(4), the foreign person’s stock in the foreign corporation is now attributed to the U.S. corporation, and that attribution may cause the foreign corporation to be treated as a CFC. As a result, U.S. Shareholders who directly or indirectly own between 10 and 50 percent of the stock of any such foreign-controlled CFC would be required to take into account subpart F income or GILTI following the repeal of section 958(b)(4).

Although practitioners have requested more expansive relief in the almost two years since the TCJA, the Revenue Procedure and the Proposed Regulations generally provide only limited relief from issues created by the repeal of section 958(b)(4).

Revenue Procedure 2019-40 Reduces Reporting and Compliance Burden

In certain situations, the Revenue Procedure provides that the IRS will not challenge a taxpayer’s determination that a foreign corporation is not a CFC, provided the corporation is a foreign-controlled CFC and the taxpayer satisfies a duty of inquiry (the “Safe Harbor”). The Safe Harbor applies only to foreign-controlled CFCs, i.e, entities that are CFCs, or become CFCs, solely due to downward attribution. The Safe Harbor applies (i) if a U.S. person does not have actual knowledge, has not received statements, and cannot obtain reliable public information sufficient to determine the foreign corporation is a CFC, and (ii) if such U.S. person asks the foreign entities in which such U.S. person directly owns an interest whether that entity is a CFC, and asks such entity for certain information relevant to whether any of its subsidiaries may be a CFC. The Safe Harbor generally does not require a similar inquiry with respect to an unrelated foreign co-investor in the same foreign entity as the U.S. person (for example, whether the unrelated foreign co-investor owns directly or indirectly or constructively owns stock of, or an interest in, a domestic entity).

In the event that a taxpayer determines that it owns stock in a foreign-controlled CFC, such taxpayer may be unable to obtain information necessary to determine the subpart F income or GILTI income of the foreign-controlled CFC. Foreign corporations that lack U.S. connections (other than being minority-owned by a U.S. person) may not compute the information required for a U.S. Shareholder to make those determinations based on U.S. tax principles. The Revenue Procedure recognizes that certain U.S. shareholders will be unable to obtain such information and allows a U.S. shareholder to use alternative information in the event that the information required to calculate and categorize the CFC’s income (including for purposes of the transition tax imposed by the TCJA’s addition of section 965) based on U.S. tax principles is not readily available. Alternative information may include audited or unaudited separate entity financial statements that are prepared on the basis of U.S. generally accepted accounting principles, international financial reporting standards, or generally accepted accounting principles of the jurisdiction in which the foreign corporation is organized, or records used by the foreign corporation for tax reporting or internal management controls.

The IRS announced that it intends to revise the instructions of Form 5471 to limit the information required to be reported by certain U.S. Shareholders of a foreign-controlled CFC. Taxpayers should consider their obligations to obtain tax information when investing in a foreign entity that could potentially be considered a CFC.

The Revenue Procedure is effective for the last taxable year of a foreign corporation beginning before January 1, 2018. The IRS noted that it may adjust the effective date in the event of future guidance.

Proposed Regulations

The Proposed Regulations modify a number of U.S. tax provisions that provide rules with respect to CFCs and provide that, for purposes of such rules, whether a foreign corporation is a CFC is determined without applying the downward attribution rules to attribute ownership of stock from a foreign person to a domestic person. The Proposed Regulations include updates to regulations under sections 267, 332, 367, 672, 706, 863, 904, 1297, and 6049 for this purpose. In particular, the revision to the section 6049 regulations provides that foreign-controlled CFCs will not be treated as U.S. payers and, therefore, are exempted from Form 1099 reporting and backup withholding with respect to such entity. The changes to the section 267 regulations provide relief with respect to amounts paid to a treaty-eligible foreign-controlled CFC. However, the Proposed Regulations did not provide relief to a foreign-controlled CFC that is ineligible for the portfolio interest exception with respect to interest received from a related U.S. borrower solely as a result of downward attribution.

The Proposed Regulations are proposed to apply on or after October 1, 2019, and taxpayers may rely on the Proposed Regulations prior to finalization so long as taxpayers apply a particular provision consistently.


Although the Revenue Procedure and Proposed Regulations provide some limited relief to taxpayers, the repeal of section 958(b)(4) is likely to continue to result in unintended and often unexpected U.S. tax consequences. The Revenue Procedure and the Proposed Regulations provide needed guidance on many unanswered technical and information reporting questions resulting from section 958(b)(4) repeal but do not go as far in limiting its impact as many had hoped. In particular, U.S. persons negotiating foreign joint ventures will be left with difficult questions about how much to inquire about the foreign joint venture partner’s ownership of U.S. subsidiaries and what constitutes “reliable public information” regarding such ownership.


1 All section references are to the Internal Revenue Code of 1986, as amended (the “Code”), and “Treas. Reg. §” references are to the Treasury regulations issued thereunder.

2 Pub. L. No. 115-97 (2017).

3 A CFC is a foreign corporation that has more than 50 percent of the total vote or value of its stock owned (directly, indirectly, or constructively) by “U.S. Shareholders” (i.e., U.S. persons holding 10 percent or more of the total vote or value of the stock of such corporation). Any U.S. Shareholder that directly or indirectly holds stock of a CFC is required to include in income its pro rata share of “subpart F” income and GILTI income.

4 See H.R. Rep. No. 115-466, at 633 (2017) (Conf. Rep.).

5 Id.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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