PLR 1026017: Subpart F income from wholly owned CFC subsidiaries qualifies as RIC income

Plain-English summary

The IRS ruled for a group of regulated investment companies that planned to invest in wholly owned foreign subsidiaries. The subsidiaries were expected to earn Subpart F income from investments, and the funds asked whether that income would count toward the 90 percent gross-income test for regulated investment company status. The IRS concluded that the Subpart F income attributable to a fund would be treated as income derived from the fund's business of investing in the subsidiary's stock, so it would qualify under section 851(b)(2). The ruling depended on the funds' representations that the subsidiaries would be corporations and controlled foreign corporations under the applicable rules.

Ruling snapshot

• Question: Does Subpart F income attributable to a regulated investment company from its wholly owned controlled foreign corporation subsidiary qualify under the RIC gross-income test?
• Outcome: approved
• Key authorities: IRC §§ 851(b)(2), 851(b)(3), 951, 952(a)(2), 954(a)(1), 954(c)(1)(A), 957, and 6110(k)(3); Investment Company Act of 1940 § 2(a)(36)

Full text (IRS public release)

Internal Revenue Service Department of the Treasury
Washington, DC 20224

Number: 201026017
Release Date: 7/2/2010 Person To Contact:
------------------ ID------------------
Index Number: 851.02-00 Telephone Number:
---------------------
Refer Reply To:

                                                            CC:FIP:B02

                                                            PLR-142519-09

---------------------------------------- Date:
---------------------------- March 03, 2010

Legend:

Fund 1 = -----------------------------

Fund 2 = --------------------------------

Fund 3 = ------------------------------------

Fund 4 = -------------------------------------

Fund 5 = -------------------------------------

Fund 6 = ------------------------------------------------

Trusts = -----------------------------------

Company = ------------------------------------

State = -------------

Offshore = ----------------------
PLR-142519-09 2

Dear ---------------:

   This is in response to a letter dated September 15, 2009, requesting a ruling that

income earned by Funds from investments in their wholly-owned subsidiaries that
qualify as controlled foreign corporations (“CFCs”) constitutes qualifying income under
section 851(b)(2) of the Internal Revenue Code.

                                       FACTS

   Each of Fund 1, Fund 2, Fund 3, Fund 4, Fund 5, and Fund 6 (“the Funds”) is a

separate series of one of Trusts. Trusts are two State series trusts. Funds represent
that they will be classified as corporations for federal income tax purposes. Funds are
registered as open-end management companies under the Investment Company Act of
1940, 15 U.S.C. 80a-1 et seq. (“the 1940 Act”).

  Funds have elected to be treated as regulated investment companies (“RICs”)

under section 851 of the Code.

  Each Fund proposes to form a wholly-owned subsidiary (“Sub”) under the laws of

Offshore, a non-United States jurisdiction. Under Offshore’s laws, each Sub will be
formed as a Company. A Company provides limited liability for its shareholders. It is
represented that each Sub will be treated as a corporation for federal income tax
purposes.

   Funds represents that although a Sub will not be registered as an investment

company under the 1940 Act, it will comply with the requirements of section 18(f) of the
1940 Act, Investment Company Act Release No. 10666, and related SEC guidance
pertaining to asset coverage with respect to investments that would apply if the Sub
were registered under the 1940 Act.

    Each Fund will invest a portion of its assets in its Sub, subject to the limitations

set forth in section 851(b)(3) of the Code.

    Each Fund expects that its Sub’s income will generate “Subpart F” income.

                                        LAW

    Section 851(b)(2) of the Code provides that a corporation is not considered a RIC

for any taxable year unless it meets an income test. Under this test, at least 90 percent
of its gross income must be derived from certain sources. Under section 851(b)(2),
qualifying income includes

    . . .dividends, interest, payments with respect to securities loans (as
    defined in section 512(a)(5)), and gains from the sale or other disposition

PLR-142519-09 3

   of stock or securities (as defined in section 2(a)(36) of the 1940 Act) or
   foreign currencies, or other income (including but not limited to gains from
   options, futures or forward contracts) derived with respect to its business
   of investing in such stock, securities, or currencies . . . .

   Section 2(a)(36) of the 1940 Act defines the term “security” as

   any note, stock, treasury stock, security future, bond, debenture, evidence
   of indebtedness, certificate of interest or participation in any profit-sharing
   agreement, collateral-trust certificate, preorganization certificate or
   subscription, transferable share, investment contract, voting-trust
   certificate, certificate of deposit for a security, fractional undivided interest
   in oil, gas, or other mineral rights, any put, call, straddle, option, or
   privilege on any security (including a certificate of deposit) or on any group
   or index of securities (including any interest therein or based on the value
   thereof), or any put, call, straddle, option, or privilege entered into on a
   national securities exchange relating to foreign currency, or, in general,
   any interest or instrument commonly known as a “security”, or any
   certificate of interest or participation in, temporary or interim certificate for,
   receipt for, guarantee of, or warrant or right to subscribe to or purchase,
   any of the foregoing.

   Section 851(b) of the Code provides that, for purposes of section 851(b)(2), the

term “dividends” includes amounts included in gross income under sections
951(a)(1)(A)(i) or 1293(a) for the taxable year to the extent that, under sections
959(a)(1) or 1293(c), there is a distribution out of the earnings and profits of the taxable
year which are attributable to the amounts so included.

   Section 957 of the Code defines a CFC as any foreign corporation in which more

than 50 percent of (1) the total combined voting power of all classes of stock entitled to
vote, or (2) the total value of the stock, is owned by United States shareholders on any
day during the corporation’s taxable year. A United States shareholder is defined in
section 951(b) as a United States person who owns 10 percent or more of the total
voting power of a foreign corporation.

   Section 951(a)(1) of the Code provides that if a foreign corporation is a CFC for

an uninterrupted period of 30 days or more during any taxable year, every person who
is a United States shareholder of the corporation and who owns stock in it on the last
day of the taxable year in which the corporation is a CFC shall include in gross income
the sum of the shareholder’s pro rata share of the CFC’s subpart F income for the
taxable year.

  Section 952(a)(2) defines subpart F income to include foreign base company

income determined under section 954. Under section 954(a)(1), foreign base company
PLR-142519-09 4

income includes foreign personal holding company income determined under section
954(c). Section 954(c)(1)(A) defines foreign personal holding company income to
include dividends, interest, royalties, rents, and annuities.

  A Sub’s investments may generate foreign personal holding company income

under section 954(c), which is subpart F income. A Fund would therefore include in
income its Sub’s subpart F income for the taxable year in accordance with section 951.

                         ANALYSIS AND CONCLUSION

  Each Fund has represented that its Sub will be a wholly-owned subsidiary of the

respective Fund. Funds are United States persons. Based upon Funds’
representations, Subs will qualify as CFCs under these provisions.

    Based on the facts as represented, we rule that subpart F income of a Sub that is

attributable to a Fund is income derived with respect to the Fund’s business of investing
in the stock of Sub, and thus constitutes qualifying income under section 851(b)(2).

   This ruling is directed only to the taxpayer who requested it, and is limited to the

facts as represented by the taxpayer. Section 6110(k)(3) provides that this letter may
not be used or cited as precedent.

    In accordance with the power of attorney on file with this office, copies of this

letter are being sent to your authorized representatives.

                                               Sincerely,


                                               Susan Thompson Baker
                                               Susan Thompson Baker
                                               Assistant to the Branch Chief, Branch 2
                                               Office of Associate Chief Counsel