A section 965 underpayment from disregarding a regulation cannot be spread over installments and is due at once

Plain-English summary

The 2017 tax law imposed a one-time transition tax under section 965 on U.S. companies' accumulated offshore earnings, and it let a company elect to pay that tax in eight annual installments. Here a domestic corporation made the installment election but took a return position that ignored a final Treasury regulation (Treas. Reg. § 1.78-1), which lowered the tax it reported. The IRS determined a deficiency for the shortfall. This Chief Counsel Advice addresses whether that deficiency can also be spread across the remaining installments. The answer is no. Section 965(h)(4) says the proration benefit does not apply when a deficiency is due to negligence or intentional disregard of rules and regulations, and disregarding the final regulation qualifies. So the deficiency is payable in full on notice and demand, not in installments. The memo adds that filing a disclosure form (such as Form 8275-R) does not change the result, the same rule applies to disregarding any other regulation that would raise the section 965 liability, and the timing of the return does not matter. This matters because it warns companies that taking an aggressive position against a section 965 regulation forfeits the installment cushion for the resulting tax.

Ruling snapshot

• Question: When a corporation's section 965 deficiency results from disregarding a final regulation, may the deficiency be prorated across the section 965(h) installments?
• Outcome: Advice given (no proration; deficiency due on notice and demand)
• Key authorities: IRC § 965(h)(1), (h)(4); Treas. Reg. § 1.965-7(b)(1)(ii)(C), (g)(4); Treas. Reg. § 1.78-1

Full text (IRS public release)

           Office of Chief Counsel
           Internal Revenue Service
           memorandum
           Number: 202235009
           Release Date: 9/2/2022
           CC:INTL:B02:KJCate
           POSTU-113397-22

 UILC:     9414.07-00

  date:    August 9, 2022
    to:    Veronica L. Richards
           Senior Counsel
           (Large Business & International)

  from:    Karen J. Cate
           Senior Advisor, Branch 2
           (International)


subject:   Application of section 965(h)(4) to deficiency related to regulation challenge

           This Chief Counsel Advice responds to your request for assistance. This advice should
           not be used or cited as precedent.


           ISSUE

           How does section 965(h)(4) apply to the portion of the tax liability that a domestic
           corporation did not report because it is challenging a regulation that, if not
           challenged, would increase the amount of the section 965(h) net tax liability as
           defined in Treas. Reg. section 1.965-7(g)(4)?

           CONCLUSIONS

           The portion of the tax liability that a domestic corporation did not report is a
           deficiency due to negligence or intentional disregard of Treas. Reg. section 1.78-1
           ("Final Regulations"). Thus, the domestic corporation is not entitled to prorate the
           deficiency under section 965(h)(4), and the deficiency is due on notice and demand.
           Regardless of whether the domestic corporation filed a Form 8275-R, Regulation
           Disclosure Statement, or other disclosure of its position, the same conclusion would
           apply because section 965(h)(4) and Treas. Reg. section 1.965-7(b)(1)(ii)(C) do not
           provide an exception in cases of disclosure of a disregarded rule. Further, the
           same conclusion would apply if the domestic corporation's deficiency was due to its
           negligence or intentional disregard of any other rule or regulation that would
           increase the section 965(h) net tax liability. Also, the timing of the filing of the return
           is not relevant to the conclusion.


FACTS

A domestic corporation filed Form 1120, U.S. Corporation Income Tax Return, for
its tax year ending in 2018 which included a statement electing to pay the section
965(h) net tax liability in eight installments under section 965(h)(1). The domestic
corporation's return position did not reflect application of the Final Regulations. The
Service determined a deficiency in the domestic corporation's tax resulting from the
domestic corporation's position contrary to the Final Regulations.

LAW

On December 22, 2017, PL 115-97 or the Tax Cuts and Jobs Act of 2017 ("TCJA")
amended numerous sections of the Internal Revenue Code, including the following
sections that are relevant to the subject of this memorandum.

The TCJA amended section 965 to require, in the case of the last taxable year of a
deferred foreign income corporation ("DFIC") which begins before January 1, 2018,
the subpart F income of such foreign corporation (as otherwise determined for such
taxable year under section 952) to be increased by the greater of the accumulated
post-1986 deferred foreign income of such corporation determined as of November
2, 2017, or December 31, 2017. The TCJA (and the associated regulations)
provide additional rules regarding the computation of the inclusion to the U.S.
shareholder (aggregate section 965(a) inclusion amount), the allowable deduction
with respect to such inclusion (section 965(c) deduction), the allowed deemed paid
foreign tax credits,1 and the required amount of the section 78 gross-up amount.2

Under section 965(h)(1), a taxpayer could elect to pay its section 965(h) net tax
liability in 8 installments.3

In relevant part, the term "section 965(h) net tax liability" means, with respect to
a person that has made a section 965(h) election, the total net tax liability under
section 965. Treas. Reg. section 1.965-7(g)(4). In relevant part, the term "total net
tax liability under section 965" means, with respect to a person, the excess (if any)
of - (A) The person's net income tax for the tax year in which the person includes a
section 965(a) inclusion in income, over (B) The person's net income tax for the tax
year determined (1) without regard to section 965, and (2) without regard to
any income, deduction, or credit properly attributable to a dividend received by
the person from, or an inclusion under sections 951(a)(1)(B) and 956 with respect

           1 See section 965(g)(1), (2).
           2 See section 965(g)(4).
           3 See also Treas. Reg. section 1.965-7(b)(1)(i).

to, a DFIC and paid during, or included with respect to, the DFIC's inclusion year.
Treas. Reg. section 1.965-7(g)(10)(i).

Section 965(h)(4) provides that if an election is made under section 965(h)(1) to pay
the net tax liability under section 965 in installments and a deficiency has been
assessed with respect to such net tax liability, the deficiency is prorated to the
installments payable under section 965(h)(1). See also Treas. Reg. section 1.965-
7(b)(1)(ii)(A)(1). Section 965(h)(4) states that the election to pay the net tax liability
under section 965 in installments does not apply if the deficiency is due to
negligence, intentional disregard of rules and regulations, or fraud with intent to
evade tax. As provided in Treas. Reg. section 1.965-7(b)(1)(ii)(C), if a deficiency or
additional liability is due to negligence, intentional disregard of rules and
regulations, or fraud with intent to evade tax, the proration rule will not apply, and
the deficiency or additional liability, as well as any applicable interest and penalties,
must be paid on notice and demand by the IRS, or in the case of an additional
liability, reported on a return increasing the amount of the section 965(h) net tax
liability after payment of the first installment or on an amended return, with the filing
of the return.

ANALYSIS

On December 7, 2018, the Department of Treasury and the IRS published
proposed Treas. Reg. section 1.78-1. Those regulations were finalized with no
changes on June 21, 2019 and were applicable to the domestic corporation's tax
year ending in 2018. The domestic corporation's return position did not reflect
application of the Final Regulations. The resulting deficiency determined by the IRS
(if assessed) is a deficiency due to negligence or intentional disregard of Final
Regulations. Thus, under section 965(h)(4), the domestic corporation is not entitled
to prorate the deficiency, and the deficiency is due on notice and demand under
section 965(h)(4) and Treas. Reg. section 1.965-7(b)(1)(ii)(C).

Regardless of whether the domestic corporation filed a Form 8275-R or other
disclosure of its position, the same conclusion would apply because section
965(h)(4) and Treas. Reg. section 1.965-7(b)(1)(ii)(C) do not provide an exception
in cases of disclosure of a disregarded rule. Further, the same conclusion would
apply if the domestic corporation's deficiency was due to its negligence or
intentional disregard of any other rule or regulation that would increase the section
965(h) net tax liability. Also, the timing of the filing of the return is not relevant to
the conclusion.


Please call (202) 317-4667 if you have any further questions.