If a taxpayer's federal net operating loss deduction is limited because of an IRC Section 965(n) election (related to the repatriation transition tax), can the taxpayer still subtract that disallowed federal deduction amount on its Illinois return?

Subject

Base Income – Modifications

Plain-English summary

A representative filed a request on behalf of a corporate taxpayer after the Department disallowed a Schedule M subtraction the taxpayer had claimed on its Illinois return. The subtraction related to a deferred amount tied to an IRC Section 965(n) election (the "transition tax" repatriation provision). Under Treasury Regulations Section 1.965-7(e)(1)(i), when a Section 965(n) election creates or increases a federal net operating loss, the "deferred amount" — here, $3,236,949 — is not allowed as a federal deduction for the year. The taxpayer wanted to subtract that disallowed amount on its Illinois return instead, arguing that the resulting positive federal income adjustment should not carry over to Illinois since there was no prescribed Illinois form for the subtraction.

The Department disagreed and upheld the disallowance. It explained that under IITA Section 203(e), Illinois "taxable income" is simply the taxpayer's federal taxable income, and under IITA Section 203(b)(1)-(2), Illinois "base income" for a corporation is that federal taxable income as modified only by the specific modifications listed in Section 203. IITA Section 203(h) is explicit: "[e]xcept as expressly provided by this Section there shall be no modifications or limitations" on the income items used to compute base income and net income. Because the taxpayer's federal taxable income already could not be less than the amount described in the regulation (the deferred amount is simply excluded from the federal NOL), that same federal taxable income figure carries over to the Illinois computation. Since IITA Section 203 does not list a subtraction modification for amounts disallowed under a Section 965(n) election, the Department held that no such subtraction is allowed — the disallowance was proper.

This is a General Information Letter (GIL), not a Private Letter Ruling. A GIL is designed only to provide general information; by its own terms and under 86 Ill. Adm. Code 1200.120(b) and (c), it is not a statement of Department policy and is not binding on the Department.

What this means for you

Corporations with a Section 965(n) election or similar federal NOL limitations

If your federal net operating loss deduction was reduced or capped because of an IRC Section 965(n) election (or a similarly structured federal provision that limits deductions rather than adding to gross income), this letter indicates the Department will not allow a Schedule M subtraction to reverse that limitation on your Illinois return, absent an express statutory modification. Because Illinois base income is built directly off federal taxable income under IITA Section 203(e), a disallowed federal deduction generally stays disallowed for Illinois purposes too, unless IITA Section 203 specifically lists a modification for it.

Accountants and tax professionals

The letter's reasoning is a straightforward "no modification without express statutory authority" analysis under IITA Section 203(h). The footnote in the ruling ("Compare IITA Section 203(b)(2)(Z)") signals that the Department considered whether an existing statutory modification might cover this situation and concluded it did not apply here. When advising clients with Section 965(n) elections or comparable federal-only deduction limitations, do not assume an equivalent Illinois subtraction exists — check whether IITA Section 203 expressly provides for it before claiming a Schedule M modification.

Anyone relying on this letter

Because this is a GIL rather than a Private Letter Ruling, it is not binding on the Department and does not constitute a statement of Department policy. It shows how the Department reasoned about this particular taxpayer's facts (a specific dollar amount and a specific Section 965(n) deferred amount), not a guarantee of the same outcome for every taxpayer's situation.

Common questions

Q: Can a taxpayer subtract, on its Illinois return, an amount that IRC Section 965(n) prevented from being deducted federally?
A: No. The Department ruled that IITA Section 203 does not provide a subtraction modification for deductions disallowed for the taxable year by reason of a Section 965(n) election, so no such subtraction is allowed.

Q: Why does a federal deduction limitation automatically carry over to the Illinois return?
A: Because IITA Section 203(e) defines Illinois "taxable income" as the amount properly reportable for federal income tax purposes, and IITA Section 203(b)(1)-(2) defines "base income" for a corporation as that same federal taxable income, modified only by the items expressly listed in Section 203. If the federal amount already reflects the deduction limitation, the same limited amount flows through to Illinois.

Q: Does the Illinois Income Tax Act allow modifications to base income generally?
A: Only modifications expressly provided by IITA Section 203 itself. Section 203(h) states there "shall be no modifications or limitations" on the income items used to compute base income and net income except as the statute expressly provides.

Q: What was the dollar amount at issue in this specific case?
A: The letter identifies a deferred amount of $3,236,949 that was not allowed in computing the taxpayer's federal taxable income under Treasury Regulations Section 1.965-7(e)(1)(i), and which the Department likewise disallowed as an Illinois subtraction.

Q: Is this letter binding on the Illinois Department of Revenue?
A: No. It is a General Information Letter issued under 86 Ill. Adm. Code 1200.120(b) and (c). As the letter itself states, "this is a GIL," and a GIL "does not constitute a statement of policy that applies, interprets or prescribes the tax laws, and it is not binding on the Department."

Q: Did the Department explain what the taxpayer would need to do to get a binding answer?
A: The ruling text provided in this letter does not include that instruction (unlike some other GILs that mention the Private Letter Ruling process); it addresses only the specific Schedule M subtraction question raised and confirms the Department's disallowance was proper.

Source

• Landing page: https://taxarchive.illinois.gov/research/legal/letter-rulings/income-tax/2020.html
• Original PDF: https://tax.illinois.gov/content/dam/soi/en/web/taxarchive/research/legal/letter-rulings/income-tax/2020/it20-0010-gil.pdf

Original ruling text

IT 20-0010-GIL 08/19/2020 BASE INCOME – MODIFICATIONS
No Modifications are Allowed except as Expressly Provided. (This is a GIL).

August 19, 2020

Re:

Illinois income tax

Dear Xxxx:
This is in response to your letter dated June 3, 2020, in which you request a letter ruling regarding
Illinois income tax law. The nature of your letter and the information provided require that we respond
with a General Information Letter (GIL). A GIL is designed to provide general information, is not a
statement of Department policy and is not binding on the Department. See 86 Ill. Adm. Code
1200.120(b) and (c), which may be accessed from the Department’s web site at www.ILtax.com.
Your letter states as follows:

I am writing on behalf of taxpayer COMPANY. in regards to a disallowed Schedule M
subtraction on their 20XX tax return. A copy of my Power of Attorney is attached.
The taxpayer received a notice dated DATE (copy enclosed) indicating their 20XX Schedule M
subtraction of $$$ was disallowed and tax was due plus interest and penalty. I have enclosed
the taxpayer’s response to this notice which was submitted on DATE.
The taxpayer then received a notice dated DATE (copy enclosed) denying the request to allow
the subtraction. I contacted the agent listed on the notice and after discussing the case
EMPLOYEE suggested filing an amended return. She suggested filing and reporting federal
taxable income without the positive income adjustment which necessitated the subtraction on
the Illinois return. I have attached a copy of the amended return which was submitted on
DATE.
The taxpayer then received a notice dated DATE requesting proof of federal finalization in
order to process the amended return. Since no federal amendment was filed and therefore no
proof of finalization available, I contacted the agent listed on the notice, however, EMPLOYEE
1 was unable to help resolve the issue. I requested to be contacted by a manager in order to
discuss the case.
Agent EMPLOYEE 3 contacted me on DATE. I explained that there isn’t a “correct” form to
subtract the federal addition which should not apply to Illinois. She suggested contacting the
Board of Appeals or the Legal Services Office.
I am requesting for the case to be reviewed and the subtraction on Schedule M to be allowed.
This would be an equitable result as the positive adjustment on the federal return should not
apply to Illinois but there is no prescribed Illinois form to take the subtraction.

IT 20-0010-GIL
Page 2

RULING
As explained below, the Department properly disallowed the taxpayer’s claimed subtraction
modification.
Section 201 of the Illinois Income Tax Act (“IITA”) (35 ILCS 5/201) imposes a tax measured by net
income on every individual, corporation, trust and estate, for each taxable year ending after July 31,
1969. Section 202 of the IITA defines “net income” for a taxable year as that portion of the taxpayer’s
base income for such year which is allocable to Illinois under the provisions of Article 3 of the IITA,
less the standard deduction allowed under Section 204 and the net loss deduction allowed under
Section 207.
Section 203(b)(1) of the IITA defines “base income” in the case of a corporation as an amount equal
to the taxpayer’s taxable income as modified under Section 203(b)(2). Section 203(e) defines “taxable
income” as the amount of taxable income properly reportable for federal income tax purposes for the
taxable year under the provisions of the Internal Revenue Code.
Section 203(h) of the IITA states as follows:
Except as expressly provided by this Section there shall be no modifications or limitations on
the amount of income, gain, loss or deduction taken into account in determining gross income,
adjusted gross income, or taxable income for federal income tax purposes for the taxable year,
or in the amount of such items entering into the computation of base income and net income
under this Act for such taxable year, whether in respect of property values as of August 1,
1969 or otherwise.
Treasury Regulations §1.965-7(e)(1)(i) provides, in relevant part:
If the section 965(n) election creates or increases a net operating loss under section 172 for
the taxable year, then the taxable income of the person for the taxable year cannot be less
than the amount described in paragraph (e)(1)(ii) of this section. The amount of deductions
equal to the amount by which a net operating loss is created or increased for the taxable year
by reason of the section 965(n) election (the deferred amount) is not taken into account in
computing taxable income.
In this case, the taxpayer’s taxable income cannot be less than the amount described in paragraph
(e)(1)(ii) of Treasury Regulations §1.965-7(e)(1)(i). Accordingly, under IITA Section 203(e), the same
taxable income applies for purposes of computing Illinois base income. Likewise, the taxpayer’s
deferred amount of $3,236,949, which is not allowed in computing federal taxable income pursuant to
Treasury Regulations §1.965-7(e)(1)(i), is not allowed in computing Illinois base income. IITA Section
203 does not provide for a subtraction modification for deductions disallowed for the taxable year by
reason of a section 965(n) election.1 Therefore, under IITA Section 203(h), no such subtraction
modification is allowed.

1

Compare IITA Section 203(b)(2)(Z).

IT 20-0010-GIL
Page 3
As stated above, this is a GIL. A GIL does not constitute a statement of policy that applies, interprets
or prescribes the tax laws, and it is not binding on the Department.

Sincerely,

Brian L. Stocker
Associate Counsel (Income Tax)