IRS Releases Final Regulations Imposing Country-by-Country Reporting

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June 30, 2016

As part of its effort to combat tax base erosion and international profit shifting, the IRS finalized regulations requiring country-by-country (CbC) reporting by U.S. persons that are the ultimate parent entity of a multinational enterprise (MNE) group with revenue of $850 million or more in the preceding accounting year. The final regulations, set forth in Treasury Regulation § 1.6038-4, require these U.S. persons to file annual reports containing information on a CbC basis of a MNE group’s income, taxes paid, and certain indicators of the location of economic activity. The preamble to the final regulations notes that comments expressed general support for implementing CbC reporting in the United States. The new reporting requirements are imposed on all parent entities with taxable years beginning on or after June 30, 2016. The final regulations will require reporting on new Form 8975, the “Country by Country Report,” which the IRS is currently developing.

In a prior post, we addressed ABA comments on the proposed regulations, and the final regulations address several of those comments.

  • The ABA noted the hardships that would arise from a mid-2016 effective date due to the need to submit reports to foreign tax authorities for 2016 and problems for calendar year-end U.S. MNEs with an accounting year that begins before the publication date of the final regulations and extends into 2017. In the preamble to the final regulations, the IRS notes that it will work to avoid duplicate reporting in 2016 and will release separate, forthcoming guidance to address accounting years beginning before the final regulations’ publication date and extending into 2017.
  • The ABA noted a need for clarification of the “tax jurisdiction of residency” for purposes of determining territorial income, so the final regulations state that a country with a purely territorial tax regime can be a tax jurisdiction of residence and clarify the meaning of “fiscal autonomy” for purposes of determining whether a non-country jurisdiction is a tax jurisdiction.
  • The ABA requested clarification on the treatment of partnerships under the $850,000 reporting threshold, and the final regulations provide that distributions from a partnership to a partner are not included in the partner’s revenue.
  • The ABA requested tie-breaker rules for residency determinations, and the proposed regulations declined to issue such a rule but noted that Form 8975 may provide guidance.
  • The ABA requested greater flexibility with respect to the time and manner of filing CbC reports, but the IRS rejected this request (though the preamble to the final regulations states that Form 8975 may prescribe an alternative time and manner for filing).

We will provide an update upon the release of Form 8975 that discusses the form itself and any important additions it makes to the final regulations.

Argentina Reported To Begin Negotiating IGA With United States

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June 27, 2016

In the next few weeks, Argentina’s Federal Administration of Public Revenue (AFIP) will begin negotiating an intergovernmental agreement (IGA) with the U.S. Treasury Department to ease compliance with the Foreign Account Tax Compliance Act (“FATCA”), according to La Nacion. Neither AFIP nor the U.S. Treasury or the IRS, however, has announced possible negotiations. Argentina and Russia are the only two individual countries in the G20 that have yet to enter into IGAs with the United States. Many banks operating in Argentina registered with the IRS as participating FFIs to avoid mandatory 30% withholding on payments of U.S. source FDAP income that they receive. The lack of an IGA complicates compliance because the Argentinian bank secrecy and privacy laws conflict with the disclosure requirements of FATCA. The banks sought to avoid violating such laws by seeking consent from U.S. account holders to disclose the information required by FATCA.

Under FATCA, IGAs come in two forms: Model 1 or Model 2. Under a Model 1 IGA, the foreign treaty partner agrees to collect information of U.S. accountholders in foreign financial institutions (FFIs) operating within its jurisdiction and transmit the information to the IRS. Model 1 IGAs are drafted as either reciprocal (Model 1A) agreements or nonreciprocal (Model 1B) agreements. By contrast, Model 2 IGAs are issued in only a nonreciprocal format and require FFIs to report information directly to the IRS. The report in La Nacion does not indicate which model Argentina plans to seek, but suggests that they may seek to put in place a Model 1A agreement that would allow for the exchange of information on Argentinian citizens with accounts in U.S. financial institutions.

Philadelphia Updates Wage Tax Return to Enable Reporting of Tip Income and Prevent Overassessment of Wage Tax Against Restaurant Employers

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June 17, 2016

A recent change to the Philadelphia Wage Tax Return addresses an issue that has plagued restaurants with tipped workers subject to the Philadelphia wage tax, yet the change to correct this issue has gone largely unnoticed by some restaurants.  Restaurants that operate within Pennsylvania and employ Philadelphia residents have historically been assessed for wage taxes they could not withhold and subjected to penalties and interest imposed by the City of Philadelphia for failing to withhold the Philadelphia wage tax on tip income earned by tipped workers.  These penalties were not only surprising, but also unjustified in many cases, given that restaurants often cannot withhold the full amount of the wage tax required by Philadelphia law.  Under the stacking rules that apply to wage withholding, employers must withhold taxes in a predetermined order prescribed by law, beginning with FICA taxes, then Federal income taxes, then state taxes, and lastly, local taxes.  Local taxes, such as the Philadelphia wage tax, often cannot be withheld because there is simply no money left after Federal and state taxes are taken out.  However, employers have been repeatedly punished with underpayment penalties imposed by the Philadelphia Department of Revenue with respect to the Philadelphia wage tax.

To rectify this situation, the City of Philadelphia has updated its Wage Tax Return, such that the 2015 version now provides on Line 3 an opportunity for employers to report the tip wages earned by employees on which the Philadelphia wage tax could not be withheld. The instructions to the 2015 Wage Tax Return explain that the employer should report the amount of tip income reported to the employer by the employee and any other tips allocated to the employee by the employer—the withholding liability is based only on wages under the employer’s control (other than tips) and amounts turned over voluntarily by the employee to the employer.  This is a welcome change by the Philadelphia Department of Revenue that addresses an issue that has caused significant headaches for many restaurants.

IRS Provides Guidance on ACA Reporting in Working Group Meeting

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June 16, 2016

In its Affordable Care Act (ACA) Information Returns (AIR) Working Group Meeting on June 14, the IRS discussed several outstanding issues related to ACA reporting under Sections 6055 and 6056 of the Internal Revenue Code.  Section 6055 generally requires providers of minimum essential coverage to report health coverage.  Section 6056 generally requires applicable large employers to report offers of coverage to full-time employees.  The telephonic meeting touched on a number of topics:

  • Correction of 2015 Returns. The IRS confirmed that filers are required to correct erroneous returns filed for 2015.  Moreover, the IRS stated that error correction is part of the good faith effort to file accurate and complete returns.  As a result, filers who fail to make timely corrections risk being ineligible for the good faith penalty relief that has been provided with respect to 2015 Forms 1095-B and 1095-C filed in 2016.
  • Correction Timing. Corrections to Forms 1095-B and 1095-C must be made “as soon as possible after [a filer] discover[s] that inaccurate information was submitted and [it] gets the correct information.”  Filers may furnish a “corrected” information return to the responsible individual or employee before filing with the IRS by writing “corrected” on the Form 1095-B or 1095-C.  The copy filed with the IRS should not be marked corrected in that circumstance.
  • TIN Validation Failures. The IRS reiterated that the system will only identify the return that contained an incorrect name/TIN combination.  It will not identify which name/TIN combination on the return is incorrect, a source of frustration for filers because they are not permitted from using the TIN Matching Program to validate name/TIN combinations before filing the returns.  Accordingly, a filer will need to verify the name and TIN for each person for whom coverage is reported on the Form 1095-B or Form 1095-C.
  • TIN Mismatch Penalties. The IRS confirmed that error messages generated by the AIR filing system are not proposed penalty notices (Notice 972CG).
  • TIN Solicitation. The IRS reiterated the TIN solicitation rules first published in Notice 2015-68.  In the notice, the IRS provided that the initial solicitation should be made at an individual’s first enrollment or, if already enrolled on September 17, 2015, the next open season, (2) the second solicitation should be made at a reasonable time thereafter, and (3) the third solicitation should be made by December 31 of the year following the initial solicitation.
  • Lowest Cost Employee Share. Applicable large employers must report the lowest cost employee share for self-only coverage providing minimum value on Line 15 of Form 1095-C.  The IRS clarified that coverage must be available to the employee to whom the Form 1095-C relates at the cost reported.  In other words, if the employee cost share varies based on age, salary, or other factors, the share reported must be the one applicable to the employee for whom the Form 1095-C is being filed.

Reporting Self-Insured Coverage to Non-employees.  An employer that provides self-insured health coverage to non-employees may elect to report coverage on either Form 1095-B or Form 1095-C.  In response to a question, the IRS noted that Form 1095-C may only be used if the individual reported on Line 1 has a social security number.  Accordingly, coverage provided to a non-employee that does not have a social security number must be reported on Form 1095-B.

IRS Guides for the Field Summarize U.S. Withholding Agent Responsibilities and Confuse Issue Related to U.S. Source Gross Transportation Income

[UPDATE: LB&I revised the practice unit “FDAP Payments – Source of Income” on July 15.  The link below now accesses the updated version, which removes the statement regarding transportation income described in this article.  For our discussion of the change and images of the original and updated language, see this article.]

The Large Business and International division of the IRS released two new practice units (slide presentations) that can serve as a guide to U.S. withholding agents with respect to several key compliance issues.  The first practice unit, “FDAP Withholding Under Chapter 3,” serves as a quick summary of U.S. withholding agents’ obligations under Chapter 3 and the risks of noncompliance (i.e., penalties), while the second practice unit, “FDAP Payments – Source of Income,” can help U.S. withholding agents determine the source of income for purposes of deciding whether Chapter 3 applies.

One issue that U.S. withholding agents have struggled with relates to whether withholding is required  for payments of U.S. source transportation income to foreign persons.  Generally, Sections 1441 and 1442 require withholding agents to withhold 30% on payments subject to the 30% gross tax under Sections 871 and 881 (i.e., FDAP income).  However, payments of gross transportation income that is U.S. source because the transportation begin or ends (not both) in the United States are subject to a 4% excise tax under Section 887 that is self-imposed by the payee, unless an exception applies.  Section 887(c) provides that the 30% gross tax applicable to most U.S. source income of foreign persons (other than income effectively connected with a U.S. trade or business) does not apply to transportation income.

The issue that has arisen is that neither Section 1441 or 1442 explicitly reference Sections 871 and 881 as a basis for the withholding.  However, it seems illogical to require 30% withholding on U.S. source gross transportation income given that such income is only subject to the 4% excise tax.  To this end, IRS Publication 515 provides that such amounts are not subject to Chapter 3 withholding under Section 1441 or 1442.  Nonetheless, various large taxpayers have had examiners raise the issue on audit asserting that such amounts are subject to Chapter 3 withholding notwithstanding the inapplicability of the underlying tax that Chapter 3 is intended to collect although the examiners have ultimately retreated with respect to the issue.  As a result, U.S. withholding agents have struggled to determine their withholding obligations with respect to such payments, and the IRS has ignored repeated requests from the IRS Information Reporting Program Advisory Committee (IRPAC) (for example, see the 2013 IRPAC report) and others to provide formal guidance in this area.

The “FDAP Payments – Source of Income” practice unit confuses the issue further by definitively stating that transportation income is not FDAP income.  Because Chapter 3 applies only to payments of FDAP income, the 30% withholding for payments subject to Chapter 3 would not apply to payments of transportation income.  Although this might seem like welcome news, the conclusion is puzzling given that FDAP income is generally defined very broadly to include all income, except gains derived from the sale of real or personal property and items of income excluded from gross income.  This broad definition would seemingly include U.S. source gross transportation income, which is a payment for a service paid in an amount known ahead of time or calculable.  Moreover, this is not the basis given in Publication 515 for excluding such amounts from withholding.  Thus the conclusion in the practice unit would seem incorrect and suggests that the document was not reviewed for accuracy by the Chief Counsel attorneys in Branch 8, the international withholding branch.

The pronouncement of law contained in the practice unit continues a worrying trend toward informal guidance in frequently asked questions, publications, comments at conferences, and on the IRS website.  Taxpayers are not permitted to rely on informal guidance, but have often been left without any formal guidance upon which to rely.  Until the IRS issues formal guidance, taxpayers are left to navigate an issue that could arise on audit but truly should not be an issue in most cases.  It would be preferable if the IRS issued a notice announcing the IRS and Treasury intend to amend the Section 1441 regulations to preclude withholding on U.S. source gross transportation income that is subject to the 4% excise tax under Section 887.

U.S. Supreme Court Denies Cert Petition in Case Challenging Information Reporting Requirements

The Supreme Court denied the petition for certiorari filed by two bankers associations that sought to challenge the validity of IRS regulations issued under the Foreign Account Tax Compliance Act (FATCA) that impose a penalty on banks that fail to report interest income earned by nonresident aliens on accounts in U.S. banks.

The denial leaves in place a divided D.C. Circuit panel decision holding that the Anti-Injunction Act (AIA) bars the bankers associations from challenging the validity of the regulations.  The associations argued that a recent Supreme Court decision regarding the similar Tax Injunction Act, which relates to state taxation, allowed them to file suit under the Administrative Procedure Act to enjoin certain IRS information reporting requirements when the information is not subject to domestic taxation and the noncompliance penalty does not constitute a restraint on the “assessment or collection” of a tax.  The D.C. Circuit accepted the government’s contention that because the penalties for noncompliance under Sections 6721 and 6722 are treated as a tax, the AIA bars pre-assessment challenges to the reporting requirements of the regulations.

The decision leaves those required to file information returns without recourse to challenge an information reporting requirement unless they forego the required reporting and are assessed a penalty under Section 6721 or 6722.

Additional discussion of this case can be found in our April 27 and March 1 posts.

First Friday FATCA Update

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June 3, 2016

Since our last monthly FATCA update, the Treasury Department has not released any new Intergovernmental Agreements nor has the IRS released any new Competent Authority Agreements under the Foreign Account Tax Compliance Act (FATCA). There have been, however, two recent FATCA developments:

  • On June 2, 2016, an IRS official stated that proposed and temporary regulations limiting refunds and credits claimed by nonresident alien individuals and foreign corporations for taxes withheld under Chapter 3 and Chapter 4 (FATCA) of the Code will soon be released (see previous coverage).
  • On May 27, 2016, the IRS updated the technical FAQs (see previous coverage) for the International Data Exchange Service (IDES) used by foreign financial institutions (FFIs) and other organizations to file information returns required by FATCA.

Regulations Limiting Refunds and Credits for Chapter 3 and Chapter 4 Withholding Due Soon

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June 3, 2016

John Sweeney, Branch 8 Chief in the IRS Office of Associate Chief Counsel International, said on June 2 that proposed and temporary regulations limiting refunds and credits claimed by nonresident alien individuals and foreign corporations for taxes withheld under Chapter 3 and Chapter 4 of the Code will be released soon.  According to Sweeney, who was speaking at the Federal Bar Association Insurance Tax Seminar, most of the work on the regulations is complete.

The IRS announced its intent to amend the regulations under Chapter 3 and Chapter 4 last year in Notice 2015-10.  According to the notice, the temporary regulations will amend Treas. Reg. §§ 1.1464-1(a) and 1.1474-5(a)(1) to provide that, subject to section 6401(b), a refund or credit is allowable with respect to an overpayment only to the extent the relevant withholding agent has deposited (or otherwise paid to the Treasury Department) the amount withheld and such amount is in excess of the claimant’s tax liability.  The IRS said the regulation is needed because allowing a credit or refund based on the amount reported as withheld on Form 1042-S represents a risk to the Treasury if a foreign withholding agent fails to deposit the withheld tax with the U.S. Treasury.  The IRS has limited ability to pursue foreign withholding agents for such failures making it difficult to recover the amounts allowed to be claimed as credits or refunds.

According to Sweeney, the regulations will adopt the pro rata method described in Notice 2015-10 for allocating the amount available for refund or credit with respect to each claimant. Under this method, a withholding agent’s deposits made to its Form 1042 account will be divided by the amount reported as withheld on all Forms 1042-S filed by the withholding agent to arrive at a “deposit percentage.”  Each claimant will then be allowed to claim as a credit or refund the amount reported on its Form 1042-S multiplied by the deposit percentage for the withholding agent.  The pro rata approach is necessary because of the inability for the IRS to trace deposits back to specific payments made to a claimant based on the information reported on Form 1042 and Form 1042-S.

IRS PLR: No Reporting Obligation for Facilitator of Tax Refund Payments

In PLR 201622011, the IRS ruled that a company (the “Taxpayer”) whose primary business is to assist tax return software providers, transmitters, and tax professionals by helping their clients (individual taxpayers) obtain refunds has no reporting obligation under either Section 6050W or 6041 of the Code. The IRS’s analysis of the reporting obligations under both Sections 6041 and 6050W emphasizes that the Taxpayer’s lack of control of the funds, as well as the Taxpayer’s contractual relationship to the other parties in the transaction, is a critical element of each provision.

The Taxpayer enters into agreements with various commercial banks and issuers of prepaid/stored value cards, which allows the Taxpayer to offer the clients several ways to receive their tax refunds. Under the agreement, the banks set up a temporary deposit account for each client that holds each client’s tax refund. The client may elect to have the bank fees and fees for the bank’s and tax preparer’s services directly deducted from the refund once it is deposited into this account. The Taxpayer receives a processing fee for each transaction, which the bank remits to the Taxpayer on a monthly basis—this is the Taxpayer’s sole source of revenue. The Taxpayer’s connection to the funds in each account is essentially limited to instructing the banks on the proper amount to disburse to the clients.

Section 6050W

Section 6050W imposes information reporting requirements on “payment settlement entities,” including third party settlement organizations (TPSOs), aggregated payees, and electronic payment facilitators with respect to payments made in settlement of reportable payment transactions. The IRS ruled that the Taxpayer was not obligated to file an information return under Section 6050W because it was not a TPSO, aggregated payee, or electronic payment facilitator. According to the ruling, the taxpayer was not a TPSO because it did not guarantee the payments. The Taxpayer was also not an aggregated payee because it neither received payment from a payment settlement entity nor distributed payments to the clients. Finally, the Taxpayer was not an electronic payment facilitator because it facilitated payments on behalf of the clients (the individual taxpayers), and not on behalf of payment settlement entities.

Section 6041

The IRS analyzed the Taxpayer’s participation in the underlying payment transactions, and it concluded that the Taxpayer had no reporting obligation under Section 6041 because the Taxpayer “is not making a payment” but is instead merely “submitting instructions to the Bank on how a particular Client’s refund should be disbursed.”