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Loan guarantees by CFCs includible in taxpayer’s gross income

Loan guarantees by CFCs in taxpayer’s gross income

The U.S. Tax Court today issued an opinion finding that a U.S. shareholder of two controlled foreign corporations (CFCs) that in turn had guaranteed loans made to a U.S. person, must include in its gross income the CFCs' applicable earnings and that the amount included in gross income is subject to tax as ordinary income.

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In granting the government’s motion for summary judgment, the Tax Court rejected a taxpayer contention that regulations promulgated under section 956 were invalid. Instead, the court held the regulations were valid.

 

The case is: SIH Partners LLLP v. Commissioner, 150 T.C. No. 3 (January 18, 2018). Read the Tax Court’s 54-page opinion [PDF 181 KB]

Summary

The Tax Court provided the following summary of this case.

  • The taxpayer (a passthrough entity) was the U.S. shareholder of two CFCs (one established in Ireland and the other in the Cayman Islands).
  • These two CFCs guaranteed loans made to a U.S. person. 
  • The IRS issued a final partnership administrative adjustment (FPAA) determining that the U.S. shareholder must include in its gross income for the tax years in issue the CFCs’ applicable earnings under sections 951(a)(1)(B) and 956(d)—and specifically under regulations promulgated under section 956. 
  • The IRS also determined that the amount included in the U.S. shareholder’s gross income was taxable as ordinary income.

The taxpayer contended that the regulations were invalid. Alternatively, the taxpayer asserted that the amounts included in income under sections 951(a)(1)(B) and 956(d) were to be taxed as qualified dividend income.

The Tax Court granted summary judgment for the government finding that:

  • The regulations at issue were valid.
  • The IRS had correctly determined that the taxpayer must include in gross income the CFCs’ applicable earnings for the tax years in issue. 
  • The amounts were not qualified dividend income.

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