A Section 245A Dividends Received Deduction Overview (5 Facts)

Section 245A Dividends Received Deduction Overview

Section 245A Dividends Received Deduction Overview 

Section 245 of the Internal Revenue Code is one of the more complicated aspects of international tax — it involves a deduction for dividends received by a corporate shareholder of a foreign corporation. In other words, when a foreign corporation (specified 10-percent owned foreign corporation) has a Corporate Domestic US Shareholder owner (Domestic Shareholder is a technical term) and meets the requirements of IRC Section 951(b) — it means that the domestic corporation that receives the dividend from the foreign corporation of which is a shareholder can take 100% deduction of the dividends received. This is different than in years past, but there are some important aspects to keep in mind regarding limitations, exceptions, and exclusions. Let’s take a look at six important facts about the section 245A deduction.

Section 245A Definition

• • (a) In general

    • In the case of any dividend received from a specified 10-percent owned foreign corporation by a domestic corporation which is a United States shareholder with respect to such foreign corporation, there shall be allowed as a deduction an amount equal to the foreign-source portion of such dividend.

  • (b) Specified 10-percent owned foreign corporation

    •  For purposes of this section—

      • (1) In general

        • • The term “specified 10-percent owned foreign corporation” means any foreign corporation with respect to which any domestic corporation is a United States shareholder with respect to such corporation.

      • (2) Exclusion of passive foreign investment companies

        • • Such term shall not include any corporation which is a passive foreign investment company (as defined in section 1297) with respect to the shareholder and which is not a controlled foreign corporation.

The 245A rules apply to specified 10-percent owned foreign corporations that issue dividends to a domestic corporation US shareholder.

What is the Definition of a Shareholder

• • • (b) United States Shareholder Defined

      • For purposes of this title, the term “United States shareholder” means, with respect to any foreign corporation, a United States person (as defined in section 957(c)) who owns (within the meaning of section 958(a)), or is considered as owning by applying the rules of ownership of section 958(b), 10 percent or more of the total combined voting power of all classes of stock entitled to vote of such foreign corporation, or 10 percent or more of the total value of shares of all classes of stock of such foreign corporation.

Excludes PFIC 245A(b)(2)

(2) Exclusion of Passive Foreign Investment Companies

• • • Such term shall not include any corporation which is a passive foreign investment company (as defined in section 1297) with respect to the shareholder and which is not a controlled foreign corporation.

Therefore, when a person is considered a PFIC, they do not enjoy the benefits of DRD.

Hybrid Dividends 245A (e)(2)

• (e) Special rules for hybrid dividends

  • • (1) In general

      • Subsection (a) shall not apply to any dividend received by a United States shareholder from a controlled foreign corporation if the dividend is a hybrid dividend.

    • (2) Hybrid dividends of tiered corporations

      • If a controlled foreign corporation with respect to which a domestic corporation is a United States shareholder receives a hybrid dividend from any other controlled foreign corporation with respect to which such domestic corporation is also a United States shareholder, then, notwithstanding any other provision of this title—

        • (A) the hybrid dividend shall be treated for purposes of section 951(a)(1)(A) as subpart F income of the receiving controlled foreign corporation for the taxable year of the controlled foreign corporation in which the dividend was received, and

        • (B) the United States shareholder shall include in gross income an amount equal to the shareholder’s pro rata share (determined in the same manner as under section 951(a)(2)) of the subpart F income described in subparagraph (A).

The rules are limited in situations involving hybrid dividends.

956 Constructive Dividends

As provided by the IRS:

• • • Constructive Distributions from CFC under IRC Section 956 § IRC Section 245A created a disparity between the taxation of actual repatriations of previously untaxed foreign earnings and deemed repatriations under Section 956. § U.S. shareholder of a CFC may be taxed on the shareholder’s Section 956 amount which in turn reflects the foreign corporation’s investments in U.S. property.

    • A corporate U.S. shareholder’s Section 956 inclusion is not eligible for a Section 245A DRD because it is not actually a dividend.

    • However, the corporate U.S. shareholder would be eligible for a deduction under Section 245A for any actual dividends paid by the foreign corporation. § In response to this disparity, the regulations allow the U.S. corporate shareholder to reduce the Section 956 amount.

    • The reduction is the amount that would be deductible by the corporate shareholder under Section 245A upon a hypothetical distribution from CFC in an amount equal to the amount otherwise determined under Section 956.

Deemed Dividends Under IRC Section 964

• • • IRC Section 964(e) treats as dividends some gains on sales or exchanges of foreign corporation stock by a CFC. § If a CFC sells or exchanges stock of a lower-tier CFC and the selling CFC held the stock for one year or more, Section 964(e)(4) provides that: 

      • Any amount treated as a dividend under Section 964(e)(1) is treated as subpart F income of the selling CFC for purposes of Section 951(a)(1)(A) to the extent of the foreign-source portion (within the meaning of Section 245A(c)) of the dividend;

      • Any U.S. shareholder with respect to the selling CFC must include in gross income its pro rata share of such subpart F income for such shareholder’s taxable year with or within which such taxable year of the CFC ends; and

      • The U.S. shareholder that includes its pro rata share of such subpart F income in its gross income is allowed a Section 245A DRD as if such subpart F income were a dividend.

Current Year vs Prior Year Non-Compliance

Once a taxpayer missed the pension tax and reporting requirements for prior years, they will want to be careful before submitting their information to the IRS in the current year. That is because they may risk making a quiet disclosure if they just begin filing forward in the current year and/or mass filing previous year forms without doing so under one of the approved IRS offshore submission procedures. Before filing prior untimely foreign reporting forms, taxpayers should consider speaking with a Board-Certified Tax Law Specialist that specializes exclusively in these types of offshore disclosure matters.

Golding & Golding: About Our International Tax Law Firm

Golding & Golding specializes exclusively in international tax, specifically IRS offshore disclosure. 

Contact our firm today for assistance.