There can be considerable confusion amongst taxpayers who face foreign taxes as to what is creditable and how to allocate, calculate, and carry forward\/carry back. There can still be surprises for those who feel they have a good grasp on the basics. One of the areas that can take a taxpayer by surprise is handling foreign tax credit for high taxed income. <\/p>\n\n\n\n

Passive Foreign Income & Taxes<\/strong><\/h2>\n\n\n\n

It might seem that a foreign source passive income item (including\ninterest, dividends, royalties, and rents) would be in the passive category,\nand that would be it. However, there is the possibility that Country A would\ntax some passive income at a low rate and Country B would tax passive income at\na high rate. Those taxes would lead to an average rate allowing the tax on the\nincome from country B to be utilized for the income from Country A if nothing\nelse were considered. <\/p>\n\n\n\n

To limit the utilization of excess foreign tax credit\ncreated by high-taxed foreign passive income and still collect US tax on\nlow-taxed passive income, the Internal Revenue Code provides an exception\ncommonly referred to as the high-tax kick out (HTKO). If foreign passive income\nis taxed at a higher rate by the foreign country than the maximum US rate\napplicable, there is a requirement to \u201ckick-out\u201d the income from the passive\ncategory. High-taxed passive income is recategorized into general, foreign\nbranch, Sec. 951, or income in a specified separate category based on the rules\nfor those categories of income based on proposed regulations.<\/p>\n\n\n\n

Groupings of Foreign Income & Taxes<\/strong><\/h2>\n\n\n\n

Within the passive foreign income category is the necessity\nto break the category down into further sub-categories. Sub-categorization\noccurs by following the three grouping rules. Unless one of the additional\ngrouping rules applies, the first grouping rule (general grouping rule)\napplies. The general grouping rule breaks the category down by withholding tax\nrates. The second and third grouping rules apply to income including:<\/p>\n\n\n\n

• Dividends and inclusions from controlled foreign\ncorporations, dividends from noncontrolled section 902 corporations, and income\nof foreign QBUs<\/li>
• Certain rents and royalties, partnership income,\nand currency gain\/loss<\/li><\/ul>\n\n\n\n

  The general rule groups passive income into four passive\nincome groups upon which the rate test is applied separately. Groupings are as\nfollows:<\/p>\n\n\n\n

  • Subject to a withholding tax of 15% or greater<\/li>
  • Subject to a withholding tax greater than 0% and\nless than 15%<\/li>
  • Subject to no withholding tax or other foreign\ntax<\/li>
  • Subject to no withholding tax, but is subject to\nforeign tax other than withholding<\/li><\/ul>\n\n\n\n

    Steps to Adress High Tax Kick-Out (in General)<\/strong><\/h2>\n\n\n\n

    1. Determine foreign income<\/li>
    2. Allocate foreign income initially into the\nseparate categories based on the income type<\/li>
    3. Gather associated expenses, losses, and other\ndeductions.<\/li>
    4. Break the foreign passive income category into\nsub-categories of passive income under the new grouping rules<\/li>
    5. Consider each foreign passive income\nsub-category with associated expenses, losses, and other deductions against the\nassociated foreign tax. Compare the foreign tax rate calculated against the\nmaximum US tax rate applicable.<\/li>
    6. If the foreign rate exceeds the US rate, the\nsub-category is highly taxed and must be considered related to other separate\ncategories other than passive.<\/li><\/ol>\n\n\n\n

       Example of High Tax Kick-Out<\/strong><\/h2>\n\n\n\n

       Logan Berry received foreign dividend income of $500 with\nassociated deductions of $300. Due to his residency status, he is taxed $100 in\nthe foreign country on that foreign dividend income. After allocating the\nassociated deduction, the potentially double-taxed income is $200. The tax of\n$100 on the $200 exceeds the max US rate. Therefore, the income, deduction, and\ntax are kicked out to the general category.<\/p>\n\n\n\n

       If Logan had previous passive foreign income with not enough\ntax, this would prevent Logan from being able to carryback the excess passive\nforeign tax from the current year to offset the prior-year foreign passive\nincome.<\/p>\n\n\n\n

       Going Forward<\/strong><\/h2>\n\n\n\n

       Taxpayers should pay close attention to how the foreign\nincome is taxed and the various associated expenses\/losses\/deductions. Foreign\ntax credits sound easy \u2013 income taxed in two places means you get a credit for\nthe double taxation, but the nuances to how it is calculated are crucial to\nconsider. The need to pay close attention to foreign tax credits is especially\ntrue post- Tax Cuts and Jobs Act, which has added new categories for foreign\ntaxes to fall under and added new rules about how the tax credit is calculated.<\/p>\n\n\n\n

       The International Tax Team<\/a> at Ryan & Wetmore is well-experienced\nwith foreign tax credits. For questions or concerns regarding your\ninternational requirements, accounts, entities, income, and assets, click here to email<\/a> our foreign tax team.  Please be aware that tax issues are\ncomplicated and may vary based on the details of your situation. For this\nreason, an initial phone call is generally required to obtain the facts and\naddress the questions.<\/p>\n\n\n\n

       By Bethany Banks, CPA<\/em> <\/p>\n\n\n\n

       <\/figure>

       \n

       About Traci Getz<\/strong><\/h3>\n\n\n\n

       Partner & CPA<\/strong><\/h4>\n\n\n\n

       Traci Getz is a partner with Ryan & Wetmore, P.C. Traci has over fifteen years of experience providing accounting, tax, and consulting services to small and medium-sized business owners. She works with clients to understand their accounting and tax issues while specializing in international tax, healthcare, and construction. <\/em> <\/p>\n\n\n\n

       Ready Traci’s full bio<\/a>.<\/p>\n<\/div><\/div>\n\n\n\n

       ---

       \n\n\n\n

       Our\nfirm provides the information in this e-newsletter for general guidance only,\nand does not constitute the provision of legal advice, tax advice, accounting\nservices, investment advice, or professional consulting of any kind. The\ninformation provided herein should not be used as a substitute for consultation\nwith professional tax, accounting, legal, or other competent advisers. Before\nmaking any decision or taking any action, you should consult a professional\nadviser who has been provided with all pertinent facts relevant to your\nparticular situation. Tax articles in this e-newsletter are not intended to be\nused, and cannot be used by any taxpayer, for the purpose of avoiding\naccuracy-related penalties that may be imposed on the taxpayer. The information\nis provided \u201cas is,\u201d with no assurance or guarantee of completeness, accuracy,\nor timeliness of the information, and without warranty of any kind, express or\nimplied, including but not limited to warranties of performance,\nmerchantability, and fitness for a particular purpose.<\/em><\/p>\n\n\n\n

       \u00a9 Copyright 2018. All rights reserved.
       \nBrought to you by: Ryan + Wetmore<\/a><\/p>\n","protected":false},"excerpt":{"rendered":"","protected":false},"author":2,"featured_media":74146,"comment_status":"closed","ping_status":"closed","sticky":false,"template":"","format":"standard","meta":{"neve_meta_sidebar":"","neve_meta_container":"","neve_meta_enable_content_width":"","neve_meta_content_width":0,"neve_meta_title_alignment":"","neve_meta_author_avatar":"","neve_post_elements_order":"","neve_meta_disable_header":"","neve_meta_disable_footer":"","neve_meta_disable_title":"","_themeisle_gutenberg_block_has_review":false,"_ti_tpc_template_sync":false,"_ti_tpc_template_id":"","footnotes":""},"categories":[4,2],"tags":[],"class_list":["post-73194","post","type-post","status-publish","format-standard","has-post-thumbnail","hentry","category-information-technology","category-manufacturing"],"yoast_head":"\n