CARES Act: NOL Carryback Planning for Taxpayers with International Activities
Apr 15, 2020
The CARES Act amended the Net Operating Loss (NOL) provisions to allow taxpayers to carryback losses from taxable years ending after December 31, 2017, and before January 1, 2021, for five years.
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This means losses from 2018 can be carried as far back as the year ended December 31, 2013. Real Estate Investment Trusts (REITs) are not permitted such carrybacks. The provisions also removes the limitation on utilizing an NOL to offset only 80% of taxable income before the NOL for tax years beginning before January 1, 2021. The CARES Act does not change the indefinite NOL carryforward arising in years after December 31, 2017.
The corporate NOL carryback means a loss generated in years after December 31, 2017 (when the tax rate is 21%) can be carried back to a year when the top corporate tax rate was 35%. The same applies to individuals, but the top tax rate is 39.6% in pre-2018 years and 37% in post-2017 years.
For those taxpayers with international activities, careful planning should be undertaken before carryback claims are filed. The Tax Cut and Jobs Act (TCJA) of 2017 not only eliminated NOL carrybacks and limited NOL usage to 80% of taxable income (both provisions have been temporarily reinstated by the CARES Act), but also introduced new international tax provisions which require special attention as NOL carryback usage is considered.
- The Section 965 Transition Tax/Deemed Repatriation.
- All U.S. persons owning Specified Foreign Corporations (SFCs) were required to report a deemed dividend of the non-previously taxed Earnings and Profits of the SFC for the first tax year of the SFC ending on or after December 31, 2017.
- The deemed dividend was taxed at preferred rates depending upon the level of liquid versus illiquid assets.
- The tax (at a reduced rate) on the deemed dividend could be paid over 8 years.
- Thus, if you carryback a loss to a 2017 tax year, you could eliminate the deemed dividend, but forgo the benefit of the reduced tax rate on the deemed dividend. Depending on your tax profile, the loss may be better used as an offset to future income.
- Also, if you are paying tax on the deemed dividend over 8 years, carrying the loss back to reduce your 2017 tax may just mean having the tax overpayment applied against the previously-deferred tax on the deemed dividend.
- To learn more about the Section 965 Transition Tax/Deemed Dividend, see our article here: Are You Ready for Deemed Repatriation?
- Global Intangible Low Taxed Income
- A new tax on foreign income was introduced by the TCJA – the Global Intangible Low-Taxed Income tax (GILTI). Taxpayers are subject to GILTI for years beginning after December 31, 2017.
- GILTI is the income earned by a foreign corporation in excess of a 10% return on the adjusted basis of fixed assets – Qualified Business Asset Investment (QBAI).
- C Corporations are provided a 50% reduction in GILTI income (under Section 250) and can claim 80% of their Foreign Tax Credits to offset the U.S. tax on the GILTI. Claiming an NOL in a GILTI year may eliminate the Section 250 deduction, as GILTI income is offset first by the NOL. This means the reduction in tax and amount refunded may not be as great as expected.
- For an individual reporting GILTI income either from foreign corporations owned directly or indirectly through a pass-through entity, the Section 250 deduction and foreign tax credits cannot be claimed. Here, an NOL carryback could significantly reduce tax.
- For more information on the GILTI tax, see our article here: GILTI or Not?
- Foreign Derived Intangible Income
- The “flip side” of the GILTI tax is a tax benefit received on Foreign Derived Intangible Income (FDII). FDII is available only to C corporations for tax years beginning after December 31, 2017.
- FDII is the foreign-sourced income earned by a U.S. taxpayer in excess of a 10% return on QBAI. This income is taxed at a preferential rate of 13.125% through a Section 250 deduction (yes, same code section as the GILTI deduction).
- If an NOL reduces taxable income, it will also reduce or eliminate the Section 250 deduction, so the tax savings from an NOL carryback may not be as great as expected.
- To learn more about FDII, see our article here: What the FDII and GILTI Provisions Will Mean to You
- Base Erosion Anti-Abuse Tax
- While the TCJA eliminated the Corporate Alternative Minimum Tax, it introduced a new minimum tax, the Base Erosion Anti-Abuse Tax (BEAT).
- This provision applies to corporations whose 3-year average gross receipts are in excess of $500 million and whose “Base Erosion” percentage is greater than 3% (2% for banks and registered securities dealers).
- The BEAT is 10% of “modified taxable income” (taxable income PLUS Base Erosion Payments) – the actual tax paid is the greater of “normal” income tax or the BEAT.
- If an NOL is carried back to a BEAT year (post-2017), the reduction in taxable income may not result in a complete refund if the BEAT kicks in.
- To learn more about the BEAT, see our article: Corporate Alternative Minimum Tax Is Gone – The BEAT Goes On
And don’t forget about the impact and usage of Foreign Tax Credits. Carrying back a loss 5 years may reduce tax, but may also reduce the usage of foreign tax credits. Foreign Tax Credits expire if unused after 5 years.
US taxpayers with international activities need to plan carefully in this “new world” of international tax. The provisions written in 2017 did not anticipate that losses could be carried back. Before carrying back NOLs, the impacts and outcomes need to be carefully modeled to understand the benefit from the carryback in the pre- and post-TCJA tax years.
International Services Tax