Mandatory Repatriation Provisions Will Require Action for U.S. Shareholders Who File in Connecticut
The mandatory federal repatriation provisions requiring U.S. shareholders of Controlled Foreign Corporations (CFCs) to include in their 2017 taxable income their pro rata share of the post-1986 previously untaxed accumulated earnings and profits (E&P) of such CFCs will likely create additional Connecticut state income tax concerns for taxpayers filing in Connecticut.
This alert provides an overview of state tax effects specific to Connecticut and recommended action for affected taxpayers.
The potential Connecticut state modification
The federal mandatory repatriation provisions require any U.S. shareholder to include as income the U.S. shareholder’s pro rata share of the net post-1986 accumulated E&P of the CFCs in which it holds shares. Such amounts will be treated as Subpart F income federally. Current Connecticut law conforms to the federal treatment of Subpart F income, which treats Subpart F income as a deemed dividend.
Connecticut allows a 100% dividend received deduction (DRD) for dividends received during the current taxable year for corporations owning at least 20% of the stock of the total voting power and value of the stock of the payor corporation. The DRD rules in Connecticut are not expected to change. As such, the Subpart F income generated by the repatriation provisions will be fully deductible under the Connecticut DRD rules. However, the state requires that expenses associated with the dividend income that was excluded from Connecticut taxable income through the DRD be added back to state taxable income. If the exact amount of such expenses cannot be readily identified, an amount that is considered to be reasonable must be calculated and added back. The state does not provide guidance as to what is considered a “reasonable” amount.
What does CohnReznick think?
Given that the new rules will apply for the 2017 tax year, it is important to begin now to assess the potential impact to Connecticut business income tax filers.
Because the State of Connecticut does not provide guidance as to what is considered “reasonable,” it will be important for each taxpayer to determine an expense addback amount that is appropriate given its own facts and circumstances. The absence of any expense addback will cause the state to question the validity of the return as calculated. In addition, a comparatively small addback in comparison to the DRD will also cause the state to question the taxpayer’s modification; for example, an expense addback of less than 1% of the total DRD. As such, supporting documentation of the calculation of the expense addback will be essential.
For taxpayers who file in other states, there may be similar concerns if repatriated income has been included in the taxpayer’s federal taxable income. These concerns will need to be addressed on a state by state basis.
For assistance in assessing the potential impact of the mandatory repatriation provisions for various states and how to plan going forward, please contact Harry Golematis, Director, National Tax Services - State and Local Tax Services, at Harry.Golematis@CohnReznick.com or at 973-364-7891 or Coral Bernier, Director, National Tax – State and Local Tax Services, at Coral.Bernier@CohnReznick.com or at 959-200-7155.
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Any advice contained in this communication, including attachments and enclosures, is not intended as a thorough, in-depth analysis of specific issues. Nor is it sufficient to avoid tax-related penalties. This has been prepared for information purposes and general guidance only and does not constitute legal or professional advice. You should not act upon the information contained in this publication without obtaining specific professional advice specific to, among other things, your individual facts, circumstances and jurisdiction. No representation or warranty (express or implied) is made as to the accuracy or completeness of the information contained in this publication, and CohnReznick LLP, its partners, employees and agents accept no liability, and disclaim all responsibility, for the consequences of you or anyone else acting, or refraining to act, in reliance on the information contained in this publication or for any decision based on it.