The Internal Revenue Service and the Treasury Department are extending a transition period for an exception to the requirement for companies to pay taxes on royalties for intellectual property abroad.
They noted that single-country exception provides relief from the source-based attribution requirement under Section 903 for foreign withholding taxes on royalties paid for the use of intellectual property within the withholding jurisdiction.
The proposed regulations relate to the foreign tax credit and include guidance on the reattribution asset rule for purposes of allocating and apportioning foreign taxes, the cost recovery requirement, and the attribution rule for withholding tax on royalty payments.
Section 901 of the Tax Code allows a credit for foreign income, war profits and excess profits taxes, and Section 903 says such taxes include a tax in lieu of a generally imposed foreign income, war profits or excess profits tax.
"A foreign tax is a creditable net income tax only if the determination of the foreign tax base conforms in essential respects to the determination of taxable income under the code," said the notice. "To meet this test, a foreign tax must satisfy the net gain requirement, which comprises the realization requirement, the gross receipts requirement, the cost recovery requirement (formerly the net income requirement), and the attribution requirement."
The attribution requirement requires a foreign tax to conform to the concepts of taxing jurisdiction reflected in the Tax Code that define an income tax in the U.S. sense. When it comes to a foreign tax imposed on nonresident taxpayers, the attribution requirement limits the scope of gross receipts and costs included in the base of a foreign tax to those that satisfy the activities-based attribution, source-based attribution, or property-based attribution tests.
Under the source-based attribution requirement, a foreign tax imposed on a nonresident's income meets the attribution requirement only if the foreign tax law's sourcing rules are reasonably similar to the sourcing rules that apply for federal income tax purposes. In the case of gross income arising from royalties, the foreign tax law must source the royalties based on the place of use of, or the right to use, the intangible property, consistent with how the Tax Code sources royalty income.
For foreign withholding taxes, the Tax Code say the foreign withholding tax must meet the source-based attribution requirements to qualify as a ''covered withholding tax'' that may be creditable as a tax in lieu of an income tax. That means a withholding tax on a royalty payment is creditable only if the foreign tax law sources royalties based upon the place of use of, or the right to use, the intangible property, consistent with how the Tax Code sources royalty income.
Further details are spelled out in the notice.
