Overview
After finally becoming effective for a short period, worldwide allocation of interest expense is no more. On March 11, 2021, section 864(f) was repealed as part of the American Rescue Plan Act of 2021.[1] The $1.9 trillion relief package, signed by President Biden on March 11, 2021, is intended to boost the economy and assist Americans dealing with the fallout of the pandemic.
Originally enacted in 2004,[2] the effective date of section 864(f) was delayed several times by legislation and became effective for taxable years beginning after December 31, 2020. Section 864(f) allowed a "worldwide affiliated group" to make a one-time irrevocable election to allocate interest expense of each domestic corporation that is a member of the worldwide affiliated group (which includes 80%-owned controlled foreign corporations) as if all members of such group were a single corporation. This is commonly referred to as allocation on a "worldwide basis." At a high level, the amount of interest expense of the domestic group members allocated to foreign source income would be equal to:
Thus, where foreign corporations had a proportionate share of interest expense (based on relative asset basis), none of the US group’s interest expense would be allocated against foreign-source income.
Interest expense allocation is significant, because section 904(a) limits the amount of foreign income taxes that a taxpayer may claim as a credit against its US income tax based on the US tax imposed on the taxpayer's foreign source income on a category-by-category (or "basket") basis. As a result, greater allocation of interest expense to foreign source income reduces the foreign tax credit limitation. Worldwide allocation can ameliorate the overallocation of interest expense to foreign source income that may occur under the otherwise applicable interest allocation rules of section 864(e), which allocate interest expense based on the adjusted bases of assets, generally including only US members of an affiliated group. This approach is often referred to as the "water's edge approach."
The Tax Cuts and Jobs Act of 2017 (TCJA)[3] complicated the analysis for determining whether worldwide allocation of expenses is beneficial for a given taxpayer by enacting the global intangible low-taxed income, or "GILTI," regime and adding two new foreign tax credit baskets (the GILTI basket and foreign branch basket). Unlike the other baskets, foreign taxes in the GILTI basket cannot be carried forward or back, putting increased pressure on expense allocation.
No regulatory guidance was ever issued under section 864(f), though attention on the provision by taxpayers, practitioners, Treasury, and the IRS increased as the provision finally became effective and the date for making an election neared.[4]
The repeal of section 864(f) is expected to raise $22.3 billion from 2021 to 2031, according to estimates from the Joint Committee on Taxation.[5]
[1] Pub. L. No. 117-2, (2021), § 9671. Unless otherwise indicated, all section references are to the Internal Revenue Code of 1986, as amended (the Code), and all references to "Treas. Reg. §" are to the regulations promulgated thereunder.
[2] American Jobs Creation Act of 2004, Pub. L. No. 108-357, 118 Stat. 1418 (2004).
[3] Pub. L. No. 115-97, 131 Stat. 2054 (Dec. 22, 2017). The official title of TCJA is "An Act to provide for reconciliation pursuant to titles II and V of the concurrent resolution on the budget for fiscal year 2018."
[4] See, e.g., Christopher P. Bowers, Paul Oosterhuis, and Joshua G. Rabon, "Worldwide Interest Apportionment Has Arrived: What Do We Do Now?," Tax Notes Int'l, Jan. 25, 2021, p. 453; 2020-2021 Priority Guidance Plan (including regulations under section 864(f)).
[5] JCX-14-21 (March 09, 2021).
