Daily Tax Update - May 20, 2013: Supreme Court Rules for PPL in Foreign Tax Credit Case

Supreme Court Rules for PPL in Foreign Tax Credit Case:  In a unanimous decision written by US Supreme Court Justice Clarence Thomas, the Supreme Court held that the windfall profits tax imposed by the UK government on privatized utility companies was a creditable foreign tax. 

  • In the early 1990s, the Conservative Party-controlled government privatized certain utilities.  When the utilities were privatized, they were not allowed to raise prices for a fixed period.  In order to increase profits without raising prices, the utilities began operating more efficiently.  In 1997, the Labour Party-controlled government announced a tax on the utilities.  The tax was a one-time 23% tax on the “windfall” profits earned during the years in which the companies were prohibited from raising their rates.  The windfall was calculated as the difference between the then-current value of the company (determined by reference to average book profits of the company over the first four years following privatization multiplied by a price-to-earnings ratio of nine) and the value placed on the company upon privatization.
  • Section 901 provides a foreign tax credit for “the amount of any income, war profits, and excess profits taxes paid or accrued during the taxable year to any foreign country.”  In order for a foreign levy to be considered a tax (and thus potentially creditable), the “predominant character” of that tax must be “of an income tax in the U.S. sense.”  Treas. Reg. § 1.901-2(a).  A foreign tax’s predominant character is that of a U.S. income tax if it “is likely to reach net gain in the normal circumstances in which it applies.”  Treas. Reg. § 1.901-2(a). 
  • In PPL, the government argued that the windfall profits tax must be interpreted as written and that it was a tax on value, not income.  The taxpayer argued that the tax was, in substance, an income tax because it looked to the actual profits earned by each company.  The Supreme Court agreed with the taxpayer, concluding that the tax was “economically equivalent to the difference between the profits the company actually earned and the amount the Labour government believed it should have earned” and thus a “classic excess profits tax.” The Court described the government’s characterization of the tax solely by reference to its text as an “unwarranted” and “rigid construction” that “cannot be squared with the black-letter principle that ‘tax law deals in economic realities, not legal abstractions.’”
  • The opinion can be accessed via: PPL Corp. v. Commissioner

Upcoming Congressional Hearings Will Focus on IRS Investigation and Profit Shifting:  This week, two congressional committees will continue to examine the IRS's processes for reviewing the applications of section 501(c)(4) organizations.  Yesterday, White House senior adviser Dan Pfieffer said that incoming acting IRS Commissioner Daniel Werfel will begin a 30-day internal investigation this week and will "make sure that everyone who did anything wrong will be held accountable."

Tomorrow, the Senate Finance Committee will hold a hearing titled, “A Review of Criteria Used by the IRS to Identify 501(c)(4) Applications for Greater Scrutiny.”

On May 22, the House Oversight Committee will hold a hearing titled, “The IRS:  Targeting Americans for Their Political Beliefs.”  

On May 21, the Senate Permanent Subcommittee on Investigations has scheduled a hearing, “Offshore Profit Shifting and the U.S. Tax Code - Part 2.”  The Subcommittee will “continue its examination of the structures and methods employed by multinational corporations to shift profits offshore and how such activities are affected by the Internal Revenue Code and related regulations.”

The report can be accessed via: