As one of few countries to tax U.S. tax residents on both their domestic and foreign-source income, multinational U.S. companies (and shareholders) face tax on income earned both inside and outside the United States. Thus, a U.S. corporation is required to include all income and losses from its foreign branches in its annual income tax return. Income earned by a U.S. corporation’s foreign subsidiaries, however, has historically been deferred until those earnings are repatriated to the United States as dividends.
Under 2017’s Tax Cuts and Jobs Act’s (“TCJA”), however, new anti-deferral rules accelerate the taxation of foreign-earned income, forcing shareholders of certain multinational companies to report foreign earnings even when those earnings are not repatriated to the U.S. as dividends.
What is GILTI?
Introduced in 2017 as part of the Tax Cuts and Jobs Act, GILTI, or “Global Intangible Low Tax Income,” is an outbound provision that broadens the scope of foreign earnings subject to U.S. taxation with the goal of reducing the incentive to shift corporate profits out of the U.S. into low or zero-tax jurisdictions.[1] Applicable to large multinational companies and to U.S. shareholders of certain foreign corporations, GILTI is fundamentally an anti-deferral provision that limits the amount of foreign income a U.S. shareholder can defer from U.S. tax. Where a U.S. taxpayer exceeds the limitation, they must include non-distributed foreign earnings in their current income.
[1] http://taxfoundation.org/gilti-2019/.
Who is Subject to GILTI Tax?
Certain U.S. shareholders who own Controlled Foreign Corporation (CFC) stock, either directly or indirectly, are required to include as part of their annual income a proportionate share of the CFC’s GILTI. Where the shareholder owns at least 10 percent of the value or voting rights of a CFC, they are required to annually include their pro rata share of the CFC’s GILTI in their gross income. In effect, it creates an exception to Congress’s general policy of exempting non-distributed foreign income of a U.S. corporation from inclusion in its shareholders’ returns.
How is GILTI Calculated?
Under GILTI, U.S. shareholders must include in annual income their proportional share of a CFC’s GILTI. While only 50 percent of GILTI is included in taxable income of U.S. shareholders that are corporations, 100 percent is included in the taxable income of U.S. shareholders that are individuals.[1] For U.S. corporations, the tax rate applied to GILTI is only 10.5 percent. For U.S. individual shareholders of CFCs, however, the tax rate will be as high as 37 percent.
[1] I.R.C. §250(a)(1)(B).
As provided by the Internal Revenue Code, the GILTI inclusion amount is calculated by determining the excess between the shareholder’s “net CFC tested income” and the shareholder’s “net deemed tangible income return” for the taxable year.[1] Thus, where the answer to this equation is positive, the U.S. shareholder must include the amount in their taxable income.
[1] I.R.C. §951A(b).
