For Tax Professionals  
T.D. 8759 January 26, 1998

Filing Requirements for Returns Claiming the
Foreign Tax Credit

DEPARTMENT OF THE TREASURY
Internal Revenue Service 26 CFR Part 1 [TD 8759] RIN 1545-AP36

TITLE: Filing Requirements for Returns Claiming the Foreign Tax
Credit

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Final Regulation.

SUMMARY: This document contains a final regulation relating to the
substantiation requirements for taxpayers claiming foreign tax
credits. The regulation is necessary to provide guidance to U.S.
taxpayers who claim foreign tax credits.

DATES: Effective date: This regulation is effective January 27,
1998.

Applicability dates: This regulation is applicable for tax returns
whose original due date falls on or after January 1, 1988.

FOR FURTHER INFORMATION CONTACT: Joan Thomsen, (202) 622-3850 (not a
toll-free call).

SUPPLEMENTARY INFORMATION:

Background

On January 13, 1997, the IRS published in the Federal Register a
notice of proposed rulemaking (REG-208288-90) at 62 FR 1700,
relating to the filing requirements for returns claiming the foreign
tax credit (the proposed regulation).

Written comments responding to the proposed regulation were.2
received. A public hearing was requested and scheduled but was later
canceled when the one requester withdrew the request to testify.
After consideration of all of the written comments, the proposed
regulation under section 905(b) is adopted as revised by this
Treasury Decision.

Summary of Comments and Final Regulations

The commenters argued that the interim credit notion incorporated in
the proposed regulations from Continental Illinois, T.C. Memo
1991-66, 61 T.C.M. (CCH) 1916 (1991), aff'd in part and rev'd in
part, 998 F.2d 513, 516-17 (7th Cir. 1993), was misapplied and that
the proposed amendment to 1.905-2(b)(3) denied district directors
the flexibility to find compliance with section 905(b) unless the
taxpayer produces receipts (or other direct evidence of payment) in
order to prove that the taxes actually were paid to the foreign
government. They argued that, even if the district director should
be able to require such proof in cases such as Continental Illinois,
district directors must have the flexibility to accept lesser proof.
They argued that a portfolio holder of publicly-traded foreign
securities, for example, will not be able to obtain proof in the
form of receipts evidencing that the issuer of the securities
actually paid the withheld taxes to the foreign government.

The comment letters are correct that the regulations historically
have allowed the district director flexibility to determine that
section 905(b) is satisfied without the production of tax receipts
evidencing that the tax has been paid to the.3 foreign government.
Treasury and the IRS did not intend that the amendment to
1.905-2(b)(3), as proposed, deny the district director the
flexibility to accept secondary evidence of the foreign tax payment
where it has been established to the satisfaction of the district
director that it is impossible to furnish a receipt for such foreign
tax payment. The amendment was merely intended to clarify that proof
of the act of withholding through secondary evidence is not, per se,
equivalent to proof of payment of the foreign tax. Treasury and the
IRS have now concluded, however, that such clarification is not
necessary. Continental Illinois v. Commissioner, supra.

Therefore, in response to comments, the proposed regulation is
finalized without its proposed amendment to 1.905-2(b)(3).

Thus, the final regulations are identical to the final regulations
currently in effect, except 1.905-2(a)(2) no longer requires a
foreign receipt or return to be attached to a Form 1116 or Form
1118.

Treasury and the IRS will continue to review the foreign tax credit
substantiation rules to assure that they are functioning adequately.
For example, Treasury and the IRS are concerned that U.S. holders of
foreign securities, including American Depositary Receipts (ADRs),
may be claiming foreign tax credits in situations where an
intermediary in the chain of ownership between the holder of a
foreign security or an ADR and the issuer of the security (or the
security underlying the ADR) has taken actions inconsistent with the
ownership of the underlying.4 security by the person claiming the
credit, such as a disposition of such security. One approach to
address this issue would involve modifying the substantiation,
documentation and reporting rules with respect to payments on such
securities and taxes withheld therefrom. For example, in order for a
U.S. owner to be entitled to a credit for foreign taxes imposed on
income with respect to a security, financial intermediaries
(including custodians) could be required to substantiate that they
have not taken any action inconsistent with beneficial ownership of
the relevant security by such U.S. owner.

It should be noted that portfolio investors are not necessarily
entitled to foreign tax credits for the full amount indicated on the
Form 1099 as foreign taxes paid. Portfolio investors are only
entitled to a foreign tax credit for the amount of tax that is
legally owed, which may not be the same as the amount withheld. If,
for example, a portfolio investor is entitled to a refund of foreign
tax withheld because of a reduced treaty withholding rate, the
investor is only entitled to a foreign tax credit for the reduced
amount, whether or not the investor files a refund claim with the
foreign tax authorities.

The IRS has made changes to the Form 1116 Instructions and
Publication 514 to clarify this point and intends to make similar
changes to the Form 1118 Instructions.

Explanation of Provisions

1.905-2(a)(1), 1.905-2(b)(1),(2), and (3), and 1.905-2(c) Sections
1.905-2(a)(1), 1.905-2(b)(1), (2) and (3), and.5 1.905-2(c) are
unchanged from the current final regulations.

1.905-2(a)(2)

Under former 1.905-2(a)(2), taxpayers generally were required to
attach to their income tax returns either (1) the receipt for the
foreign tax payment or (2) a foreign tax return for accrued foreign
taxes. Section 1.905-2(a)(2) removes the requirement that the
documentation be attached to the income tax return. The regulation
now provides that such evidence of payment of foreign taxes must be
presented to the district director upon request.

Special Analyses

It has been determined that this Treasury decision is not a
significant regulatory action as defined in Executive Order 12866.
Therefore, a regulatory assessment is not required. It has also been
determined that section 553(b) of the Administrative Procedures Act
(5 U.S.C. chapter 5) does not apply to this regulation, and because
the regulation does not impose a collection of information on small
entities, the Regulatory Flexibility Act (5 U.S.C. chapter 6) does
not apply. Pursuant to section 7805(f) of the Internal Revenue Code,
the notice of proposed rulemaking preceding this regulation was
submitted to the Chief Counsel for Advocacy of the Small Business
Administration for comment on its impact on small business.

Drafting Information

The principal author of this regulation is Joan Thomsen of the
Office of the Associate Chief Counsel (International), IRS..6
However, other personnel from the IRS and Treasury Department
participated in their development.

List of Subjects in 26 CFR Part 1

Income taxes, Reporting and recordkeeping requirements.

Adoption of Amendments to the Regulations Accordingly, 26 CFR part 1
is amended as follows:

PART 1--INCOME TAXES

Paragraph 1. The authority citation for 26 CFR part 1 continues to
read in part as follows:

Authority: 26 U.S.C. 7805 * * *

Par. 2. Section 1.905-2 is amended by revising the second through
fourth sentences in paragraph (a)(2) to read as follows:

1.905-2 Conditions of allowance of credit.

(a) * * *

(2) * * * Except where it is established to the satisfaction of the
district director that it is impossible for the taxpayer to furnish
such evidence, the taxpayer must provide upon request the receipt
for each such tax payment if credit is sought for taxes already paid
or the return on which each such accrued tax was based if credit is
sought for taxes accrued. The receipt or return must be either the
original, a duplicate original, or a duly certified or authenticated
copy. The preceding two sentences are effective for returns whose
original due date falls on or after January 1, 1988. * * *

* * * * *

Michael P. Dolan
Deputy Commissioner of Internal Revenue
Approved: January 13, 1998
Donald C. Lubick
Acting Assistant Secretary of the Treasury


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