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Controlled Foreign Corporation (CFC)

Controlled Foreign Corporation (CFC)

20/11/2024
A Controlled Foreign Corporation (CFC) is a foreign company where more than 50% of its stock (by vote or value) is owned by U.S. shareholders. Each of these shareholders must own at least 10% of the company's stock.

A Controlled Foreign Corporation (CFC) is a foreign company where more than 50% of its stock (by vote or value) is owned by U.S. shareholders. Each of these shareholders must own at least 10% of the company's stock. These rules are designed to prevent U.S. taxpayers from deferring U.S. taxes by holding profits in foreign entities located in low-tax jurisdictions.​

Why Are CFC Rules Important?

CFC rules are crucial because they prevent U.S. taxpayers from deferring U.S. taxes by holding profits in foreign entities located in low-tax jurisdictions. By attributing certain types of income from the CFC to its U.S. shareholders, the IRS ensures that income is taxed appropriately, even if not repatriated.​

How Do CFC Rules Work?

If a U.S. person owns shares in a foreign corporation that qualifies as a CFC, they may be subject to U.S. taxation on their share of the CFC's undistributed earnings. This includes income types such as Subpart F income and Global Intangible Low-Taxed Income (GILTI).​

What Is Subpart F Income?

Subpart F income includes passive income types like dividends, interest, rents, and royalties. U.S. shareholders must include their share of Subpart F income in their taxable income, even if the income hasn't been distributed.​

What Is GILTI?

Global Intangible Low-Taxed Income (GILTI) refers to income earned abroad by U.S.-controlled foreign corporations and is subject to special U.S. tax treatment to prevent tax base erosion. Implemented by the Tax Cuts and Jobs Act (TCJA) in 2017, GILTI aims to discourage shifting profits from the U.S. to low-tax foreign jurisdictions.​

Are There Reporting Requirements?

Yes. U.S. shareholders of a CFC must file Form 5471, "Information Return of U.S. Persons With Respect to Certain Foreign Corporations." This form provides detailed information about the CFC's financials and operations.​

How Do CFC Rules Apply in the UK?

In the UK, CFC rules apply to UK-resident companies that control foreign subsidiaries subject to a lower rate of tax. Under certain circumstances, UK resident companies that control a CFC pay corporation tax on what the UK tax profits of that CFC would have been. However, because of a wide range of exemptions, very few companies suffer a CFC charge.​

What Are the Global Implications?

CFC rules are part of a broader international effort to prevent base erosion and profit shifting (BEPS). The OECD's BEPS Action Plan includes recommendations for countries to implement CFC rules to ensure that profits are taxed where economic activities occur and value is created.​

Key Takeaways

  • Definition: A CFC is a foreign corporation controlled by U.S. shareholders owning more than 50% of its stock.​
  • Purpose: Prevents tax deferral by attributing certain types of income to U.S. shareholders.​
  • Income Types: Includes Subpart F income and GILTI.​
  • Reporting: Requires filing Form 5471.​
  • Global Context: Part of international efforts to combat tax avoidance.​

Understanding CFC rules is essential for U.S. taxpayers with foreign investments. Compliance ensures that income is reported correctly and taxed appropriately, aligning with global standards to prevent tax avoidance.