Ruling highlights mismatch between Subchapter C and Subpart F for deemed dividend of previously taxed income arising from redemption of CFC stock.

• Author: McClellan, Ed
• Position: IRC, controlled foreign corporations

In Letter Ruling 9802018, the ruled on a Sec. 959(b) that goes to the heart of an incongruity between the corporate (subchapter C) and the subpart F rules. In the ruling, a third-tier controlled foreign corporation (CFC), L, with two related U.S. shareholders, proposes to make a redemption distribution to a foreign company (G) that is a CFC with respect to only one of the two U.S. shareholders. The distribution will be characterized under Sec. 302(d) as a distribution of all of L's earnings and profits (E&P). All of Us E&P was previously included, under Sec. 951 (a), in the income of the two US. shareholders as previously taxed income (PTI); see, e.g., Regs. Secs. 1.902-1 (f), Examples 4 and 5; 1.904-4(c)(6); and 1.954-2(b)(1)(i)..

The Service ruled that the deemed dividend would be excluded from G's gross income under Sec. 959(b), to the extent that the underlying earnings had been previously included under subpart F in the income of G's U.S. shareholder. In effect, the extent to which the underlying earnings had previously been included under subpart F in the income of the other U.S. shareholder was ignored for Sec. 959(b) purposes. The deemed dividend apparently would not be excluded from Gs gross income under Sec...