New regs. for use of foreign losses included in U.S. tax filings: dual consolidated losses.

• Author: Giacoletti, Timothy J.

On March 19, 2007, new regulations were issued to control the use of losses generated in a foreign jurisdiction and included in a U.S. tax filing; see TD 9315. These final regulations apply to dual consolidated losses (DCLs) incurred in tax years beginning after April 17, 2007. However, a taxpayer may apply the regulations, in their entirety, to DCLs incurred in tax years beginning after 2006. With the proliferation of foreign flowthrough entities (partnerships, disregarded entities and hybrid entities) due to the ease of choice of entity under the check-the-box (CTB) regulations, updating the original DCL rules under Sec. 1503(d) has been on the Service's international rulemaking agenda for some time. These final regulations address various DCL issues, including exceptions to the general prohibition against using such a loss to reduce the taxable income of any other member of the affiliated group.

On May 24, 2005, the IRS and Treasury published a notice of proposed regulations addressing the following: (1) the potential over- and under-application of the current regulations; (2) various issues arising in the application of the current regulations, particularly in light of the adoption of the CTB regulations (Regs. Secs. 301.7701-1 through -3); and (3) the administrative burden of the current regulations; see REG-102144-04. The final regulations adopt many of the rules contained in the proposed regulations.

Background

Congress enacted the DCL rules under Sec. 1503(d) as part of the Tax Reform Act of 1986, to prevent a dual-resident corporation from using a single economic loss to offset both income subject to U.S. tax but not foreign tax, and income subject to foreign tax but not U.S. tax (double dip). In 1988, Congress extended the application of Sec. 1503(d) to separate units of domestic corporations and to grant Treasury authority to promulgate regulations to prevent avoidance of the DCL rules by contributing assets to a corporation with a DCL after the loss was sustained.

A DCL is a loss generated in a foreign jurisdiction that is used to offset U.S. taxable income and could later be used to offset income in a foreign jurisdiction. It is the net operating loss (NOL) incurred in a year in which the corporation is a dual-resident corporation and, with certain exceptions, the NOL is attributable to a separate unit. An entity is a dual-resident corporation when a domestic corporation is subject to a foreign country's income tax on its worldwide income or on a residence basis. A corporation is taxed on a residence basis if it is taxed as a resident under the foreign country's laws. A dual-resident corporation also includes any foreign insurance company...