Revamped dual consolidated loss regs.

• Author: Landreneau, Frank

The Service recently published proposed regulations revising the existing regulations on the treatment of dual consolidated losses (DCLs) under Sec. 1503(d); see REG-102144-04 (5/24/05). In general, the proposed rules address three specific areas:

* Scope of application of the current regulations;

* Increased certainty of application of the regulations in connection with the existing entity-classification regulations; and

* Reduction of some of the administrative burdens on taxpayers and the IRS imposed by the current regulations.

Background

The proposed regulations' preamble states that the U.S. taxes the worldwide income of domestic corporations. A domestic corporation is one that is created or organized in the U.S. or under the law of the U.S. or of any state. The U.S. allows certain domestic corporations to file consolidated returns with other affiliated domestic corporations. When two or more file a consolidated return, the losses of one may reduce or eliminate the tax on the other's income.

Some foreign countries treat a corporation as a resident subject to its tax laws based on whether the entity is managed or controlled in that country, rather than on the basis of place of incorporation. As a result, such a corporation can be a dual-resident corporation, subject to both foreign country and U.S. income tax, based on residence.

If a corporation was a resident of both a foreign country and the U.S., and the foreign country permitted the corporation to use its losses to offset another person's income (as in the case of consolidated returns), then the dual-resident corporation could use any losses it generated twice--once to offset income subject to U.S. tax (but not foreign tax), and again to offset income subject to foreign tax (but not U.S. tax)--the so-called "double-dip."

To prevent this, the Tax Reform Act of 1986 enacted Sec. 1503(d), which generally provides that a corporation's DCL cannot reduce the taxable income of any other member of its affiliated group. Sec. 1503(d)(2) defines a DCL as a net operating loss of a domestic corporation subject to a foreign country income tax on its income, without regard to the income's source, or subject to tax on a residence basis. Generally, the DCL is treated as a separate-return-limitation-year loss that can offset the dual-resident corporation's own income in subsequent years, but not its domestic affiliates' income. The IRS and Treasury issued temporary regulations under Sec. 1503(d) (TD 8261) in 1989 and final regulations in 1992 (TD 8434).

Treatment of Separate Units

Sec. 1503(d) applies to domestic corporations and their separate units. Current Regs. Sec. 1.1503-2(c)(3) and (4) define a "separate unit" as a foreign...