For reporting entities electing to recognize deferred taxes for basis differences that are expected to have a GILTI impact in future years (GILTI deferred taxes), we believe the approach set forth herein is one acceptable model based on the broad principles of ASC 740
. The approach begins with a two-step model: (1) “looking-through” each CFC to the underlying assets and liabilities and (2) considering any residual outside basis differences. The impacts of the net deemed tangible income return, the Section 250 deduction, and FTCs should also be considered. The subsections that follow provide additional details on the two-step model and additional considerations.
Recording GILTI deferred taxes
GILTI is measured on a US shareholder basis. The US shareholder’s pro rata share of its CFCs’ net tested income in excess of its tested losses is included in its taxable income.
We anticipate that a reporting entity will only recognize GILTI deferred taxes if it expects to have a GILTI inclusion in the future. Otherwise, any basis differences that might exist would not have a GILTI impact upon reversal. Situations when a GILTI inclusion may not be expected to occur in the future include:
- Net deemed tangible income return will routinely exceed CFCs net tested income
- CFCs are expected to consistently produce tested losses
- CFCs are not expected to have tested income because their net income is already taxed in the US on a current basis (e.g., effectively connected income, subpart F income)
Two-step model for measuring GILTI deferred taxes
When recording GILTI deferred taxes, a reporting entity must consider both the inside and outside basis differences of its CFCs.
Step 1: “Look-through” each CFC to the underlying assets and liabilities
Similar to accounting for branch operations (as discussed in TX 11.10.1
), the assets and liabilities of CFCs may result in two sets of temporary differences that give rise to deferred tax assets and liabilities: one for the foreign jurisdiction and one for the GILTI impact in the US.
Foreign deferred taxes recorded for temporary differences in the local jurisdiction in which the CFC operates would follow the provisions of ASC 740
. For GILTI deferred taxes, the US shareholder should “look through” each CFC and compare the book basis of its assets and liabilities to the US tax basis determined under the GILTI provisions (GILTI basis) to determine if basis differences exist. If the GILTI basis differences will impact tested income/loss of the CFC upon reversal, they should be included in the measurement of GILTI deferred taxes. GILTI deferred taxes should be recorded for inside basis differences regardless of whether the total outside basis difference is in a book-over-tax or tax-over-book position or whether an outside basis difference exists at all.
Example TX 11-9 illustrates the application of Step 1.
EXAMPLE TX 11-9
Application of GILTI deferred tax model Step 1 – “Look-through” each CFC
Company A (US shareholder) has one CFC (CFC1). CFC1 has intellectual property (IP) with a book basis of $1,500 that will be amortized over 10 years. The IP has a tax basis in the foreign jurisdiction of $1,000 that will also be amortized over 10 years. In determining the tested income of CFC1 under US tax law, the intellectual property has a GILTI basis of $600 that will be amortized over 15 years.
Which bases are relevant in the measurement of GILTI deferred taxes related to CFC1’s IP?
Company A should “look-through” CFC1, noting that a $900 basis difference exists between the book basis ($1,500) and the GILTI basis ($600). As this inside basis difference reverses, it will have an impact on tested income. For example, assuming no other book-tax differences in the first year, CFC1’s tested income will be equal to pre-tax income plus $110 [book amortization of $150 compared to US GILTI tax amortization of $40].
Additionally, there is a $500 basis difference between book and tax basis in the foreign jurisdiction that will give rise to a deferred tax liability for CFC1. Upon reversal, the deferred tax liability will result in additional foreign taxes that might be creditable in the calculation of GILTI and may reduce the GILTI tax cost in the year in which the deferred tax liability reverses (i.e., anticipatory FTCs). US deferred taxes for anticipatory FTCs (discussed later in this section) may only be recorded for the local jurisdiction deferred tax assets or liabilities of the CFC.
Example TX 11-10 illustrates GILTI deferred tax considerations for CFCs with tested losses.
EXAMPLE TX 11-10
Temporary differences for CFCs with tested losses
Company A (US shareholder) has two CFCs: CFC1 and CFC2. CFC1 is expected to consistently generate tested income that exceeds CFC2’s tested losses. CFC1 has a $100 taxable temporary difference that will increase the GILTI inclusion upon reversal. CFC2 also has a $100 taxable temporary difference that would contribute to a GILTI inclusion upon reversal.
If Company A has elected to record GILTI deferred taxes, should the measurement of the GILTI deferred taxes include the taxable temporary differences for both CFC1 and CFC2?
Yes. The taxable temporary difference of CFC2 would not be ignored just because CFC2 is expected to have a tested loss that would not result in a GILTI inclusion if calculated on a stand-alone basis. Company A’s net share of the tested income or loss for CFC1 and CFC2 would be aggregated to calculate the GILTI inclusion.
Step 2: Consider residual outside basis differences
After “looking-through” the CFC to determine the inside basis differences, a residual outside basis difference between the inside and outside tax basis may remain. The residual outside basis difference may reverse in a sale, distribution, or liquidation, as it would have prior to the enactment of the GILTI provisions and should be evaluated in accordance with ASC 740-30-25-17
(see TX 11.4
Special considerations in GILTI deferred accounting
Net deemed tangible income return
Because the net deemed tangible income return is dependent on future events, such as investments in specified tangible property and interest expense of CFCs, we believe it is acceptable to account for the related tax benefit in the period it arises, similar to a “special deduction” as described in TX 126.96.36.199
. Using this approach, the net deemed tangible income return would not be considered in the measurement of GILTI deferred taxes.
An alternative approach is to estimate the net deemed tangible income return in order to determine an average tax rate expected to apply in the period the temporary difference reverses. This average tax rate would be used to measure the GILTI deferred taxes. This approach is similar to accounting for graduated tax rate structures, discussed in TX 4.3.1
. A reporting entity following this approach would need to develop an expectation of tested income and QBAI in order to calculate the average rate and would need to update its estimate each reporting period as facts and circumstances change.
A reporting entity’s selected approach as it relates to the net deemed tangible income return should be applied on a consistent basis.
Section 250 deduction
Because of the mechanics of the Section 250 deduction and taxable income limitations, a reporting entity’s eligible Section 250 deduction could be less than 50% (or 37.5% for tax years beginning after December 31, 2025) of the GILTI inclusion. We believe it is generally appropriate to presume that the Section 250 deduction will not be limited in determining the tax rate applied to measure GILTI deferred taxes.
Example TX 11-11 illustrates considerations related to accounting for the Section 250 deduction.
EXAMPLE TX 11-11
Section 250 deduction
Company A (US shareholder) has one CFC (CFC1). CFC1 has identified a $1,000 GILTI taxable temporary difference related to its intellectual property (IP). The difference is expected to reverse and increase tested income by a total of $600 in taxable years when the Section 250 deduction is 50% and a total of $400 in taxable years when the Section 250 deduction is 37.5%. Company A expects to be able to apply the full GILTI deduction in all years and has elected to account for the net deemed tangible income return in the period that it arises.
How should Company A account for the Section 250 deduction when measuring GILTI deferred taxes?
Company A could presume the full Section 250 deduction in determining the tax rate that applies in the measurement of its GILTI deferred taxes as illustrated below.
Because of the Section 250 deduction, only $550 of the $1,000 taxable temporary difference is expected to have a GILTI impact in the future. Company A’s GILTI deferred tax liability before consideration of anticipatory FTCs would be $115.50 ($550 multiplied by 21%).
As an alternative approach, a reporting entity could consider whether it expects to be able to apply the Section 250 deduction to reduce GILTI in the year in which a GILTI temporary difference reverses. A reporting entity’s Section 250 deduction may be limited, for example, if a reporting entity expects US-sourced losses to offset any GILTI inclusions, or it expects to utilize NOLs or other tax attributes to offset taxable income in future periods. To the extent a reporting entity does not expect to be able to benefit from some or all of the applicable Section 250 deduction in the relevant year, it would measure the temporary difference at a tax rate that excludes the portion of the Section 250 deduction that is expected to be lost.
In cases when limitations on the Section 250 deduction are considered in assessing the realization of NOLs (see TX 188.8.131.52
), reporting entities should be consistent when considering the limitation. Reporting entities that follow the incremental cash tax savings approach for purposes of assessing realization of their NOLs should include the Section 250 deduction in measuring GILTI deferred taxes in all cases. Reporting entities that follow the tax-law ordering approach for purposes of assessing realization of their NOLs should exclude the Section 250 deduction in measuring GILTI deferred taxes for temporary differences that reverse during the relevant periods in which NOLs are utilized.
Whichever approach is selected would need to be applied consistently.
Foreign tax credits
FTCs may be used to reduce the US tax cost of GILTI. The measurement of GILTI deferred taxes should reflect the expected impact of “anticipatory” FTCs similar to the manner in which deferred taxes are recorded for the home country tax effect of foreign taxes incurred by a branch operation (see TX 11.10.1
). When a foreign deferred tax liability is settled, it increases foreign taxes paid, which may increase GILTI FTCs available to reduce the GILTI tax cost in that year (i.e., additional “anticipatory” FTCs). Conversely, when a foreign deferred tax asset is recovered, it reduces foreign taxes paid, which may decrease GILTI FTCs available to reduce the GILTI tax cost in that year (i.e., less “anticipatory” FTCs). US deferred taxes for “anticipatory” FTCs may only be recorded for the local jurisdiction deferred tax assets or liabilities of the CFC. In other words, the “anticipatory” FTCs considered in the measurement of GILTI deferred taxes should not consider FTCs that are attributable to future earnings. Under the tax law, GILTI FTCs are subject to a number of limitations. At a minimum, for a reporting entity that did not expect to be subject to other FTC limitations, such as expense allocation, the “anticipatory” GILTI FTCs would be limited to 80% of the in-country foreign deferred tax asset or liability since, in all cases, GILTI FTCs are subject to the 80% limitation. However, a reporting entity would need to consider all limitations that may reduce the amount of the “anticipatory” FTCs.
Example TX 11-12 addresses whether to consider GILTI FTCs in the measurement of an outside basis deferred tax liability when the reporting entity accounts for GILTI as period cost.
EXAMPLE TX 11-12
Consideration of GILTI- basket FTCs when measuring an outside basis deferred tax liability
Assume that a reporting entity has elected to account for GILTI as a period cost and does not assert indefinite reinvestment for a CFC for which a book over tax outside basis difference exists. Presume that the CFC generates GILTI and any future remittance is expected to generate withholding tax. As a result, the reporting entity must accrue a deferred tax liability for withholding taxes that would be triggered when those underlying foreign earnings are distributed from the foreign subsidiary to the US. The reporting entity expects to be able to claim on its US tax return a GILTI-basket FTC for the withholding taxes paid on those earnings and foresees no limitation on its ability to realize the benefit of that FTC. When measuring the deferred tax liability for withholding taxes, should the reporting entity reduce the deferred tax liability to reflect the tax benefit for the GILTI FTC that will be generated upon payment of the withholding tax?
Yes, the US reporting entity should recognize the tax benefit of the GILTI FTC as part of the measurement of its deferred tax liability on the outside basis difference. The deferred tax liability for undistributed earnings of a foreign subsidiary should incorporate the effects of FTCs. We do not believe that consideration of the expected GILTI FTC is inconsistent with the reporting entity’s policy to account for GILTI as a period cost.