In our previous blog, Subpart F Income: The Briefer, we introduced Subpart F Income and how U.S. Shareholders of controlled foreign corporations must pay U.S. tax on it. While Subpart F Income can be somewhat hard to define without being able to analyze a particular CFC’s income, one type of income will always be classified as Subpart F Income: Foreign Base Company Income.
The Code defines Foreign Base Company Income, or FBCI, by way of the following equation:
Foreign Personal Holding Company Income (FPHCI)
FPHCI is income that a CFC receives from their interests in foreign holding companies. To qualify as FPHCI, the income must be generated through passive sources and the holding company cannot be part of a business operating structure. Passive sources include dividends, interest, rents, and royalties. It also includes gains from the sale of assets that themselves produce passive income. Thus, if you have a foreign company that is used a s a vehicle by which to hold real estate, then rents received will be FPHCI. If the house is later sold and prior to the sale had only be used to generate passive income, then the gain from the sale will also be classified as FPHCI.
Foreign Base Company Sales Income (FBCSI) and Foreign Base Company Services Income (FBCSII)
Under section 954 of the Code, a CFC will have FBCSI where the CFC purchases or sells personal property and the transaction involves a “related party in which the goods are manufactured and sold for use or consumption outside the CFC’s country of incorporation. Altenratively a CFC will have FBCSII where the a CFC performs “technical, managerial, engineering, architectural, scientific, skilled, industrial, commercial or like services” for, or on behalf of, a related party outside of the CFC’s country of incorporation. Accordingly FBCSI and FBCSII are pretty similar, with the soel difference being that FBCSI is generated by goods whereas FBCSII is generated by services (as their names indicate).
While FPHCI can be straightforward, FBCSI and FBCSII can be quite tricky as they require that the transaction be between related parties. Accordingly, we will dive into what a “related party transaction” entails in our next blog post. Moreover, we will dive into the exceptions to FBCI in posts thereafter. If you need any assistance in determining whether you have a CFC to which these sections are applicable, please refer to our whitepaper, The Expansion of “United States” Taxpayers: How the TCJA Drags Unassuming Foreign Companies and Individuals under its Scope. Moreover, please feel free to contact us at AsenaAdvisors.com as we can assist you with these complex rules and how they interact with the tax laws of other countries to ensure the protection of your assets.