Proposed Rules on Dual Consolidated Losses and Certain Disregarded Payments Issued

The IRS has issued proposed regulations addressing certain issues arising under the current dual consolidated loss rules and certain disregarded payments that give rise to losses for foreign tax purposes. (Preamble to Prop Reg REG-105128-23, 8/6/2024)

These proposals include rules regarding the effect of intercompany transactions, items arising from stock ownership when calculating a dual consolidated loss, and the application of the dual consolidated loss rules to certain foreign taxes.

Interaction with the intercompany transaction regulations. The proposed regs would amend Reg §1.1502-13 to clarify that a Code Sec. 1503(d) member has special status under Reg §1.1502-13(c)(5) for purposes of applying the dual consolidated loss rules. They would also clarify the order of operation between Reg §1.1502-13 and the dual consolidated loss rules.

Items arising from ownership of stock. The proposed regs clarify that items arising from the ownership of stock — such as gain recognized on the sale or exchange of stock and dividends as well as deductions with respect thereto — are not taken into account for purposes of computing income or a dual consolidated loss. Prop Reg §1.1503(d)-5(b)(2)(iv)(A) and Prop Reg §1.1503(d)-5(c)(4)(iv)(A).

Adjustments to conform to U.S. tax principles. The proposed rules clarify that the adjustments necessary to conform to U.S. tax principles do not permit the attribution to a hybrid entity separate unit, or an interest in a transparent entity, of any item that has not been and will not be reflected on the books and records of the hybrid entity or transparent entity. Prop Reg §1.1503(d)-5(c)(3)(i).

Anti-avoidance rule. The proposed regulations would include an anti-avoidance rule that, in general, is intended to address additional transactions, or interpretations, that may attempt to avoid the purposes of the dual consolidated loss rules. Prop Reg §1.1503(d)-1(f).

General applicability of dual consolidated loss rules. The proposed rules would provide that an income tax may include a tax that is intended to ensure a minimum level of taxation on income or computes income or loss by reference to financial accounting net income or loss. Prop Reg §1.1503(d)-1(b)(6)(ii).

Effect on certain entities and foreign business operations. Generally, the proposed regulations provide that if the income or loss of a foreign entity that is not taxed as an association for Federal income tax purposes is considered when determining the amount of tax under an income inclusion rule (IIR), then a domestic corporation’s directly or indirectly held interest in such an entity is a hybrid entity separate unit. Prop Reg §1.1503(d)-1(b)(4)(i)(B)(2).

Further, such a hybrid entity separate unit would form part of a combined separate unit based on where the relevant entity is located for purposes of the IIR. Prop Reg §1.1503(d)-1(b)(4)(ii)(A) and Prop Reg §1.1503(d)-1(b)(4)(ii)(B)(2). However, being subject to an IIR would not cause an interest in a “Tax Transparent Entity” to be a hybrid entity separate unit. Prop Reg §1.1503(d)-1(b)(4)(i)(B)(2).

Mirror legislation. The proposed regulations clarify that a foreign law that preserves a taxpayer’s choice to put a dual consolidated loss to a domestic use or a foreign use (but not both) does not constitute mirror legislation, even if there are specific instances where the foreign law denies the foreign use of a deduction or expense to the extent necessary to prevent a double-deduction outcome. See Prop Reg §1.1503(d)-7(c)(18)(iv) for an example illustrating a foreign law that provides such a choice.

Transition rule. Under the proposed transition rule, the dual consolidated loss rules would apply without considering “Qualified Domestic Minimum Top-up Tax” (QDMTTs) or “Top-up Taxes” with respect to losses incurred in tax years beginning before August 6, 2024. Prop Reg §1.1503(d)-8(b)(12).

Rules regarding disregarded payment losses. Under the proposed “disregarded payment loss” rules, a domestic corporation would agree to monitor a net loss of a foreign entity that is composed of certain payments that are disregarded for U.S. tax purposes and, if a deduction/no-inclusion (D/NI) outcome occurs as to the loss, include in gross income an amount equal to the loss.  Prop Reg §1.1503(d)-1(d)(1).

Deemed consent rule. Under the deemed consent rule, beginning on August 6, 2025, a domestic corporation that directly or indirectly owns interests in a specified eligible entity is deemed to consent to be subject to the “disregarded payment loss” rules to the extent it has not otherwise so consented. Prop Reg §301.7701-3(c)(4)(iii).

Applicability dates.

A taxpayer may rely on these proposed regulations for any tax year ending on or after August 6, 2024, and beginning on or before the date that regulations finalizing these proposed regulations are published in the Federal Register, provided that the taxpayer and all members of its consolidated group apply the proposed regulations in their entirety and in a consistent manner for all taxable years beginning with the first tax year of reliance until the applicability date of those final regulations.

In addition, a taxpayer may rely on the foreign use exception described in Notice 2023-80 for any tax year ending on or after December 11, 2023, and before August 6, 2024, provided that the taxpayer and all members of its consolidated group apply those rules in their entirety and in a consistent manner for all tax years beginning with the first tax year of reliance until the applicability date of the final regulations on this topic.

The proposed rules relating to consent to be subject to the disregarded payment loss rules are proposed to apply to entity classification elections filed on or after August 6, 2024, (regardless of whether the election is effective before August 6, 2024). The proposed rule relating to deemed consent is proposed to apply on or after August 6, 2025. The proposed rules relating to disregarded payment losses are proposed to apply to tax years ending on or after August 6, 2024.

Comments.

The IRS must receive written comments and requests for a public hearing by October 7, 2024. Comments can be submitted electronically via the Federal eRulemaking Portal at https://www.regulations (indicate IRS and REG-105128-23) by following the online instructions for submitting comments.

Public hearing requests must be submitted as prescribed in the “Comments and Requests for a Public Hearing” section.

For more information about the dual consolidated loss rules, see Checkpoint’s Federal Tax Coordinator ¶ E-9200 et seq.