Taxation

• Author: International Law Group

In the following case, the U.S. Tax Court addresses the interaction between the so-called "check-the-box" regulations and the definition of foreign personal holding company income. In particular, the Court reviews whether the deemed sale of assets immediately after their deemed receipt (pursuant to the check-the box regulations) from a disregarded foreign entity gives rise to "foreign personal holding company income" (FPHCI).

Dover Corporation is a diversified industrial manufacturer incorporated in Delaware. It is publicly traded and has its main place of business in New York. Dover filed a consolidated income tax return for its group of companies.

In the United Kingdom (UK), Dover conducted its elevator business through a UK subsidiary that in turn owned subsidiary, Hammond & Champness Limited (H&C). In June 1997, Dover sold H&C to a German industrial conglomerate, Thyssen, for the entire issued share capital of H&C. In December 1998, Dover requested the Internal Revenue Service (IRS) to grant an extension of time for H&C to file a retroactive election to be a disregarded entity for Federal tax purposes (9100 relief).

The IRS eventually granted Dover's request, but stated that "no inference should be drawn from this letter that any gain from the sale of ... [H&C's] assets immediately following its election to be disregarded as an entity separate from its owner gives rise to gain that is not foreign personal holding company income as defined in section 954(c)(1)(B) of the Internal Revenue Code." Section 954(c)(1)(B)(iii) defines FPHCI in part, and is part of Subpart F that concerns controlled foreign corporations (CFCs). Section 951(a)(1)(A)(I) provides that each U.S. shareholder of a CFC shall include in gross income certain amounts, including the "pro rata share" of the CFC's subpart F income for the taxable year. Subpart F income includes foreign base company income, which in turn includes FPHCI. Under Section 954©), FPHCI is "the portion of the gross income which consists of: .... (B) Certain property transactions. - The excess of gains over losses from the sale or exchange of property - ... (iii) which does not give rise to any income."

Subsequently, H&C made an election on Form 8833 [Entity Classification Election] to be disregarded as a separate entity.

The IRS assessed a federal income tax deficiency for 1996 and 1997 totaling approximately $34 million, due largely to the sale of H&C.

The "check-the-box" regulations issued in...