Filing Protective Claims Following Redetermination of Foreign Tax Liability

Editor: Annette B. Smith, CPA

Foreign Income & Taxpayers

U.S. multinationals that have undergone a tax audit in a foreign jurisdiction resulting in additional foreign tax liability may be able to file an amended U.S. return with the IRS to claim a credit under Sec. 901(b) for foreign taxes paid. A special 10-year period of limitation under Sec. 6511(d)(3)(A) applies to refunds resulting from these claims. The 10-year period starts on the due date of the tax return (excluding extensions) for the year for which the additional foreign taxes were paid or accrued.

An accrual-basis U.S. company that decides to challenge a foreign income tax examination assessment must claim a foreign tax credit related to that assessment in an amended return filed for the year to which the assessment related, even though the claim amount may not be known until the additional foreign tax liability is finally determined (see Rev. Rul. 84-125 (allowance of credit for year may precede credit’s being accrued for that year)).

Foreign governments apply their own laws when determining when an additional assessment of tax may be made. As a result, in some situations for U.S. companies, the 10-year period for filing a claim could expire before the additional foreign tax liability is finally determined. Accordingly, a U.S. company that has been notified by a foreign jurisdiction that it has been selected for examination should act promptly to protect against the possible expiration of the limitation period for filing a timely claim for refund with the IRS.

Preventing Expiration of the Refund Statute

When a foreign affiliate of a U.S. company is selected for examination by a foreign tax authority, the U.S. company first should determine whether 10 years have passed since the due date of the U.S. return (excluding extensions) for the year the foreign jurisdiction is examining. The relevant U.S. tax year is the year for which any additional tax must be paid or accrued and not the year to which a credit would be carried back or carried forward (Chrysler Corp., 436 F.3d 644 (6th Cir. 2006) (10-year period under Sec. 901(a) is measured from year for which claiming credit for foreign taxes paid relates and not from year to which foreign tax credit is carried forward)).

If the year is open under Sec. 6511(d)(3)(A) and the foreign government conducting the examination has entered into a tax treaty with the United States, then the U.S. company should notify the U.S. competent authority that the company has been selected for examination (see Rev. Proc. 2006-54, Section 4; but see also Notice 2013-78 (proposed revised procedures for requesting assistance of U.S. competent authority under tax treaties)). The notification will be treated as a formal claim for refund (see former Temp. Regs. Sec. 1.905-4T(b)(1)(iii)). Many tax treaties also provide that a decision of the competent authorities will be implemented irrespective of a limitation period.

Protective Claims

If no tax treaty is in place between the United States and the foreign country conducting the examination, the U.S. company must determine whether it should extend the 10-year limitation period or file a protective claim for refund. A claim for refund constitutes a protective claim only if certain criteria are met. According to Internal Revenue Manual Section 25.6.1.10.2.6.5:

• A protective claim is filed to preserve the taxpayer’s right to claim a refund when the taxpayer’s right to the refund is contingent on future events and may not be determinable until after the statute of limitation expires.
• A valid protective claim need not state a particular dollar amount or demand an immediate refund. However, the claim must identify and describe the contingencies affecting the claim, must be sufficiently clear and definite to alert the IRS as to the essential nature of the claim, and must identify a specific year or years for which a refund is sought.
• The IRS has discretion in deciding how to process protective claims. In general, it is in the best interests of the IRS and taxpayers to delay action on protective claims until the pending litigation or other contingency is resolved. Once the contingency is resolved, the IRS may obtain additional information necessary to process the claim and then allow or disallow the claim.

If a protective claim for refund is filed for the year for which additional foreign taxes likely will be paid or accrued, care must be exercised to determine whether the additional credits for foreign taxes paid will be carried back or carried forward under Sec. 904(c) (allowing for one-year carryback and 10-year carryforward of excess credits). If credits are carried to a year other than the year for which they were accrued, a protective claim should be filed for that year also.

Alternatively, if the assessment period is open under Sec. 6501(a) or has been extended under Sec. 6501(c)(4), consideration should be given to extending the assessment statute far enough into the future to allow the tax examination in the foreign jurisdiction to conclude, so that a final liability is determined. A claim for refund based on additional foreign taxes paid then may be filed under Sec. 6511(c), which extends the period for filing a claim to six months after expiration of the extension agreement (see Field Service Advice 200221004 (consent to extend refund period of limitation for foreign tax credits may be made within the 10-year period of Sec. 6511(d)(3)(A) and thereby extend that 10-year period)).

EditorNotes

Annette Smith is a partner with PricewaterhouseCoopers LLP, Washington National Tax Services, in Washington.

For additional information about these items, contact Ms. Smith at 202-414-1048 or annette.smith@us.pwc.com.

Unless otherwise noted, contributors are members of or associated with PricewaterhouseCoopers LLP.