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IRS Releases Practice Unit Addressing Section 958 Constructive Ownership Rules

TAX ALERT | September 07, 2022

Authored by RSM US LLP


Executive Summary

On Aug. 8, 2022, the IRS Large Business & International (“LB&I”) Division released a new practice unit IRC 958 Rules for Determining Stock Ownership.1  The new practice unit provides an overview of the section 958 rules that apply to determine a U.S person’s ownership percentage in a foreign corporation for purposes of classifying a U.S. person as a “U.S. shareholder” and a foreign corporation as a controlled foreign corporation (“CFC”). The practice unit includes a series of examples that apply the post-TCJA constructive ownership downward attribution rules that may cause a foreign corporation to be classified as a CFC based on attribution of shares to a domestic brother-sister corporation. It also summarizes the Form 5471 (Information Return of U.S. Persons With Respect To Certain Foreign Corporations) filing requirements for U.S. shareholders, including the Rev. Proc. 2019-40 safe harbor that may be used when a U.S. person is unable to obtain the information needed to determine whether a foreign corporation is a CFC.  

Section 958(b) sets forth constructive ownership rules that apply to determine whether a U.S. person is a “U.S. shareholder” and a foreign corporation is a CFC. A CFC is a foreign corporation in which “U.S. shareholders” own (directly, indirectly or constructively) more than 50 percent of the vote or value of the corporation’s outstanding shares. A “U.S. shareholder” is a U.S. person who owns (directly, indirectly or constructively) at least 10 percent of the vote or value of the corporation’s outstanding shares. 

Prior to the TCJA, Section 958(b)(4) provided that the downward attribution rules of IRC 318(a)(3)(A), (B) and (C) (incorporated by a cross-reference in section 958(b)) did not apply to treat a U.S. person as constructively owning shares held by a foreign person. As a result, a U.S. subsidiary of a foreign parent generally did not cause foreign subsidiaries also owned by the foreign parent to be classified as CFCs. TCJA repealed section 958(b)(4), thereby removing the restriction on downward attribution. Stock owned by a foreign person can now be attributed to a U.S. person under IRC 318(a)(3) for purposes of determining whether that person is a U.S. shareholder. Consequently, a U.S. subsidiary of a foreign parented entity may now be classified as a U.S. shareholder of foreign brother-sister entities and cause those foreign entities to be classified as CFCs.   

Section 958(b) constructive ownership rules generally do not apply for purposes of determining whether a U.S. person has a Subpart F or GILTI inclusion, except to the extent they classify a foreign corporation as a CFC for U.S. persons who hold at least 10% directly or indirectly. Only U.S. persons who hold at least 10% in a CFC directly or indirectly may have a Subpart F or GILTI inclusion. However, the downward attribution rules do apply for reporting purposes. A U.S. shareholder who constructively holds shares in a CFC generally has an obligation to file Form 5471 pursuant to section 6038(a)(4). 

Due to concerns about the additional compliance burden caused by downward attribution and the limitations on the ability of U.S. shareholders to obtain information about foreign corporations, the IRS issued Notice 2018-13 and Rev. Proc. 2019-40. Notice 2018-13 relieves U.S. persons from filing Form 5471 if (i) no U.S. person holds at least 10 percent of the foreign corporation directly or indirectly, and (ii) the foreign corporation is a CFC solely based on constructive ownership. Rev. Proc. 2019-40 provides an additional filing exception for category 5 filers who are unrelated constructive U.S. shareholders with respect to a foreign-controlled CFC. That exception was subsequently extended to category 1 filers in the Form 5471 instructions. Rev. Proc. 2019-40 also provides a safe harbor for determining whether a constructively owned foreign corporation is a CFC based on alternative information. 

It is important for taxpayers to understand the revised constructive ownership rules, particularly those relating to downward attribution, because they may create a Form 5471 filing obligation. The newly issued IRS practice unit may be helpful to practitioners advising clients with respect to constructive ownership in foreign corporations. 

If a U.S. person is not relieved from filing Form 5471 and a filing deadline is missed, penalty relief may be available under Rev. Proc. 2019-40 or Notice 2022-36. To obtain penalty relief under Notice 2022-36 for tax years 2019 and 2020, Form 5471 must be filed on or before Sep.30, 2022. 


1 IRS Practice Units provide a general discussion of a concept, process, or transaction and are a means for collaborating and sharing knowledge among IRS employees. However, IRS Practice Units are not an official pronouncement of law and cannot be cited or relied upon as legal precedent. 

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This article was written by Ayana Martinez, Lynn Dayan and originally appeared on 2022-09-07.
2022 RSM US LLP. All rights reserved.
https://rsmus.com/insights/tax-alerts/2022/irs-releases-practice-unit-addressing-section-958-constructive-ownership-rules.html

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