REVENUE RULE 91-21

1991-1 C.B. 112, 1991-11 I.R.B. 5.

Internal Revenue Service
Revenue Ruling

CREDITABLE TAXES PAID TO BRAZIL

Published: March 18, 1991

Section 901. Taxes of Foreign Countries and of Possessions of United States, 26 CFR 1.901-1: Allowance of credit for taxes.

(See Also, Section 902; 1.902-1.)

Creditable taxes paid to Brazil. Guidance for determining the amount of income tax paid to Brazil prior to March 1986 for purposes of the direct credit under section 901 of the Code or the deemed paid credit under section 902 is provided. [Full text in this issue.]

ISSUE

What is the amount of income taxes paid or accrued under section 901 of the Internal Revenue Code or deemed paid or accrued under section 902 of the Code to Brazil under the indexation system in effect in Brazil prior to March of 1986?

FACTS

SITUATION 1

X is a domestic corporation that conducts business operations in Brazil directly through a branch. X is an accrual basis taxpayer that uses a calendar year for United States and Brazilian tax purposes.  Brazilian Decree Law No. 1967 (the Decree Law), effective as of November 23, 1982, provided for the indexation of income tax installment payments. This system of indexation was effective until March of 1986.

Under the Decree Law, taxable income as stated in cruzeiros was converted into the equivalent number of Readjustable National Treasury Bonds (ORTNs), based on the number of cruzeiros to the ORTN in the month following the end of the taxable year. The taxable income as expressed in ORTNs was then multiplied by the appropriate tax rate to arrive at the tax liability in ORTNs.

For taxable years ending in the month of December, a tax return was required to be filed by the end of May following the taxable year. Under the Decree Law, the tax could be paid in twelve monthly installments beginning in the January following the taxable year. The installment payments made prior to filing the income tax return were referred to as "twelfths," and the remaining installments beginning with the month the return was filed were referred to as "quotas." Each twelfth was an estimated amount based on one twelfth of the prior year's total tax as stated in ORTNs.

After subtracting the twelfths paid from the tax liability as reflected on the return, both amounts denominated in the ORTN equivalent, the balance due was to be paid in equal ORTN quotas over the remaining installments. A calendar year taxpayer, therefore, would subtract the ORTN amount of twelfths paid in January, February, March, and April, from the ORTN amount of tax liability as reflected on the return filed in May, and divide the result into eight equal quotas payable May through December. To determine the number of cruzeiros necessary to satisfy each ORTN installment, each installment due was multiplied by the number of cruzeiros to the ORTN in the month in which payment was made. The number of cruzeiros to the ORTN was determined monthly by the Brazilian government according to official inflation indices.

The following table reflects the U.S. dollar equivalent of cruzeiros paid to Brazil on the 1984 tax liability of the branch. X's 1983 tax liability and 1984 tax liability in ORTN's were the same. This results in the monthly ORTN installment payments of twelfths and quotas being identical. The exchange rate for converting cruzeiros to the U.S. dollar is quoted on a daily basis. In the following table, the cruzeiros are converted into U.S. dollars using the rates of exchange on the dates of payment of the tax which, for purposes of this ruling, is assumed to be the last workday of the month.

SITUATION 2

The facts are the same as in Situation 1, except that instead of conducting business in Brazil through a branch, X conducts business operations through a Brazilian subsidiary, FS. FS is an accrual basis taxpayer and uses a calendar year to report. For 1984, none of FS's income consisted of amounts includable in X's income under section 951(a) of the Code. On February 28, 1985, Fs paid X a dividend equal to all of its 1984 accumulated profits minus its 1984 Brazilian tax liability of 240 ORTNs. Pursuant to the sixty-day rule set forth in former section 902(c), the dividend is treated as having been paid from FS's 1984 accumulated profits.

LAW AND ANALYSIS

In general, section 901 of the Code provides that a credit is allowed against United States income tax for the amount of any income, war profits, and excess profits taxes paid or accrued to any foreign country.

SITUATION 1.

For purposes of determining the amount of the direct foreign tax credit under section 901 of the Code, section 905(a) provides, in part, that an accrual basis taxpayer may take a credit in the year in which the taxes of the foreign country accrue. The rate of exchange in effect on the last day of the taxable year is used in claiming the credit for taxes accrued to the foreign country for that year. See Rev. Rul. 73-491, 1973-2 C.B. 267. This computation, however, is a tentative calculation. Section 905(c) provides that the credit is subject to adjustment if the accrued taxes when paid differ from the amount claimed. The foreign tax credit allowed a United States taxpayer is the U.S. dollar value of the foreign tax actually paid. See Rev. Rul. 73-506, 1973-2 C.B. 268.

The income tax in Brazil is expressed in ORTNs. The branch had a tax liability for the taxable year 1984 of 240 ORTNs. In accordance with section 905(c) of the Code, the U.S. dollar value of the foreign tax credit is computed by converting the ORTNs into cruzeiros and the cruzeiros into U.S. dollars using the rates of exchange on the dates of payment of the tax. Therefore, the foreign tax creditable by X is $1664.

SITUATION 2.

For distributions from accumulated profits derived during taxable years beginning before January 1, 1987, section 902(a) of the Code provides that a domestic corporation that owns at least 10 percent of the voting stock of a foreign corporation from which it receives dividends is deemed to have paid the same proportion of foreign income taxes paid or accrued by the foreign corporation with respect to the accumulated profits of the foreign corporation from which the dividends were paid, which the amount of the dividends bears to the amount of accumulated profits in excess of foreign income taxes.

For purposes of determining the amount of the deemed paid credit under section 902 of the Code for taxes paid or accrued with respect to accumulated profits derived during taxable years beginning before January 1, 1987, the exchange rate in effect on the date the dividend was paid to the domestic corporation is the rate used to convert the foreign income taxes into U.S. dollars. Bon Ami Co. v. Commissioner, 39 B.T.A. 825 (1939).

For purposes of section 902 of the Code, the ORTN tax liability is the foreign income tax. Because FS paid out all of its accumulated profits (after taxes) for the 1984 taxable year as a dividend, section 902 provides that X will be deemed to have paid all of the income tax (240 ORTNs) attributable to such accumulated profits. For purposes of determining the amount of the deemed paid credit, Bon Ami requires that the tax of 240 ORTNs be converted into U.S. dollars on the date that the dividend was paid.  Thus, the total Brazilian tax liability of FS in ORTNs is converted into cruzeiros at the ORTN to cruzeiro rate in effect during the month in which the dividend is paid. The cruzeiros are then converted into U.S. dollars using the exchange rate on the date of payment of the dividend.

The foreign tax deemed paid by X as a result of the dividend of February 28, 1985, is as follows for purposes of section 902 of the Code:

(240 ORTNs x 27.510 cr.) = $1680 3.931 cr.

The 240 ORTNs represents the tax liability associated with the accumulated profits distributed by FS to X and the 27.510 cruzeiros represents the number of cruzeiros to the ORTN during the month in which the dividend was paid. The product of the numerator is divided by the number of cruzeiros to the U.S. dollar on the date the dividend is paid, 3.931, to arrive at the U.S. dollar equivalent of the foreign tax deemed paid.

The use of the dividend payment date as the exchange rate date for purposes of the deemed paid credit under section 902 of the Code is applicable only to taxes paid or accrued with respect to accumulated profits derived during taxable years beginning before January 1, 1987. Generally, for tax years beginning after December 31, 1986, for purposes of determining the amount of the foreign tax credit, foreign income taxes shall be translated into U.S. dollars using the exchange rates as of the time such foreign taxes were paid. See sections 905(c) and 986(a) and the Temporary Income Tax Regulations and the Income Tax Regulations, respectively, thereunder.

HOLDING

SITUATION 1

For its 1984 tax year, assuming that the Brazilian tax is otherwise creditable, X paid for purposes of section 901 of the Code $1664 of income tax to Brazil.

SITUATION 2

For its 1984 tax year, assuming that the Brazilian tax is otherwise creditable, X is deemed to have paid for purposes of section 902 of the Code $1680 of income tax to Brazil.

DRAFTING INFORMATION

The principal author of this revenue ruling is John B. Schlafly of the Office of Associate Chief Counsel (International), Internal Revenue Service. For further information regarding this revenue ruling contact William T. Lundeen on (202) 566-6645 (not a toll-free call).

Rev. Rul. 91-21, 1991-1 C.B. 112, 1991-11 I.R.B. 5.