Potential Opportunity to Increase FTC Use

L etter Ruling (TAM) 200212001 may be helpful to certain U.S. multinational corporations (MNCs) in limiting the amount of interest expense that otherwise may be apportioned to foreign-source income. A reduction in interest expense apportioned to foreign-source income should provide an MNC with the ability to use additional foreign tax credits (FTCs).

In the TAM, the IRS determined that non-interest-bearing trade accounts receivable were closely associated with the production of income created by the sale of goods and services (i.e., the accounts receivable were associated with income generated from the sale of goods and services). Accordingly, the Service concluded that the accounts receivable generated income from the sales of goods and services and were single-category assets under Temp. Regs. Sec. 1.861-9T(g)(3)(i).

In the taxpayer's particular facts, such sales were U.S.-source sales. Thus, the IRS determined that the accounts receivable were viewed properly as "U.S. assets" for purposes of determining the taxpayer's tax-basis balance sheet for interest-expense apportionment purposes.

The application of the Sec. 861 interest-expense apportionment rules to a taxpayer's accounts receivable may be considered under various scenarios. Accounts receivable might be viewed as:

• Assets without any identifiable yield and therefore excluded from the tax-basis balance-sheet equation for interest-expense apportionment pur-poses.
• Assets that generate interest income (assuming that they are interest-bearing). (Note: the accounts receivable in the TAM were non-interest-bearing. It is not apparent from the TAM whether interest-bearing accounts receivable would have changed the Service's conclusion.)
• Generating (or closely associated with) sales income, and thus considered to be either as U.S.-source assets or foreign-source assets, based on the type of sales income that generated the accounts receivable.

The TAM used the third approach when applying the interest-expense apportionment rules to determine the source of non-interest-bearing receivables.

Assuming the IRS follows the TAM for other taxpayers, the application of the TAM to a particular MNC's facts may provide a favorable result, which may be enhanced to the extent that the MNC's non-interest-bearing accounts receivable from Sec. 863(b) sales are paid in full by year-end.

In a number of factual situations, MNCs will make Sec. 863(b) sales to their foreign subsidiaries and will make other sales to a third party with U.S. title passage. To the extent that the foreign subsidiaries pay the accounts receivable in full by year-end, a larger proportion of receivables could potentially be U.S.-source-based receivables and U.S. assets for interest-expense apportionment purposes. Under this scenario, more interest expense should be apportioned to U.S.-source income.

From Martin J. Collins, J.D., CPA, Washington, DC