The Tax Times: IRS Addresses NOL Carrybacks for Taxpayers With Outstanding IRC § 965 Net Tax Liabilities

The IRS, on its website Frequently asked questions about net operating loss carrybacks and Sec. 965 inclusions, has provided frequently asked questions (FAQs) about net operating loss (NOL) carrybacks for taxpayers with outstanding IRC § 965 net tax liabilities.

The Coronavirus Aid, Relief, and Economic Security Act (CARES Act, PL 116-136) amended Code Sec. 172(b)(1) to allow a taxpayer with an NOL arising in a 2018, 2019, or 2020 tax year to carry back that loss to each of the 5 preceding years (carryback period). (Section 2303 of the CARES Act).

Under Code Sec. 172(b)(3), taxpayers may elect not to carryback NOLs arising in a 2018, 2019 or 2020 tax year.

Under Code Sec. 172(b)(1)(D)(v)(I), taxpayers may elect not to carryback an NOL to a tax year in which they have “section 965(a) inclusions.”

Generally, Code Sec. 965(a) requires: (a) a deferred foreign income corporation (DFIC) to increase its income for its last tax year that begins before January 1, 2018 (section 965(a) inclusions), by the greater of the accumulated post-1986 deferred foreign income of such corporation as of either November 2, 2017 or December 31, 2017; and (b) certain taxpayers to include in gross income their pro rata share of the increase in the income of the deferred foreign income corporation (Code Sec. 965 years).

Under Code Sec. 965(c), a U.S. shareholder of a DFIC is allowed a statutorily defined deduction (section 965 deduction) for the tax year in which these rules apply. (Code Sec. 965(c)(1))

Code Sec. 965(h) allows a U.S. shareholder of a DFIC taxpayer to pay its "section 965 net tax liability" in installments (section 965(h) election).

A U.S. shareholder's "section 965 net tax liability" is the excess of (1) the taxpayer's net income tax for the tax year in which an amount is included in the shareholder's gross income under Code Sec. 951(a)(1), over (2) the taxpayer's net income tax for such tax year determined without regard to any income or deduction properly attributable to a dividend received by such U.S. shareholder from any deferred foreign income corporation and without regard to Code Sec. 965(h).

Code Sec. 965(n) and Reg §1.965-7(e) allow a taxpayer to make an election to not take into account Code Sec. 965(a) inclusions when determining the taxpayer’s (1) NOL deduction under Code Sec. 172 for the tax year, or (2) taxable income for the tax year that may be reduced by NOL carryovers or carrybacks to the tax year under Code Sec. 172.

In Rev Proc 2020-24, 2020-17 IRB, the IRS provided procedures for taxpayers with NOLs arising in tax years beginning in a 2018, 2019 or 2020 tax year on how to (1) waive the 5-year carryback period, (2) elect to exclude section 965 years from the carryback period, and (3) apply to waive a carryback period, reduce a carryback period, or revoke an election to waive a carryback period for a tax year that began before January 1, 2018 and ended after December 31, 2017.

The IRS also issued temporary procedures, in the form of FAQs, for faxing certain Forms 1139, Corporation Application for a Tentative Refund, and 1045, Application for Tentative Refund (for Individuals, estates or trusts), to the IRS. In FAQ #5, the IRS indicated that it would issue additional instructions on filing requests for tentative refunds for taxpayers with outstanding section 965(h) net tax liabilities.

In FAQ #5 of the temporary procedures, the IRS has now answered frequently asked questions about NOL carrybacks for taxpayers with outstanding section 965(h) net tax liabilities.

Q1. Taxpayer has an NOL arising in a tax year beginning in 2018, 2019, or 2020, and one or more of the tax years in the carryback period for that NOL is a section 965 year. May the taxpayer make an election either under Code Sec. 172(b)(3) to waive the entire carryback period (i.e. for both section 965 years and non-section 965 years) or under Code Sec. 172(b)(1)(D)(v)(I) to waive the carryback only for section 965 years?
A1. Yes. The taxpayer may file an election to either (1) waive the entire 5-year carryback period or (2) to exclude all section 965 years from the carryback period. Guidance regarding when and how to file these elections is provided in Rev Proc 2020-24, Sec. 4.01, and in Q&A 2 below.
Q2. Taxpayer has an NOL arising in a tax year beginning in 2018, 2019, or 2020, and also has one or more section 965 years in the carryback period, how does the taxpayer elect to exclude only the section 965 years from the carryback period?
A2. A taxpayer may make the election to exclude all section 965 years from the carryback period by attaching an election statement to the earliest filed of the following:

The Federal income tax return for the tax year in which the NOL arises;

A Form 1139 or Form 1045, as applicable, applying the NOL to a tax year in the carryback period, or

An amended Federal income tax return applying the NOL to the earliest tax year in the carryback period that is not a section 965 year.

This election statement must include the following:

A statement that the taxpayer is electing to apply Code Sec. 172(b)(1)(D)(v)(I) under Rev Proc 2020-24;

The tax year in which the NOL arose; and

The taxpayer’s section 965 years.

If a taxpayer claims a refund or credit as a result of the carryback of the NOL by filing amended Federal income tax returns for tax years in the carryback period, the taxpayer must also attach the election statement to each amended return. See Rev Proc 2020-24, Sec. 4.01(2).

Q3. A taxpayer is carrying back an NOL to a section 965 year and is now entitled to a refund for that year because the income tax liability for that section 965 year (including all installment payments) is fully paid. May the taxpayer use Form 1139 or Form 1045, as applicable, to apply for a refund for the section 965 year?
A3. Yes. Taxpayers can disregard the portion of the instructions for Forms 1139 and 1045 that prohibit taxpayers from using these forms to apply for refunds for section 965 years. However, under the CARES Act, Code Sec. 172(b)(1)(D)(iv) provides that a taxpayer who has a carryback to a section 965 year is deemed to have made a Code Sec. 965(n) election that limits the loss that can be carried back to each section 965 year. Because of this, an NOL can be carried back only to reduce income in excess of the amount of the section 965(a) inclusion net of the section 965(c) deduction.
Q4. A taxpayer files a Form 1139 or Form 1045 to request a refund resulting from a 5-year carryback of an NOL arising in a tax year beginning in 2018, 2019, or 2020, and the carryback period includes section 965 years, will the taxpayer receive the full carryback refund amount?
A4. For a taxpayer who has made a section 965(h) election, a refund will be generated only if the excess credit generated by the NOL deduction in the section 965 year exceeds the entire unpaid income tax liability for the section 965 year.
Q5. Has the IRS extended the due date for filing Forms 1139 and 1045 to apply for a tentative refund based on the carryback of NOLs arising in tax years beginning on or after January 1, 2018, and ending before June 30, 2019?
A5. Yes. The IRS has granted a six-month extension of time for taxpayers to file Form 1139 or Form 1045, as applicable, to apply for a tentative refund from the carryback of an NOL that arose in a tax year that began during calendar year 2018 and that ended on or before June 30, 2019.

This extension of time is limited to requesting a tentative refund to carry back an NOL and does not extend the time to carry back any other item.

Q6. What is the due date for filing a Form 1139 or Form 1045 to request a tentative refund from the carryback of an NOL arising in a tax year beginning before January 1, 2018, and ending after December 31, 2017 (2017 fiscal tax year), and to make or revoke an election with respect to an NOL arising in a 2017 fiscal tax year?
A6. Taxpayers with an NOL arising in a 2017 fiscal tax year who make an application for a tentative refund on Form 1139 or Form 1045, as applicable, with respect to a carryback of such NOL will be treated as having timely filed if Form 1139 or 1045 with respect to such carryback is filed no later than July 27, 2020.

Similarly, elections for a 2017 fiscal tax year with an NOL to waive any carryback period, to reduce any carryback period, or to revoke any election made under Code Sec. 172(b) to waive any carryback period will be treated as timely filed if filed no later than July 27, 2020.

A taxpayer can file the above elections by attaching a statement containing the taxpayer's name, address, and taxpayer identification number, with "Filed pursuant to Rev. Proc. 2020-24" at the top, to Form 1045, or Form 1139. This statement must indicate the section under which the election is being made and set forth information to identify the election, the period for which it applies, and the taxpayer's basis and entitlement to make the election. See Rev Proc 2020-24, sec. 4.04(1).

Q7. May a taxpayer with a farming business or insurance company that previously filed elections to forgo the carryback period for NOLs arising in tax years 2018 and 2019 revoke those elections and claim the 5-year carryback period with respect to such NOLs?
A7. No. The CARES Act does not provide for an election to revoke prior elections to forgo the carryback period for NOLs arising in these years. A taxpayer may, however, revoke a prior election to relinquish the carryback period with respect to an NOL arising in a 2017 fiscal tax year. See Rev Proc 2020-24, sec. 4.04(1).
Q8. What is the due date for filing an election to forgo the entire carryback period or forgo only section 965 years?
A8. A taxpayer must make an election either (1) to exclude section 965 years from the carryback period for an NOL arising in a tax year beginning in 2018 or 2019, or (2) to waive the carryback period for such an NOL, by the due date (including extensions) for filing its return for the first tax year ending after March 27, 2020. See Rev Proc 2020-24, sec. 4.01.

For an NOL arising in a tax year beginning in 2020, these elections must be made by the due date (including extensions) for filing the Federal income tax return for that tax year. See Rev Proc 2020-24, sec. 4.01(2).

Once made, both elections are irrevocable.

Q9. What supporting documentation is required to be attached to a request for refund resulting from the carryback of NOLs to section 965 years?
A9. The following documentation must be attached to a request for refund:

All supporting documentation for the NOL carryback as described in the Form 1139 or Form 1045 instructions.

An amended Form 965-A or Form 965-B (as applicable) to record the amount of the change in the section 965 net tax liability, if any, caused by the NOL carryback.

A statement of explanation to explain the change in the section 965 net tax liability.

Additionally, Q&A13 of the temporary procedures provides procedures relating to missing information or IRS questions regarding your filing.

Q10. As a result of an NOL carryback to pre-section 965 years (2014, 2015 and 2016) and exclusion of 2017 (a section 965 year), there is a change in a foreign tax credit carryover or charitable contribution carryover (tax attributes) for 2017. This change reduces, but does not eliminate, the taxpayer’s section 965 net tax liability for 2017. Should the taxpayer file an amended return for 2017 to reflect this?
A10. Yes. If the taxpayer does not file an amended return, the IRS’s records will not reflect the change in either the total tax liability or the section 965(h) net tax liability for the section 965 year due to the change in tax attributes. Consequently, the taxpayer’s section 965(h) net tax liability and associated installment payments due in the future may not be accurately reflected in IRS systems. This, in turn, could lead to unintentional or erroneous accelerations of section 965(h) installment payments if the taxpayer does not pay the pre-change installment amounts, as well as potential interest and penalty charges, delays in refunds, or other processing complications.

Taxpayers should not use the temporary procedures reserved for submission of certain claims on Form 1139 or Form 1045, to fax an amended return as such faxed amended returns will not be processed.

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