Passive Foreign Investment Companies: Reinterpreting the Active Banking Exception for the Modern Banking Industry | Latham & Watkins LLP

The passive international funding firm (“PFIC”) guidelines typically impose unfavorable tax therapy on sure U.S. shareholders of international firms that generate extra passive earnings or maintain extra passive property. In January 2021, the Treasury and IRS (the “Treasury”) issued remaining laws (the “2020 Final Regulations”) and re-proposed sure laws underneath Code Sec. 1297 (the “2020 Proposed Regulations”), which considerably problem the skill of a international company that’s carrying on lively (in an odd sense) monetary providers and lending enterprise to qualify as a non-PFIC, until the company is licensed as a financial institution in its constitution nation and accepts deposits from and lends to unrelated clients as a part of its banking enterprise. The 2020 Final Regulations and 2020 Proposed Regulations introduced a change of route from the laws that the Treasury proposed in 2019 (the “2019 Proposed Regulations”), which, had they been adopted as proposed, would have confirmed that the definition of passive earnings for PFIC functions excludes sure lively finance earnings outlined underneath Code Sec. 954(h) (the “lively financing exception,” or “AFE”). The Treasury’s reversal was largely surprising by the market and tax practitioners. Proposed affirmation of the AFE’s applicability to the PFIC regime had been met with unified approval of the commentators, and lots of tax practitioners had already typically shared the interpretation of the statute and legislative historical past that the Treasury introduced as a proof for its preliminary proposal, even earlier than the Treasury issued the 2019 Proposed Regulations.

Originally printed in International Tax Journal – July/August 2021.

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