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The Service recently ruled that COD income realized by a CFC does not fall within the definition of subpart F income. This article provides an analysis of that ruling. It presents a general discussion of the relevant COD income rules, and demonstrates the correctness of the holding under subpart F and the corresponding regulations. It also challenges dicta in the ruling which suggests that the cancellation of accrued interest may give rise to subpart F income where the interest expense had reduced subpart F income. Finally, the article addresses the interrelationship of the foreign currency gain and loss rules with the COD income rules.
[For a discussion of subpart F, see 926 T.M., Subpart F-General; 928 T.M., Subpart F-Foreign Base Company Income; 929 T.M., Controlled Foreign Corporations -- Section 956; and 434 T.M., Subpart F-Ancillary Considerations]
I. INTRODUCTION
United States shareholders ("U.S. Shareholders")' of a controlled foreign corporation ("CFC")2 must include in their gross income subpart F income earned by the CFC.3 Subpart F income is the sum of all items of income falling within five categories described in the Code and regulations.4 An item of income that does not fall within one of these definitional categories is not subject to this anti-deferral rule.5
The Service recently issued a private ruling holding that cancellation-of-indebtedness income ("COD income") fell outside the definition of subpart F income. Therefore, such income was not currently included in the income of the U.S. Shareholder. Nevertheless, the ruling suggests that the cancellation of a debt with accrued interest may result in subpart F income under certain circumstances.'
The ruling concerns COD income arising from a loan between foreign affiliates of a U.S. based multinational company. This article will first summarize the general COD income rules that apply in that context, and then describe the facts and holding of the ruling. It next provides an analysis of the subpart F issues, demonstrating the correctness of the holding in the ruling but challenging the dicta that the cancellation of accrued interest might result in subpart F income. These conclusions are supported with an analysis of legislative changes to the definition of subpart F income, particularly the amendments in the recently passed Taxpayer Relief Act of 1997 ("1997 TRA"). While not mentioned...