The United States’ Response to Tax Havens: The Foreign Base Company Services Income of Controlled Foreign Corporations

Laity, Eric T. | January 1, 1997

This article is a detailed study of the taxation by the United States of foreign base company services income. Foreign base company services in- come is defined generally as the income derived by a controlled foreign corporation from the performance of services for a related person.2 Con- trolled foreign corporations, in turn, generally are the foreign subsidiaries of U.S. parent corporations.3 A controlled foreign corporation’s foreign base company services income is taxed to its U.S. parent corporation, subject to various exclusions and qualifications. This article defines the class of sus- pect relationships between the controlled foreign corporation and its related persons and delineates the category of relevant services. The article’s con- tributions to the literature on controlled foreign corporations include: the proper coordination of the guaranty-plus rule with the substantial assistance rule;4 a critique of the avoidance of tax through the use of branches and, more generally, of the requirement that a related person figure in a tax ha- ven arrangement before the United States imposes tax;5 a clear analysis of the complex relationship among related-person factoring, foreign personal holding company income, and foreign base company services income;6 and ‘ Subpart F in the parlance of international tax lawyers comprises sections 951-964 of the Internal Revenue Code. Section 954(e) defines foreign base company services income, the subject matter of this article. There is very little legislative history for section 954(e). The provision originated in the Senate as an amendment to what was to become the Revenue Act of 1962, Pub. L. No. 87-834, ยง 12, 76 Stat. 960, 1006 (1962). S. REP. No. 1881, 87th Cong., 2d Sess. (1962), reprinted in 1962-3 C.B. 703, 785. The Senate Report states only that the purpose of the provision is “to deny tax deferral where a service subsidiary is separated from manufacturing or similar activities of a related corporation and organized in another country primarily to obtain a lower rate of tax for the service income.” Id. at 790. Code section 954(e) is broader in scope, of course, and reaches a service subsidiary that is separated from a U.S. parent corporation that engages only in services. Examples include corporations en- gaged in engineering, construction, or oil field services.