H.R. 3962/Division A/Title V/Subtitle B/Part 2

PART 2 — PREVENTION OF TAX AVOIDANCE

Sec. 561. Limitation on Treaty Benefits for Certain Deductible Payments.

(a) In General.—

Section 894 of the Internal Revenue Code of 1986 (relating to income affected by treaty) is amended by adding at the end the following new subsection:

``(d) Limitation on treaty benefits for certain deductible payments.—

``(1) In general.—In the case of any deductible related-party payment, any withholding tax imposed under chapter 3 (and any tax imposed under subpart A or B of this part) with respect to such payment may not be reduced under any treaty of the United States unless any such withholding tax would be reduced under a treaty of the United States if such payment were made directly to the foreign parent corporation.

``(2) Deductible related-party payment.—For purposes of this subsection, the term ‘deductible related-party payment’ means any payment made, directly or indirectly, by any person to any other person if the payment is allowable as a deduction under this chapter and both persons are members of the same foreign controlled group of entities.

``(3) Foreign controlled group of entities.—For purposes of this subsection—

``(A) In general.—The term ‘foreign controlled group of entities’ means a controlled group of entities the common parent of which is a foreign corporation.

``(B) Controlled group of entities.—The term ‘controlled group of entities’ means a controlled group of corporations as defined in section 1563(a)(1), except that—

``(i) ‘more than 50 percent’ shall be substituted for ‘at least 80 percent’ each place it appears therein, and

``(ii) the determination shall be made without regard to subsections (a)(4) and (b)(2) of section 1563.

``A partnership or any other entity (other than a corporation) shall be treated as a member of a controlled group of entities if such entity is controlled (within the meaning of section 954(d)(3)) by members of such group (including any entity treated as a member of such group by reason of this sentence).

``(4) Foreign parent corporation.—For purposes of this subsection, the term ‘foreign parent corporation’ means, with respect to any deductible related-party payment, the common parent of the foreign controlled group of entities referred to in paragraph (3)(A).

``(5) Regulations.—The Secretary may prescribe such regulations or other guidance as are necessary or appropriate to carry out the purposes of this subsection, including regulations or other guidance which provide for—

``(A) the treatment of two or more persons as members of a foreign controlled group of entities if such persons would be the common parent of such group if treated as one corporation, and

``(B) the treatment of any member of a foreign controlled group of entities as the common parent of such group if such treatment is appropriate taking into account the economic relationships among such entities.´´.

(b) Effective Date.—

The amendment made by this section shall apply to payments made after the date of the enactment of this Act.

Sec. 562. Codification of Economic Substance Doctrine; Penalties.

(a) In general.—

Section 7701 of the Internal Revenue Code of 1986 is amended by redesignating subsection (o) as subsection (p) and by inserting after subsection (n) the following new subsection:

``(o) Clarification of economic substance doctrine.—

``(1) Application of doctrine.—In the case of any transaction to which the economic substance doctrine is relevant, such transaction shall be treated as having economic substance only if—

``(A) the transaction changes in a meaningful way (apart from Federal income tax effects) the taxpayer’s economic position, and

``(B) the taxpayer has a substantial purpose (apart from Federal income tax effects) for entering into such transaction.

``(2) Special rule where taxpayer relies on profit potential.—

``(A) In general.—The potential for profit of a transaction shall be taken into account in determining whether the requirements of subparagraphs (A) and (B) of paragraph (1) are met with respect to the transaction only if the present value of the reasonably expected pre-tax profit from the transaction is substantial in relation to the present value of the expected net tax benefits that would be allowed if the transaction were respected.

``(B) Treatment of fees and foreign taxes.—Fees and other transaction expenses and foreign taxes shall be taken into account as expenses in determining pre-tax profit under subparagraph (A).

``(3) State and local tax benefits.—For purposes of paragraph (1), any State or local income tax effect which is related to a Federal income tax effect shall be treated in the same manner as a Federal income tax effect.

``(4) Financial accounting benefits.—For purposes of paragraph (1)(B), achieving a financial accounting benefit shall not be taken into account as a purpose for entering into a transaction if the origin of such financial accounting benefit is a reduction of Federal income tax.

``(5) Definitions and special rules.—For purposes of this subsection—

``(A) Economic substance doctrine.—The term ‘economic substance doctrine’ means the common law doctrine under which tax benefits under subtitle A with respect to a transaction are not allowable if the transaction does not have economic substance or lacks a business purpose.

``(B) Exception for personal transactions of individuals.—In the case of an individual, paragraph (1) shall apply only to transactions entered into in connection with a trade or business or an activity engaged in for the production of income.

``(C) Other common law doctrines not affected.—Except as specifically provided in this subsection, the provisions of this subsection shall not be construed as altering or supplanting any other rule of law, and the requirements of this subsection shall be construed as being in addition to any such other rule of law.

``(D) Determination of application of doctrine not affected.—The determination of whether the economic substance doctrine is relevant to a transaction (or series of transactions) shall be made in the same manner as if this subsection had never been enacted.

``(6) Regulations.—The Secretary shall prescribe such regulations as may be necessary or appropriate to carry out the purposes of this subsection.´´.

(b) Effective Date.—

The amendments made by this section shall apply to transactions entered into after the date of the enactment of this Act.

Sec. 563. Certain Large or Publicly Traded Persons made Subject to a more likely than not Standard for Avoiding Penalties on Underpayments.

(a) Penalty for Underpayments Attributable to Transactions Lacking Economic Substance.—

(1) In General.—

Subsection (b) of section 6662 of the Internal Revenue Code of 1986 is amended by inserting after paragraph (5) the following new paragraph:

``(6) Any disallowance of claimed tax benefits by reason of a transaction lacking economic substance (within the meaning of section 7701(o)) or failing to meet the requirements of any similar rule of law.´´.

(2) Increased Penalty for Nondisclosed Transactions.—

Section 6662 of such Code is amended by adding at the end the following new subsection:

``(i) Increase in penalty in case of nondisclosed noneconomic substance transactions.—

``(1) In general.—In the case of any portion of an underpayment which is attributable to one or more nondisclosed noneconomic substance transactions, subsection (a) shall be applied with respect to such portion by substituting ‘40 percent’ for ‘20 percent’.

``(2) Nondisclosed noneconomic substance transactions.—For purposes of this subsection, the term ‘nondisclosed noneconomic substance transaction’ means any portion of a transaction described in subsection (b)(6) with respect to which the relevant facts affecting the tax treatment are not adequately disclosed in the return nor in a statement attached to the return.

``(3) Special rule for amended returns.—Except as provided in regulations, in no event shall any amendment or supplement to a return of tax be taken into account for purposes of this subsection if the amendment or supplement is filed after the earlier of the date the taxpayer is first contacted by the Secretary regarding the examination of the return or such other date as is specified by the Secretary.´´.

(3) Conforming amendment.—

Subparagraph (B) of section 6662A(e)(2) of such Code is amended—

(A) by striking ``section 6662(h)´´ and inserting ``subsections (h) or (i) of section 6662´´, and

(B) by striking ``gross valuation misstatement penalty´´ in the heading and inserting ``certain increased underpayment penalties´´.

(b) Reasonable Cause Exception Not Applicable to Noneconomic Substance Transactions, Tax Shelters, and Certain Large or Publicly Traded Persons.—

Subsection (c) of section 6664 of such Code is amended—

(1) by redesignating paragraphs (2) and (3) as paragraphs (3) and (4), respectively,

(2) by striking ``paragraph (2)´´ in paragraph (4), as so redesignated, and inserting ``paragraph (3)´´, and

(3) by inserting after paragraph (1) the following new paragraph:

``(2) Exception.—Paragraph (1) shall not apply to—

``(A) to any portion of an underpayment which is attributable to one or more tax shelters (as defined in section 6662(d)(2)(C)) or transactions described in section 6662(b)(6), and

``(B) to any taxpayer if such taxpayer is a specified person (as defined in section 6662(d)(2)(D)(ii)).´´.

(c) Application of Penalty for Erroneous Claim for Refund or Credit to Noneconomic Substance Transactions.—

Section 6676 of such Code is amended by redesignating subsection (c) as subsection (d) and inserting after subsection (b) the following new subsection:

``(c) Noneconomic substance transactions treated as lacking reasonable basis.—For purposes of this section, any excessive amount which is attributable to any transaction described in section 6662(b)(6) shall not be treated as having a reasonable basis.´´.

(d) Special Understatement Reduction Rule for Certain Large or Publicly Traded Persons.—

(1) In General.—

Paragraph (2) of section 6662(d) of such Code is amended by adding at the end the following new subparagraph:

``(D) Special reduction rule for certain large or publicly traded persons.—

``(i) In general.—In the case of any specified person—

``(I) subparagraph (B) shall not apply, and

``(II) the amount of the understatement under subparagraph (A) shall be reduced by that portion of the understatement which is attributable to any item with respect to which the taxpayer has a reasonable belief that the tax treatment of such item by the taxpayer is more likely than not the proper tax treatment of such item.

``(ii) Specified person.—For purposes of this subparagraph, the term ‘specified person’ means—

``(I) any person required to file periodic or other reports under section 13 of the Securities Exchange Act of 1934, and

``(II) any corporation with gross receipts in excess of $100,000,000 for the taxable year involved.

``All persons treated as a single employer under section 52(a) shall be treated as one person for purposes of subclause (II).´´.

(2) Conforming Amendment.—

Subparagraph (C) of section 6662(d)(2) of such Code is amended by striking ``Subparagraph (B)´´ and inserting ``Subparagraphs (B) and (D)(i)(II)´´.

(e) Effective Date.—

The amendments made by this section shall apply to transactions entered into after the date of the enactment of this Act.