by John Anthony Castro, J.D., LL.M.
About the Author
John Anthony Castro, J.D., LL.M., is the Managing Partner of Castro & Co., the author of International Taxation in Plain English as well as International Estate Planning in Plain English, an esteemed graduate of Georgetown University Law Center in Washington DC where he earned a Master of Laws in Taxation, an OPM Fellow at Harvard Business School, and an internationally recognized tax attorney with offices in New York, Los Angeles, Miami, Chicago, Dallas, and Washington DC. Mr. Castro has been covered in Forbes, Tax Analysts, Entrepreneur, International Business Times, Nevada Law Journal, Sydney Morning Herald, and the SMSF Adviser. This International Tax Online Law Journal has been recognized by NYU Law Library as a reputable and authoritative legal source.
Although this article concludes that the Lifetime Allowance Charge, also known as the LTA Charge, is claimable as a Foreign Tax Credit, this article does not constitute Reasonable Cause to avoid the imposition of penalties if the IRS challenges the legal position. You need to secure a written Tax Opinion from our firm to allow you to claim the LTA Charge as a Foreign Tax Credit without the risk of penalties.
The concern with the Lifetime Allowance (LTA) Charge is that it may not be creditable as a Foreign Tax Credit.
An example drives this point home the best. If you have $100 in the U.K., and the LTA charge is 25%, you pay $25 to the U.K. On the U.S. side, let’s assume your tax rate is also 25%. If the LTA charge is creditable as a foreign tax credit, your U.S. tax liability is $0. If, however, the LTA charge is only deductible, your U.S. taxable income is reduced from $100 to $75 but then taxed at 25%, which means you would owe the U.S. an additional $18.75. That puts the real cost of the LTA charge at 43.75%.
As you can see, if you can find legal authority to make the LTA charge creditable in the U.S., it would be much more beneficial than a deduction.
Statute and Regulations
Section 903 unequivocally holds that “term ‘income, war profits, and excess profits taxes’ shall include a tax paid in lieu of a tax on income… otherwise generally imposed by any foreign country.”
Treasury Regulation § 1.903-1(b)(1) states that "A foreign tax satisfies... if the tax in fact operates as a tax imposed in substitution for, and not in addition to, an income tax."
Despite that seemingly fatal language in the Treasury Regulation, the U.S. Supreme Court in PPL Corp v. C.I.R., 133 S.Ct. 1897 (U.S. 2013) applied a unique interpretation of the statute and regulations to make the UK Windfall Tax creditable back in 2013. Our legal position builds upon the logic and reasoning as outlined in the U.S. Supreme Court’s PPL decision to take the position that the LTA Charge is creditable.
The Penalty-Shielding Effect of Tax Opinions
Our legal article entitled The Necessity of Tax Opinions explains why formal, written Tax Opinions are critical and how the failure to secure one recently cost a taxpayer $39 million in penalties. Reliance on this article does not constitute Reasonable Cause to avoid penalties. We can issue a Tax Opinion that will allow you to claim the LTA charge as a creditable foreign tax credit.
Contact Our Firm
This article is not legal advice. It is improper to rely on this article as legal advice. In the U.S. tax system, generally, only a paid consultation or formal written tax opinion can be used as an affirmative defense to penalties. Free consultations may not be relied upon as legal advice for the purpose of avoiding penalties. The objective of a free consultation is to determine the client’s issue, fact pattern, and whether the firm can provide a legally viable solution with a minimum of Substantial Authority to support it.
Confidence Level Disclosure
For over 3600 years, the scientific method has been used by innovative individuals as an empirical method of acquiring knowledge. In the world of tax law, it is no different. In some cases, we offer free consultations to identify the issue, form a hypothesis, conduct legal research to work toward developing a possible solution, publish our research, apply the legal theory to a client’s real-world situation, analyze the administrative response from the IRS, and then decide whether to litigate, redefine, or withdraw the position.
If the IRS points out something we had previously not considered and the legal position cannot be redefined to cure the issue, then we would withdraw the position and issue a notice to any clients to whom it applied. If, however, the position can be cured by redefining the position, then we will do so assuming the clients’ facts support the redefinition. This would, of course, entail contacting the client to seek clarification. If, however, we do not agree with the IRS response, then we will pursue litigation to seek judicial clarification in our favor.
The Scientific Method helps our tax system mature, develop, and improve by asking new questions and developing new interpretations of our tax code, answering previously unanswered questions, testing these legal theories in the federal judiciary, and eliminating ambiguity through judicial clarification. Judicial clarification even helps eliminate the need of tax attorneys who financially benefit from legal ambiguity. A fair and balanced tax system is one that is clear and concise with zero ambiguity. This can only be achieved through judicial clarification.
In the U.S. legal system, the "strength" of a legal interpretation can be quantified based on the amount of legal support for the interpretation. While a portion of this quantification is certainly subjective based on the reviewer’s legal interpretative philosophy, it is indisputable that a quantified range that encompasses all interpretative philosophies can be established. In some cases, this range can vary wildly. The importance of the level of legal authority is that it determines when penalties will and will not apply as well as when disclosure is and is not required to avoid said penalties. The range of levels of legal confidences are, from weakest to strongest, Reasonable Basis, Substantial Authority, More Likely Than Not, Should, and Will. In actual practice, a “Will” level opinion is never sought out by taxpayers since that would simply be a reiteration of basic textbook principles of the tax code. Likewise, a “Reasonable Basis” level opinion is rarely issued since, absent a compelling political or social purpose, it is highly unlikely to prevail in court. If, however, the topic of the “Reasonable Basis” opinion implicates a compelling political or social issue, such as the deduction for child care expenses, then our confidence in our ability to sway the federal judiciary increases, and we are, therefore, much more confident in asserting said legal position before the federal judiciary. This leaves only three confidence levels: Substantial Authority, More Likely Than Not, and Should. These are the three confidence levels within which our firm primarily operates.
A “Substantial Authority” opinion means that, if contested by the Service, the position advanced has a 35 percent to 49 percent chance of succeeding on the merits. A “More Likely Than Not” opinion means that, if contested by the Service, the position advanced has a greater than 50 percent chance of succeeding on the merits. A “Should” opinion, which is the threshold of opinion expressed in this letter, generally means that, if contested by the Service, the position advanced has a chance greater than 70 percent of success on the merits. It is important to note that these quantifications themselves are hotly contested, which implicates “void of vagueness” concerns.
The confidence level of the legal interpretation expressed in this article is: Substantial Authority.
John Anthony Castro, The UK LTA Charge Can Be Claimed as a U.S. Foreign Tax Credit, Int’l Tax Online Law Journal (February 21, 2019) url.