A foreign tax credit strategy is being challenged by the IRS.

Guardian Industries is a US-based manufacturer and distributor of glass products. It owns eight factories in Luxembourg, Spain, Hungary and Germany to serve the European market. All of its European operations are under a Luxembourg holding company that, in turn, owns a series of other Luxembourg subsidiaries. The holding company is an SARL, or société a responsabilitée limitée, that is treated as disregarded for US tax purposes. The subsidiaries are mainly SAs, or sociétés anonymes, that are treated as corporations for US tax purposes.

Luxembourg allows groups of related Luxembourg companies to file a single, consolidated tax return in Luxembourg.

The Guardian group paid a little over $3 million in corporate income taxes in Luxembourg in 2001. Guardian argued that it could claim the entire amount as a foreign tax credit against its US taxes on grounds that the taxes are imposed on the holding company that sits atop the Luxembourg group and, since that company is disregarded — or does not exist — for US tax purposes, the taxes are considered imposed directly on the US parent.

The IRS appears to have disallowed the foreign tax credits on grounds that the Luxembourg taxes had to be allocated among all the Luxembourg companies whose income was reported on the consolidated return.

The US allows US companies to claim credit for income taxes paid to other countries. Credits can also be claimed for income taxes that foreign subsidiaries that are treated as corporations paid to other countries, but not until the subsidiaries distribute their earnings as dividends back to the United States. In this case, a $58 million dividend was paid, but it may not have been large enough to drag with it all the foreign taxes that Guardian claimed as credits.

The case is now before the US Court of Federal Claims. It is Guardian Industries Corp. v. United States.

Keith Martin