US Tax Court rules that UK windfall tax is creditable

Two taxpayers have each won separate, but related, cases in the US Tax Court on whether the UK windfall tax is creditable for US federal tax purposes.

In 1979, the UK government began to privatise many state-owned companies. In private hands, the companies grew strongly and earned large profits. The Labour Party came to power in 1997, and Parliament approved its plan for a windfall tax in July of that year, imposing the charge on 32 privatised companies in the UK. The IRS position was that the windfall tax on US subsidiaries in the UK was not an income tax and not a creditable foreign tax for US tax purposes. They denied PPL's claim for a refund of $786,804 from its 1997 federal tax bill. The refund also related to a dividend distribution from the company's UK subsidiary, which the parent company repaid after it was rescinded.

In his decision in PPL Corp vs Commissioner on September 9, Judge Halpern determined that the foreign tax does qualify as a creditable tax in accordance with section 901(a) of the Internal Revenue Code. The judge cited section 1.901-2 (a), which he said rejects the IRS's view that the court could not consider anything other than the text of the windfall tax statute when determining whether the foreign tax qualifies as an income tax. The decision in Entergy Corp vs Commissioner followed as a memorandum and directly referred to the legal reasoning in PPL Corp. Entergy's UK subsidiary was called London Electricity, PPL's was South Western Electricity.

Partners Stephen Gardner and William O'Brien of Cooley Godward Kronish represented Entergy. Partners Richard May, Mark Bierbower and associate Timothy Jacobs of Hunton & Williams represented PPL. Hunton & Williams declined to comment on the case.

"It is the nature of the UK tax which is unique," said Gardner. "The nature of the UK statute and the statute's language created some issue of whether or not it was an income tax."

The court's decision to consider factors other than just the text of the statute has significant implications for the international tax community.

"The court's endorsement of a broad scope of interpretation in both cases is important for any taxpayer involved in foreign activities," said Gardner.

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