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May 25, 2021

US IRS modifies guidance on accounting method changes for certain foreign corporations

In Revenue Procedure 2021-26, the United States (US) Internal Revenue Service (IRS) establishes procedures under Internal Revenue Code1 Section 446(e) for certain foreign corporations to obtain automatic consent to change their method of accounting to the alternative depreciation system (ADS) under Section 168(g). The revenue procedure also: (i) provides additional terms and conditions applicable to Section 481(a) adjustments arising from accounting method changes of foreign corporations; and (ii) clarifies an existing rule that limits audit protection for certain foreign corporations (the 150% rule).


Method change to ADS

Section 951A requires a US shareholder of any controlled foreign corporation (CFC) to include the shareholder's global intangible low-taxed income (GILTI) in gross income. GILTI is the excess of the shareholder's net tested income over its net deemed intangible return for the tax year. Very generally, the net deemed intangible return is the excess of 10% of the shareholder's qualified business asset investment (QBAI) over its pro rata shares of certain interest expense from all its CFCs. QBAI is determined by reference to CFCs' adjusted bases in specified tangible property as determined by using ADS under Section 168(g).

When computing tested income and earnings and profits (E&P), taxpayers may use depreciation methods other than ADS. Given the requirement to use ADS to determine the adjusted basis for purposes of calculating QBAI, CFCs not otherwise required to use ADS to compute their income and E&P may want to change to ADS for tangible property to conform their income, E&P and QBAI computations.

Under Revenue Procedure 2015-13 and Revenue Procedure 2019-43, a CFC on an impermissible non-ADS method of accounting for depreciation for purposes of computing its income and E&P may generally request to change its method to ADS using automatic consent change procedures. In contrast, a CFC on a permissible method is not eligible for an automatic change to use ADS. Section 3 of Revenue Procedure 2021-26 temporarily permits CFCs on an impermissible non-ADS method, as well as CFCs on a permissible non-ADS method, to obtain automatic consent to change their method of accounting for depreciation to ADS when determining their gross and taxable income under Treas. Reg. Section 1.952-2 and E&P under Sections 964 and 986(b).

This change is effective for a Form 3115 filed on or after 11 May 2021 for a CFC's tax year ending before 1 January 2024. An automatic Form 3115 filed under the new method change procedure must be filed in duplicate. Specifically, the automatic change procedural rules of Section 6.03 of Revenue Procedure 2015-13 require the following:

  1. The original completed Form 3115 (or an electronic version of the Form 3115) must be attached to the taxpayer's timely filed (including extensions) original federal income tax return implementing the requested automatic change for the requested year of change.
  2. A signed copy of the original Form 3115 must be filed with the IRS in Ogden, UT (Ogden copy) no earlier than the first day of the requested year of change and no later than the date the taxpayer files the original Form 3115 with the federal income tax return for the requested year of change.

Section 481(a) adjustment

A Section 481(a) adjustment is required for any change in method of accounting made under the new guidance, whether the change is from an impermissible or permissible method of accounting. Specifically, Revenue Procedure 2021-26 clarifies that a CFC's Section 481(a) adjustment must generally be taken into account in determining the CFC's tested income or loss. An exception applies to the extent the adjustment relates to an item of gross income or is properly allocable to an item of gross income described in Section 951A(c)(2)(A)(i)(I) through (V) (i.e., effectively connected income under Section 952(b), subpart F, dividends from related corporations, and foreign oil and gas extraction income). Revenue Procedure 2021-26 also requires a CFC to take its Section 481(a) adjustment for foreign-base-company-oil-related income into account as an adjustment in determining its tested income or loss.

Audit protection

Revenue Procedure 2015-13 denies audit protection for an accounting method change made on behalf of a CFC or a 10/50 corporation if the 150% threshold is met. The threshold is met for a particular tax year if the foreign taxes deemed paid under Sections 902 and 960 by a CFC or 10/50 corporation exceed 150% of the average amount of foreign taxes deemed paid by its shareholder under Sections 902 and 960 for the three prior tax years.

Practitioners previously had questioned whether taxes deemed paid were taken into account only to the extent the shareholder could claim a foreign tax credit against them. Section 5 of Revenue Procedure 2021-26 modifies Section 8.02(5) of Revenue Procedure 2015-13 to clarify that the 150% threshold is computed with respect to the amount of the foreign corporation's foreign taxes deemed paid, regardless of the extent to which a foreign tax credit is allowed.


The ability to file for an automatic method change to conform the depreciation method used for measuring tested income and E&P to that required for purposes of measuring QBAI, regardless of whether the prior method was permissible or impermissible, is welcomed guidance. Making such a change will likely reduce the compliance burden associated with computing differing depreciation methods for the GILTI calculation and thus should be considered a simplification measure.

In our experience, clarification of the 150% rule for purposes of whether audit protection applies is consistent with many taxpayers' historic interpretation of this provision. We understand that the IRS, however, clarified this rule due to apparent conflicts in taxpayer interpretations.

The clarification of the treatment of Section 481(a) adjustments for purposes of tested income is interesting insofar as a change from a proper method of accounting to another proper method requires an adjustment. This contrasts with prior guidance of general application, which indicated such method changes were effectuated on a cut-off basis. See, e.g., Section 6.02 of Revenue Procedure 2019-43.


For additional information with respect to this Alert, please contact the following:

Ernst & Young LLP (United States), National Tax – Accounting Periods, Methods, and Credits

Ernst & Young LLP (United States), International Tax and Transaction Services



  1. All “Section” references are to the Internal Revenue Code of 1986, and the regulations promulgated thereunder.

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