Question

Corporation manufactures quidgets at its plant in Sparta, Michigan. Spartan sells its quidgets to customers in the United States, Canada, England, and Australia.

Spartan markets its products in Canada and England through branches in Toronto and London, respectively. Spartan reported total gross income on U.S. sales of $15,000,000 and total gross income on Canadian and U.K. sales of $5,000,000, split equally between the two countries. Spartan paid Canadian income taxes of $600,000 on its branch profits in Canada and U.K. income taxes of $700,000 on its branch profits in the United Kingdom. Spartan financed its Canadian operations through a $10 million capital contribution, which Spartan financed through a loan from Bank of America. During the current year, Spartan paid $600,000 in interest on the loan.

Spartan sells its quidgets to Australian customers through its wholly-owned Australian subsidiary. Spartan reported gross income of $3,000,000 on sales to its subsidiary during the year. The subsidiary paid Spartan a dividend of $670,000 on December 31 (the withholding tax is 0 percent under the U.S.–Australia treaty). Spartan paid Australian income taxes of $330,000 on the income repatriated as a dividend.

Requirement:

1. Compute Spartan’s foreign source gross income and foreign tax (direct and withholding) for the current year.
2. Assume 20 percent of the interest paid to Bank of America is allocated to the numerator of Spartan’s FTC limitation calculation. Compute Spartan Corporation’s FTC limitation using your calculation from part (a) and any excess FTC or excess FTC limitation (all of the foreign source income is put in the foreign branch FTC basket).

(Enter your answers in dollars not in millions of dollars.)

Answer 1

Requirement 1

Foreign source gross income on Canadian sales*                                                         $1,250,000

                Foreign source gross income on U.K. sales*                                                      1,250,000

                Dividend from Australian subsidiary                                                                        670,000

                §78 gross-up for deemed paid income taxes                                                        330,000

                Foreign source gross income                                                                                 $3,500,000

                Creditable foreign income taxes

                   Canadian income taxes                                                                                              600,000

                   U.K. income taxes                                                                                                         700,000

                   Deemed paid credit on Australia dividend                                                           330,000

                   Total creditable income taxes                                                                             $1,630,000

Requirement 2

Gross income from U.S. sales                                                                                              $15,000,000

                Gross income from Canada and U.K. sales                                                        5,000,000

                Gross income from Australia sales                                                                        3,000,000

                Dividend from Australia subsidiary                                                                           670,000

                §78 gross-up on dividend from Australia subsidiary                                          330,000

                Total gross income                                                                                                  $24,000,000

                Interest expense                                                                                                               600,000

                Taxable income                                                                                                         $23,400,000

                × U.S. tax rate                                                                                                             ×           0.35

                Precredit U.S. tax                                                                                                      $ 8,190,000

                FTC limitation

                Foreign source gross income (from A above)                                               $3,500,000

                Less: Apportioned interest expense ($600,000 × 20%)                                     120,000

                Foreign source taxable income                                                                           $3,380,000

                Taxable income                                                                                                       $23,400,000

                FTC limitation = $3,380,000 / $23,400,000 × $8,190,000                               $1,183,000

                Creditable foreign income taxes                                                                             1,630,000

                Excess foreign income tax credit                                                                            $ 447,000

                Precredit U.S. income tax                                                                                        $8,190,000

                Foreign tax credit                                                                                                          1,183,000

                Net U.S. income tax                                                                                                   $7,007,000