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that the provision in CRC’s LLC nor demonstrated that its allocation of be allocated among all three partners,
agreement regarding the valuation income met the economic-equivalence increasing their capital accounts.
method for client distributions should test, so the Tax Court found it had not. However, because the client distributions
be disregarded, and no evidence Because CRC did not satisfy any were made only to the two withdrawing
suggested that it was invalid due to of the tests, the Tax Court held that partners, only their capital accounts
collusion by the partners. Thus, the its allocations of its 2013 income to should be reduced.
court held that CRC’s method for the withdrawing partners did not have Following these standards, the capital
valuing the client distributions to Town economic effect. Because the allocations accounts of the withdrawing partners
and Newman comported with the fair did not have economic effect, the court would go negative. This triggered the
market value definition of Regs. Sec. did not analyze whether the effect was qualified income offset, so the Tax Court
1.704-1(b)(2)(iv)(h)(1). substantial. held that in determining the income
Regarding whether CRC’s allocation Having determined that CRC’s allocations, CRC’s 2013 income should
of its 2013 income had substantial eco- allocations of income to the partners be allocated first to Town’s and Newman’s
nomic effect, the Tax Court considered did not have substantial economic effect capital accounts to bring them up to zero.
whether the LLC met the three tests for and should be disregarded, the Tax The Tax Court ordered the parties
economic effect (the basic test, the alter- Court then considered what the proper to determine the exact amount of the
nate test, and the economic-equivalence allocations of income to the partners 2013 income allocations based on its
test) under Regs. Sec. 1.704-1(b)(2)(ii). should be. For this, the court looked decision. By the court’s preliminary
CRC failed the basic test because its at CRC’s LLC agreement, taking into calculations, the amount of CRC’s
partnership agreement did not contain a account the settlement agreement from income for 2013 would be insufficient
deficit restoration agreement. the litigation over Town’s and Newman’s to bring Town’s and Newman’s capital
Under the alternate test, the first withdrawal from CRC. The Tax Court accounts up to zero. Thus, as CRC
requirement is that the partnership concluded that the unrealized gain in originally reported on its partnership
agreement provide for the determination the client-based intangible assets should return, none of CRC’s 2013 income
and maintenance of partners’ capital
accounts in accordance with Regs. Sec.
1.704-1(b)(2)(iv). CRC’s partnership FTCs around the world
agreement met this and the other three
Top 10 countries or U.S. territories by gross income of U.S. corporations
requirements of the alternate test.
with a foreign tax credit (FTC), tax year 2018.
Nonetheless, the Tax Court found that
CRC’s allocation of income did not have
economic effect under the alternate test
because the LLC did not actually meet Country Number of returns Gross income (less loss)
the capital determination and mainte- Netherlands 819 $31.45 billion
nance requirement. CRC did not meet Ireland 429 $28.42 billion
this requirement because, before making
the client distributions to the withdraw- Switzerland 451 $27.09 billion
ing partners, CRC did not increase its Japan 1,076 $26.35 billion
partners’ capital accounts by the value
Canada 2,443 $24.06 billion
of the unrealized gain inherent in the
client-based intangible assets that were Germany 661 $19.40 billion
distributed. Mexico 1,205 $16.66 billion
Under the economic-equivalence test, Singapore 643 $16.45 billion
in some cases, an allocation that does
Luxembourg 307 $15.74 billion
not meet the basic test or the alternate
test will be respected if it produces Puerto Rico 399 $15.29 billion
the same income tax results as if the Source: Form 1118, Foreign Tax Credit — Corporations, IRS Tax Statistics, Corporate Foreign
allocation had satisfied the requirements Tax Credits, Table 2.
of the basic test. CRC neither argued

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