Reference no: EM132659320

Problem - Sourcing Income in Cyberspace-Getting It Right When Calculating the Foreign Tax Credit

The limitation on the foreign tax credit (FTC) plays a critical role in restricting the amount of the credit available to a taxpayer. In the FTC formula, the taxpayer characterizes the year's taxable income as either earned (or sourced) inside the United States or earned from sources outside the United States. As a general rule, a greater percentage of foreign-source income in the formula leads to a larger FTC. Therefore, determining the source of various types of income is critical in calculating the credit. However, classifying income as either foreign or U.S. source is not always a simple matter.

Consumers and businesses use the internet to conduct commerce involving both products and services. But the existing income-sourcing rules were developed long before the existence of the internet, and taxing authorities are finding it challenging to apply these rules to internet transactions. Where does a sale take place when the web server is in Scotland, the seller is in India, and the customer is in Illinois? Where is a service performed when all activities take place over the Net?