REDUCTION TO 2 FOREIGN TAX CREDIT BASKETS.

SEC. 404. REDUCTION TO 2 FOREIGN TAX CREDIT BASKETS.(a) In General.—Paragraph (1) of section 904(d) (relating to separate application of section with respect to certain categories of income) is amended to read as follows:“(1) In general.—The provisions of subsections (a), (b), and (c) and sections 902, 907, and 960 shall be applied separately with respect to—“(A) passive category income, and“(B) general category income.”.(b) Categories.—Paragraph (2) of section 904(d) is amended by striking subparagraph (B), by redesignating subparagraph (A) as subparagraph (B), and by inserting before subparagraph (B) (as so redesignated) the following new subparagraph:“(A) Categories.—“(i) Passive category income.—The term ‘passive category income’ means passive income and specified passive category income.“(ii) General category income.—The term ‘general category income’ means income other than passive category income.”.(c) Specified Passive Category Income.—Subparagraph (B) of section 904(d)(2), as so redesignated, is amended by adding at the end the following new clause:“(v) Specified passive category income.—The term ‘specified passive category income’ means—“(I) dividends from a DISC or former DISC (as defined in section 992(a)) to the extent such dividends are treated as income from sources without the United States,“(II) taxable income attributable to foreign trade income (within the meaning of section 923(b)), and“(III) distributions from a FSC (or a former FSC) out of earnings and profits attributable to foreign trade income (within the meaning of section 923(b)) or interest or carrying charges (as defined in section 927(d)(1)) derived from a transaction which results in foreign trade income (as defined in section 923(b)).”.(d) Treatment of Financial Services.—Paragraph (2) of section 904(d), as amended by section 403(b)(3), is amended by striking subparagraph (D), by redesignating subparagraph (C) as subparagraph (D), and by inserting before subparagraph (D) (as so redesignated) the following new subparagraph:118 STAT. 1495 “(C) Treatment of financial services income and companies.—“(i) In general.—Financial services income shall be treated as general category income in the case of—“(I) a member of a financial services group, and“(II) any other person if such person is predominantly engaged in the active conduct of a banking, insurance, financing, or similar business.“(ii) Financial services group.—The term ‘financial services group’ means any affiliated group (as defined in section 1504(a) without regard to paragraphs (2) and (3) of section 1504(b)) which is predominantly engaged in the active conduct of a banking, insurance, financing, or similar business. In determining whether such a group is so engaged, there shall be taken into account only the income of members of the group that are—“(I) United States corporations, or“(II) controlled foreign corporations in which such United States corporations own, directly or indirectly, at least 80 percent of the total voting power and value of the stock. “(iii) Pass-thru entities.—The Secretary shall by regulation specify for purposes of this subparagraph the treatment of financial services income received or accrued by partnerships and by other pass-thru entities which are not members of a financial services group.”.(e) Treatment of Income Tax Base Differences.—Paragraph (2) of section 904(d) is amended by redesignating subparagraphs (H) and (I) as subparagraphs (I) and (J), respectively, and by inserting after subparagraph (G) the following new subparagraph:“(H) Treatment of income tax base differences.—“(i) In general.—In the case of taxable years beginning after December 31, 2006, tax imposed under the law of a foreign country or possession of the United States on an amount which does not constitute income under United States tax principles shall be treated as imposed on income described in paragraph (1)(B).“(ii) Special rule for years before 2007.—“(I) In general.—In the case of taxes paid or accrued in taxable years beginning after December 31, 2004, and before January 1, 2007, a taxpayer may elect to treat tax imposed under the law of a foreign country or possession of the United States on an amount which does not constitute income under United States tax principles as tax imposed on income described in subparagraph (C) or (I) of paragraph (1).“(II) Election irrevocable.—Any such election shall apply to the taxable year for which made and all subsequent taxable years described in subclause (I) unless revoked with the consent of the Secretary.”.(f) Conforming Amendments.—118 STAT. 1496(1) Clause (iii) of section 904(d)(2)(B) (relating to exceptions from passive income), as so redesignated, is amended by striking subclause (I) and by redesignating subclauses (II) and (III) as subclauses (I) and (II), respectively.(2) Clause (i) of section 904(d)(2)(D) (defining financial services income), as so redesignated, is amended by adding “or” at the end of subclause (I) and by striking subclauses (II) and (III) and inserting the following new subclause:“(II) passive income (determined without regard to subparagraph (B)(iii)(II)).”.(3) Section 904(d)(2)(D) (defining financial services income), as so redesignated and amended by section 404(b)(3), is amended by striking clause (iii).(4) Paragraph (3) of section 904(d) is amended to read as follows:“(3) Look-thru in case of controlled foreign corporations.—“(A) In general.—Except as otherwise provided in this paragraph, dividends, interest, rents, and royalties received or accrued by the taxpayer from a controlled foreign corporation in which the taxpayer is a United States shareholder shall not be treated as passive category income.“(B) Subpart f inclusions.—Any amount included in gross income under section 951(a)(1)(A) shall be treated as passive category income to the extent the amount so included is attributable to passive category income.“(C) Interest, rents, and royalties.—Any interest, rent, or royalty which is received or accrued from a controlled foreign corporation in which the taxpayer is a United States shareholder shall be treated as passive category income to the extent it is properly allocable (under regulations prescribed by the Secretary) to passive category income of the controlled foreign corporation.“(D) Dividends.—Any dividend paid out of the earnings and profits of any controlled foreign corporation in which the taxpayer is a United States shareholder shall be treated as passive category income in proportion to the ratio of—“(i) the portion of the earnings and profits attributable to passive category income, to“(ii) the total amount of earnings and profits.“(E) Look-thru applies only where subpart f applies.—If a controlled foreign corporation meets the requirements of section 954(b)(3)(A) (relating to de minimis rule) for any taxable year, for purposes of this paragraph, none of its foreign base company income (as defined in section 954(a) without regard to section 954(b)(5)) and none of its gross insurance income (as defined in section 954(b)(3)(C)) for such taxable year shall be treated as passive category income, except that this sentence shall not apply to any income which (without regard to this sentence) would be treated as financial services income. Solely for purposes of applying subparagraph (D), passive income of a controlled foreign corporation shall not be treated as passive category income if the requirements of section 954(b)(4) are met with respect to such income.“(F) Coordination with high-taxed income provisions.—118 STAT. 1497“(i) In determining whether any income of a controlled foreign corporation is passive category income, subclause (II) of paragraph (2)(B)(iii) shall not apply.“(ii) Any income of the taxpayer which is treated as passive category income under this paragraph shall be so treated notwithstanding any provision of paragraph (2); except that the determination of whether any amount is high-taxed income shall be made after the application of this paragraph.“(G) Dividend.—For purposes of this paragraph, the term ‘dividend’ includes any amount included in gross income in section 951(a)(1)(B). Any amount included in gross income under section 78 to the extent attributable to amounts included in gross income in section 951(a)(1)(A) shall not be treated as a dividend but shall be treated as included in gross income under section 951(a)(1)(A).“(H) Look-thru applies to passive foreign investment company inclusion.—If—“(i) a passive foreign investment company is a controlled foreign corporation, and“(ii) the taxpayer is a United States shareholder in such controlled foreign corporation, any amount included in gross income under section 1293 shall be treated as income in a separate category to the extent such amount is attributable to income in such category.”.(5) Paragraph (2) of section 904(d) is amended by adding at the end the following new subparagraph:“(K) Transitional rules for 2007 changes.—For purposes of paragraph (1)—“(i) taxes carried from any taxable year beginning before January 1, 2007, to any taxable year beginning on or after such date, with respect to any item of income, shall be treated as described in the subparagraph of paragraph (1) in which such income would be described were such taxes paid or accrued in a taxable year beginning on or after such date, and“(ii) the Secretary may by regulations provide for the allocation of any carryback of taxes with respect to income from a taxable year beginning on or after January 1, 2007, to a taxable year beginning before such date for purposes of allocating such income among the separate categories in effect for the taxable year to which carried.”.(6) Section 904(j)(3)(A)(i) is amended by striking “subsection (d)(2)(A)” and inserting “subsection (d)(2)(B)”.(g) Effective Dates.—(1) In general.—The amendments made by this section shall apply to taxable years beginning after December 31, 2006.(2) Transitional rule relating to income tax base difference.—Section 904(d)(2)(H)(ii) of the Internal Revenue Code of 1986, as added by subsection (e), shall apply to taxable years beginning after December 31, 2004.118 STAT. 1498