IRS rules on including subpart F income in estimated payments.

In Technical Advice Memorandum no. 9233001 (April 28, 1992), the IRS asserted a large corporation is not required to include subpart F income when computing annualized income installments for its estimated tax payments.

In general, corporations must make quarterly estimated tax payments equal to 25% of the lesser of (1) 90% of the actual liability for the year or (2) 100% of the prior year's tax liability. However, the ability to make payments based on the prior year's liability is not available to a large corporation--one, according to the IRS, that earned more than $1 million taxable income in any of the three preceding years.

For such corporations, the 90% of actual liability is increased periodically from 93% in 1992 to 95% in 1996. If a corporation makes an insufficient estimated payment for a quarter, it may be liable for underpayment penalties.

Determining payments. In determining quarterly payments, taxpayers are permitted to estimate income for the remainder of the tax year based on income earned through the date of the estimate.

The installment required for the fourth quarter of the taxpayer's tax year is a bit more complex. No additional tax will be imposed if the total payment amounts made by this date equal or exceed the amount required if the estimated tax equaled or exceeded 90% of the year's tax. (This amount is computed by annualizing taxable income for the first 9 or the first 11 months of the tax year.)

Income earned in the 12th month is never taken into account under the annualized method.

Controlled foreign corporations (CFCs). A 10% U.S. shareholder that has ownership of stock in a CFC on the last day of the CFC's tax year (or the last day in a year the corporation was a CFC) must include its pro rata share of the CFC's subpart F income for that tax year in its gross income regardless of whether the CFC actually makes a distribution to the U.S. shareholder.

Subpart F income generally includes, among other things, passive income and certain categories of income earned outside the CFC's local country.

This inclusion is generally dependent on the taxpayer being a shareholder of the CFC on the last day of the CFC's tax year. Consequently, the related income inclusion is deemed to occur on the last day of the CFC's tax year.

When the CFC's tax year coincides with the shareholder's tax year, the subpart F income is included on the final day of the shareholder's tax year.

In that case, the subpart F income does not have to be considered in computing the shareholder's fourth-quarter estimated tax payment, determined on the annualized basis because it is earned after the 1 ith month of the taxpayer's tax year.

Observation: Corporations that receive subpart F income in the final month of their tax years should consider annualizing their income for their estimated tax payments. With such a technique, paying the tax liability associated with the subpart F income can be deferred until the income tax return's original due date for that year without imposing an underpayment penalty.

Edited by Andrew R. Biebl, CPA, Biebl, Ranweiler & Co., New Ulm, Minnesota (small business); Robert Willens, CPA, senior vice president at Lehman Brothers, New York City (corporate); Marianne Burge, CPA, director of international tax services, Kenneth Kral, CPA, international tax partner and William Abrams, CPA, senior associate, at Price Waterhouse, New York City (international).