US Subsidiary of a Foreign Company: Yearly Filings

What does a wholly owned US subsidiary file each year?

A US C corporation files Form 1120 even without taxable income. Form 5472 applies when it has a reportable related-party transaction (Form 1120; Form 5472).

See the foreign-owned C corporation filing guide for other filings.

Does each parent invoice or loan need its own Form 5472?

No. The subsidiary files one Form 5472 for the parent and reports transactions by category. An accrual-method subsidiary includes accrued payments and receipts, so an unpaid year-end invoice can still count (IRS).

Reporting does not establish deductibility or withholding treatment. For capital versus debt, see funding a US corporation from abroad.

What if several related companies deal with the subsidiary?

File a separate Form 5472 for each related person with a reportable transaction. If the parent bills for services and a foreign sister company licenses a brand, those are two forms attached to the same Form 1120; no separate form is needed for each invoice (IRS, line 1g).

For a group invoice, identify each legal party, transaction, amount and price. A substantially incomplete form or failure to keep required records can trigger a $25,000 penalty (IRS).

What markup should the foreign parent charge?

There is no standard markup for development work. The charge must reflect an arm's-length result under a suitable method and comparable facts; a cost-plus calculation needs support for the cost base, functions, risks and comparable margin (Treasury Regulation 1.482-9).

The regulation allows certain qualifying support services to be charged at cost, but excludes research, development and experimentation from that method. Do not apply a general no-markup rule to software development (Treasury Regulation 1.482-9(b)). For a parent loan, compare unrelated loans when the debt arose, considering its amount, term, security and the subsidiary's credit standing (Treasury Regulation 1.482-2).

The US subsidiary should have its pricing analysis when it files its return and give the IRS the principal documents within 30 days of a request for certain transfer pricing penalty relief (Treasury Regulation 1.6662-6). For a Canadian parent, see pricing between Canadian and US companies.

Does the subsidiary withhold on fees, interest or royalties?

The payment's character and source decide withholding. A fee solely for services performed outside the United States is generally foreign-source, while interest paid by a US corporation and royalties for rights used in the United States are generally US-source (IRS, Publication 515).

For a qualifying Indian corporate parent that beneficially owns the income, the US–India treaty limits ordinary loan-interest tax to 15% and trademark-royalty tax to 15%. The parent must meet the treaty's rules on which Indian companies can claim its rates. For mixed invoices, separate services by where performed and identify any payment for rights used in the US; it may be a royalty. Payments tied to a US permanent establishment need separate review. Unrelated contractors abroad follow different documentation questions.

A wholly owning parent cannot use the portfolio-interest exemption for its loan interest (IRS). The subsidiary, as withholding agent, owes tax it fails to withhold; the parent's later payment of US tax can remove that tax liability but not interest or penalties (section 1461; IRS).

Which W-8 form does the parent provide?

A foreign corporate parent generally gives the subsidiary Form W-8BEN-E before a US-source payment. The subsidiary keeps it; the parent does not send it to the IRS (IRS).

For treaty rates, the parent certifies residence and its eligibility test on Part III, lines 14a and 14b; the different treaty royalty rates also require line 15 (IRS form; instructions). Effectively connected income may require Form W-8ECI instead. See when the parent files its own US return.

When are Forms 1042 and 1042-S due?

Both are generally due March 15 after the calendar year in which reportable payments were made. If the subsidiary must file Form 1042-S, it must also file Form 1042, even when a treaty reduces withholding to zero. Form 1042-S reports the income and any tax withheld to the IRS and foreign recipient (Form 1042; Form 1042-S).

If undeposited tax reaches $2,000 at a period end (the 7th, 15th, 22nd or month-end), deposit it within 3 business days; smaller balances have different deadlines. A filing extension does not extend payment time (IRS).

What records must the subsidiary keep in the US?

Keep transaction records for Forms 1120 and 5472. Section 6038A generally requires them in the US, subject to small-corporation and low-value exceptions and a route for records ordinarily kept abroad. These exceptions leave ordinary tax records and applicable Form 5472 reporting intact.

Keep existing agreements, invoices, work-location proof, pricing support, loan and royalty records, W-8BEN-E forms, deposits and ledger reconciliations. Relevant foreign-parent cost data may also be required (Treasury Regulation 1.6038A-3). See deducting software development done abroad.

Example

Illustrative US dollar amounts and rates. Each scenario assumes a US C corporation and an Indian corporate parent.

Development work in India

The parent bills $200,000 for software development services performed wholly in India, with no license or rights granted. The subsidiary reports the fee on Form 5472. It generally does not withhold US tax or issue Form 1042-S for this foreign-source service fee. Keep the service agreement, work-location evidence, cost detail and supported pricing method.

Parent loan

The parent lends $500,000 at 8% for a full year, and the subsidiary pays $40,000 of interest. Report the loan balances and interest on Form 5472; if the business interest deduction limit applies, report only deductible interest on its interest line (IRS). If the parent qualifies under the India treaty and supplies a valid W-8BEN-E, the ordinary interest ceiling is 15%, or $6,000 on this payment. Report the payment and withholding on Forms 1042 and 1042-S by March 15 after the payment year.

US brand license

The parent charges a 5% royalty on $1,000,000 of US sales: $50,000. Report it on Form 5472 and keep the license and arm's-length pricing support. If the payment is for a trademark used in the US and the parent qualifies for the India treaty, the 15% royalty ceiling means $7,500 of withholding on that payment. Report it on Forms 1042 and 1042-S.

Different for you?

• The parent has its own US business or permanent establishment: its return and the payment's treatment may change. See foreign company US tax returns.
• The parent is Canadian: coordinate both countries' pricing records through pricing between Canadian and US companies.
• The subsidiary is funded with shares rather than debt: see putting money into a US corporation from abroad.
• Development costs, missed forms or uncertain treaty eligibility affect the return: gather the agreements, ledgers, work locations, pricing analysis and W-8 forms for corporate tax review. An Indian parent should also confirm its Indian transfer pricing and exchange-control obligations with an Indian adviser.