What Is the GILTI Tax and Why It Matters for U.S. Shareholders of Foreign Corporations

Investing in foreign corporations can be an exciting way to diversify a portfolio, increase returns, and participate in global innovation. However, for U.S. shareholders, that opportunity comes with tax complexities many never anticipate, particularly due to the GILTI Tax. The Global Intangible Low-Taxed Income (GILTI) provision was introduced under the 2017 Tax Cuts and Jobs Act (TCJA) to discourage profit shifting to low-tax countries by imposing a U.S. tax on certain foreign earnings.

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At first glance, GILTI Tax may sound like something that only affects multinational corporations. In reality, many small- and mid-sized U.S. investors are now subject to its rules. If you're a U.S. person holding 10% or more in a foreign corporation—especially one that qualifies as a Controlled Foreign Corporation (CFC)—the GILTI Tax could affect you, even if you haven’t received a single dollar in distributions.

Let’s examine a situation that explains how the GILTI Tax applies, how it’s calculated, and what steps investors can take to manage their exposure.

When Global Investment Turns Taxable at Home

Consider a U.S. investor who holds 20% equity in a profitable tech company based in a low-tax foreign jurisdiction. The company has strong revenue, operates in a favourable tax environment, and the investor has no day-to-day operational involvement. On paper, the investment seems sound—until tax season arrives.

While preparing the federal tax return, the investor learns that taxes are owed on foreign income never received. This is because the foreign entity qualifies as a CFC, and its earnings exceed a 10% return on tangible assets. As such, the IRS categorises those earnings as Global Intangible Low-Taxed Income.

Despite no dividends being paid out, the investor must include a portion of the foreign company’s profits in their U.S. taxable income. This unexpected tax obligation significantly reduces the investment’s profitability and highlights the importance of understanding how GILTI Tax works.

How the GILTI Tax Calculation Works

The GILTI Tax isn’t based on traditional income events like dividends or capital gains. Instead, it relies on a formula that targets specific foreign profits. Here’s a simplified look at the GILTI tax calculation:

1. Net Tested Income – The CFC’s gross income is reduced by certain deductions (excluding items like Subpart F and high-taxed income).

2. QBAI Deduction – The IRS subtracts 10% of the Controlled Foreign Corporation’s Qualified Business Asset Investment (QBAI), which includes tangible depreciable assets.

3. GILTI Inclusion – What remains after deducting 10% of QBAI is considered GILTI and must be included in the U.S. shareholder’s taxable income.

   
   

In industries like tech, where companies often have minimal physical assets, the QBAI deduction may be small, making a large portion of earnings subject to taxation in the U.S., even if no money has been transferred to shareholders.

What Is the GILTI Tax Rate—and Can It Be Reduced?

Corporate shareholders benefit from several tax breaks under current U.S. tax law. C-corporations can take a 50% deduction under IRC Section 250, effectively reducing the GILTI tax rate to 10.5%, provided all conditions are met. These corporations may also claim an 80% foreign tax credit to further offset liability.

However, individual shareholders and those investing through pass-through entities do not automatically receive these benefits. In such cases, the GILTI tax rate can climb as high as 37%, depending on the taxpayer’s income bracket.

One effective strategy for individuals is making a Section 962 election, which allows them to be treated as corporations solely for GILTI purposes. This election grants access to the 50% deduction and foreign tax credits, but involves more complex tax filings and planning.

By making this election, investors can reduce their exposure and gain more control over the timing and size of their U.S. tax payments on foreign earnings.

Why GILTI Tax Matters More Than Ever for U.S. Investors

With global investing becoming more common, understanding the GILTI Tax is critical for U.S. shareholders. It represents a significant shift in how foreign income is taxed, affecting even passive investors who have little involvement in business operations abroad.

Key risks associated with ignoring GILTI Tax include:

• Unexpected Tax Bills – Shareholders may owe substantial taxes on income they haven’t received.

• IRS Penalties – Failing to report GILTI can result in audits, penalties, and heightened scrutiny.

• Reduced Returns – The tax burden can erode or eliminate the expected gains from international investments.

  
  

If you own at least 10% of a foreign corporation, consult with an international tax professional to determine if GILTI applies. With proper planning, strategies like the Section 962 election and corporate structuring can be used to optimize tax outcomes.

Understanding the GILTI tax calculation and preparing for potential liabilities in advance can make all the difference in your global investment strategy.

Final Thoughts

The GILTI Tax is one of the most impactful provisions affecting U.S. investors with foreign holdings. What appears to be a lucrative international investment can quickly become a tax burden if you're unprepared.

The good news is that through early planning, informed elections, and professional advice, you can navigate these challenges. Whether you're just beginning to explore foreign investments or are managing an existing portfolio, taking steps now can save thousands later and help you stay compliant.

Don't let the complexity of the GILTI Tax and its implications catch you off guard. Build your tax strategy with intention and knowledge—because smart global investing starts with understanding your U.S. obligation.