A foreign corporation is a CFC if “United States shareholders” own more than 50 percent of the total combined voting power of its stock or more than 50 percent of the stock’s total value. For defining a CFC a “United States shareholder” is a U.S. person owning at least 10 percent or more of the total combined voting power of the corporate stock. Thus, not more than 10 individuals can create a CFC because any more than that and each person would fail to reach the 10 percent minimum ownership required to satisfy the test. By the same logic, if one shareholder owns 50 percent and for example the other nine U.S. shareholders own the remaining 50 percent equally, there is no CFC because the U.S. shareholders do not own more than 50 percent of the corporation’s stock. In determining whether a foreign corporation is a CFC, the Code looks to direct as well as indirect and constructive ownership. Thus, it is possible to have multiple individual and corporate shareholders and still be a CFC if U.S. shareholders also have an interest in the corporate stockholder.
Classifying a business as a CFC becomes important when determining whether or not subpart F provisions of the Code are triggered. Generally, if a U.S. taxpayer operates a business overseas through a branch, the income earned is immediately taxable. On the other hand, if a U.S. taxpayer operates a business overseas through a non-controlled foreign corporation there is normally no U.S. taxation if at all until the earnings are repatriated back to the United States through shareholder dividends. To prevent pooling income overseas to avoid taxation, Congress enacted subpart F of the Code, which only applies to CFCs.