Owning a foreign company does not necessarily allow its shareholders to defer tax until they receive a dividend. Both the United States and the United Kingdom have controlled foreign company (CFC) rules that can tax undistributed profits. Yet their approaches differ substantially. The US rules reach both corporate and individual shareholders and can capture ordinary overseas trading or active income. The UK regime imposes its charge on companies and focuses on profits artificially diverted from the UK. Understanding that distinction matters when choosing an ownership structure, expanding abroad or moving between the two countries.
Defining CFCs
Under the US definition, a foreign corporation generally becomes a CFC when US shareholders collectively own more than 50% of its voting power or value on any day during its taxable year. A US shareholder generally means a US person owning at least 10% of voting power or value. Direct, indirect and constructive ownership must be considered.
The UK definition covers a company resident outside the UK that is controlled by UK residents. Control can arise through legal rights, economic interests or accounting relationships. Special joint venture rules can also apply where a UK company has at least 40% control and a nonresident participant has between 40% and 55%. Separately, a UK company generally becomes chargeable only where its interest, together with relevant connected or associated interests, represents at least 25% of the CFC's chargeable profits.
Individuals and Company Residence
The treatment of individuals is particularly significant. A US citizen living in London who wholly owns a foreign corporation can face annual US CFC inclusions even if the business retains every penny. UK CFC legislation, however, does not impose its charge directly on individual shareholders. Individuals can count when establishing control without themselves becoming chargeable. This does not make offshore companies tax free for UK residents: dividend taxation, transfer of assets abroad provisions and other rules require separate consideration. A person's citizenship, residence and ownership structure can therefore produce very different outcomes under the two systems.
Residence can also change which company's profits are being examined. A UK resident limited company wholly owned by a US citizen is generally a foreign corporation for US purposes, but it is not itself a UK CFC. Its profits ordinarily enter the UK domestic corporation tax system. Its American owner must then consider US inclusions, high tax elections and foreign tax relief. This situation explains why two advisers discussing the same company can reach different starting points.
US Taxation Through Subpart F and NCTI
Current US federal taxation principally operates through two complementary regimes, with rules preventing the same income being included twice. Subpart F captures specified categories, including many dividends, interest receipts, rents and royalties, together with certain related party sales and services income. Exceptions can protect qualifying active rents and royalties and other income.
The second regime is net CFC tested income, or NCTI, formerly known as global intangible low-taxed income, or GILTI. Broadly, a shareholder aggregates its shares of tested income and tested losses across relevant CFCs. Tested income can include ordinary manufacturing, retail and professional services profits. Neither the former reference to intangible income nor the presence of employees and premises provides a general exemption. The US does not need to establish that profits were artificially diverted from America.
For an eligible US corporate shareholder, section 250 generally provides a 40% deduction for NCTI and the associated foreign tax gross-up. At the 21% corporate rate, that produces a 12.6% federal rate before foreign tax credits, assuming the deduction is fully available. Deemed paid credits generally cover 90% of attributable foreign income taxes, subject to the applicable limitations. Subpart F receives no corresponding section 250 deduction and generally starts at the full corporate rate, with credit relief where available.
Individuals do not automatically receive that corporate treatment. Without relief or an election, inclusions generally attract ordinary individual income tax rates, without the section 250 deduction or a deemed paid credit for the foreign company's taxes. A section 962 election can provide corporate rate treatment and access to underlying foreign tax credits; the section 250 deduction is also available for qualifying inclusions. However, later distributions can create another US tax charge under section 962(d). The election should be evaluated over the expected ownership and distribution period, rather than solely by comparing the first year's rates.
The UK CFC Charge Gateway
The UK asks a different question: which profits pass through the statutory CFC charge gateway? For business profits, the location of activities relating to assets and risks is central. Significant people functions, including decisions concerning the assumption and management of risk, can connect overseas profits to the UK. Separate provisions address financing and captive insurance. A company conducting its business overseas may have no profits passing through the gateway. Conversely, placing contracts or intellectual property in an overseas subsidiary while relevant functions remain in the UK can expose profits to a charge, despite the subsidiary's separate legal existence.
UK exemptions can remove the need for detailed gateway calculations. The low profits exemption broadly applies where relevant profits do not exceed £500,000 and nontrading income does not exceed £50,000, subject to statutory adjustments. The low profit margin exemption generally requires accounting profits before interest deductions to be no more than 10% of defined operating expenditure. Other exemptions cover qualifying territories and certain initial periods after entering the regime. These are conditional statutory exemptions, so being incorporated in a familiar jurisdiction or running a small business does not itself settle the analysis.
The US has no comparable general exemption simply because a foreign business earns modest profits. Subpart F includes a de minimis rule where the relevant foreign base company and insurance income falls below the lesser of 5% of gross income or $1 million. However, escaping Subpart F under that rule does not automatically remove the income from NCTI. Small businesses therefore need to test both regimes before concluding that their scale provides protection.
High Tax Relief and Foreign Tax Credits
Foreign tax levels also matter, but the tests differ. The UK tax exemption generally requires the local tax amount to equal at least 75% of the corresponding UK tax. This compares calculated tax liabilities, rather than simply headline rates. US high tax relief generally uses an effective foreign rate exceeding 18.9%, reflecting 90% of the 21% corporate rate. The tested income exclusion requires an election and applies detailed grouping rules. A company can therefore qualify for relief in one country without necessarily qualifying in the other.
A foreign tax credit reduces the US tax on an inclusion; an exclusion removes qualifying income from that inclusion. The distinction affects calculations and reporting, and the foreign statutory rate alone cannot establish the result.
A Practical Comparison
Consider a simplified example. An overseas trading subsidiary earns $1 million, pays no local income tax and distributes nothing. Assume all profits qualify as tested income and a US corporate parent receives the full section 250 deduction. Its federal NCTI tax would be $126,000 before considering other adjustments. For a UK corporate parent, if none of those profits passes through the gateway, the UK CFC charge would be zero. The difference follows from the regimes' scope, even though the business, profits and retained cash are otherwise identical.
Taxation of Later Dividends
Later dividends require their own analysis. The US generally excludes distributions of previously taxed earnings, although section 962 creates the individual shareholder exception discussed above. UK corporate shareholders commonly benefit from the dividend exemption regime.
Neither mechanism guarantees that a shareholder taxable in both countries avoids double taxation: the countries may tax different persons, characterise amounts differently or recognise income in different years.
Reporting and Planning
Compliance also differs. US shareholders may need Form 5471 and associated calculations even when exemptions or credits eliminate additional tax; failures can attract substantial penalties. UK companies report relevant CFC positions through CT600B, subject to reporting exceptions.
Effective planning starts with ownership and control, then examines income categories, overseas functions, exemptions and eventual distributions. For businesses and owners exposed to both systems, modelling those stages together gives a much more useful answer than comparing headline tax rates.
