## Facts

- Black & Decker Corp., a U.S. manufacturer, formed Nippon Black & Decker (NBD) in Japan in 1972 as a wholly owned subsidiary to manufacture and sell power tools in Japan.
- NBD operated at a loss in most years, made limited commercial progress, and never paid dividends to Black & Decker.
- For the tax year ending September 27, 1981, Black & Decker abandoned NBD’s operations, liquidated its assets, and treated its NBD stock as worthless, claiming an approximately $7.88 million worthless-stock loss.
- In computing the I.R.C. § 904 foreign tax credit limitation, Black & Decker treated the worthless-stock loss as not entirely allocable to foreign-source income.
- The Commissioner issued a notice of deficiency reallocating the loss entirely to foreign-source income (specifically, the class of foreign-source dividend income), increasing Black & Decker’s net foreign-source income for 1981 by about $7.88 million.
- Black & Decker petitioned the U.S. Tax Court for redetermination, disputing the Commissioner’s allocation of the loss for § 904 purposes.

## Issues

1. Whether Black & Decker’s 1981 worthless-stock loss in its wholly owned foreign subsidiary must be allocated entirely to foreign-source income, specifically to the class of foreign-source dividend income, when computing the I.R.C. § 904 foreign tax credit limitation.
2. Whether the absence of actual dividends from the subsidiary permits allocating some or all of the loss to U.S.-source income based on an asserted domestic business-protection purpose.

## Decision

- The Tax Court sustained the Commissioner’s determination.
- The court held the worthless-stock loss was allocable entirely to foreign-source income, specifically to the class of foreign-source dividend income, for purposes of the § 904 limitation.
- The court rejected Black & Decker’s attempt to allocate the loss in whole or part to U.S.-source income based on a “defensive” domestic-business rationale.
- The court treated the relevant relationship as the loss’s connection to the type of income the investment was expected to produce, not whether dividends were actually received.

## Legal Principles

- For § 904 purposes, deductions and losses must be allocated to the class of gross income to which they are “definitely related,” and then apportioned between foreign-source and U.S.-source groupings as required by the regulations.
- A loss from stock of a foreign subsidiary is generally related to the income class naturally associated with that stock investment—foreign-source dividends—even if no dividends were paid.
- Allocation turns on the objective relationship between the deduction or loss and the expected class of gross income from the activity or investment, not on whether the anticipated income was realized in the year at issue.
- An asserted domestic protective motive does not recharacterize a foreign equity investment loss as U.S.-source where the record supports a foreign profit-seeking purpose and operations directed at earning income abroad.
- Allocation rules are applied to prevent distortion of the § 904 limitation fraction through misclassification of foreign-related deductions as U.S.-source.

## Conclusion

The Tax Court held that Black & Decker’s worthless-stock loss from its Japanese subsidiary had to be allocated entirely to foreign-source dividend income when computing the § 904 foreign tax credit limitation, despite the subsidiary’s failure to pay dividends, and it upheld the resulting deficiency adjustment.


Black & Decker Corp. v. Commissioner, T.C. Memo. 1991-557 (1991)