Your Federal Quarterly Tax Payments are due April 15th Get Help Now >>

Repatriation of Earnings by kuc14840

VIEWS: 240 PAGES: 35

Repatriation of Earnings document sample

More Info
									Opportunities for Cost (Tax) Savings in a Tough Economy
with International Tax

Sun Valley IMA Chapter

March 17, 2009
Phoenix, AZ
Dennis Marquardt
Managing Director
International Tax
Irvine, CA
RSM McGladrey, Inc. is a member firm of RSM International – an affiliation of separate and independent legal entities.
A Tough Economy

      •   Credit Crunch
           – Access Foreign Country idle cash
      •   Changing Valuation of U.S. dollar
           – U.S. companies are attractive
             acquisition targets – has that
             changed with recent FX reversal?
           – U.S. exporters have enjoyed higher
             demand and margins
      •   Economic Losses
           – Funding
           – Monetize (claim tax benefits)
      •   Manufacturing Outside the U.S.
      •   Reorganizing Supply Chain

                       What is International Tax?
• It is a mystery to many companies
   – Formerly thought of as only an area for the Big 4 public accounting forms or
     large International law firms. Not so anymore
   – “International Tax” planning is ensuring that our clients enjoy the lowest overall
     effective rate of tax throughout the world. Generally, this means tax planning
     focused on the United States, with the knowledge and help from our
     International affiliates
       • U.S. exporter incentives
       • Income tax treaty optimization (note: changes with new Canadian protocol)
       • Structuring a foreign joint venture or investment to be worldwide tax
       • Planning for the cross border movement of cash in a tax efficient manner
       • Local country tax planning

Common International Issues-Today’s Agenda
                   •   Idle foreign cash
                   •   NOLs
                   •   Business changes
                         – Merger or acquisition
                         – Foreign expansion
                         – Using §338 in foreign acquisitions
                         – S election – Foreign corporation impact
                         – Restructuring
                         – Forming LLCs
                   •   Foreign Tax Credit Planning
                   •   U.S. Export Benefits
                   •   Legal and regulatory changes
                         – §6694 preparer penalties
                         – FIN 48
                         – IFRS
                   •   Foreign tax changes
                         – China (1/1/08)
                         – Mexico (1/1/08)
                         – Canada (1/1/09 & 1/1/10)
                   •   Holding Company for your China business, or
           Cash is Locked in Common “Flat” Structure
              U.S.                • Opco1 and Opco2 have cash
                                     that is needed in Opco3
                                  • Inter-company loans
                                       – Withholding on interest
                                       – Thin cap constraints
Opco1        Opco2 Opco3               – Administrative complexity and
100 E&P      100 E&P    0 E&P     •   Dividend to U.S. and contribute
20 Taxes     30 Taxes   0 Taxes       to Opco3
100Cash      50 Cash    0 Cash
                                       – Taxable in U.S.

           Foreign Holding Company Frees Cash

                                   • Form Foreign Holdco in tax-
            U.S.                     favorable jurisdiction
                                   • Dividend to Holdco followed by
           Foreign                   contribution or loan to Opco3
           Holdco                  • Benefits
                                        – Avoids tax on dividend
                                        – Administrative ease
  Opco1    Opco2       Opco3            – Thin cap risk management
                                        – Interest deductions in high-tax
100 E&P     100 E&P      0 E&P            Opco jurisdictions
20 Taxes    30 Taxes     0 Taxes        – Interest income is subject to
100Cash     50 Cash      0 Cash           low tax in Holdco jurisdiction
                                   • Care must be taken in reorganization
                                     to avoid U.S. tax
                     Low Tax Earnings Repatriation
                      Qualified Dividend Planning

• Qualified dividend:
    – Individual shareholder (direct or indirect through S corporation or LLC) is taxed
      at 15% capital gains rate
    – A distribution from domestic corporation or a qualified foreign corporation
    – 60-day holding period requirement
• Qualified foreign corporation:
    – Resident of a country which is a party to comprehensive tax treaty with the
    – Eligible for treaty benefits under limitation on benefits (LOB) article
• LOB articles:
    – Pre-2005 treaties contain liberal LOB articles (e.g., Ireland)
    – Some older treaties contain no LOB article (e.g., Cyprus)

     Qualified Dividend Planning Example

                      USA      U.S. Fed tax = 15%
U.S. Fed tax = 35%   S Corp

                     Ireland        Dividend
  Dividend           Cyprus         Cascade

                     Low tax


• Some companies invest directly into China, some
  companies set up offshore holding company – Why?

      U.S                           U.S.


• Most common reasons:
  – Move profits from WFOE out of China, but not back to U.S. (refer
    back to holding company structure diagram)
  – Transfer of ownership interest in WFOE requires government
    approval and 10% withholding tax on gain. Transfer of shares in
    HK holding company (for example) can be done in 2 days.
  – May be able to set up office in HK and reduce worldwide taxes

          Short-Term Repatriation of Foreign Earnings

     IRS Provides Relief Affecting CFC Investments in U.S.
               Property, Clarifies Effective Date
• The IRS, in a corrected notice, has announced it will issue
  regulations providing that a controlled foreign corporation may
  choose to exclude from the definition of the term "obligation" an
  obligation held by the CFC that would constitute an investment in
  U.S. property if the obligation is collected within 60 days of when it is
  incurred (temporary foreign financing without some of the problems
  of Subpart F)

                            High Tax Earnings Repatriation
                             Foreign Tax Credit Planning
•       Example:
         – Total Foreign Tax = 40%
         – U.S. credit = 35%
         – How do we capture 5% difference?
         – See below
    •   Reduce foreign taxes
         – Strategic transfer pricing
         – Local tax planning
    •   Increase “foreign source” gross income
         – Evaluate sourcing rules
         – Create foreign source income
    •   Optimize expense apportionment
         – Optimize interest and R&D elections
         – Use flexibility available in apportioning
           other expenses (§ 1.861-8)
            Foreign Tax Credit Planning, Example 1

•   Foreign Earnings      1000                       1000
•   Royalty Payment                                  (120)
•   Net income            1000                        880
•   Foreign tax            400                        352
•   US tax                 350                        350
•   Excess Foreign Tax Cr   50                          2

                  Foreign Tax Credit Planning, Example 2

US Income                                1000                            1000
Foreign Earnings                         1000                            1000
US Income-title tnsfrd outside US                                        (200)
US Income-title not tnsfrd out of US     (200)
US total tax (35%)                        700                              700

Foreign tax (40% x 1000)                  400                              400
U.S. tax on foreign source income         350                              420*
(*35% x 1200)

Unused Foreign Tax Credit                  50                                0
             Note: These examples do not consider §78 gross-up that could apply
                    Have You Made Your §338 Election?

•   Unilateral election made by purchaser, resulting in step-up in basis of assets of
    foreign target corporation
•   Cross-border benefits
     –   Turbo-charge foreign tax credits
     –   Loss creation / flow-thru planning
     –   Return of basis transactions
     –   “Clean slate” (eliminate foreign corporation E & P)
•   Issues
     – Sellers who desire capital gain from sale of stock may oppose
     – Often does not matter in foreign acquisitions
•   Requirements
     – Control--at least 80% vote and value,
     – Subsidiary cannot be insolvent
        • Election generally within 8 ½ months from date of acquisition

                         Section 338 Example
        Assume purchase price of foreign country stock = 65

                             NBV               P.P. Allocation
               Cash          10                      10
Accounts Receivable          10                      10
       Fixed Assets           5                      10
           Goodwill           0                      45

           Liabilities       -10                    -10

                 Net         15                      65

                       Section 338 Example
                                       Year One

                                         Foreign Country      U.S. Exp.
                        Net income             10                10
                Additional U.S. Dep.                             -1
                      U.S. Goodwill
                       Amortization                              -3
                           Net U.S.                              6
           Foreign / U.S. tax @ 30%            3                 2
                  Foreign Tax Credit                             -3
                Excess Foreign Tax
                            Credit                               -1

Note: Example does not consider §78 gross-up, if applicable

                   Worthless Stock Deduction
            Subsidiary Company, Domestic or Foreign

• Worthless stock deduction (ordinary loss) under §165(g)(3), if:
    – At least 80% vote and value
    – > 90% gross receipts from non-passive sources
• Issue: When does a company become worthless?
    – No deduction for partial loss of value
    – Must have no future potential value
    – Must be evidenced by closed and completed transaction, fixed by identifiable
      events. §1.165-1(b).
• Solution: Make check-the-box election for insolvent foreign subsidiary
  deemed liquidation fixes date on which stock becomes worthless. CCA
Strategic Transfer Pricing

              •   Risks and opportunities arise from
                  using transactional methods (or no
                  methods) when markets change.
              •   Apply profitability-based methods
                   –   Normalize profits worldwide
                   –   Reduce taxes in high-profit entities
                   –   Eliminate stranded NOLs
                   –   Reduce aggregate foreign taxes
                   –   Reduce foreign transfer pricing risk
              •   Consider importation duties

                        Transfer Pricing – So What?

• Increases potential for double taxation with one-sided
• U.S. implications
    – Taxpayers must produce contemporaneous documentation within 30 days of IRS
      request or risk penalties
    – Penalties potential of 20% or 40%
• Worldwide implications
    – Everyone’s joining the transfer pricing game
    – Methods differ from various countries

• Planning Tool (tax and accounting)

             What Does IRS Look For/Want?

• First IDR (Information Document Request)
   – Please provide within 30 days of this request any principle documentation
     outlined in Treasury Regulation Section 1.6662-6(d)(2)(iii)(B) that has been
     prepared. (Five pages, small type).
• Second IDR – issued at same time
   – Request for copy of any study, minutes of negotiating meetings, or any other
     information the company relied on to set the price charged to paid to any
     related party for any transaction – not supplied in EDR #1. If no specific study
     please provide written documentation describing how the prices were
     determined for any related party transaction.

 Interest Charge-Domestic International Sales Company

• Created in the Mid 1970’s
• DISC (without the “IC”) was designed at that time to provide
  a mechanism for taxation deferral.
• Since there was no charge and no termination for the
  deferral, foreign countries viewed this as a permanent
  income tax subsidy for exports – violating the GATT.
• Changed in 1985 to Interest Charge – DISC
• Benefit, intended or unintended created in 2003 with
  change in tax rates on “qualified” dividends to 15%

• Significantly reduces U.S. income tax rate on exports
• Taxpayer does not have to export directly – can sell to third
  party who exports
• U.S. architecture and engineering on foreign construction
  projects also qualify
• Must set up a separate U.S. entity
• Shareholder tax on dividend (resulting from commission
  paid to DISC) is 15% rather than 35%?
• Diagram

               IC-DISC Planning Strategy

                            Shareholder Group

Related Exporter
                             Commission                     IC-DISC

   •   Exporter deducts commission paid to IC-DISC (35% tax rate)
   •   IC-DISC is tax exempt entity
   •   Shareholders pay tax on dividends from IC-DISC at 15% rate
   •   Net tax savings of 20 percentage points
   •   Election, contract agreement, BOD resolution, etc. Critical to effective
       utilization of DISC,
   •   Statutory commission rate is 4% of foreign sales or 50% of foreign net
       income, but 4% method cannot create a loss.                                24

• Is it as simple as it looks?
    – Not really – some (but maybe not all) of the requirements are-
    – DISC election must be timely filed,
    – Inter-company sales/commission agreement required per regulations,
    – Commission computation in accordance with regulations,
    – Satisfying specific payment terms per regulations,
    – Par or stated value of common stock (since the 1970’s many states have
      eliminated par value – watch out),
    – Qualified asset issue,
    – Timely payment of dividends, etc.

             International Information Filing

• Requirements not new – but recent new activity from IRS
  on penalties.
• Some of the more common forms:
   –   5471 & 5471
   –   TD F 90-22.1 (because of USB, IRS CID may now be involved)
   –   1042
   –   8858
   –   8865

IRS notice – automatic 5471 penalties for late filing after 1/1/09

• $10,000 per form, per year
• Grace period to 1/1/09
• Some type of information return almost
  always necessary when U.S. person has
  ownership in a foreign entity, corporation,
  partnership, etc.
• Includes “financial interest” in bank
  account of foreign entity (ownership of more
  than 50% of foreign entity.

                   Foreign Bank Account
                     Form TD F 90-22.1

• US persons with a financial interest in or signatory authority
  over a foreign bank account that exceeds $10,000
• Can include Indian Tribes
• US corporations with only foreign company share
  ownership has “financial interest” and reporting if ownership
  exceeds 50%
• US shareholder of US Company also required to file if
  direct and indirect ownership exceeds 50%

§6694 penalties imposed on tax practitioners for returns with
positions that do not have at least “substantial authority”

•   Tax return disclosure required to avoid practitioner penalties
•   No documentation of “arm’s length” pricing – no “substantial
    authority” and potential for practitioner penalty is now much
•   Generally, tax return disclosure is necessary to avoid
    penalties, including taxpayer penalties under §6662.

                 U.S. – Canadian protocol problem structures
                            (25% withholding tax)

                                U.S. Co
                                                                       Canada Co.
                              “S” or “LLC”

                                 Canada                                    U.S.
                                  ULC                                     LLC **

** Some uncertainty exists at this time as to application of Protocol to this structure.

U.S. - Canadian Protocol (Treaty Amendment)
                     •   Just ratified by U.S. Senate (2008)
                     •   Changes reduce some withholding between U.S.
                         and Canada, i.e. interest payments, etc.
                     •   Eliminates the problem between Canada and
                         LLCs (formerly not included in Treaty benefits,
                         reduced withholding, etc.)
                     •   Creates a big, new problem for the Unlimited
                         Liability Companies created in Canada, typically
                         the desired structure in the past for U.S. S
                     •   Establishes withholding tax at 25%!! Good news
                         is that this is not effective until 2010
                     •   What to do?? Must look at reorganizing the ULC
                         into another form because Canadian income tax
                         plus 25% withholding will not be 100% creditable
                         in the U.S. (will result in total tax of about 50% not
                         including state!!)
                     •   Other issues include Canadian company
                         operating U.S. business through LLC
                     •   Any U.S. – Canadian business activity utilizing
                         hybrid-type entities need to review their structure
                         before 2010
                   Tax Changes China

•   New Tax Act Effective 1/1/08
•   Standard income tax rate 25%
•   Eliminated tax holiday for new companies
•   Stronger enforcement of transfer pricing

                    Tax Changes – Mexico

• Effective 1/1/08
• Instituted a New Tax Called IETU
• Acts more like our alternative minimum tax
• Rate is 16.5%, increasing annually to 17.5% by 2010
• Only applies if this alternative calculation is greater than the regular
• Certain expenses not deductible for IETI, such as interest, royalties,
  salaries (but a credit is provided), etc.
• Essentially puts taxpayers on a cash basis type accounting for IETU

Dennis Marquardt, Managing Director
               Irvine, CA


To top