Saving Taxes by Going Global?

1. Saving Taxes by Going Global?

2. Saving Taxes by Going Global? • Reform of 2017 lowered corporate tax rate to 21% and moved U.S. tax system from a worldwide/residence based to a territorial system with safeguards to limit base erosion. • Before the tax reform: • U.S. corporate tax rate was among the highest in the world. • List of Countries by Corporate Tax Rate

3. Saving Taxes by Going Global? • Before the tax reform: • Tax system was strictly based on the principle of tax neutrality (worldwide/residence system): U.S. based companies had to pay taxes on their global earnings (with a credit for taxes paid to foreign governments) and deferred until the earnings were repatriated. Corporate decisions should not be driven by tax considerations. No matter where a U.S. company does business, it should always pay at least the U.S. tax rate. • If the tax rate in the foreign country is lower than the U.S rate (= the received tax credit is lower than the taxes they would have to pay in the U.S.), the company has to pay the difference to the U.S. rate when repatriating profits

4. Saving Taxes by Going Global? • What were the consequences of the old U.S. corporate tax system? • U.S. companies didn’t repatriate profits and held more than $ 3 Trillion abroad • 50 Largest Stashes of Cash Companies Keep Overseas • U.S. companies were “moving” to foreign countries (tax inversion): • M&A that that allow to effectively become a foreign corporation (examples: Anheuser Bush, Burger King, IGT, Valeant Pharma) • Tax Inversion • Burger King and Tim Hortons Form Restaurant Brands International • Disincentive for foreign companies to “move” to the U.S.

5. Saving Taxes by Going Global? • What were the consequences of the old U.S. corporate tax system? • Disincentive for foreign companies to “move” to the U.S. • Competitive disadvantage • U.S. companies doing business in foreign countries were at a disadvantage to competitors from third countries.

6. Saving Taxes by Going Global? • Main elements of 2017 tax reform: • Corporate Tax Rate 21% • Participation Exemption: Foreign Earnings are exempted from U.S. corporate tax (territorial tax system) • GILTI (Global Intangible Low Tax Income) • FDII (Foreign Derived Intangible Income) • BEAT (Base Erosion and Anti-Abuse Tax) A Hybrid Approach: The Treatment of Foreign Profits under the Tax Cuts and Jobs Act

7. Saving Taxes by Going Global? • GILTI (Global Intangible Low Tax Income): • Minimum tax on earnings that exceed a 10% return on a company’s invested foreign assets. • Rationale: reduce the incentive to shift corporate profits out of the United States by using intellectual property • GILTI = foreign earnings – 10% of qualified business asset investment, but cannot be lower than 0. An ROI of more than 10% is perceived as excessive and likely produced by shifting Intellectual property • 50% of GILTI can be deducted, the remainder is taxed with 21%, resulting in an effective tax rate of 10.5% • 80% foreign tax credit to offset foreign taxes already paid.

8. GILTI (Global Intangible Low Tax Income): • Example 1: U.S. Company has $,1000 of net income in a German subsidiary. The German corporate tax rate is 30%. Qualified business asset Investment (warehouse in Germany) is $2,000. Accordingly, GILTI is $800 (1,000 – (0.1 x 2000) = 800). Tax on GILTI before foreign tax credit = 0.105 x 800 = $84. After applying the foreign tax credit (0.8 x 0.3 x 800 = $192 taxes paid for (theoretical) GILTI in Germany), no taxes are due in the U.S.

9. GILTI (Global Intangible Low Tax Income): • Example 2: U.S. Company has $1,000 of net income in a Bahamas subsidiary. The Bahamas corporate tax rate is 0%. Qualified business asset Investment (warehouse in Bahamas) is $2,000. Accordingly, GILTI is $800. Tax on GILTI before foreign tax credit = 0.105 x 800 = $84. After applying the foreign tax credit (0.8 x 0 x 800 = $0), $84 in taxes are due in the U.S.

10. GILTI (Global Intangible Low Tax Income): • Example 3: U.S. Company has $1,000 of net income in a Bahamas subsidiary. The Bahamas corporate tax rate is 0%. Qualified business asset Investment (warehouse in Bahamas) is $20,000. Accordingly, GILTI is $0. No Taxes due in U.S.

11. FDII (Foreign Derived Intangible Income): • Reduced tax rate for FDII of 13.125 %. • Rationale: Encourage companies to keep Intellectual Property in the U.S. and provide incentive to export • FDII = foreign derived income (exports) – 10% of Qualified Business Investment (used to produce exports) but cannot be lower than 0 • FDII (Foreign Derived Intangible Income): • Example 1: U.S. Company has $5,000 domestic earnings and $ 5,000 earnings from exports. The Qualified Business Investment used to achieve these export earnings is $60,000. Accordingly, FDII is 0 (5,000 – 0.1 x 60,000). The total tax due is $2,100.

12. FDII (Foreign Derived Intangible Income): • Example 2: U.S. Company has $5,000 domestic earnings and $ 5,000 earnings from exports. The Qualified Business Investment used to achieve these export earnings is $10,000. Accordingly, FDII is 4,000 (5,000 – 0.1 x 10,000). The tax for FDII is $525 (0.13125 x 4,000). The tax for domestic earnings is $1,050. The tax on the non-FDII export earnings is $210 (0.21 x 1,000). The total tax is $1,785 (525 + 1050 + 210 = 1,785).

13. BEAT (Base Erosion and Anti-Abuse Tax): • 10 percent minimum tax • Rationale: Discourage foreign and domestic corporations operating in the United States from avoiding domestic tax liability by shifting profits out of the United States. • BEAT is limited to large multinational corporations with gross receipts of $500 million or more and does not apply unless “base erosion” payments, payments that corporations based in the U.S. make to related foreign corporations, exceed 3 percent (2 percent for certain financial firms) of total deductions taken by a corporation.

14. BEAT (Base Erosion and Anti-Abuse Tax): • Example*: a corporation in the United States has gross receipts of $500 million, expenses of $480 million, and taxable income of $20 million. Under the ordinary corporate income tax this corporation’s tax liability would be $4.2 million (21 percent of $20 million). This corporation’s payments to a CFC based in a foreign country totaled $50 million, so it well exceeded the 3 percent of total deductions’ threshold. The company’s modified taxable income with respect to BEAT is $70 million, which is equal to its taxable income ($20 million) plus the payments it made to a foreign CFC ($50 million). As such, its total tax liability is $7 billion ($4.2 million in ordinary corporate tax plus $2.8 million, the excess of BEAT over ordinary corporate liability). *Kyle Pomerleau: https://taxfoundation.org/treatment-foreign-profits-tax-cuts-jobs-act/

15. Saving Taxes by Going Global? • Implications of 2017 Corporate Tax Reform: • More Repatriation • Less Inversion • More FDI coming to U.S. • Too early to tell but potentially: • Improved Competitiveness • Higher GDP • Higher Wages • Higher Income Inequality Guess What? Companies Are Bringing Their Cash Home Corporate Tax Cuts Increase Income Inequality

16. Saving Taxes by Going Global? • Saving taxes through Transfer Pricing? • Transfer prices are internal prices used for transfers of goods and services within the international corporation • Transfer prices can be used to shift profits • Transfer prices can be used to lower tariffs and customs • Limitation of Transfer Pricing: • Will not hold up in audit if transfer price differs significantly from market price. • Might collide with management incentive system • Oil contractor Schlumberger to pay $51m to settle ATO 'transfer pricing' claim

17. Saving Taxes by Going Global? • FATCA ( Foreign Account Tax Compliance Act) • Bilateral Agreements between U.S. and Foreign Countries • Banks in foreign countries must report to the IRS for U.S. clients • Unwieldy bureaucratic burden for banks • Problem for U.S. citizens: “No bank account for you” • GATCA ( Global Account Tax Compliance Act) • Multilateral Agreement between Countries • U.S. does not participate • Creates tax loophole (legal and illegal) for foreigners Hiding in plain sight: how non-US persons can legally avoid reporting under both FATCA and GATCA