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FROM PRINCIPLES TO PLANNING Effective Tax Rate Planning FROM PRINCIPLES TO PLANNING.

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Presentation on theme: "FROM PRINCIPLES TO PLANNING Effective Tax Rate Planning FROM PRINCIPLES TO PLANNING."— Presentation transcript:

1 FROM PRINCIPLES TO PLANNING Effective Tax Rate Planning FROM PRINCIPLES TO PLANNING

2 Effective Tax Rate Planning Roy Deaver, Moss Adams LLP Will James, BKD LLP Tim Bloos, MNP LLP

3 Holding Company Structures: Managing Worldwide Effective Tax Rates Tim Bloos, MNP LLP

4 Effective Tax Rate Planning: Holding Company Structures Fundamental Elements: Strategic Global Tax Plan Tax Attributes Organizational Structure Earning Objectives Finance Management Considerable overlaps and interdependencies Companies should adopt coordinated approach to developing, implementing and monitoring a comprehensive global tax strategy

5 Managing a Company’s Structural Tax Rate Effective Tax Rate Planning: Holding Company Structures TAX ATTRIBUTES: U.S. & Foreign Tax Attributes Treaty Planning In-Country Planning ORGANIZATION STRUCTURE: Legal Entity Structure Business Operations Supply Chain Personnel Organization Acquisition Planning Monitoring EARNINGS OBJECTIVES: Profit Alignment Tax Base Management Transfer Pricing FINANCE MANAGEMENT: Treasury & Cash Needs Debt Financing (Intracompany & Third Party) Tax Attributes Finance Earnings Organization STRATEGIC GLOBAL TAX MANAGEMENT Business & Supply Chain Planning IP & Royalty Planning Transfer Pricing Planning Tax Efficient Financing Holding Companies CFC Planning Legal Entity Rationalization Foreign Currency Exchange Treasury Management Deferral Positions E&P/Loss Planning Foreign Tax Credits Cash Redeployment Mergers, Acquisitions & Restructurings

6 Techniques Various techniques can be used as part of a Strategic Global Tax Management Plan, including: Entity Classification (Check-the-Box) Planning Withholding Tax Management Tax Efficient Financing & Licensing Local Tax Management Ultimate goal Integrated structure to meet objectives of the business while minimizing global effective tax rate Effective Tax Rate Planning: Holding Company Structures

7 U.S Parent DE Subsidiaries CFC Subsidiaries International Operations Structure Without Strategic Global Tax Management Plan US Operations Effective Tax Rate Planning: Holding Company Structures

8 U.S. Parent Entrepreneur / Principal Co DE Subsidiaries Tax Favored Finance Co Tax Favored Sub-Hold Co Tax Favored Global Hold Co Subsidiaries Holding Companies Financing Companies IP Companies & Entrepreneurs International Operations Structure with Strategic Global Tax Management Plan US Operations Effective Tax Rate Planning: Holding Company Structures

9 Deferral vs. Flow-Through Structures The “check-the-box” regulations generally provide that a wide range of entities, including foreign entities such as a foreign limited liability company, are entitled to elect their classification for U.S. federal tax purposes Elections may be made to treat an eligible entity as a corporation, as a disregarded entity (if it has a single owner), or as a partnership (if it has more than one owner) for U.S. federal income tax purposes Under Treas. Reg. § , certain entities are considered “per se” corporations and a check-the-box election cannot be made to treat a per se corporation as a partnership or disregarded entity If an entity elects to be treated as a corporation, its income will be deferred for U.S. income tax purposes until repatriation and should not be currently includible in the shareholder's U.S. taxable income, subject to certain anti-deferral rules (e.g., Subpart F) If an entity elects to be treated as a disregarded entity or a partnership, its income will not be deferred and should be currently includible in the owner’s U.S. taxable income Entity Classification (Check-the-Box) Planning Effective Tax Rate Planning: Holding Company Structures

10 Entity Classification (Check-the-Box) Planning (cont’d) Foreign Tax Credit Considerations Entity elects to be treated as a corporation. Foreign tax credits are generally available to corporate shareholders (but not individual or flow-through owners) to offset U.S. tax when income is repatriated or deemed repatriated. Income of all flow-through subsidiaries are “pooled” at the level of the first regarded CFC, thus creating blended E&P and foreign tax pools for purposes of U.S. foreign tax credits. Choosing between corporate and flow-through status for foreign subs can therefore provide the opportunity to manage E&P and tax pools so that U.S. corporate shareholders may be able to avoid excess credit/excess limitation positions If an entity elects to be treated as a disregarded entity or a partnership, foreign tax credits should be available to owners to offset U.S. tax paid on foreign source income Ability to take foreign tax credits to offset U.S. tax is subject to the foreign tax credit limitation calculation Effective Tax Rate Planning: Holding Company Structures

11 U.S. Parent DE Subsidiaries DE Subsidiaries Tax Favored Finance Co Tax Favored Sub-Hold Co Tax Favored Global Hold Co CFC Subsidiaries Tax Attribute Management Foreign tax credit optimization E&P optimization basis planning Organization Structure Achieve tax efficiency without undesirable structuring implications Earnings Objectives U.S. federal tax minimization through deferral and use of low tax holding and finance companies Generate earnings in desired jurisdictions without creating U.S. tax impact Finance Management Manage Deferral Positions (APB 23) Efficient Offshore Cash Management Efficient Repatriation of Offshore Cash Entity Classification (Check-the-Box) Planning (cont’d) Effective Tax Rate Planning: Holding Company Structures

12 U.S. Parent Interest Royalties Entrepreneur/ Principal Co CFC/DE Subsidiaries Tax Favored Finance Co Tax Favored Sub-Hold Co Tax Favored Global Hold Co Dividends Loan Tax Attributes Local country tax minimization including treaty planning to manage withholding on dividends Foreign tax credit planning Organization Structure Manage payment flows without impacting legal entity structure Earnings Objectives Intangible property & transfer pricing planning to avoid withholding on royalty payments Tax efficient internal debt avoids withholding on interest payments Finance Management Efficient offshore cash management Efficient repatriation of offshore cash Tax Efficient Intercompany Payment Flows (Withholding) Effective Tax Rate Planning: Holding Company Structures

13 Tax Efficient Financing, Licensing & Local Tax Management Holding Activities Dividends and capital gains from foreign participations exempt from tax in holding company jurisdictions under participation exemption conditions Intra-Group Financing Activities Interest income taxed at very low rates and/or ability to do back-to-back financing through a financing company to fund foreign subsidiaries (income taxable on small spread only, so very low ETR even if higher nominal tax rate) Debt pushdown creates interest deductions in jurisdiction of debtor (high tax) with interest income pick-up at jurisdiction of lender (low tax) Hybrid instrument planning may allow interest deduction in jurisdiction of debtor (high tax) with no corresponding interest income pick-up in jurisdiction of lender as instrument is considered capital investment Licensing and Intra-Group Royalties Royalty income taxed at very low rates and/or ability to do back-to-back licensing through an IP company to license IP to foreign subsidiaries (income taxable on small spread only, so very low ETR even if higher nominal tax rate) Incentives and tax holidays to reduce local country tax rates No exit cost or recapture of amortization, allowing for permanent tax savings Effective Tax Rate Planning: Holding Company Structures

14 U.S. Parent Entrepreneur/ Principal Co CFC/DE Subsidiaries Tax Favored Finance Co Tax Favored Sub-Hold Co Tax Favored Global Hold Co Loan License Loan Sub-License Dividends Interest Dividends Interest Royalties Tax Attributes Local country tax minimization through low tax holding, financing & IP company Organization Structure Entrepreneur structure and supply chain management to manage tax base in line with business needs and desired legal entity structure Earnings Objectives Intangible property & transfer pricing Planning to manage tax base Treasury Management Tax Efficient Internal Debt Efficient Offshore Cash Management Tax Efficient Financing, Licensing & Local Tax Management (cont’d ) Effective Tax Rate Planning: Holding Company Structures

15 Selection of Holding Company Jurisdiction Business needs Treaty network Quality of Advisors, service providers Banking and other treasury infrastructure Regulatory regime – capitalizing/unwinding structure Cost of doing business Effective Tax Rate Planning: Holding Company Structures

16 Attributes of Ideal Holding Company Jurisdiction Standing in the international business community Politically and economically stable “Tried and Tested” as a holding company location Efficient from a tax, treasury and corporate law perspective Availability of desirable “eligible entity” for check-the-box planning Attractive in terms of low establishment and operating costs: Minimal or manageable substance requirements Minimal or manageable accounting / reporting requirements Availability of well qualified and trained workforce at competitive salaries Effective Tax Rate Planning: Holding Company Structures

17 Business Functions that can be migrated to a lower tax jurisdiction Holding of investments Financing / granting loans Treasury / cash management: Cash pooling / netting Centralizing group-wide currency risks, etc. Re-invoicing Exploitation of intangibles Insurance, re-insurance, captive insurance Factoring Leasing Effective Tax Rate Planning: Holding Company Structures

18 Europe Luxembourg Netherlands Ireland Switzerland UK Spain Cyprus Portugal (Madeira) Other Singapore Hong Kong Mauritius Malaysia (Labuan) UAE Barbados Possible Jurisdictions Effective Tax Rate Planning: Holding Company Structures

19 Use of Transfer Pricing Planning to Manage Worldwide Effective Tax Rate Will James, BKD LLP

20 Intangible Property (IP) and Supply Chain Structures IP Licensing Cost sharing Supply chain structures Effective Tax Rate Planning: Transfer Pricing

21 Intangible property transfer - example Transfer of technology intangibles Know-how Patents Processes Formulations Copyrights, etc. Transfer of marketing intangibles Trademarks Trade names Brand names Reputation Customer relationships Customer lists Sales force, etc. Payment of royalty (transfer price) License of technology XYZ U.S. (Research & Development Co.) XYZ Low Tax (Manufacturing Co.) Third Parties Market price for sale of goods Effective Tax Rate Planning: Transfer Pricing

22 Intangible Property Transfers (cont’d) Transfer IP through licensing arrangement or outright sale of the IP: IP can be licensed to an entity in a low tax jurisdiction – who either exploits the IP itself or then sublicenses it Licensor receives a royalty payments (generally a percentage of sales of the licensee) It is also possible to sell the IP for a lump sum payment Once the IP has been transferred, the new owner is free to exploit the IP The IP has to be valued using transfer pricing valuation techniques Effective Tax Rate Planning: Transfer Pricing

23 Intangible Property Transfers (cont’d) Benefits Excess profits after royalty payments would be subject to deferral As foreign sales increase – benefit will also increase accordingly Relatively simple to administer The licensing of the IP can help avoid Subpart F Potential Issues An outright sale requires a valuation which would be heavily scrutinized by the IRS Might not generate significant savings in the case of a licensing arrangement Effective Tax Rate Planning: Transfer Pricing

24 3. License under a Royalty Arrangement 3. Sublicense under a Royalty Arrangement U.S. Parent Entrepreneur / Principal Co Tax Favored Finance Co Tax Favored Sub-Hold Co Tax Favored Global Hold Co 1. Purchases (Buys-in) Rights to Current Intangibles 2. Shares all Future IP Development Costs under Cost Sharing Arrangement Effective Tax Rate Planning: Transfer Pricing Cost Sharing

25 Cost Sharing (cont’d) A NEW ENTITY (Tax Favored Sub-HoldCo), in a low tax jurisdiction, and U.S. Parent would enter into a qualified cost sharing agreement: Tax Favored Sub-HoldCo “buys-in” to existing intangibles owned by U.S. Parent giving Tax Favored Sub-HoldCo legal and economic rights to use the intangibles in a pre-defined territory U.S. Parent and Tax Favored Sub-HoldCo share future development costs, based on expected future benefit, and have legal and economic rights to use the developed intangibles in pre-defined territories Tax Favored Sub-HoldCo then licenses the intangibles to Tax Favored FinanceCo Tax Favored FinanceCo then sublicenses the intangibles to Entrepreneur/Principal Co. Possible jurisdictions for Entrepreneur/Principal Co. include Singapore, Ireland or Switzerland Effective Tax Rate Planning: Transfer Pricing

26 Cost Sharing (cont’d) Benefits All profits on non-U.S. sales would be subject to deferral As foreign sales increase – benefit will also increase accordingly Potential Issues Buy-in would result in significant income to U.S. Parent Buy-in subject to challenge by IRS as it is a Tier 1 issue Final and temporary cost sharing regulations are onerous and are designed to reduce the desirability of cost sharing Requires significant business change and substance Effective Tax Rate Planning: Transfer Pricing

27 Contract Manufacturer Contract Manufacturer Low Risk Distributor Country Distributor 3. Sublicense under a Royalty Arrangement 1. Manufacturing Services 2. Distribution Activities 4. Distribution Activities 3. Toll Manufacturer Country HoldCo Entrepreneur/ PrincipalCo Country HoldCo Entrepreneur/Principal Structure Effective Tax Rate Planning: Transfer Pricing

28 Entrepreneur/Principal Structure (cont’d) Entrepreneur/principal is located in a low tax jurisdiction Possibilities include Ireland, Singapore or Switzerland Can obtain advance rulings in certain countries Distributors & manufacturers are set-up as low risk entities Distributors can be limited risk distributors or commissionaires Manufacturers can be contract or toll manufacturers Effective Tax Rate Planning: Transfer Pricing

29 Entrepreneur / Principal Structure (cont’d) Entrepreneur/principal pays distribution and manufacturing fees to distribution and manufacturing entities, respectively Limited risk distributors can receive low operating margin/commissionaires can receive a cost plus Contract and toll manufacturers receive a mark-up on their total costs Residual profits accrue in entrepreneur/principal after paying low-level fees to distribution and manufacturing entities Entrepreneur/Principal needs to obtain the rights to the intangible property (IP) Enters into a sub-licensing arrangement with Tax Favored Finance Co Otherwise it cannot grant royalty-free rights to the manufacturers in order to produce goods on its behalf Effective Tax Rate Planning: Transfer Pricing

30 Entrepreneur/Principal Structure (cont’d) There needs to be substance in the entrepreneur/principal Can’t be a “sham” or brass name plate company as it needs to be seen as performing valuable functions Significant decisions need to be made by the entrepreneur/principal Effective Tax Rate Planning: Transfer Pricing

31 Entrepreneur/Principal Structure (cont’d) Benefits Defers income in principal/entrepreneur & reduces overall effective tax rate Can have operational efficiencies Can eliminate subpart F income Potential issues Disposal of goodwill in existing entities Need for substance Increase in import price & increase customs duty incurred by distribution entities VAT can be impacted with commissionaire structures Entrepreneur/principal can be views has having a permanent establishment in other countries Effective Tax Rate Planning: Transfer Pricing

32 Other Planning: Managing Worldwide Effective Tax Rates Roy Deaver, Moss Adams LLP

33 Foreign Tax Credit Planning DPAD – Section 199 R&E Credit – Section 41 Other Effective Tax Rate Planning: Other

34 Foreign Tax Credit Issues Income Sourcing Rules Deduction Sourcing Rules Creditable Foreign Income Taxes Effective Tax Rate Planning: Other

35 Foreign tax credit limitation (§904): U.S. tax onForeign-source taxable income worldwide X income Worldwide taxable income Foreign-source taxable income = FS gross income – deductions allocated to FSI FTC limitation is increased by increasing foreign-source taxable income Increase FS gross income and/or Decrease deductions allocated to FSI Effective Tax Rate Planning: Other

36 Source of Income 50% based on place of manufacturing 50% based on title passing Focus on whether manufacturing is done outside of the U.S. Check the passage of title outside the U.S. which may involve bearing the shipping costs (but these costs can be added to the sale price) Sales outside the U.S. U.S. Manufacturer Manufacturing in the U.S. FORCO Foreign Source Income - §863 (b) Effective Tax Rate Planning: Other

37 Other FSI planning opportunities Income Flash title on Foreign Manufactured goods Factoring of CFC receivables Advanced payments Sale of Purchased inventory Guarantee fees Deductions Interest Expense Alternative tax book value method Fair market value method R&D Expense Sales Gross Income Foreign Source Income Effective Tax Rate Planning: Other

38 High low foreign tax operations Foreign subsidiaries may be in low- tax countries that offer e.g. special tax incentives to MNCs Or they may be in countries that have a high tax rate By repatriating a mix of earnings from high and low tax foreign operations, the FTC system allows low-rated manufacturing profits to be averaged with higher taxed profits U.S. Low- Taxed High- Taxed Low- Taxed Dividends High Low Tax Countries and FTC Effective Tax Rate Planning: Other

39 Preventing Splitting Foreign Tax Credits From Related Foreign Income Section 909 Under the matching rule, if a “foreign tax credit splitting event” occurs: The taxpayer may not take into account the split-off foreign income taxes for U.S. tax purposes until the taxable year in which the taxpayer takes into account the related foreign income for U.S. tax purposes With respect to foreign income taxes paid or accrued by a foreign corporation for which a U.S. corporate shareholder is eligible for a section 902 credit, the split-off foreign taxes may not be taken into account for purposes of sections 902, 960 or 964(a) until the taxable year in which such foreign corporation or such U.S. corporate shareholder takes into account the related foreign income for U.S. tax purposes Effective Tax Rate Planning: Other

40 Guardian Industries Corp. v. U.S., 477 F.3d 1368 (Fed. Cir. 2007). Member of Guardian Industries Corp.’s U.S. consolidated group 100% U.S. Luxembourg Guardian Industries Europe S.a.r.l. (“GIE”) (Luxembourg) Disregarded entity for U.S. tax purposes Corporation for Luxembourg tax purposes Lux Subs 1-4 are corporations for both U.S. and Luxembourg tax purposes. GIE Lux Sub 1Lux Sub 2Lux Sub 3Lux Sub 4 Interguard Holding Corp. (U.S) Example of Splitting Arrangement Effective Tax Rate Planning: Other

41 Guardian Industries (cont’d) For 2001, GIE filed a consolidated Luxembourg tax return on behalf of itself and Lux Subs 1-4 GIE paid Luxembourg income taxes on its income and on the income of Lux subs 1-4 Lux Subs 1-4 did not dividend their 2001 income to GIE The Guardian Industries U.S. consolidated group claimed section 901 credit on its 2001 Form 1120 for Luxembourg income taxes GIE paid on the income of Lux Subs 1-4, even though such income was not included on the 2001 Form 1120 for the Guardian Industries U.S. consolidated group Federal Circuit held: Under Luxembourg tax law, GIE was the person liable for the Luxembourg income tax on the income of Lux Subs 1-4 (no joint and several liability, either) The technical taxpayer rule of Teas. Reg. § (f)(1) looks at which entity bears the imposition of the foreign income tax, not which entity earned the foreign income The Guardian Industries U.S. consolidated group was entitled to the section 901 credit Effective Tax Rate Planning: Other

42 Domestic Production Activity Deduction Section 199 allows a deduction equal to a percentage of the qualified production activities income (QPAI) (or taxable income if less) Section 199 reduces the effective rate of U.S. tax on U.S. manufacturing income by allowing this deduction that is equal to 9% of QPAI for taxable years starting in 2010 and thereafter Section 199(b)(1) limits the amount of the deduction to 50 percent of the taxapayer’s W-2 wages for the taxable year Effective Tax Rate Planning: Other

43 R & E An expenditure for research and development activities in the experimental or laboratory sense, and not for literary, historical, or similar research projects. Treas. Reg. § (a)(1) ; Rev. Rul , CB 72 The regulations expressly include costs incident to the development of an experimental or pilot model, a plant process, a product, a formula, an invention, or similar property, and the improvement of already existing property It excludes the cost of testing products or materials for quality control, efficiency surveys, management studies, consumer surveys, advertising, or promotional activities. Treas. Reg. § (a)(1) The R&E credit is a non-refundable credit The R&E credit was recently extended for QRE paid through 12/31/13 Effective Tax Rate Planning: Other

44 IC- DISC Flowchart Explanation 1. The export company operates as normal, generating revenue from export sales 2. The export company may then elect to pay the IC-DISC a commission based on a qualified calculation method, as defined under the Internal Revenue Code and Treasury Regulations promulgated there under. These commissions are deductible to the export company and not subject to regular U.S. corporate income taxes for the IC-DISC under IRC §991 of the Internal Revenue Code 3. The IC-DISC then pays the export company’s shareholders in the form of qualified dividends which is subject to 20 percent tax, under current law (this does not include the state tax or any applicable medicare surcharge) 2. $$ Commissions $$ 3. $$ Dividends $$ Customers 1. $$ Revenue $$ $$ Export Sales $$ IC-DISC Export Company “Shareholders” Effective Tax Rate Planning: Other

45 Other ETR opportunities SALT planning Attribute refresher transactions e.g., sale-leaseback transactions Section 59(e) elections Effective Tax Rate Planning: Other

46 To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. federal tax advice contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding penalties under the Internal Revenue Code or (ii) promoting, marketing, or recommending to another party any transaction or matter addressed herein. IRS Circular 230 Disclosure

47 Questions?

48 Contact Information Roy Deaver, MossAdams LLP Will James, BKD LLP Tim Bloos, MNP LLP


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