Presentacin de PowerPoint

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INTERNATIONAL TAX MANAGEMENT
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INTERNATIONAL TAX MANAGEMENT

• Multiple Taxation Vs. Tax Neutrality
• Double Right to Tax
• - The Residence Principle All residents of the
  country (that is, private persons living in the
  country, and incorporated companies established
  in the country) can be taxed on their worldwide
  income.
• - The Source Principle All income earned inside
  the country, whether by residents or
  non-residents, is taxable in this country.
  Earnings from an activity or from a property
  (dividends, interest income or royalties)
• This implies that income can be taxed twice
  unless some form of relief for double taxation is
  provided
  

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INTERNATIONAL TAX MANAGEMENT

• When can a double or triple taxation occur?
• - The case of Direct Exports
• A pure exporter
• - is not a resident of the foreign country
• - has no foreign activity, and does not receive
  any dividends, license income, or interest
  income from the foreign country
  
• The foreign country can invoke neither the
  residence principle, nor the source principle.
  Home taxes only
  

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INTERNATIONAL TAX MANAGEMENT

• When can a double or triple taxation occur?
  (cont.)
  
• - The case of Foreign Subsidiary
• - The WOS or JV is a resident of the host
  country host corporate taxes
  
• - Parent receives income from the subsidiary
• - Host country will invoke the source principle
  and tax dividends, interest fees, or royalties
  paid out to the parent. This tax is called a
  withholding tax.
• - In addition, the parents home country will,
  in principle, invoke the residence principle,
  and tax all its residents on their worldwide
  incomes.

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INTERNATIONAL TAX MANAGEMENT

• When can a double or triple taxation occur?
  (cont.)
  
• - The case of Foreign Subsidiary
• Double or triple taxation? Example
• - profit of BEF 170,000 before taxes
• - Belgian corporate taxes BEF 70,000
• - dividend BEF 100,000 bank will withhold BEF
  25,000 from the (gross) dividend and transfer it
  to the Belgian tax administration
  
• - net dividend of BEF 75,000 is to be declared
  in parents French tax return potential
  additional taxes

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INTERNATIONAL TAX MANAGEMENT

• When can a double or triple taxation occur?
  (cont.)
  
• - The intermediate cases the Permanent
  Establishment
  
• - Source principle activity is conducted
  in the country, that is, there is a permanent
  establishment. This requires
  
• - a permanent physical presence (office,
  warehouse)
  
• - some vital entrepreneurial activity abroad
  (not just storing goods, or advertising, or
  centralizing orders)

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INTERNATIONAL TAX MANAGEMENT

• When can a double or triple taxation occur?
  (cont.)
  
• - The intermediate cases the Permanent
  Establishment
  
• Example
• - If the agent of a US corporation in Peru
  decides whether or not the order is to be
  accepted, or if there is local production, then
  there is a PE, and the profits made on the
  Peruvian sales are taxable in Peru
• - BUT branch profits are part of overall
  companys profits, who is a resident of the home
  country double taxation of profits of
  branch/PE (not triple)

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INTERNATIONAL TAX MANAGEMENT

• Multiple Taxation Vs. Tax Neutrality
• Relief from double taxation
• - unilateral measures in national tax codes
• - bilateral tax treaty which supersedes the
  national rules. Often based on the OECD Model
  Tax Treaty

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INTERNATIONAL TAX MANAGEMENT

• An example of double taxation
• German company with a branch/PE in Tunisia

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INTERNATIONAL TAX MANAGEMENT

• An example of double taxation (cont.)
• Total corporate tax burden, 61, is high relative
  to two possible benchmarks
  
• - if the same DEM 100 had been earned in
  Germany, taxes would have been only DEM 40
  
• - if the branch had been an independent Tunisian
  entity, taxes would have been only DEM 35
  
• Taxes are not neutral a fiscal penalty
  associated with the fact that ownership and
  operations straddle two countries

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INTERNATIONAL TAX MANAGEMENT

• An example of double taxation (cont.)
• Two alternative neutrality principles
• - Capital Import Neutrality Tunisian branch
  should be taxed the same way as a purely
  Tunisian entity (that is at 35)
  
• - Capital Export Neutrality The total tax
  burden should be the same whether the German
  firm earns its income at home or in Tunisia
  (that is, at 40)

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INTERNATIONAL TAX MANAGEMENT

• Capital Import Neutrality and the Exclusion
  System
  
• Foreign-owned entity should be allowed to
  compete on an equal basis with a Tunisian-owned
  competitors
  
• - German tax authorities exclude foreign branch
  profits from taxable income (exclusion method)

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INTERNATIONAL TAX MANAGEMENT

• Capital Export Neutrality and the Credit System
  Overall corporate tax should be the same as if
  the branch had been located in Germany. Under
  this system, the German tax authorities
• - gross up the after tax income with all
  foreign taxes (i.e. they re-compute the before
  tax income), 100
  
• - apply the home country tax rules to that
  income (tax 40)
  
• - give credit for foreign taxes already paid
  (35)
  
• Net German tax 5. Total tax 35 5 40

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INTERNATIONAL TAX MANAGEMENT

• Limitations to Tax Neutrality
• No universal neutrality
• - tax rates differ CEN CIN
• - No real-world CEN system is fully CEN, no
  real world CIN system is fully CIN

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INTERNATIONAL TAX MANAGEMENT

• International Taxation of a Branch under the
  Credit System
  
• - Disagreement on profit allocation
• - Excess tax credits
• Disagreement on profit allocation
• Main problem is allocation of indirect costs
  which, by definition, cannot be allocated in any
  practical, logical way. National tax authorities
  may use different rules of thumb

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INTERNATIONAL TAX MANAGEMENT

• Disagreement on profit allocation (cont.)
• Example
• Sales DEM 1200/400, cogs 700/300 in
  Germany/Tunisia
  
• Total indirect (overhead) costs DEM 300, to be
  allocated
  
• Germany in proportion to cogs
• Tunisia in proportion to sales

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INTERNATIONAL TAX MANAGEMENT

• Excess Tax Credits
• If foreign taxes exceed the domestic norm
  rarely a full refund of the excess taxes paid
  abroad
  
• Example
• Suppose Tunisian tax rate is 45. The German
  norm requires a total tax bill of DEM 40
  
• - no additional German tax
• - unused tax credit or excess tax credit of DEM
  5
  
• How to solve? Three ways
• 1. International aggregation of foreign income
• 2. Aggregation of home and foreign income
• 3. Carry-forward or Carry-back rules

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INTERNATIONAL TAX MANAGEMENT

• Excess Tax Credits Example
• 1. International aggregation of foreign income
  Excess tax credits from one branch can be used
  to offset home country taxes due on income from
  branches in low-tax countries

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INTERNATIONAL TAX MANAGEMENT

• Excess Tax Credits Example
• 2. Aggregation of home and foreign income (rare)

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INTERNATIONAL TAX MANAGEMENT

• Excess Tax Credits Example
• 3. Carry-forward or Carry-back rules
• - Carry-forward use this years excess foreign
  taxes as a credit for future home country taxes
  
• Refund is delayed, and limited to home
  country taxes that would be payable within the
  next few years
  
• - Carry-back if in the recent past we have paid
  more than DEM 4 in additional host country
  taxes, we can now claim back
  
• Refund of excess tax credits is limited to
  the home country taxes effetively paid in the
  last few years

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INTERNATIONAL TAX MANAGEMENT

• Excess Tax Credits
• 3. Carry-forward or Carry-back rules. Example
• - Excess foreign tax of DEM 4 this year
• - 2-year carry-back and a 3-year carry-forward
• - German taxes on foreign income were DEM 1 two
  years ago, and DEM 1.5 last year

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INTERNATIONAL TAX MANAGEMENT

• Excess Tax Credits
• 3. Carry-forward or Carry-back rules. Example
  (cont.)
  
• The current (DEM 4) excess credit is treated as
  follows
  
• - DEM 1 will be carried back two years,
  resulting in a refund of DEM 1
  
• - DEM 1.5 will be carried back one year,
  resulting in an additional refund of DEM 1.5
  
• - The balance, 4 - 1 - 1.5 DEM 1.5, will be
  carried forward, that is, can be used within
  the next 3 years as a credit against possible
  German taxes on foreign income
• Only occasional excess tax credits can be
  recuperated (possibly with a delay)

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INTERNATIONAL TAX MANAGEMENT

• Tax Planning for a Branch under the Credit
  System
  
• Corporate Point of View
• General objective of tax planning minimize
  taxes
  
• - Minimize the risk that part of the indirect
  expenses are rejected for tax purposes
  
• - Minimize excess tax credits by reallocation of
  profits
  
• - reallocation of indirect expenses
• - change the transfer prices
• - Tax Havens

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INTERNATIONAL TAX MANAGEMENT

• Tax Planning for a Branch under the Credit
  System
  
• Transfer Pricing
• Effects
• - reducing taxes
• - reducing tariffs
• - avoiding exchange controls
• - bolstering the credit status of affiliates
• - increasing the MNCs share of a JVs profit
• - disguising and affiliates true
  profitability
  
• - reducing exchange risks

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INTERNATIONAL TAX MANAGEMENT

• Tax Planning for a Branch under the Credit
  System
  
• Transfer Pricing
• Limitations
• - host country tax authorities may reject part
  or all of the increased expenses and accept
  only arms length prices
  
• Effect some expenses not being deductible
  anywhere, so that taxes would be higher than
  before the cost reallocation
  
• BUT for components there often is no arms
  length price and the true cost of goods sold
  and the normal profit margin are ill-defined
  
• - import taxes levied on the traded goods will
  increase

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INTERNATIONAL TAX MANAGEMENT

• Tax Planning for a Branch under the Credit
  System
  
• Transfer Pricing Example
• Increase the transfer price for technical and
  management assistance rendered by the Hong Kong
  branch to the Tunisian branch by DEM 40

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INTERNATIONAL TAX MANAGEMENT

• Tax Planning for a Branch under the Credit
  System
  
• Example

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INTERNATIONAL TAX MANAGEMENT

• Tax Planning for a Branch under the Credit
  System
  
• Tax Haven Example

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INTERNATIONAL TAX MANAGEMENT

• Tax Planning for a Branch under the Exclusion
  System
  
• Rule allocate as much profits as possible to
  the branch with the lowest overall tax burden
  
• Example
• An Italian company has a branch in France.
  French tax on branch profits is 30, and the
  Italian corporate tax is 35. 2 Cases 100 or
  75 exclusion privilege

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INTERNATIONAL TAX MANAGEMENT

• Tax Planning for a Branch under the Exclusion
  System Example
  
• Limitations arms length rule, import duties

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INTERNATIONAL TAX MANAGEMENT

• Remittances from a Subsidiary an Overview
• Branch firm is immediately and automatically
  the sole owner of all cash flows that arise from
  the foreign investment, and can use them anywhere
  for any purpose (barring exchange controls)
• Foreign Subsidiary must make explicit payments
  if ownership of the funds is to be transferred to
  the parent or to a related company. Any such a
  transfer has tax repercussions

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INTERNATIONAL TAX MANAGEMENT

• Remittances from a Subsidiary
• Forms
• - Capital transactions
• - Dividends
• - Non-dividend remittances royalties, lease
  payments, interest, management fees
  
• - Transfer pricing

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INTERNATIONAL TAX MANAGEMENT

• Remittances from a Subsidiary
• Transactions On Capital Account
• The subsidiary may
• - Buy back some of its own shares from the
  parent, or buy stock issued by the parent or
  by sister companies
  
• - lend funds to its parent or sister
  companies, or amortize outstanding loans
  prematurely, or agree to alter the credit
  periods on intra-company sales

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INTERNATIONAL TAX MANAGEMENT

• Remittances from a Subsidiary
• Transactions On Capital Account (cont.)
• No immediate income taxes in either country.
  But
  
• - income taxes in later periods, on dividends
  or interest
  
• - regulatory agencies may dislike
  cross-participation
  
• - tax authorities of both countries may treat
  share repurchases or subscriptions to the
  parent company stock as disguised dividends,
  and tax them as such

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INTERNATIONAL TAX MANAGEMENT

• Dividends
• Differences between a WOS paying out dividends
  and a branch that generates cash flows
  
• 1. Timing option in payout and taxation
  (deferral principle) home country taxation
  of foreign profits can be postponed by
  deferring the payout of dividends
• 2. Amount that can be paid out as dividends by
  a subsidiary is smaller than the subsidiarys
  total cash flow
  
• Dividends are paid out of profits, which are
  net of depreciation charges

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INTERNATIONAL TAX MANAGEMENT

• Dividends (cont.)
• 3. Loss of home tax shield on losses made by
  the branch. (no international consolidation
  for tax purposes)
  
• 4. Withholding taxes on dividends, not on
  branch profits
  
• tax disadvantages associated with a
  full-equity WOS. But these disadvantages can
  be mitigated by unbundling the payout stream,
  that is, by remitting cash under other forms
  than just dividends

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INTERNATIONAL TAX MANAGEMENT

• Other forms of Remittances (Unbundling)
• - Royalties, interest, or management fees
• - lease payments made to parent (principal and
  the interest on the implicit loan)
  
• These are tax deductible expenses to the
  subsidiary and therefore reduce the subsidiarys
  tax bill but to complete the picture, we also
  have to think of the recipients taxes, both in
  the host country (withholding taxes) and in the
  companys home base (corporate income taxes,
  hopefully with some relief for the withholding
  tax)

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INTERNATIONAL TAX MANAGEMENT

• International Taxation of a Subsidiary under the
  Credit System
  
• Principle of credit system still applies
• - each payment is reassessed and grossed up with
  the foreign taxes that have been levied on the
  income
  
• - foreign taxes are used as a credit against the
  home country tax payable on the recipients total
  foreign income
  
• The only complication tax credit that
  accompanies a dividend

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INTERNATIONAL TAX MANAGEMENT

• International Taxation of a Subsidiary under the
  Credit System
  
• IRS Point of View
• - Controlled Foreign Corporation (CFC)
• - Subpart F Income
• - Deemed Paid or Derivative Credit

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INTERNATIONAL TAX MANAGEMENT

• International Taxation of a Subsidiary under the
  Credit System
  
• Direct Foreign Tax Credit (Section 901, US I.R.
  Code)
  
• - On a US taxpayer
• - Tax paid on the earnings of foreign branch
  operations of a US company
  
• - Foreign withholding taxes deducted from
  remittances
  
• - Not on sales tax or VAT

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INTERNATIONAL TAX MANAGEMENT

• International Taxation of a Subsidiary under the
  Credit System
  
• Indirect Foreign Tax Credit (Section 902, US
  I.R. Code)
  
• - 10 ownership
• Indirect Tax Credit
• subject to
• Max. Total Tax Credit

Dividend (incl. Withholding Tax)
x F. Tax.
Earnings net of F.I. Taxes
Consolidated F. Profits Losses
Amount of Tax Liab.
x
Worldwide Taxable Income
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INTERNATIONAL TAX MANAGEMENT

• International Taxation of a Subsidiary under the
  Credit System
  
• Indirect Foreign Tax Credit. Example

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INTERNATIONAL TAX MANAGEMENT

• International Taxation of a Subsidiary under the
  Credit System
  
• Controlled Foreign Corporation (CFC) Tax Reform
  Act of 1986
  
• A CFC is a foreign corporation owned more than
  50 of voting power or market value by US
  shareholders. If the US individual owns less
  than 10 voting rights is not considered a US
  shareholder

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INTERNATIONAL TAX MANAGEMENT

• International Taxation of a Subsidiary under the
  Credit System
  
• CFC Status Disadvantage
• - Loss of tax deferral on so called Subpart F
  Income
  
• - Loss of tax deferral on earnings profits
  reinvested by CFC in US property
  
• - Gains on sale of stock ordinary income not
  capital gains

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INTERNATIONAL TAX MANAGEMENT

• International Taxation of a Subsidiary under the
  Credit System
  
• CFC - Baskets
• 1. Passive Income
• 2. Financial Service Income
• 3. Shipping Income
• 4. High withholding Tax on Interest Income

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INTERNATIONAL TAX MANAGEMENT

• International Taxation of a Subsidiary under the
  Credit System
  
• Intercompany Transactions
• IRS regards price in an arms length
  transaction
  
• 1. Non interest bearing loans
• 2. No pay services
• 3. Transfer of M/C or equipment at no charge
• 4. Transfer of intangible property
• 5. Sale of inventory

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INTERNATIONAL TAX MANAGEMENT

• International Taxation of a Subsidiary under the
  Credit System
  
• Subpart F Income (1962 Revised Act only on
  CFC)
  
• - Income from the insurance of risks of the
  country outside CFCs country
  
• - Foreign base company income
• 1. Foreign personal holding Co. income
• 2. Foreign base company sales income
• 3. Foreign base company service income
• 4. Foreign base company shipping income
• 5. Foreign base company oil-related income

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INTERNATIONAL TAX MANAGEMENT

• International Taxation of a Subsidiary under the
  Credit System
  
• Foreign Tax Credit
• - Withholding Tax Credit Full
• - Deemed Paid / Derivative Credit either
• Full
• OR
• Deemed Paid Credit
• Proportion of Dividend x Foreign
  Tax paid

Foreign Subsidiary paid dividend
x F.Tax paid
Foreign subsidiarys after-tax earnings
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INTERNATIONAL TAX MANAGEMENT

• International Taxation of a Subsidiary under the
  Credit System
  
• Foreign Tax Credit (cont.)
• - If no dividend is paid no taxes except for
  Subpart F passive income
  
• - When subsidiary is not controlled (less than
  10 holding) only credit for direct taxes, no
  indirect credit
  
• - Joint ventures same as WOS, but dividend is
  on of ownership

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INTERNATIONAL TAX MANAGEMENT

• International Taxation of a Subsidiary under the
  Exclusion System
  
• Exclusion of foreign income typically applies to
  foreign dividends only. For royalties, interest
  payments, or lease payments, the foreign tax is
  just a low or zero withholding tax. Therefore,
  tax code will
• - prescribe a credit system for non-dividend
  remittances
  
• - or grant a much smaller exclusion percentage

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INTERNATIONAL TAX MANAGEMENT

• International Taxation of a Subsidiary under the
  Exclusion System
  
• Tax planning
• - compute the overall tax burden per form of
  remittance (host country corporate taxes,
  withholding taxes, home country tax)
  
• - remit as much as possible under the
  lowest-tax form
  

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INTERNATIONAL TAX MANAGEMENT

• International Taxation of a Subsidiary under the
  Exclusion System
  
• Example
• - 95 exclusion for dividends
• - standard credit system for non-dividend
  income
  
• - Corporate taxes are 39

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INTERNATIONAL TAX MANAGEMENT

• International Taxation of a Subsidiary under the
  Exclusion System
  
• Example

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INTERNATIONAL TAX MANAGEMENT

• International Taxation of a Subsidiary under the
  Exclusion System
  
• Potential Loophole
• - avoid host country taxes by paying out
  non-dividend remittances
  
• - avoid home taxes by receiving dividends
• Trick non-dividend remittances paid to an
  off-shore holding company located in a tax
  haven. Holding company then transfers the
  income as dividends to the parent

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INTERNATIONAL TAX MANAGEMENT

• International Taxation of a Subsidiary under the
  Exclusion System
  
• To close this loophole
• - no bilateral tax treaties with tax havens
  unilateral rule offering partial rather than
  full exclusion
  
• - look through rule taxes are based on
  economic substance rather than on legal form
  that is, the dividends would be taxed as the
  underlying royalties or interest fees
• - refuse an exclusion for dividends from
  law-tax countries, from foreign companies that
  enjoy a special low-tax status, or from
  incorporated mutual funds