From the Deferral Frying Pan into the Worldwide Fire Rethinking CFC Taxation

Transcription

1 From the Deferral Frying Pan into the Worldwide Fire Rethinking CFC Taxation 2018 U.S. Cross-Border Tax Conference May 15 17, 2018 kpmg.com

2 Notices The following information is not intended to be written advice concerning one or more Federal tax matters subject to the requirements of section 10.37(a)(2) of Treasury Department Circular 230. The information contained herein is of a general nature and based on authorities that are subject to change. Applicability of the information to specific situations should be determined through consultation with your tax adviser. 2

3 Agenda The Big Picture Foreign Subsidiary Taxation Impact of GILTI on International Tax Planning Other Thoughts

4 Today s presenters Ron Dabrowski Principal and Technical Deputy to the Principal in Charge, Washington National Tax, KPMG LLP T: E: rdabrowski@kpmg.com Wit LeBlanc Vice President, Tax and Treasurer Oceaneering International, Inc. Laurie Marsh Principal, International Tax, KPMG LLP T: E: lauriemarsh@kpmg.com 4

5 The big picture

6 Overview of new international tax framework BEAT Section 59A Imposes additional tax Based on limiting deductibility of deductible payments to foreign persons Other Income 21% U.S. and foreign source income That is not FDII or GILTI or eligible for DRDs FDII % Income from sale, leases, licenses, and dispositions of property to foreign person for foreign use Income from services to person outside the US 163(j) Limit on interest deduction Related and unrelated party debt 30% of EBITDA (EBIT in 2022) U.S. Distributions PTI Participation Exemption (section 245A) Subject to tax if hybrids or inverted companies Branch Income 21% Current inclusion Separate basket 10 year carryforward Cannot get FDII F Branch Sub F 21% Foreign base company income and 956 Current inclusion at 21% General and passive baskets 10 year FTC carryforward 163(j) limits CFC Exempt Income 0% FOGEI 10% QBAI High Tax sub F income (elective) GILTI 10.5% CFC income that is not exempt or sub F Current inclusion with 50% deduction 80% FTC (haircut) Separate basket No FTC carryforward 163(j) limits 6

7 General approach to international tax planning before tax reform (outbound) Achieve deferral of US tax Avoid Subpart F Avoid CFC status Avoid double taxation through use of FTCs Create high-taxed E&P and repatriate foreign taxes (for current use or carryforward) Rate Arbitrage Move assets such as IP to lower-taxed jurisdictions Create deductions in the US, earn deferred income in non-us jurisdictions with lower tax rates 7

8 General approach to tax planning after tax reform (outbound) Avoid GILTI Plan into High-Tax Subpart F Reduce GILTI by avoiding tested loss traps Reduce GILTI through related party payments to the US Maximize use of FTCs Keep FTCs out of the GILTI basket Maximize capacity through allocation of expenses to US source or exempt income Rate Arbitrage Move assets (like IP) to the US Create deductions in foreign jurisdictions and FDII, GILTI, or exempt income in the US 8

9 Foreign subsidiary taxation

10 The options for CFC income ECI 21% US Tax Subpart F Maybe FTCs Gross Income Allocable Deductions Net Income The GILTI Residual 50% DRD (capped by taxable income) Crazy FTC rules Related-Party Dividends Distribute 100% DRD (usually) High-Tax Subpart F FOGEI % with FTCs 10

11 The GILTI essentials Current Inclusion US Shareholders are subject to current US taxation on their portion of a CFC s global intangible low-taxed income (GILTI) Netting Tax Rate US Shareholders net positive GILTI and negative GILTI from their CFCs Lower tax rate is achieved through a deduction: 50% for tax years beginning before 12/31/25, and 37.5% thereafter Total GILTI and foreign-derived intangible income (FDII) deduction is limited by taxable income (without regard to GILTI and FDII) Effective Date Effective for CFC tax years beginning after December 31,

12 GILTI mechanics definitionally driven Each person who is a US shareholder of any CFC for any taxable year shall include in gross income such shareholder s global intangible low-taxed income for such year Excess of net CFC tested income over net deemed tangible income return Excess of: aggregate of pro rata share of tested income of each CFC, over aggregate of pro rata share of tested loss of each CFC Excess of: 10% of pro rata share of qualified business asset investment ( QBAI ) of each CFC, over interest expense taken into account in determining net CFC tested income Excess of: gross income (other than ECI, Subpart F, High-taxed SubF, related party dividends, and FOGEI), less allocable deductions Excess of: allocable deductions over gross income (other than ECI, Subpart F, High-taxed SubF, related party dividends, and FOGEI) QBAI: adjusted basis of depreciable tangible property used in trade or business (and used in the production of tested income) 12

13 GILTI mechanics observations Computation done on a USSH-by-USSH basis, not CFC-by-CFC Impact of expense allocations! No QBAI from tested loss CFCs QBAI determined on a quarterly average method, using basis determined under ADS principles Interest expense = interest expense paid by CFCs outside of USSH s chain BUT: Seems safe to assume that 1) a consolidated group will be treated as one shareholder and 2) the GILTI/Section 78 issue will be solved by treating the gross up as GILTI 13

14 Impact of GILTI on international tax planning

15 The range of options CFC Structure CFC/Branch Structure Branch Structure USP USP USP CFC 1 CFC 1 DE CFC 2 DE DE Pros: Potential to generate high-taxed GL income, taxed through SubF and 956 Potential GILTI benefits; SubF structuring No SubF and GILTI; limit BEAT Cons: GILTI Complexity Limited ability to generate high-taxed GL income Separate FTC basket; future restructuring could impose US tax 15

16 A perfect (GILTI) world the conference report Under a 21-percent corporate tax rate, and as a result of the deduction for FDII and GILTI, the effective tax rate on FDII is percent and the effective U.S. tax rate on GILTI (with respect to domestic corporations) is 10.5 percent for taxable years beginning after December 31, 2017, and before January 1, Since only a portion (80 percent) of foreign tax credits are allowed to offset U.S. tax on GILTI, the minimum foreign tax rate, with respect to GILTI, at which no U.S. residual tax is owed by a domestic corporation is percent percent equals the effective GILTI rate of 10.5 percent divided by 80 percent. If the foreign tax rate on GILTI is percent, and domestic corporations are allowed a credit equal to 80 percent of foreign taxes paid, then the post-credit foreign tax rate on GILTI equals 10.5 percent (= percent 80 percent), which equals the effective GILTI rate of 10.5 percent. Therefore, no U.S. residual tax is owed. P.L , Conference Report, December 15, 2017 (emphasis added) 16

17 A perfect (GILTI) world (conference report) Tax rate: % USP CFC CFC Gross Income $100 Deductions $(0) Tangible Assets $0 Foreign Taxes $13.13 GILTI Amount Calculation $86.87 Net Deemed Tangible Income Return 10% of QBAI $0.00 GILTI Amount $86.87 GILTI Deemed Paid Taxes Calculation Inclusion Percentage GILTI Amount $86.87 Tested Income $86.87 Inclusion Percentage 100.0% GILTI Haircut 80.00% Tested Foreign Income Taxes $13.13 GILTI Deemed Paid Taxes $10.50 Section 78 Gross-Up $13.13 Deduction Calculations GILTI $43.43 Section 78 $6.57 Total Deduction $50.00 Residual US Tax Calculation GILTI $43.43 Section 78 Income $6.57 Total Income $50.00 US Corporate Rate 21% Tentative US Tax $10.50 Less: GILTI Deemed Paid Taxes: $10.50 Residual US Tax/(Excess FTCs) $0 17

18 The real world: GILTI problem #1 FTC capacity GILTI Amount Calculation $ % of QBAI $0.00 GILTI Amount $86.87 Tax rate: % USP CFC GILTI Deemed Paid Taxes Calculation Inclusion Percentage 100% GILTI Amount $86.87 Tested Income $86.87 Inclusion Percentage 100.0% GILTI Haircut 80.00% Tested Foreign Income Taxes $13.13 GILTI Deemed Paid Taxes $10.50 Section 78 Gross-Up $13.13 CFC Gross Income $100 Deductions $(0) Tangible Assets $0 Foreign Taxes $13.13 FTC Capacity GILTI Income $50.00 Less: Expense Allocation $(1.00) Net GILTI Income $49.00 Capacity $10.29 Residual US Tax Calculation GILTI GILTI Income $50.00 Tentative US $10.50 GILTI Deemed Paid Taxes: $10.50 GILTI basket capacity: $10.29 GILTI FTC: $(10.29) Residual US Tax $0.21 Total Residual US Tax $0.21 Lost FTCs: ($0.21) 18

19 The real world: GILTI problem #2 losses give and take away GILTI Amount Calculation Net CFC Tested Income CFC1 Tested Income (Loss) $ CFC2 Tested Income (Loss) $(12.00) Total $ Net Deemed Tangible Income Return 10% of QBAI $10.00 Excluded Interest $(7.50) Total $2.50 CFC1 USP CFC2 GILTI Amount $ GILTI Deemed Paid Taxes Calculation Inclusion Percentage GILTI Amount $ Tested Income $ Inclusion Percentage 91.2% GILTI Haircut 80.0% Tested Foreign Income Taxes $10.00 GILTI Deemed Paid Taxes Section 78 Gross Up $7.30 $9.12 CFC1 CFC2 Gross Income $200 $100 Deductions $(25) $(110) Tangible Assets $100 $100 Excluded Interest $2.50 $5 Foreign Taxes $10 $2 Deduction Calculations GILTI Deduction $79.81 Residual US Tax Calculation GILTI $79.81 Assumed Expense Allocation $0.00 US Corporate Rate 21% Tentative US Tax $16.76 Less: GILTI Deemed Paid Taxes $7.30 Residual US Tax (Excess FTCs) $

20 Approach to GILTI: Fight or flight? Approach Flight Description Away from GILTI and into Subpart F Details Structuring into high-taxed Subpart F income through operational or structural changes FTCs can be claimed currently, or deferred and selectively claimed through Section 956 Fight FTC Limitations Changing allocation formulas and inputs: Reduce expenses allocated to GILTI income to increase FTC capacity Fight Limit Tested Losses Restructure legal entities so that tested loss entities are combined with tested income entities to avoid elimination of QBAI and FTCs from calculations 20

21 Approach to GILTI: FLIGHT

22 High-tax subpart F: The path to territoriality Natural Territoriality Territoriality via Subpart F? HTE Subpart F Limited application because (i) the 10% return allowed for QBAI will exempt only a small amount of CFC income, and (ii) FOGEI is industry specific High-tax Subpart F income attracts no residual U.S. tax upon a distribution due to section 245A Magic creditable foreign tax ( CFT ) ETR for high tax exception is > 18.9% [(90%) * (21%)] ETR = CFTs / (Section 952 taxable income + CFT) Applies to separate classes of income, including net foreign base company sales income and net foreign base company services income US Shareholder level expense apportionment is irrelevant 22

23 High-tax subpart F: The path to territoriality Optimizing FTCs? Subpart F inclusions generally convert GILTI basket income to general basket If you have excess 1) FTCs after taking into account expense allocation, OFLs, SLLs, etc, and 2) excess general basket income, consider A. Not electing high-tax exception from Subpart F FTCs can be cross-credited against other general basket income and are otherwise subject to the 10-year section 904(c) carryforward; or B. Electing the high-tax exception and having a section 956 inclusion in the future FTCs in the bank, although you have to get into section 956 And remember that the old section 960(c) hopscotch rule was repealed 23

24 GILTI result at high-tax rate Tax rate: 19% USP CFC CFC Gross Income $100 Deductions $(0) Tangible Assets $0 Foreign Taxes $19.00 Increasing foreign ETR above % increases lost FTCs but not residual U.S. tax. Residual cost entirely about expense apportionment. GILTI Amount Calculation $ % of QBAI $0.00 GILTI Amount $81.00 GILTI Deemed Paid Taxes Calculation Inclusion Percentage 100% GILTI Amount $81.00 Tested Income $81.00 Inclusion Percentage 100.0% GILTI Haircut 80.00% Tested Foreign Income Taxes $19.00 GILTI Deemed Paid Taxes $15.20 Section 78 Gross-Up $19.00 Residual US Tax Calculation GILTI GILTI Income $50.00 Tentative US $10.50 GILTI Deemed Paid Taxes: $15.20 GILTI basket capacity: $10.29 GILTI FTC: $(10.29) Residual US Tax $0.21 FTC Capacity GILTI Income $50.00 Less: Expense Allocation $(1.00) Net GILTI Income $49.00 Capacity $10.29 Total Residual US Tax $0.21 Lost FTCs: ($4.91) 24

25 Subpart F at high-tax rate Tax rate: 19% USP CFC CFC High-Tax Exception Calculation Foreign Taxes (a) $19.00 FBC Sales Income Item (b) $81.00 ETR [a / (a+b)] 19.00% ETR > 18.90? YES FBC Sales Income $81 Deductions $(0) Tangible Assets $0 Foreign Taxes $19.00 Residual US Tax = 0 And more exempt income to attract interest expense under section 904(b)(4) 25

26 Subpart F at high-tax rate Tax rate: 25% USP CFC Subpart F Calculation w/o High-Tax Exception Sec. 951 Inclusion $75.00 Deemed Paid Foreign Income Taxes $25.00 Residual US Tax Calculation Income Subpart F $75.00 Section 78 Gross-Up $25.00 High-Tax Exception Calculation CFC FBC Sales Income $75 Deductions $(0) Tangible Assets $0 Foreign Taxes $25.00 Foreign Taxes (a) $25.00 FBC Sales Income Item (b) $75.00 ETR [a / (a+b)] 25.00% ETR > 18.90? YES FTC Capacity Subpart F Income Plus 78 $ Less: Expense Allocation $ (1.00) Net GL Income $ Capacity $ Tentative US $21.00 Subpart F Deemed Paid Taxes: $25.00 GL basket capacity: $20.79 GL FTC: $(20.79) Residual US Tax $0.21 Residual US Tax Cost $0.21 Not Lost Yet FTCs $

27 Moving from GILTI to subpart F

28 Affirmative FBC sales income: convert same-country LRD Pre-Tax Reform USP Post-Tax Reform USP CFC 1 Manufacturing Services (A) Unrelated Customer in Country C services product CFC 2 Regional Distributor (B) CFC 3 In-Country Distributor (C) product IP, substantial contribution, regional sales & marketing activities Manufacturing Services (A) Unrelated Customer in Country C CFC Holdco (D) product product CFC 2 Regional Distributor (B) product In-Country Distributor (C) IP, substantial contribution, regional sales & marketing activities 28

29 FBC services income: Outside country of incorporation CFC 1 (A) I/C Services Performed in Country C for CFC1 USP services CFC 2 HoldCo (B) Service Provider (C) Pre Tax-reform Service Provider CFC s service income from CFC1 was not FBC Services Income because performed by Country C CFC in Country C Post Tax-reform Service Provider CFC elects to be a DRE of a holding company CFC incorporated in a different jurisdiction (CFC 2), so that same-country exception for FBC Services would not apply Issues Minimum disruption if CFCs already in place F reorganization qualification if CFC2 is newly formed Also consider guarantees and substantial assistance 29

30 Approach to GILTI: FIGHT

31 Fight CFC stock apportionment: Managing the E&P bump Item USP CFC CFC Basis $500 E&P on 1/1/2018 $1000 Combined 1/1/2018 basis w/e&p Bump $ current E&P $100 Distribution $1100 Final E&P $0 12/31/2018 Basis plus E&P Bump $500 Average Basis $1000 FTC Capacity Subpart F Income Plus 78 $ Less: Expense Allocation $(1.00) Net GL Income $99.00 Capacity $20.79 USP Interest Expense Apportionment Interest Expense $500 BOY U.S. Tax Asset Basis $3000 EOY U.S. Tax Asset Basis $4000 Average $3500 BOY CFC TBV $1500 EOY CFC TBV (with Distribution) $500 Average $1000 BOY CFC TBV $1500 EOY CFC TBV (w/o Distribution) $1600 Average $1550 % of Interest Expense Allocated to CFC Stock With Distribution: [(1000) / ( )] = 22.2% Without Distribution [(1550) / ( )] = 30.7% 31

32 Fight merging tested losses with tested income USP Analysis GILTI Amount Calculation Net CFC Tested Income CFC1 Tested Income (Loss) $ Net Deemed Tangible Income Return 10% of QBAI $20.00 Excluded Interest $(7.50) Total $12.50 GILTI Amount $ CFC1 DRE (F/K/A CFC2) CFC1 DRE Total Gross Income $200 $100 $300 Deductions $(25) $(110) ($135) Tangible Assets $100 $100 $200 Excluded Interest $2.50 $5 $7.5 Foreign Taxes $10 $2 $12 GILTI Deemed Paid Taxes Calculation Inclusion Percentage GILTI Amount $ Tested Income $ Inclusion Percentage 85.2% GILTI Haircut 80.0% Tested Foreign Income Taxes $12.00 GILTI Deemed Paid Taxes Section 78 Gross Up Deduction Calculations GILTI Deduction (GILTI + 78 Gross Up) $75.37 $8.17 $10.24 Residual US Tax Calculation GILTI+78 GILTI deduction $75.37 Assumed Expense Allocation $0.00 US Corporate Rate 21% Tentative US Tax $15.83 Less: GILTI Deemed Paid Taxes $8.17 Residual US Tax $7.66 [Separate CFC result from earlier slide] [$9.46] 32

33 Other thoughts

34 5 fateful decisions Minimum Tax via Deduction and FTCs, not Exemption Domestic results matter Expense allocation and domestic FTC rules matter 21% not 25% or 28% FTCs less valuable but lots of excess FTCs 80% FTCs and No Carryovers Foreign taxes matter more double taxation is easier We really care about intangible income (so defined) Complexity and confused incentives 1962 Anti-deferral rules, not just passive income Complexity and optionality; equal application to both corporations and individuals 34

35 New Section 163(j) at the CFC level General Rule. For tax years beginning after 12/31/17, business interest is only deductible to the extent of 30% of the taxpayer s adjusted taxable income ( ATI ) ATI for corporations=taxable income with net interest expense and NOL deduction added back, plus also depreciation, amortization, and depletion for years beginning before 1/1/2022 No indication in legislative history of whether New 163(j) intended to apply at the CFC level (compare footnote indicating 245A available for Subpart F computation) On the other hand, not expressly limited to domestic corporations or U.S. persons Under Old 163(j), foreign corporations not subject to the rule unless they were engaged in USTB and had ECI (Prop. Reg (j)-8) Notice announced government s intention to withdraw Old 163(j) proposed regulations 35

36 New 163(j): GILTI double-counting trap CFC1 Tested Income CFC1 US Co CFC2 CFC2 $100 income $150 income -($30) interest expense +$50 interest income $$ $70 $200 $250 tested income $270 tested income Example. CFC1 pays $50 of interest to CFC 2 foreign disregarded entity (DRE) that is treated as a branch of CFC2. Assume CFC1 has $50 of taxable income after payment of interest expense, and thus $100 of ATI If New 163(j) applies for GILTI without coordination, then CFC1 only is allowed to deduct $30 of the interest expense while CFC2 must still include the $50 of interest income. Altogether CFC1 and CFC2 go from combined $250 of Tested Income to $270, increasing US Co s initial GITLI inclusion by $20. 36

37 Hybrid deduction rule: New section 267A General Rule. No deduction for disqualified related pay amounts paid or accrued pursuant to (i) a hybrid transaction, or (ii) by, or to, a hybrid entity. Passive wording no deduction shall be allowed without any limitation on status of payor Definitions/Operating Rules. A disqualified related-party amount: any interest or royalty paid or accrued to a related party if: No corresponding income inclusion to related party under local tax law; or Related party allowed a deduction with respect to payment under local tax law. Exception: payments resulting in Subpart F inclusion for U.S. shareholder. Query: Why no exception for GILTI? 37

38 Hybrid deduction rule: GILTI double-counting trap CFC1 Tested Income CFC1 US Co CFC2 $$ DRE CFC2 $100 income $150 income -($50) royalty +$50 royalty +$50 disallowance (no adjustment) $100 $200 $250 tested income $300 tested income Example. CFC1 pays $50 royalties or interest to foreign disregarded entity (DRE) that is treated as a branch of CFC2. DRE has local tax ruling exempting the payment and thus it falls within Sec. 267A (paid to hybrid entity, not included in foreign tax base). If Sec. 267A applies for GILTI without coordination, then CFC1 s $100 of tested income remains the same despite the payment, while CFC2 s tested income is still increased by the $50. Altogether CFC1 and CFC2 go from combined $250 of Tested Income to $300, increasing US Co s initial GITLI inclusion by $50. Note that payments from US Co to CFC2 would likely be Subpart F income (no look-through ) and would qualify for 267A exception. 38

39 Other GILTI imponderables Interaction of Section 250 limitation with other provisions that also use a taxable income limitation (e.g., Section 163(j) ATI) How exactly to determine tested income and expenses of a CFC Rules similar to Reg in computing Subpart F income? Will accounting methods previously adopted (intentionally or not) under 952 and 964 automatically carryover? E.g., what if CFC previously used GAAP depreciation for E&P and now must compute QBAI using ADS? If a method change is made in 2017/2018, will 481(a) adjustments spread into GILTI years be taken into account in tested income/loss? (Consider interaction with Sec. 965 AAR for method changes in Notice ) 39

40 Questions?

41 Thank you

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