International Tax Reform and Other Developments from Washington

Transcription

1 International Tax Reform and Other Developments from Washington TEI Houston, February 21, 2017 Paul M. Schmidt

2 Overview Background President Trump s Tax Reform Proposals House Committee on Ways and Means Tax Blueprint Senate Committee on Finance s Corporate Integration Plans Key Elements of International Tax Reform Election s Impact on Recent Treasury Guidance Election s Impact on EU Developments The Courts 2

3 Trump Administration:

4 2017 Gridlock gone! Trump, GOP Congress expected to move on tax reform coupled with infrastructure spending by August??? Plan could boost economic activity, job creation Use reconciliation to repeal Affordable Care Act Last tax reform Years ago 4

5 Background Overview of Tax Plans 5

6 President Trump s Tax Plan Changes to Business Income Tax 15% corporate tax rate (pass-throughs may elect, but if large then 15% taxed as dividends) Eliminate: The domestic production activities deduction (section 199) and all other business credits, except for R&D The corporate AMT Deemed repatriation (10% on earnings held in cash, 4% on other earnings) payable over 10 years May elect to expense capital investment (and not be allowed to deduct interest expenses) or depreciate 6

7 Committee on Ways and Means House Speaker Paul Ryan set up the Republican Task Force on Tax Reform, chaired by Committee Chairman Kevin Brady Task Force released Blueprint on June 24, 2016, with goal to have final legislation for congressional action in 2017 Blueprint is a call to action and broad outline of pro-growth policy changes, including: lower tax rates territorial international tax system corporate destination-based border-adjustable cash-flow tax 7

8 Committee on Ways and Means Changes to Business Income Tax 20% income tax rate, 25% maximum rate for pass-through businesses Territorial system with a 100% exemption for dividends from future foreign sub. earnings Deemed repatriation tax of 8.75% for cash and cash equivalent profits and 3.5% on other profits Allow immediate deduction for cost of capital investment 8

9 Committee on Ways and Means Changes to Business Income Tax (cont.) Eliminate: most business credits except for R&D and LIFO current deduction for net interest expense (but allow to carry forward indefinitely to use against future net interest income) Most Subpart F rules (but would keep FPHC rules) the corporate AMT Restrict deductions for NOLs and allow NOLs to be carried forward (but not back) indefinitely and increased for inflation and real return on capital Destination-basis tax system that exempts exports from tax while taxing imports (but WTO issue?) 9

10 Senate Finance Committee Is developing a corporate integration plan to eliminate corporate double taxation Plan s release has been repeatedly delayed, but Chairman Orrin Hatch still pursuing May include: a dividends paid deduction a 35% withholding tax on payments of interest and dividends 10

11 Senate Finance Committee May address aspects of the current system of taxation that: Favors noncorporate equity investment over corporate investment; Favors debt finance over equity finance; Favors retained earnings over dividends; and Discourages the realization of gains on the sale of corporate stock. May address Treasury s debt-equity regulations under section

12 Comparison of Potential Tax Reform Plans 12

13 International Tax Reform 13

14 Five Key Elements of International Tax Reform to Watch Lower Corporate Tax Rate Territorial System Repatriation Tax Border Adjustable, Cash Flow, Destination- Based Tax Interest Deductibility 14

15 1. Lower Corporate Tax Rate U.S. has one of highest corporate rates in world (approx. 39% vs. 24% OECD average) W&M Blueprint 20% corporate, 25% pass-through Trump 15%? Lower corporate rate essential component of international tax reform 15

16 2. Territorial System Components: 100% DRD FBSCI and FBCSvI repealed Sec. 956 repealed FPHCI retained FTCs available only to offset FPHCI Compare with Trump plan 15% worldwide taxation 16

17 3. Repatriation Mandatory or elective? Rate: W&M Blueprint 3.5%/ 8.75% Trump 4%/10% Mechanics DRD? PTI first NOLs? FTCs subject to haircut Consider attribute planning What will revenue raised be used for? 17

18 4. And... Border Adjustability? Destination Based Cash Flow Tax Revenue from exports exempt Taxes imports by denying COGS Why? Lower rate, territorial plus earnings stripping limitations may be sufficient to stop inversions, but not necessarily runaway plants Raises revenue Economic Theory No impact on trade because dollar and/or prices will adjust Is a consumption based tax similar to VAT plus a wage deduction Removes tax incentive to move manufacturing abroad 18

19 Border Adjustability Open Issues Will President Trump support it? Will the $ and/or prices adjust sufficiently? Is it WTO compliant and does that matter? How does it interact with treaties? What are the definitions? E.g., what is an export for these purposes? 19

20 5. Interest Deductibility Blueprint would allow current deduction for capital expenditures, but would deny a deduction for net interest expense Controversial: Trade of a permanent deduction for a timing benefit But incentives economic growth? Absent that, there must be some limit to interest deductibility if there is a move to a territorial system Foreign earnings are exempt Earnings stripping/inversions How? WW D:A? ? ? 20

21 Fate of Recent Treasury Guidance 21

22 President Trump Executive Orders White House Executive Order January 30, 2017 Regulatory Freeze Pending Review White House Executive Order January 30, 2017 Reducing Regulation and Controlling Regulatory Costs 22

23 Section 385 Regulations Final regulations issued under section 385 on October 13, 2016 (the Final Regulations ). Documentation rules: setting forth documentation and maintenance requirements applicable to related-party instruments, as well as rules, presumptions and factors to take into account in determining whether an instrument will be treated as indebtedness Transaction rules: subject to certain exceptions, recharacterizing related-party debt as stock for all federal tax purposes when issued: (i) as a distribution, (ii) in exchange for related-party stock, (iii) as consideration in an internal asset reorganization (e.g., a boot D reorganization), or (iv) to fund a distribution, acquisition of related-party stock, or boot in an internal asset reorganization Consolidated rules: providing treatment for when related-party interests enter or leave a U.S. consolidated group Special rules for consolidated groups so that Final Regulations generally do not affect interests between consolidated group members so long as they continue to be consolidated group members Final Regulations apply without regard to whether a corporate group has undergone an inversion 23

24 Reserved in Final 385 Regulations Foreign issuers Bifurcation Affirmative use of Regulations Instruments not in the form of debt Brother-sister attribution under section

25 Inversion Transactions Treasury Regulations April 4,

26 Would Treasury Target a Transaction? BNA May 11, 2016 The Treasury Department's anti-inversion regulations were a direct response to Pfizer Inc.'s now-derailed plan to move its tax address to Ireland, Rep. Richard E. Neal (D-Mass.), said. What happened with Pfizer was they in-your-faced the administration, Neal said today at a legislative summit hosted by BakerHostetler, the Federal Policy Group and the Yale Club. The president and the Treasury secretary said we re going to do something about this. Sen. Rob Portman (R-Ohio), speaking at the same event, said the pharmaceutical company's plans were the result of a desire to be competitive and not done to antagonize the administration. 26

27 2016 Temporary Inversion Regulations Temporary regulations issued on April 4, 2016 (the Temporary Regulations ) implementing the guidance described in Notice and Notice Notice guidance (as announced in the Notice): Inversion determination provisions - acquisitions completed on or after September 22, 2014 Post-inversion planning provisions planning transactions on or after September 22, 2014, for acquisitions completed on or after September 22, 2014 Notice guidance (as announced in the Notice): Inversion determination provisions acquisitions completed on or after Nov. 19, 2015 Post-inversion planning provisions planning transactions on or after Nov. 19, 2015, for acquisitions completed on or after Sept. 22, 2014 (as provided in Notice ) New rules added in the Temporary Regulations are generally effective for: Inversion determination provisions acquisitions completed on or after April 4, 2016 Post-inversion planning provisions planning transactions on or after April 4, 2016, for acquisitions completed on or after Sept. 22, 2014 (as provided in Notice ) Preamble includes no inference language for prior transactions Which rules were being referenced and which were not (e.g., the serial acquisition rule)? 27

28 European Developments State Aid, Brexit and BEPS 28

29 What is State Aid? State Aid exists when a national measure: 1. Is financed by the State or through State resources; 2. Provides an advantage for an undertaking; 3. Is selective; and 4. Affects trade between Member States and distorts competition. If there is a finding of illegal State Aid, the benefits must be paid over to the State, with compound interest. 10 year claw back period. 29

30 History of State Aid Investigations June 2013 EC begins to investigate tax rulings issued by certain Member States Initial focus on Luxembourg, the UK, Ireland and the Netherlands Beginning 2014 EC initiates formal State Aid proceedings with respect to tax rulings issued by: Luxembourg to Amazon, Fiat and McDonalds Ireland to Apple The Netherlands to Starbucks Belgium to at least 35 companies in respect of excess profits October 7, 2014 EC opens formal investigation to determine if certain Luxembourg transfer pricing rulings issued to the Amazon group confer illegal State Aid because the transfer prices deviate from the arm s length principle and should be considered selective. 30

31 History of State Aid Investigations October 21, 2015 EC issues final decision that transfer pricing agreement between Starbucks Manufacturing BV (SMBV) and the Netherlands constitutes unlawful State Aid because the transfer price paid by SMBV for coffee beans is artificially high and reduces SMBV s profits to a level that is not sufficient to cover know-how royalty ( 20 to 30 million recovery). October 21, 2015 EC issues final decision that transfer pricing agreement between Fiat Finance and Trade and Luxembourg constitutes unlawful State Aid because it leads to a capital base lower than the company s actual capital due to economically unjustified assumptions ( 20 to 30 million recovery). January 11, 2016 EC issues final decision that the Belgian excess profits ruling system constitute illegal State Aid and Belgium needs to recover approximately 700 million in total from at least 35 multinationals. Claims for annulment filed against all of these final decisions 31

32 History of State Aid Investigations May 19, 2016 EC adopts Notice on the Notice of State Aid as Referred to in Article 107(1) TFEU (the EC Notice ). June 3, 2016 EC releases the non-binding Working Paper on State Aid and Tax Rulings (the Working Paper ). June 6, 2016 EC issues notice announcing formal investigation initiated to determine if tax rulings confirming that royalties received by McDonald s Luxembourg (and transferred to a U.S. branch that was not subject to U.S. tax) were not subject to Luxembourg tax constituted illegal State Aid because such rulings selectively derogated from the provisions of both the Luxembourg national tax law and the Luxembourg-U.S. Double Tax Treaty. 32

33 History of State Aid Investigations August 30, 2016 EC issues final decision that transfer pricing agreements between two Apple affiliates and Ireland constitute unlawful State Aid because they endorsed a way to establish taxable profits in Ireland which did not correspond to economic reality and substantially and artificially lowered tax due Ireland since 1991 ( 13 billion tax recovery, plus interest). December 19, 2016 Ireland Appeals September 19, EC issues notice announcing formal investigation initiated to determine if Luxembourg tax rulings dealing with hybrid financing transactions between four companies of the GDF Suez group all based in Luxembourg confer illegal State Aid because they appear to give rise to double non-taxation for both lenders and borrowers on the profits arising in Luxembourg. Overall, the EC has reviewed more than 1,000 tax rulings, 600 of which appeared in the so-called Lux Leaks case 33

34 Apple Inc. Congressional Hearing On May 26, 2013, Apple was the focus of a congressional hearing on offshore income shifting by individual and corporate taxpayers. Specifically at issue, among others: Apple s use of a cost-sharing agreement (CSA) with its offshore affiliates that resulted in lower U.S. federal taxes. Cost Sharing Agreements: Apple and Apple Sales International (ASI) have joint ownership to intangibles initially developed in the United States. Avoided U.S. taxes on $44B in taxable offshore income. Apple Sales International Inc. (Ireland) (ASI) and Apple Operations International (AOI) own the economic rights to Apple s intellectual property for goods sold everywhere other than North America. AOI has no employees or physical presence in Ireland, but most of Apple s worldwide income. Profit Shifting: As a result of the CSA and the division of costs, a large part of Apple s worldwide sales revenue is attributable to ASI in Ireland taxable at a rate of 2% or less. Argument: The buy-in payment and allocation of costs between Apple and ASI are not reflective of actual costs incurred in the development of the intellectual property. 27

35 Apple iphone Made in China and Invented in Ireland? Apple Inc. 1. License Agreement for pre-existing IP Apple Operations International Ltd.. (Ireland / Non- Resident) 2. Agreement to Share Costs and Risk of Intangible Development 3. Narrow scope license for contract manufacturing Foxconn Int. (PRC) Third party contract manufacturer located in PRC 4. Contract manufacturing Agreement on Cost- Plus Basis 5. Title to goods Apple Sales International Ltd. (Ireland / Non- Resident) Apple Distribution (Ireland) Apple Distribution (Singapore) 7. Sales to customer Managed and controlled in US with Irish Branch 6. Title to goods Customers 8. Physical delivery of goods 35

36 McDonald s McDonald s Corp (U.S.) Fees for services (branch manager) McD Luxembourg Holding SärL (Luxembourg) Fees for the organization and setting of business strategy McD Europe Franchising SärL (Luxembourg) Royalties Franchisers in the EU and Russia U.S. Branch Royalties (after deduction of Swiss branch costs) Swiss Branch Investigation focuses on Lux s exclusion of US branch profit from Lux tax, while such profits may not be taxable in US. 36

37 The Belgian Excess Profits Ruling In January 2016, EU Commission ruled against Belgian excess profit system, affecting at least 35 multinational companies. Belgian ruling system granted tax deductions equal to a negotiated percentage of the excess profits of Belgium entities acting as a central entrepreneur within a multinational group. Excess profits were calculated as the difference between: Actual profit recorded by Belgian entity under the taxpayer s transfer pricing, and Hypothetical average profit Belgian entity would have earned had it been operating as a standalone company. 37

38 U.S. Concerns with EU State Aid What to Expect under the Trump Administration A rare degree of consensus: both parties, both houses of Congress, White House, Treasury Department, companies, advisors Treasury White Paper August 24, 2016 Seen as disproportionately targeting US-based companies, by the rhetoric and the numbers Seen as an incursion on the US tax base - deviation from arm s length principle (ALP) to over-allocate profit to EU + highly likely that US will be required to allow credits for the recovery amounts Seen as unfair retrospective change in interpretation of both ALP and EU State aid rules on the selectivity factor and to past practice on retrospective collection Seen as unprincipled action by a region of territorial regimes, half with no CFC rules at all, that have been objecting to US worldwide tax regime with credit, deferral, and CFC rules 38

39 US Foreign Tax Credit (FTC) Considerations Will the tax assessments as a result of the finding as state aid by the European Commission be considered creditable foreign income taxes in the US? Is the EC a foreign country? Are state aid recoveries taxes for FTC purposes? Statute of limitations issues How to exhaust remedies where commission process is against the foreign government and not the taxpayer 39

40 IRS Guidance - Notice Two weeks after EU state aid decision against Apple, the IRS announced guidance to prevent certain planning in connection with foreigninitiated tax adjustments in excess of $10 million. Where applicable, guidance applies Section 909 and requires taxpayer to repatriate the underlying foreign earnings to claim a credit for the additional foreign taxes. However -- No inference is intended... as to whether (1) payments pursuant to any particular foreign-initiated adjustment, including those arising under EU State aid law, qualify as payments of creditable foreign income taxes 40

41 State Aid Other Considerations Sovereignty considerations does the EU have the legal authority to overturn the rulings/decisions of the applicable member state? Perform a self-assessment of your EU tax rulings granted over the last 10 years also applies to informal rulings and tax settlements Are the facts accurate? Defensible interpretation of the tax rules? Sweetheart deals? Unilateral transfer pricing rulings (IP structures, virtual royalty payments, financing/hybrid arrangements)? Robust functional analysis Contracts reflect what is actually being done Transfer pricing methodology selected Application of transfer pricing methodology (tested party, profit level indicator) Composition of comparables If believe you have a ruling that could potentially at risk, attempt to assess potential exposure and whether there are ways to remedy the situation M&A due diligence considerations most EU state aid decisions find the entire multinational group got the benefit of the State Aid not just the ruling recipient can go after the group parent as well 41

42 What Impact Will the Election Have on the OECD BEPS Initiative? High Taxed Countries Interest Low Taxed Countries Belgium France Germany Royalties Ireland Malta Luxembourg Spain Japan Brazil Products Cayman Islands Singapore Hong Kong Italy Mexico Colombia Services Argentina Switzerland Is Each Country Engaged in These Transactions Receiving Its Fair Share of Revenue? Bermuda 42

43 BEPS Action Items Releases Out Coherence Substance Transparency 1 Challenges of a Digital Economy 8 Assure transfer pricing outcomes are in line with value creation intangibles 2 Hybrid mismatch arrangements 9 Assure transfer pricing outcomes are in line with value creation risks and capital 3 Strengthen CFC rules 1 0 Assure transfer pricing outcomes are in line with value creation high risk transactions 4 5 Limit base erosion via interest deductions and other financial payments Counter harmful tax practices taking into account transparency and substance Establish methodologies to collect and analyze data on BEPS Require disclosure of aggressive tax planning arrangements Re-examine transfer pricing documentation 6 Prevent treaty abuse 1 4 Make dispute resolution mechanisms more effective 7 Prevent artificial avoidance of PE status 1 5 Multilateral Instruments 43

44 Action 13 CbC Reporting: Likely to Survive Changing landscape for data reporting and transparency Master file High-level information about the MNC s business, transfer pricing policies and agreements with tax authorities in a single document available to all tax authorities where the MNC has operations. Local file Detailed information about the local business, including relatedparty payments and receipts for products, services, royalties, interest, etc. CbC report High-level information about the jurisdictional allocation of profits, revenues, employees and assets. BEPS 44

45 The Courts 45

46 QUESTIONS 46

47 Biography Paul Schmidt, a former Legislation Counsel to the Joint Committee on Taxation, is the firm-wide Chair of Baker & Hostetler s tax practice and the firm s practice team leader for its International Tax Practice Team. He also serves on the firm s Policy Committee. He has a wide range of experience in corporate and international tax matters, particularly in the taxation on cross-border intellectual property, transfer pricing, U.S. trade or business issues, permanent establishment issues and treaty interpretation. Paul teaches international tax at Georgetown University Law Center. Paul M. Schmidt Baker & Hostetler LLP 1050 Connecticut Avenue, NW, Suite 1100 Washington, DC Tel Fax pschmidt@bakerlaw.com 47

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