Territoriality for the United States? Panelists

Transcription

1 Territoriality for the United States? American Bar Association, Section of Taxation, Committee on Foreign Activities of United States Taxpayers May 6, Panelists [TBD], U.S. Treasury Department Jeff VanderWolk, Tax Counsel, Majority Staff, Senate Committee on Finance Tony Coughlan, Tax Counsel, Minority Staff, Senate Committee on Finance David Lenter, Legislative Counsel, Joint Committee on Taxation Moderators: David Noren, Partner, McDermott, Will & Emery Chris Javens, Partner, Capitol Tax Partners LLP 2

2 Current System: Deferral Worldwide tax base Tax on active business income earned through foreign subsidiaries deferred until repatriation. Foreign income earned directly is not deferred (e.g., branch income, royalties, interest, export sales) Anti-deferral regimes: CFC rules Subpart F income (passive and mobile active income). PFIC rules Foreign tax credit Mitigates double taxation of foreign source income. Limited to prevent offsetting US tax on US source income. No cross-crediting between active and passive income. Legislative and administrative liberalization and, more recently, restriction. 3 Current System: Criticisms One perspective Worldwide base: Hinders US MNC competitiveness because foreign tax rates generally are lower. Lock-out effect: Repatriation = taxable event. Another perspective Deferral: Incentive/subsidy for income shifting via real foreign investment ( shipping jobs ) and tax base erosion (transfer pricing, deductions). Lock-out effect Impact of U.S. tax rate High rate magnifies each criticism. Residual US tax on foreign income. Tax on domestic investment (but see domestic incentives). 4

3 Alternative: Territorial Replace deferral with dividend exemption for active foreign income. Common policy justifications: Eliminate lock-out effect Competitiveness of US MNCs in foreign markets Capital Import Neutrality or Capital Ownership Neutrality Competitiveness of U.S. as HQ location Consistency with international norm - Simplification of double tax relief Common policy criticisms: Exacerbates income shifting problems of deferral. Competitiveness and simplification gains relative to deferral open to question. Are these valid? 5 Territorial: Design Issues Revenue intentions (neutral; raiser; loser)? Expense allocation/disallowance? Rationale and impact on territorial justifications If so, what expenses, e.g., Interest, R&D, HQ? Allocate by income (HQ, R&D): timing as exempt income is earned, or as repatriated? Cf. Obama budget proposal to defer deductions; JCT 2005 territorial proposal (as exempt income is earned) Allocate by assets (interest): Worldwide/water s edge Financial services industry: validity of fungibility assumption Haircut on exemption as a simple proxy? Germany, France, Japan: 95% dividend exemption Timing (deferral or imputation) Foreign taxes (deduct or credit) How good a proxy? 6

4 Territorial: Design Issues (cont.) Treatment of hybrid dividends (deductible in foreign country) Treatment of foreign branches Parity with foreign subsidiaries to avoid arbitrage. Branch-subsidiary parity may add to complexity. Treatment of 10/50 companies Treatment of royalties Does dividend exemption increase concerns about IP migration and offshore R&D activities? Royalties fully taxed; ability to cross credit eliminated. Would full royalty exemption exempt income produced by US activities? Innovation box alternative: partial exemption or reduced rate of tax. 7 Territorial: Design Issues (cont.) Maintain subpart F for passive/mobile income Modify subpart F? Consider purpose of exempting foreign income More efficiently relieve double tax Subject to tax test? Generally favor source country taxation Foreign base erosion vs. domestic base erosion Make permanent exceptions in 954(c)(6), (h), (i) IP-related profits (TP backstop) Round-trip production ( runaway plant ) Continued relevance of 956? 8

5 Territorial: Design Issues (cont.) Heightened pressure on transfer pricing? No evidence it would be worse than deferral (GAO report) Impact of lower rate Strengthen enforcement? Different TP rules? More subpart F backstop rules? IP profits Tax haven CFCs Higher exemption haircut? 9 Territorial: Design Issues (cont.) Transition issues Apply only to post-enactment earnings. Apply also to pre-enactment earnings. Allow past earnings to be repatriated at reduced rate. Mandatory vs. elective Revenue impact 10

6 Territorial: Recent Proposals National Commission on Fiscal Responsibility and Reform (2010) Reduce tax rate to percent. Eliminate all business tax expenditures. A competitive dividend exemption system. Level of exemption unstated. Maintain current taxation under subpart F. Illustrative plan would include 28% tax rate increase from 26% under zero plan suggests revenue loser relative to full inclusion, but revenue effect relative to current system (and assuming AFE and (c)(6) are made permanent) is unclear. 11 Territorial: Recent Proposals JCT, Options to Improve Tax Compliance and Reform Tax Expenditures (2005) 100% dividend exemption. Subpart F maintained (956 repealed). Deny all deductions allocated to exempt foreign income as it is earned (not when repatriated). Interest, R&D, HQ (FS R&D allocated 1 st to taxable FS IP income) Worldwide interest allocation method followed. Foreign branches treated as CFCs. Election into dividend exemption for 1-/50 companies. Scored as $54B raiser. CBO Revenue Options (#26) raises $76.2B. 12

7 Territorial: Other Countries United Kingdom (2009) 100% dividend exemption (not hybrid dividends) Elective application to foreign branches (subject to loss recapture rules) Interest expense worldwide debt cap (limits deduction for intra-group interest, not third party interest) Consultation on CFC regime focus is on profits that are artificially diverted from the UK. Monetary assets (e.g., intercompany loans). IP-related excessive profits that have been artificially diverted from the UK. Consultation on Patent box regime: 10% tax rate on income from certain patents. 13 Territorial: Other Countries Japan (2009) 95% dividend exemption replaces deferral/indirect FTC. Exemption does not apply to foreign branches. 25% direct ownership requirement (or lower treaty percentage). 6-month holding period requirement. No FTC or deduction for withholding tax. No restrictions on interest or other deductions. CFC rules all income of a CFC with a tax rate lower than 20% is taxed on a current basis, unless the CFC meets (a) business purpose test; (b) substance test; (c) managed and controlled test; and (d) either an unrelated party or country of location test. If so, passive income still taxed. 14

8 Territorial: Other Countries Canada 100% dividend exemption. Exemption does not apply to foreign branches. Foreign affiliate must be in a treaty or TIEA country; otherwise, dividends are taxable (with FTC). If Canada offers to negotiate a TIEA and agreement is not reached in 5 yrs, imputation applies. 10% ownership requirement. Passive income of CFC taxed on a current basis. No restrictions on interest or other deductions. 15 Other Proposals National Commission on Fiscal Responsibility and Reform (2010) Zero Plan would eliminate all tax expenditures, including deferral. Reduce corporate tax rate to 26%. President s Economic Recovery Advisory Board (2010) Report on various tax reform options International reform options Move toward a territorial system; Move to an imputation system with/without a lower corp. tax rate; Retain the current system with a lower corporate tax rate. 16

9 Other Proposals CBO Revenue Options (2011) Tax all income of foreign subsidiaries as it is earned. No expense allocation for FTC limitation. Raises $114.2B. Wyden-Coats (2011) Subpart F imputation model. Per-country FTC limitation. Reduce corporate rate to 24%. Repatriation election similar to Ensign/Boxer 2009 floor amendment (incremental DRP requirements). 17 Other Proposals ABA Tax Force on International Reform (2006) Subpart F imputation model; election to be treated as US corp. Lower CFC ownership threshold to 25% owned by US shareholders (10%). FTC limitation and expense allocation rules maintained. Altshuler/Grubert(2006) Tax CFC income. Maintain current law FTC limitation baskets. No expense allocation for FTC limitation. Reduce corporate rate to 28% ( burden-neutral ). 18