International Tax & the TCJA for Strategic Alliance Firms MAY 22, 2018 TO RECEIVE CPE CREDIT Individuals Participate in entire webinar Answer polls when they are provided Groups Group leader is the person who registered & logged on to the webinar Answer polls when they are provided Complete group attendance form Group leader sign bottom of form Submit group attendance form to training@bkd.com within 24 hours of webinar If all eligibility requirements are met, each participant will be emailed their CPE certificate within 15 business days of webinar 1
Presenters Will James Partner International Tax Services wdjames@bkd.com Chris Clifton Managing Director International Tax Services cclifton@bkd.com AGENDA TAX REFORM IN GENERAL Tax Reform in General International Tax Changes in General Dividends Received Deduction Foreign Tax Credit (FTC) Global Intangible Low-Taxed Income (GILTI) Foreign-Derived Intangible Income Tax (FDII) Base Erosion and Anti-Abuse Tax (BEAT) Toll Charge Tax Things to Consider Before Making or Revoking an S Election Recap Takeaways & Planning U.S. Tax Reform from a Transfer Pricing Point of View 2
TAX REFORM IN GENERAL C Corporations Permanently reduced top marginal rate from 35 percent to flat rate of 21 percent Repealed alternative minimum tax Pass-Through (Individual) Created new pass-through business deduction Only income effectively connected with conduct of trade/business within the U.S. is eligible for the passthrough business deduction INT L TAX CHANGES IN GENERAL Untaxed Accumulated Foreign Earnings 15.5 percent for cash & cash equivalents 8 percent otherwise Payable over eight years Future Foreign Earnings Moved to territorial system with base erosion provisions 100 percent of foreign-sourced portion of dividends paid by foreign corporation to U.S. corporate shareholder owning 10 percent or more of foreign corporation s stock is exempt from U.S. taxation No foreign tax credit or deduction allowed for any foreign taxes paid or accrued with respect to any exempt dividend 3
Dividends Received Deduction Example DIVIDENDS RECEIVED DEDUCTION C Corporation Individual/ S Corporation/ Partnership Taxable Income 2018 100,000 100,000 Dividend from 10% Owned Specified Foreign Corporation 20,000 20,000 Dividend Received Deduction (20,000) 0 Net Taxable Income 2018 100,000 120,000 Tax (FED Only) Ordinary Income 21,000 44,400 Tax (FED Only) Net Investment Income Tax 0 760 Total Tax 21,000 45,160 FOREIGN TAX CREDIT (FTC) Indirect FTC repealed due to enactment of foreign dividends received deduction (DRD) Dividends eligible for DRD are not foreign source income C corporations now eligible to claim DRD for qualifying dividends from foreign corporations received after December 31, 2017 S corporation shareholders still subject to tax on foreign dividends under existing deferral regime 4
FOREIGN TAX CREDIT (FTC) Foreign branch income is now in separate FTC basket Sourcing now based entirely on production location Election to recapture overall domestic loss (ODL) in excess of 50% of domestic source income GLOBAL INTANGIBLE LOW-TAXED INCOME (GILTI) Applies to all U.S. shareholders, including noncorporate shareholders Exception to new foreign DRD exemption regime with regard to foreign income earned by controlled foreign corporation (CFC) offshored intangible assets GILTI rules employ residual concept whereby extranormal foreign profits are presumed to be attributable to intangibles (vs. identifying offshored intangible assets & foreign income generated therefrom under current regime) 5
Calculation of GILTI tax is complex GLOBAL INTANGIBLE LOW-TAXED INCOME (GILTI) GILTI CFC Income (generally) 10% x Adjusted Basis Fixed Assets Specified Interest Expense C corporations can claim a deduction equal to 50% of the GILTI inclusion plus the foreign tax gross-up C corporations can also claim a deemed paid foreign tax credit for 80% of foreign taxes attributable to GILTI inclusion GLOBAL INTANGIBLE LOW-TAXED INCOME (GILTI) Noncorporate shareholders should generally make an election under Section 962 to be taxed on GILTI & subpart F inclusions at corporate tax rates Without a 962 election, noncorporate shareholders would be taxed on GILTI inclusions at ordinary U.S. individual income tax rates with no GILTI deduction or indirect foreign tax credit 6
GLOBAL INTANGIBLE LOW-TAXED INCOME (GILTI) Global Intangible Low-Taxed Income Example Corporation Individual CFC Income 100,000 100,000 Interest Expense - - CFC Net Income 100,000 100,000 Fixed Assets Adjusted Basis 120,000 120,000 Net Deemed Tangible Income Return 12,000 12,000 CFC Net Income 100,000 100,000 Net Deemed Tangible Income Return 12,000 12,000 Income Inclusion under 951A GILTI 88,000 88,000 GILTI Deduction (44,000) - Net GILTI Inclusion 44,000 88,000 Tax Due @ Max Rates 9,240 32,560 FOREIGN- DERIVED INTANGIBLE INCOME (FDII) Foreign-derived deduction eligible income is profit from property sold or leased/licensed by U.S. corporation or services provided to foreign person or with respect to foreign-located property Applies only to C corporations Deduction for 37.5 percent of FDII Results in effective tax rate of 13.125 percent Deduction reduced to 21.875 percent for tax years beginning after December 31, 2025 (effective tax rate increases to 16.40625 percent for FDII) 7
FDII Deduction Formula FOREIGN- DERIVED INTANGIBLE INCOME (FDII) FDII FDII Deduction 37.5% FDII (income) Foreign-Derived Eligible Income Total Income Net Income 10% x Fixed Asset Basis BASE EROSION AND ANTI- ABUSE TAX (BEAT) New minimum tax that applies to certain payments made to foreign-related entities Essentially a new alternative minimum tax having a broader taxable income base but lower tax rate than regular U.S. corporate tax Income base calculated without deductions for foreign-related party expenses, e.g., interest, royalties & management fees to extent such outbound expenses are exempt from U.S. withholding tax Controversy over whether only a markup on certain foreign-related party service fees must be added back or both the cost & markup components 8
BASE EROSION AND ANTI- ABUSE TAX (BEAT) Rate of tax 5 percent for 2018 10 percent for 2019 2024 12.5 percent for 2025 & beyond Only applies to corporations with average annual gross receipts of $500 million & base erosion percentage 3 percent (2 percent for banks/securities dealers) other than S corporation Regulated investment company (RIC) Real estate investment trust (REIT) Compute gross receipts & base erosion percentage tests on combined basis for controlled groups TOLL CHARGE TAX Deemed repatriation tax imposed on nonpreviously taxed post-1986 accumulated foreign earnings of U.S. shareholders upon transition from existing deferral regime to new participation exemption regime Toll charge is intended to prevent pre-tax reform foreign earnings from escaping the pre-tax reform deferral regime Applies to both S & C corporations; however, S corporation can not claim indirect FTC 9
TOLL CHARGE TAX Tax due can be spread over eight-year period Effective date: last taxable year of the foreign corporation that begins before 1/1/2018 Earnings & Profits are the GREATER of E&P as of 11/02/2017 or E&P as of 12/31/2017 Netting of E&P deficits allowed Applies regardless of movement of cash Ability to claim pro rata foreign tax credits for corporations Same for individuals who make the 962 election TOLL CHARGE TAX S corporation shareholder payment deferral election May elect to defer payment of deemed repatriation tax indefinitely until triggering event Election appears to be available on a per- S corporation basis Applies with regard to shareholder s net tax liability with respect to such S corporation determined under with vs. without rules of eight-year installment election as if only 965 subpart F income taken into account were from such S corporation 10
TOLL CHARGE TAX S corporation shareholder payment deferral election Triggering events S corporation election terminated or revoked Liquidation or dissolution of S corporation or cessation of S corporation business Shareholder transfer of S corporation shares of stock Distribution of deemed repatriation previously taxed income & S corporation sale of CFC shares are not triggering events TOLL CHARGE TAX Other considerations Section 962 election for noncorporate shareholders available to take advantage of 15.5 percent/8 percent rates & allow for deemed paid FTC Especially consider 962 election if S corporation intends to revoke S election effective 1/1/2018 as DRD may be available on distribution of 962 tainted PTI Pass-through entities treat portion of deemed repatriation subpart F income reduced by rate differential deduction as tax-exempt income that increases basis & S corporation AAA 11
TOLL CHARGE TAX Triggering events Transfer of partial block of S corporation shares is partial trigger to pay proportionate amount of deemed repatriation tax Transfer of S corporation shares not treated as triggering event if transferee enters into agreement with IRS to be liable for payment of deferred tax upon future triggering event Triggered payment of deemed repatriation tax from C corporation conversion or transfer of S corporation shares is eligible for eight-year installment payment election beginning in trigger year TOLL CHARGE TAX Deemed Repatriation Toll Charge Tax Example Accumulated E&P 2,000,000 Cash & Cash Equivalents 1,087,500 E&P Subject to 15.5% Tax 1,087,500 Tax at 15.5% 168,563 E&P Subject to 8% Tax 912,500 Tax at 8% 73,000 Total Taxes DUE 241,563 12
THINGS TO CONSIDER BEFORE MAKING OR REVOKING AN S ELECTION 20% pass-through deduction is only available for domestic income income from foreign branches & foreign subsidiaries is not eligible FDII export benefit is only available for C corporations DISC is an efficient way to distribute C corporation profits to shareholders without double taxation Participation exemption on foreign subsidiary earnings is available only for C corporations Conversion to C corporation triggers deemed repatriation toll charge payment consider maintaining parent company as S corporation with C corporation subsidiary to preserve shareholder deferral of toll charge payment Be careful of shareholder-level overall foreign loss (OFL) conversion to C corporation can trigger gain on foreign assets to extent of shareholder-level OFL RECAP New Concepts Dividends Received Deduction Deemed Repatriation Tax GILTI (Income & Deduction) FDII (Deduction) BEAT (Anti-Abuse Minimum Tax) 13
TAKEAWAYS & PLANNING Takeaways & Planning Opportunities Migration to U.S. corporations for ownership of CFCs (& other foreign entities) Repatriation tax & GILTI Inclusion: Individuals can make 962 election to claim deemed foreign taxes paid Need for E&P studies Entity classification planning strategies for U.S. companies & for U.S. ownership of foreign subsidiaries IC-DISC structures remain attractive U.S. TAX REFORM FROM A TRANSFER PRICING POINT OF VIEW 14
U.S. TAX REFORM FROM A TRANSFER PRICING PERSPECTIVE Pre-Tax Reform Structure Among developed countries, the U.S. had the highest statutory federal corporate tax rate in the world at 35% Many other countries have decreased their statutory rates over the past several years in an effort to spur inbound investment & economic growth U.S. TAX REFORM FROM A TRANSFER PRICING PERSPECTIVE Pre-Tax Reform Structure Previous tax system under the deferral system (pre-tax reform) provided incentive for U.S. based companies to shift income from U.S. to low-tax jurisdiction, i.e., base erosion The high statutory rate of 35% also created an incentive for foreign multinational companies with U.S. subsidiaries to base erode their U.S. subsidiary through transfer pricing payments 15
U.S. TAX REFORM FROM A TRANSFER PRICING PERSPECTIVE Pre-Tax Reform Structure Common base erosion techniques Corporate inversions Intangible property (IP) migration Transfer pricing Sale of goods Management fees Royalties Intercompany debt Including the pushdown of third-party debt U.S. TAX REFORM FROM A TRANSFER PRICING PERSPECTIVE Post-Tax Reform With the switch to the modified territorial system, any reduction in a multinational corporation s (MNC) tax rate is a permanent savings this places a significant emphasis on transfer pricing planning No longer taxed on repatriated dividends per the participation exemption 16
U.S. TAX REFORM FROM A TRANSFER PRICING PERSPECTIVE Post-Tax Reform Structure Limitation on interest deductions under 163(j) Interest expense is limited to 30% of adjusted taxable income For 2018 2021, adjusted taxable income is analogous to EBITDA Thereafter, adjusted taxable income is based on EBIT Based on debt outstanding as of January 1, 2018 (no grandfathering provisions) Allowed to carryforward disallowed interest expense (similar to prior version of163(j)) Will limit an inbound company s ability to create deductions for its U.S. subsidiary & will limit its ability to repatriate income back to its foreign parent company through the imposition of intercompany interest U.S. headquartered companies with debt (both third & related party) will be impacted by 163(j) Need to ensure intercompany interest payment amount does not exceed the 30% EBITDA limitation U.S. TAX REFORM FROM A TRANSFER PRICING PERSPECTIVE Post-Tax Reform Structure Global Intangible Low-Taxed Income (GILTI) Targets & penalizes U.S. companies with IP held offshore & sales & services companies with limited tangible assets Limited application to inbound companies with U.S. subsidiaries, as the U.S. subsidiary would have to hold a non-u.s. subsidiary, i.e., a controlled foreign corporation, in a low-tax country Large U.S. MNCs with CFCs in low-tax countries, i.e., countries with rates lower than 13.125%, will be impacted by GILTI There is an incentive to reduce the GILTI liability through transfer pricing by reducing income in a MNC s CFCs; however dividends from CFCs are no longer taxable in the U.S. so a low foreign rate combined with GILTI can achieve tax savings, e.g., Ireland at 12.5% with the GILTI tax Incentive to place manufacturing in low tax jurisdictions to offset GILTI, as the 10% return on tangible assets serves to offset GILTI liability GILTI is calculated at the shareholder level, so an asset-intensive CFC, e.g., manufacturing, can offset the GILTI liability of a non-asset-intensive CFC that holds a lot of IP Increase in substance in the low tax jurisdiction has no impact on the GILTI liability 17
U.S. TAX REFORM FROM A TRANSFER PRICING PERSPECTIVE Post-Tax Reform Structure Foreign-Derived Intangible Income (FDII) Creates an incentive for U.S. MNCs to export products, provide services & collect royalties from its CFCs U.S. subsidiaries of foreign companies can benefit from FDII Planning ideas: U.S. company can export products produced in the U.S. to its foreign-related parties; license IP to foreignrelated parties; or provide services to foreign-related parties Maximize transfer prices charged to foreign affiliates FDII incentivizes U.S. taxpayers to keep their tangible assets offshore as the 10% return on tangible assets serves to offset the FDII benefit U.S. TAX REFORM FROM A TRANSFER PRICING PERSPECTIVE Post-Tax Reform Structure Base Erosion and Anti-Abuse Tax (BEAT) Imposes a minimum tax on certain deductible payments made to foreign affiliates Royalties Management fees Not applicable to fees charged based on services cost method (SCM) under the 482 Regulations Interestingly, taxpayers may still be able to deduct the cost component of management fee, just not the profit element, i.e., markup (current guidance unclear) Reinsurance payments U.S. corporations with at least $500m of global gross receipts (3-year average period) & a base erosion percentage of 3% or higher, i.e., payments of 3% of total adjusted deductions 18
U.S. TAX REFORM FROM A TRANSFER PRICING PERSPECTIVE Post-Tax Reform Structure Base Erosion and Anti-Abuse Tax (BEAT) BEAT Tax Rates 5% in 2018 10% in 2019 through 2025 12.5% thereafter Is generally targeted at large inbound companies with U.S. subsidiaries that pay service fees, royalties & interest to their foreign-related parties Not likely to apply to a lot of foreign companies with U.S. subsidiaries, as the U.S. subsidiary must have revenues of $500m or above Large foreign companies with U.S. subsidiaries should reduce their related-party transactions if the relatedparty payments exceed the 3.0% threshold U.S. TAX REFORM FROM A TRANSFER PRICING PERSPECTIVE Post-Tax Reform Structure Specific provision related to transfer pricing in tax reform relates to IP transfers Scope of IP Expanded IP definition to include: workforce in place, goodwill & going concern value ( 936(h)(3)(B)) IP transfers Grants authority to IRS Secretary to determine which method must be utilized in the case of outbound transfers of IP & intercompany allocations Allows for aggregate basis valuation, i.e., non-asset specific Realistic alternative method Will increase the tax cost of the transfer of IP from the U.S. to another country, making IP transfers more costly 19
POST-TAX REFORM PLANNING IDEAS Modeling Taxpayers should model various scenarios as FDII, GILTI, 163(j) & BEAT can dramatically differ amongst taxpayers (not one size fits all) IP location decisions Due to new low tax rate & patent box-like treatment, taxpayers should consider locating their IP in the U.S. FDII opportunities Taxpayers should consider producing goods in the U.S. for export or provide services from U.S. entity to its foreign related parties Transfer pricing documentation Documentation will take on even greater importance after the passing of tax reform as many of the new provisions are directly targeting intercompany transactions involving the flow of goods, services & intangible property between the U.S. & foreign affiliates It will be critical to document the nature & details of U.S. taxpayer s intercompany transactions to support tax positions It will also be important to document the elements of management & administrative service fee payments from foreign affiliates There will be increased pressure from foreign tax jurisdictions, as certain aspects of the new U.S. tax provisions will have the effect of reducing the income recognized by foreign affiliates, creating potential conflicts with U.S. treaty partners Questions? 20
CPE CREDIT CPE credit may be awarded upon verification of participant attendance For questions, concerns or comments regarding CPE credit, please email the BKD Learning & Development Department at training@bkd.com CONTINUING PROFESSIONAL EDUCATION (CPE) CREDIT BKD, LLP is registered with the National Association of State Boards of Accountancy (NASBA) as a sponsor of continuing professional education on the National Registry of CPE Sponsors. State boards of accountancy have final authority on the acceptance of individual courses for CPE credit. Complaints regarding registered sponsors may be submitted to the National Registry of CPE Sponsors through its website: www.nasbaregistry.org. The information contained in these slides is presented by professionals for your information only & is not to be considered as legal advice. Applying specific information to your situation requires careful consideration of facts & circumstances. Consult your BKD advisor or legal counsel before acting on any matters covered. 21
The information contained in these slides is for your information only, based on data available as of the date of the presentation & is not to be considered as tax or legal advice. Applying specific information to your situation requires careful consideration of facts & circumstances. We are under no obligation to update these slides if changes occur. Consult your BKD advisor before acting on any matters covered. Thank You! Will James 314.231.5544 wdjames@bkd.com Chris Clifton 317.383.4000 cclifton@bkd.com 22
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