Michael R. Whitacre & Dr. Jan Wendland Tax Structuring and Compliance Issues when July 2017 German companies enter the U.S.
Table of Contents About PKF Frazier & Deeter and PKF Fasselt Schlage Tax Considerations Structuring Alternatives Further Considerations Additional Inbound Planning Bio & Contact Information To ensure compliance with Treasury Department regulations, we wish to inform you that any tax advice that may be contained in this communication (including any attachments) is not intended or written to be used, and cannot be used, for the purpose of (i) avoiding tax-related penalties under the Internal Revenue Code or applicable state or local tax law provisions or (ii) promoting, marketing or recommending to another party any tax-related matters addressed herein. 2
Our Unique Approach About Our Firms 3 2017 Frazier & Deeter. All rights reserved.
Key Facts About PKF Frazier & Deeter PKF Frazier & Deeter is ranked in the Top 60 Largest Firms in the U.S. 300+ professionals across offices in Atlanta, Alpharetta, Nashville, New York City, Philadelphia and Tampa. Fastest Growing Firms in the U.S. 2013-15 Inside Public Accounting Top 25 Best Managed U.S. Firms Inside Public Accounting Named a 2015 Best Firm to Work For Accounting Today 4
Key Facts About PKF Frazier & Deeter PKF Frazier & Deeter is ranked in the Top 60 Largest Firms in the U.S. 9 time winner Best of the Best CPA firm Inside Public Accounting Member of PKF International Full suite of audit, tax & advisory services Clients in all 50 states, Canada, Mexico, Central and South America, Europe, China and Australia 5
Key Facts About PKF Fasselt Schlage PKF FASSELT SCHLAGE is one of the top ten auditing companies in Germany. Offices in several German cities, including Berlin, Duisburg, Frankfurt, Hamburg and Cologne Annual revenues in 2015 around 64 million euros 14 offices with more than 600 people, including 200 auditors (German Wirtschaftsprüfer), tax advisors (Steuerberater), lawyers and US CPAs, many with multiple professional qualifications Member of the national and international PKF network Full suite of audit, tax & advisory services 6
Key Facts Member of PKF International NORTH AMERICA PKF International has 41 member firms in U.S. and Canada EUROPE PKF International has member firms in every EU country, the key emerging markets in Eastern and Central Europe, and in some of the Central Asian republics MIDDLE EAST PKF has a comprehensive representation across the Middle East from the Mediterranean states to the GCC states in the Gulf. 7 AMERICAS PKF is represented in Mexico, all the Latin American countries and throughout the Caribbean AFRICA Our members extend from North Africa down through East Africa, across English and French speaking West Africa and throughout Southern Africa ASIA PACIFIC PKF members cover the region from the Indian sub-continent and South East Asia mainland to Oceania, Hong Kong and China PKF has 440 offices in 150 countries worldwide.
US Inbound Investments Various Tax Considerations 8 2017 Frazier & Deeter. All rights reserved.
Tax Considerations U.S. Inbound Investments Tax return filing threshold Entity selection/structure Non-business income reporting Owning real estate in the United States State & Local tax issues ( SALT ) Other planning items 9
Tax Considerations U.S. Trade or Business A nonresident alien individual or foreign corporation generally pays U.S. income tax at the regular U.S. rates on the income (including certain foreign-source income) that is effectively connected with a U.S. trade or business. Threshold for what constitutes a U.S. trade or business is low. No statutory definition; reliance on case law and IRS rulings. Determination of what income is effectively connected with the conduct of a U.S. trade or business. 10
Tax Considerations Permanent Establishment Most income tax treaties exempt the business profits of a resident of a treaty country from U.S. tax unless those profits are attributable to a taxpayer's U.S. permanent establishment ( PE ). These treaties allow foreign persons to conduct limited commercial activities in the U.S. without being subject to U.S. tax (PE threshold higher than U.S. Trade or Business ). 11
Tax Considerations Permanent Establishment In general, a PE is a fixed place of business through which the business of an enterprise is carried on in whole or in part. Exceptions (subject to specific treaty provisions) if the facility is for: Storage, display or delivery of goods Storage for processing by another enterprise Purchasing or collecting information Advertising, supply of information, scientific or preparatory or auxiliary activities Activities of a dependent agent may also create a PE. 12
Tax Considerations Branch or Subsidiary Both are essentially subject to the same tax rates: up to 35% Federal corporate income tax plus State income tax plus dividend withholding tax (or branch profits tax) upon repatriation. Branch profits tax on dividend equivalent A branch will require the foreign owner(s) to file US tax returns. Allocation between US and worldwide income and expenses adds to the complexity of a branch return (especially at the State and local tax level). Corporate form provides for income deferral in home country. 13 Check-the-box elections and hybrid entities.
Tax Considerations Limited Liability Company (LLC) Transparent for US tax purposes unless an election is made to treat the LLC as a corporation. Characterization may be difficult in the shareholder s jurisdiction. Check-the-box regime allows for substantial flexibility and sometimes planning opportunities. Single-member LLC is disregarded for US tax purposes. Transactions between single-member LLC and its owner are therefore also disregarded for US tax purposes. 14
Tax Considerations German Viewpoint on LLC In the US, the tax status as a Corp. (opaque) or partnership (flow-through) can be easily chosen through the Check the box mechanism For German tax purposes, the treatment is based on various criteria laid out by the tax authorities in a LLC-decree and confirmed by Germany s highest tax court (so-called Typenvergleich ). The Typenvergleich is usually based on the articles of association of the LLC 15 The desired qualification is generally possible, however, careful drafting of the articles of association of the LLC is necessary: e.g. if LLC was qualified as partnership in the US, but treated as a Corp. in Germany US profit after tax will be taxed in Germany as a dividend received (US taxes are not creditable), combined tax burden appox. 55%
Basic Structuring Alternatives 1 2 3 D1 D2 D1 D2 D1 D2 DE Co DE Co DE LP US Sub US LLC US LLC US Sub files US tax return Dividend withholding tax No exposure for DE Co, D1 and D2 DE Co files US branch return Branch profits tax No exposure for D1 and D2 D1 and D2 file individual US tax returns DE LP files US partnership tax return No dividend withholding tax or BPT Individual income tax rates 16
Tax Burden Comparison Assumptions: US Fed and State Tax, German Income Tax and Solidarity Surcharge (progression provision left out for simplification purposes), no church tax, all German income is assumed to be business income (gross dividend flat tax method ( Abgeltungsteuer is not applicable) Near to max tax rates are applicable Equity financing only In case of pass-through entity / LP, General Partner's taxation left out for simplification purposes All profit is immediately withdrawn / distributed up to German natural person 17 LOB tests (Art 28) are all met
Tax Burden Comparison I II III IV V GmbH GmbH GmbH & Co. KG GmbH & Co. KG GmbH & Co. KG D USA Corp. LP Corp. LP LP 56,2 % 55,5 % 55,5 % 44,0 % 38,0 % Difference: Difference: 18.2 18.2 % 18
Tax Burden Comparison Alternate V: Check-the-box -GmbH & Co. KG: treated as not transparent for US tax pretax net income 100.0 GA corporate income tax, effective 6% -6.0 94.0 Federal corporate income tax, 34% 34% -32.0 Branch profits tax 0% 0.0 net distribution 62.0 US tax burden 38.0 0% Withholding Tax (if 80% ownership for > 12 months) Flow-through to Individual for German tax purposes German Tax (Individual) pretax net income 100.0 tax exempt, Art. 7 & 23 II a DTT subject to progression -100.0 0.0 German tax burden indiv. level 0.0 cash distribution 62.0 net cash 62.0 D USA Corp. KG LP Combined tax burden US & Germany 38.0 19
Consolidated Returns Dos and Don ts NO YES YES D1 D2 D1 D2 D1 D2 DE Co DE Co DE Co US Sub US Sub US Holding Co US Sub US Sub US LLC US LLC 20
Tax Considerations Non-Business Income/Withholding Generally, there is a 30% U.S. withholding tax from certain types of (non-business) income from U.S. sources paid to foreign persons. This applies to payments of fixed or determinable annual or periodical ( FDAP ) income from U.S. sources. FDAP income generally includes interest, dividends, rents, royalties and any other annual or periodical gain, profit or income. Income tax treaties between the U.S. and foreign countries may reduce or eliminate withholding tax on various types of FDAP income. 21
Tax Considerations Non-Business Income/Withholding Reduced withholding rate under treaty through withholding certificate provided by beneficial owner to payor (US withholding agent). Generally, this will be Form W-8BEN-E. No requirement to submit the withholding certificates to the IRS. 22
Tax Considerations Treaty-based Return Positions A taxpayer who, with respect to any tax imposed, takes the position that a treaty of the U.S. overrules (or otherwise modifies U.S. tax law) is generally required to disclose such position on a U.S. tax return. If no tax return filing is otherwise required, disclosure is made by filing a return. Return need only include required disclosure, taxpayers name, address, and taxpayer identification number. The required disclosure is made on Form 8833, attached to the return. Exceptions from the Form 8833 reporting requirement include certain amounts that are reported on Form 1042-S (e.g. dividends) and that do not total more than $500,000 for the tax year. 23
Tax Considerations Foreign Investment In U.S. Real Property Tax Act ( FIRPTA ) Rules Foreign persons are not generally subject to U.S. tax on gains from dispositions of capital assets. However, under the FIRPTA rules, a nonresident alien individual or foreign corporation disposing of a U.S. real property interest ( USRPI ), will be taxed on the net gains from such a disposition as if such gains or losses were effectively connected with the conduct of the U.S. business. Special withholding regime under FIRPTA: 15% of amount realized; or 35% of gain. Complex interplay with corporate reorganization rules. 24
Tax Considerations Employee Secondment from Germany Typical issues General rule: Germany has the sole right of taxation if - employee is not longer than 183 day in a calendar year in the US AND - salary is not paid from a US-employer AND - salary is not paid on behalf of the US-entity Wage tax consequences need to be monitored Salary paid for or on behalf of the employee might not be fully tax deductible in DE Allocations issues can arise in terms of base salary, contributions to pension schemes 25
Tax Considerations SALT Issues Impacting Foreign Entities There are 50 states, 3,007 counties in addition to cities in the United States (Wikipedia 2013) States and localities (counties, cities) are not obligated to honor tax treaties State income tax has some protections under P.L. 86-272 Sales & Use tax ( SUT ) liability has extremely low thresholds Nexus concept (similar to PE concept) Beware of taxes based on items other than net income SUT per above Texas gross margin tax, Ohio CAT tax, Washington B&O tax 26
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Additional Inbound Planning Items Organize Capital Structure SALT Planning Transfer Pricing Debt vs. equity Interest rate planning Interest deductibility planning Nexus analysis (SUT and Income/Franchise tax) Sales tax matrix Intellectual property ( IP ) Management services Intercompany product sales 29
Transfer Pricing German TP Issue: Transfer of Functions Detailed transfer pricing regulations explicitly addressing the cross-border transfer of functions are incorporated into the German Foreign Tax Code German entity is entitled to an arm s length compensation in cases where a function (ie. manufacturing, distribution, research & development) is transferred from Germany to another related party abroad The valuation of the so-called transfer package is based on the profit potential of the function from the perspective of both the transferring and the receiving entity (hypothetical arm s length test) 30 Appropriate valuation methods (e.g. NPV) can lead to very significant taxable profits (dry income) even in simple standard cases (like e.g. establishment of a local US market production in the US)
Transfer Pricing Transfer of Functions: mitigation strategies Generally, (significant) dry income is avoidable in most cases but requires detailed planning, e.g.: Duplication of function exemption: Cases where a function being performed locally is duplicated cross border and the duplication does not lead to a limitation of the transferred function in Germany, ie. no revenue reduction within a period of 5 years Exclusive contractual manufacturing / services: Cases where the receiving entity exclusively performs the transferred (routine) function for the transferring entity and receives a costplus remuneration Phase-out models via IP licensing 31
32 USA Tax Reform Change on the Way >Trump Plan
USA Tax Reform Framework Key proposed business tax provisions 33 20% federal corporate income tax rate [currently 35%] Elimination of Alternative Minimum Tax [ AMT ] 100% expensing of depreciable assets other than buildings for at least 5 years Partial limitation of net interest expense Elimination of domestic production deduction [Section 199] Preservation of Research & Development [ R&D ] and Low Income Housing tax credits Territorial taxation for USA-based multinationals Phased in taxation of current unrepatriated foreign earnings Profits of pass-through entities [sole proprietor, partnerships and S-corporations] will be taxed at a 25% rate Special rules to prevent individual income from being recharacterized to fall under this rate Border adjustable tax appears to be dead
Michael R. Whitacre Partner, Tax Services 30+ years in auditing and taxation in public accounting Mike has worked proactively with a variety of businesses including clients in the technology, service and manufacturing/distribution sectors. He has assisted clients with federal, state and international tax issues including mergers and acquisitions, controversy and tax minimization. Mike s areas of specialization include: corporate taxation, cross border taxation, mergers and acquisitions, and taxation of passthrough entities. Formerly Regional Head of Tax North America for a Top 5 international accounting firm. B.S., Accounting, Indiana University Kelley School of business Professional Affiliations: American Institute of Certified Public Accountants Association for Corporate Growth Financial Executives Forum (FEF) Georgia Society of Certified Public Accountants Technology Executives Roundtable [TER] Board of Directors 34
Dr. Jan Wendland Director, Tax Services 9 years in international tax Jan is working as a tax advisor proactively within a variety of businesses including clients in manufacturing, IT technology, real estate and distribution sectors. He advises clients in national and international tax issues including outbound and inbound investments, mergers and acquisitions, and tax compliance. Jan s areas of specialization include: corporate taxation, tax structuring and mergers and acquisitions. Professional Affiliations: Director of PKF Germany Chamber of German certified tax advisors Diploma, Business Administration, University of Eichstätt- Ingolstadt Ph.D. in business taxation, University of Düsseldorf 35
Contact Information Partner, Tax Services Michael R. Whitacre mike.whitacre@frazierdeeter.com 404.253.7512 office 404.210.7116 mobile @whitacremr www.linkedin.com/in/michaelwhitacre Dr. Jan Wendland Jan.Wendland@pkf-fasselt.de +49 69 170000-890 office +49 162 2380729 mobile linkedin.com/in/jan-wendland 36