FROM PRINCIPLES TO PLANNING Effective Tax Rate Planning FROM PRINCIPLES TO PLANNING

FROM PRINCIPLES TO PLANNING

Effective Tax Rate PlanningFROM PRINCIPLES TO PLANNING

Effective Tax Rate Planning

Roy Deaver, Moss Adams LLPWill James, BKD LLPTim Bloos, MNP LLP

Holding Company Structures:Managing Worldwide Effective Tax Rates

Tim Bloos, MNP LLP

Effective Tax Rate Planning: Holding Company Structures

Fundamental Elements: Strategic Global Tax Plan• Tax Attributes• Organizational Structure• Earning Objectives• Finance Management

• Considerable overlaps and interdependencies • Companies should adopt coordinated approach to developing,

implementing and monitoring a comprehensive global tax strategy

Managing a Company’s Structural Tax Rate


TAX ATTRIBUTES:• U.S. & Foreign Tax Attributes• Treaty Planning• In-Country PlanningORGANIZATION STRUCTURE:• Legal Entity Structure• Business Operations • Supply Chain• Personnel Organization• Acquisition Planning• MonitoringEARNINGS OBJECTIVES:• Profit Alignment• Tax Base Management• Transfer PricingFINANCE MANAGEMENT:• Treasury & Cash Needs• Debt Financing (Intracompany & Third Party)

Tax Attributes

Finance

Earnings

OrganizationSTRATEGIC

GLOBAL TAXMANAGEMENT

Business & Supply Chain

Planning

IP & Royalty Planning

Transfer Pricing

Planning

Tax Efficient Financing

Holding Companies

CFC Planning

Legal Entity Rationalization

Foreign Currency Exchange

Treasury Management

Deferral Positions

E&P/Loss Planning

Foreign Tax Credits

Cash Redeployment

Mergers, Acquisitions & Restructurings

Techniques• Various techniques can be used as part of a Strategic Global Tax

Management Plan, including:• Entity Classification (Check-the-Box) Planning• Withholding Tax Management• Tax Efficient Financing & Licensing• Local Tax Management

• Ultimate goal • Integrated structure to meet objectives of the business while

minimizing global effective tax rate


U.S Parent

DESubsidiaries

CFCSubsidiaries

International Operations

Structure Without Strategic Global Tax Management Plan

US Operations


U.S. Parent

Entrepreneur /Principal Co

DESubsidiaries

Tax FavoredFinance Co

Tax FavoredSub-Hold Co

Tax FavoredGlobal Hold Co

Subsidiaries

Holding Companies

Financing Companies

IP Companies & Entrepreneurs

International Operations

Structure with Strategic Global Tax Management Plan

US Operations


Deferral vs. Flow-Through Structures• The “check-the-box” regulations generally provide that a wide range of entities, including

foreign entities such as a foreign limited liability company, are entitled to elect their classification for U.S. federal tax purposes

• Elections may be made to treat an eligible entity as a corporation, as a disregarded entity (if it has a single owner), or as a partnership (if it has more than one owner) for U.S. federal income tax purposes

• Under Treas. Reg. § 301.7701-2, certain entities are considered “per se” corporations and a check-the-box election cannot be made to treat a per se corporation as a partnership or disregarded entity• If an entity elects to be treated as a corporation, its income will be deferred for U.S. income

tax purposes until repatriation and should not be currently includible in the shareholder's U.S. taxable income, subject to certain anti-deferral rules (e.g., Subpart F)

• If an entity elects to be treated as a disregarded entity or a partnership, its income will not be deferred and should be currently includible in the owner’s U.S. taxable income

Entity Classification (Check-the-Box) Planning


Entity Classification (Check-the-Box) Planning (cont’d)Foreign Tax Credit Considerations• Entity elects to be treated as a corporation. • Foreign tax credits are generally available to corporate shareholders (but not individual

or flow-through owners) to offset U.S. tax when income is repatriated or deemed repatriated.

• Income of all flow-through subsidiaries are “pooled” at the level of the first regarded CFC, thus creating blended E&P and foreign tax pools for purposes of U.S. foreign tax credits.

• Choosing between corporate and flow-through status for foreign subs can therefore provide the opportunity to manage E&P and tax pools so that U.S. corporate shareholders may be able to avoid excess credit/excess limitation positions

• If an entity elects to be treated as a disregarded entity or a partnership, foreign tax credits should be available to owners to offset U.S. tax paid on foreign source income

• Ability to take foreign tax credits to offset U.S. tax is subject to the foreign tax credit limitation calculation


U.S. Parent

DESubsidiaries

DESubsidiaries




CFCSubsidiaries

Tax Attribute Management• Foreign tax credit optimization• E&P optimization basis planning

Organization Structure• Achieve tax efficiency without undesirable

structuring implications

Earnings Objectives• U.S. federal tax minimization through deferral and

use of low tax holding and finance companies• Generate earnings in desired jurisdictions without

creating U.S. tax impact

Finance Management• Manage Deferral Positions (APB 23)• Efficient Offshore Cash Management• Efficient Repatriation of Offshore Cash

Entity Classification (Check-the-Box) Planning (cont’d)


U.S. Parent

Interest

Royalties

Entrepreneur/Principal Co

CFC/DESubsidiaries




Dividends

Loan

Tax Attributes• Local country tax minimization including treaty

planning to manage withholding on dividends• Foreign tax credit planningOrganization Structure• Manage payment flows without impacting legal

entity structureEarnings Objectives• Intangible property & transfer pricing planning to

avoid withholding on royalty payments• Tax efficient internal debt avoids withholding on

interest paymentsFinance Management• Efficient offshore cash management• Efficient repatriation of offshore cash

Tax Efficient Intercompany Payment Flows (Withholding)


Tax Efficient Financing, Licensing & Local Tax ManagementHolding Activities• Dividends and capital gains from foreign participations exempt from tax in holding company jurisdictions under

participation exemption conditionsIntra-Group Financing Activities• Interest income taxed at very low rates and/or ability to do back-to-back financing through a financing company

to fund foreign subsidiaries (income taxable on small spread only, so very low ETR even if higher nominal tax rate)

• Debt pushdown creates interest deductions in jurisdiction of debtor (high tax) with interest income pick-up at jurisdiction of lender (low tax)

• Hybrid instrument planning may allow interest deduction in jurisdiction of debtor (high tax) with no corresponding interest income pick-up in jurisdiction of lender as instrument is considered capital investment

Licensing and Intra-Group Royalties• Royalty income taxed at very low rates and/or ability to do back-to-back licensing through an IP company to

license IP to foreign subsidiaries (income taxable on small spread only, so very low ETR even if higher nominal tax rate)

• Incentives and tax holidays to reduce local country tax rates• No exit cost or recapture of amortization, allowing for permanent tax savings


U.S. Parent

Entrepreneur/Principal Co

CFC/DESubsidiaries




LoanLicense

Loan LoanSub-License

DividendsInterest

DividendsInterest

Royalties

Tax Attributes• Local country tax minimization through low

tax holding, financing & IP companyOrganization Structure• Entrepreneur structure and supply chain

management to manage tax base in line with business needs and desired legal entity structure

Earnings Objectives• Intangible property & transfer pricing

Planning to manage tax baseTreasury Management• Tax Efficient Internal Debt• Efficient Offshore Cash Management

Tax Efficient Financing, Licensing & Local Tax Management (cont’d)


Selection of Holding Company Jurisdiction• Business needs

• Treaty network

• Quality of Advisors, service providers

• Banking and other treasury infrastructure

• Regulatory regime – capitalizing/unwinding structure

• Cost of doing business


Attributes of Ideal Holding Company Jurisdiction• Standing in the international business community• Politically and economically stable• “Tried and Tested” as a holding company location• Efficient from a tax, treasury and corporate law perspective• Availability of desirable “eligible entity” for check-the-box planning• Attractive in terms of low establishment and operating costs:

• Minimal or manageable substance requirements• Minimal or manageable accounting / reporting requirements• Availability of well qualified and trained workforce at competitive salaries


Business Functions that can be migrated to a lower tax jurisdiction• Holding of investments• Financing / granting loans• Treasury / cash management:

• Cash pooling / netting• Centralizing group-wide currency risks, etc.

• Re-invoicing• Exploitation of intangibles• Insurance, re-insurance, captive insurance• Factoring• Leasing


• Europe• Luxembourg • Netherlands• Ireland• Switzerland• UK• Spain• Cyprus• Portugal (Madeira)

• Other• Singapore• Hong Kong• Mauritius• Malaysia (Labuan)• UAE• Barbados

Possible Jurisdictions


Use of Transfer Pricing Planning to Manage Worldwide Effective Tax Rate

Will James, BKD LLP

Intangible Property (IP) and Supply Chain StructuresIP Licensing

Cost sharing

Supply chain structures

Effective Tax Rate Planning: Transfer Pricing

Intangible property transfer - exampleTransfer of technology intangibles

Know-howPatentsProcessesFormulationsCopyrights, etc.

Transfer of marketing intangibles• Trademarks• Trade names• Brand names• Reputation• Customer relationships• Customer lists• Sales force, etc.

Payment of royalty (transfer price)

License of technology

XYZ U.S. (Research &

Development Co.)

XYZ Low Tax (Manufacturing Co.)

Third Parties

Market price for sale of goods


Intangible Property Transfers (cont’d)Transfer IP through licensing arrangement or outright sale of the IP:

• IP can be licensed to an entity in a low tax jurisdiction – who either exploits the IP itself or then sublicenses it

Licensor receives a royalty payments (generally a percentage of sales of the licensee)

• It is also possible to sell the IP for a lump sum payment

Once the IP has been transferred, the new owner is free to exploit the IP

The IP has to be valued using transfer pricing valuation techniques


Intangible Property Transfers (cont’d)• Benefits• Excess profits after royalty payments would be subject to deferral• As foreign sales increase – benefit will also increase accordingly• Relatively simple to administer• The licensing of the IP can help avoid Subpart F

• Potential Issues• An outright sale requires a valuation which would be heavily scrutinized by the

IRS• Might not generate significant savings in the case of a licensing arrangement


3. License under a Royalty Arrangement

3. Sublicense under a Royalty Arrangement

U.S. Parent

Entrepreneur /Principal Co




1. Purchases (Buys-in) Rights to Current Intangibles

2. Shares all Future IP Development Costs under Cost Sharing Arrangement


Cost Sharing

Cost Sharing (cont’d)A NEW ENTITY (Tax Favored Sub-HoldCo), in a low tax jurisdiction, and U.S. Parent would enter into a qualified cost sharing agreement:

• Tax Favored Sub-HoldCo “buys-in” to existing intangibles owned by U.S. Parent giving Tax Favored Sub-HoldCo legal and economic rights to use the intangibles in a pre-defined territory

• U.S. Parent and Tax Favored Sub-HoldCo share future development costs, based on expected future benefit, and have legal and economic rights to use the developed intangibles in pre-defined territories

• Tax Favored Sub-HoldCo then licenses the intangibles to Tax Favored FinanceCo• Tax Favored FinanceCo then sublicenses the intangibles to Entrepreneur/Principal Co.

Possible jurisdictions for Entrepreneur/Principal Co. include Singapore, Ireland or Switzerland


Cost Sharing (cont’d)• Benefits• All profits on non-U.S. sales would be subject to deferral• As foreign sales increase – benefit will also increase accordingly

• Potential Issues• Buy-in would result in significant income to U.S. Parent• Buy-in subject to challenge by IRS as it is a Tier 1 issue• Final and temporary cost sharing regulations are onerous and are designed to

reduce the desirability of cost sharing• Requires significant business change and substance


Contract Manufacturer

ContractManufacturer

Low RiskDistributor

CountryDistributor

3. Sublicense under a Royalty Arrangement

1. Manufacturing Services

2. Distribution Activities

4. Distribution Activities

3. Toll Manufacturer

Country HoldCoEntrepreneur/PrincipalCo

Country HoldCo

Entrepreneur/Principal Structure


Entrepreneur/Principal Structure (cont’d)Entrepreneur/principal is located in a low tax jurisdiction

• Possibilities include Ireland, Singapore or Switzerland

• Can obtain advance rulings in certain countries

Distributors & manufacturers are set-up as low risk entities

• Distributors can be limited risk distributors or commissionaires

• Manufacturers can be contract or toll manufacturers


Entrepreneur / Principal Structure (cont’d)Entrepreneur/principal pays distribution and manufacturing fees to distribution and manufacturing entities, respectively

• Limited risk distributors can receive low operating margin/commissionaires can receive a cost plus

• Contract and toll manufacturers receive a mark-up on their total costs

• Residual profits accrue in entrepreneur/principal after paying low-level fees to distribution and manufacturing entities

Entrepreneur/Principal needs to obtain the rights to the intangible property (IP)

• Enters into a sub-licensing arrangement with Tax Favored Finance Co

• Otherwise it cannot grant royalty-free rights to the manufacturers in order to produce goods on its behalf


Entrepreneur/Principal Structure (cont’d)There needs to be substance in the entrepreneur/principal• Can’t be a “sham” or brass name plate company as it needs to be seen

as performing valuable functions• Significant decisions need to be made by the entrepreneur/principal


Entrepreneur/Principal Structure (cont’d)Benefits

• Defers income in principal/entrepreneur & reduces overall effective tax rate• Can have operational efficiencies• Can eliminate subpart F income

Potential issues• Disposal of goodwill in existing entities• Need for substance• Increase in import price & increase customs duty incurred by distribution entities• VAT can be impacted with commissionaire structures• Entrepreneur/principal can be views has having a permanent establishment in other

countries


Other Planning: Managing Worldwide Effective Tax Rates

Roy Deaver, Moss Adams LLP

Foreign Tax Credit Planning

DPAD – Section 199

R&E Credit – Section 41

Other

Effective Tax Rate Planning: Other

Foreign Tax Credit Issues• Income Sourcing Rules

• Deduction Sourcing Rules

• Creditable Foreign Income Taxes


• Foreign tax credit limitation (§904):

U.S. tax on Foreign-source taxable incomeworldwide X ------------------------------------------income Worldwide taxable income

• Foreign-source taxable income = FS gross income – deductions allocated to FSI

• FTC limitation is increased by increasing foreign-source taxable income• Increase FS gross income and/or• Decrease deductions allocated to FSI


Source of Income

50% based on place of manufacturing

50% based on title passing

Focus on whether manufacturing is done outside of the U.S.

Check the passage of title outside the U.S. which may involve bearing the shipping costs (but these costs can be added to the sale price)

Sales outside the U.S.

U.S. Manufacturer

Manufacturing in the U.S.

FORCO

Foreign Source Income - §863 (b)


Other FSI planning opportunities Income

• Flash title on Foreign Manufactured goods• Factoring of CFC receivables• Advanced payments• Sale of Purchased inventory• Guarantee fees

Deductions• Interest Expense

Alternative tax book value methodFair market value method

• R&D ExpenseSalesGross Income

Foreign Source Income


High low foreign tax operations

Foreign subsidiaries may be in low-tax countries that offer e.g. special tax incentives to MNCs

Or they may be in countries that have a high tax rate

By repatriating a mix of earnings from high and low tax foreign operations, the FTC system allows low-rated manufacturing profits to be averaged with higher taxed profits

U.S.

Low- Taxed

High-Taxed

Low-Taxed

Dividends

High Low Tax Countries and FTC


Preventing Splitting Foreign Tax Credits From Related Foreign IncomeSection 909Under the matching rule, if a “foreign tax credit splitting event” occurs:

• The taxpayer may not take into account the split-off foreign income taxes for U.S. tax purposes until the taxable year in which the taxpayer takes into account the related foreign income for U.S. tax purposes

• With respect to foreign income taxes paid or accrued by a foreign corporation for which a U.S. corporate shareholder is eligible for a section 902 credit, the split-off foreign taxes may not be taken into account for purposes of sections 902, 960 or 964(a) until the taxable year in which such foreign corporation or such U.S. corporate shareholder takes into account the related foreign income for U.S. tax purposes


Guardian Industries Corp. v. U.S., 477 F.3d 1368 (Fed. Cir. 2007).

• Member of Guardian Industries Corp.’s U.S. consolidated group

100%U.S.

Luxembourg Guardian Industries Europe S.a.r.l. (“GIE”) (Luxembourg)

• Disregarded entity for U.S. tax purposes• Corporation for Luxembourg tax purposes

• Lux Subs 1-4 are corporations for both U.S. and Luxembourg tax purposes.

GIE

Lux Sub 1 Lux Sub 2 Lux Sub 3 Lux Sub 4

Interguard HoldingCorp. (U.S)

Example of Splitting Arrangement


Guardian Industries (cont’d)For 2001, GIE filed a consolidated Luxembourg tax return on behalf of itself and

Lux Subs 1-4

GIE paid Luxembourg income taxes on its income and on the income of Lux subs 1-4

Lux Subs 1-4 did not dividend their 2001 income to GIE

The Guardian Industries U.S. consolidated group claimed section 901 credit on its 2001 Form 1120 for Luxembourg income taxes GIE paid on the income of Lux Subs 1-4, even though such income was not included on the 2001 Form 1120 for the Guardian Industries U.S. consolidated group

Federal Circuit held:

• Under Luxembourg tax law, GIE was the person liable for the Luxembourg income tax on the income of Lux Subs 1-4 (no joint and several liability, either)

• The technical taxpayer rule of Teas. Reg. §1.901-2(f)(1) looks at which entity bears the imposition of the foreign income tax, not which entity earned the foreign income

• The Guardian Industries U.S. consolidated group was entitled to the section 901 credit


Domestic Production Activity DeductionSection 199 allows a deduction equal to a percentage of the qualified production activities income (QPAI) (or taxable income if less)

Section 199 reduces the effective rate of U.S. tax on U.S. manufacturing income by allowing this deduction that is equal to 9% of QPAI for taxable years starting in 2010 and thereafter

Section 199(b)(1) limits the amount of the deduction to 50 percent of the taxapayer’s W-2 wages for the taxable year


R & E

An expenditure for research and development activities in the experimental or laboratory sense, and not for literary, historical, or similar research projects. Treas. Reg. § 1.174-2(a)(1) ; Rev. Rul. 80-245, 1980-2 CB 72

The regulations expressly include costs incident to the development of an experimental or pilot model, a plant process, a product, a formula, an invention, or similar property, and the improvement of already existing property

It excludes the cost of testing products or materials for quality control, efficiency surveys, management studies, consumer surveys, advertising, or promotional activities. Treas. Reg. § 1.174-2(a)(1)

The R&E credit is a non-refundable credit

The R&E credit was recently extended for QRE paid through 12/31/13


IC- DISCFlowchart Explanation 1. The export company operates as normal, generating revenue from export sales

2. The export company may then elect to pay the IC-DISC a commission based on a qualified calculation method, as defined under the Internal Revenue Code and Treasury Regulations promulgated there under. These commissions are deductible to the export company and not subject to regular U.S. corporate income taxes for the IC-DISC under IRC §991 of the Internal Revenue Code

3. The IC-DISC then pays the export company’s shareholders in the form of qualified dividends which is subject to 20 percent tax, under current law (this does not include the state tax or any applicable medicare surcharge)

2.$$ Commissions $$

3.$$ Dividends $$

Customers

1.$$ Revenue $$$$ Export Sales $$

IC-DISCExportCompany

“Shareholders”


Other ETR opportunitiesSALT planning

Attribute refresher transactions

• e.g., sale-leaseback transactions

• Section 59(e) elections


To ensure compliance with requirements imposed by the IRS, we inform you that any U.S. federal tax advice 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 penalties under the Internal Revenue Code or (ii) promoting, marketing, or recommending to another party any transaction or matter addressed herein.

IRS Circular 230 Disclosure

Questions?

Contact Information

Roy Deaver, MossAdams [email protected]

Will James, BKD [email protected]

Tim Bloos, MNP [email protected]

mailto:[email protected]



Documents

FROM PRINCIPLES TO PLANNING Effective Tax Rate Planning FROM PRINCIPLES TO PLANNING