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U.S. tax reform international implications

INSIGHT ARTICLE  | 

Ramon Camacho and Ayana  Martinez answered the following questions for BEPS Global Currents on May 25, 2018 regarding the U.S. Tax Cuts and Jobs Act (TCJA) and the OECD’s BEPS project:

In general, how are your clients responding to the TCJA?

Camacho and Martinez:    Our clients initially focused on items that affect their 2017 tax returns, such as the Section 965 transition tax. Going forward, our clients that have flow-through entities will evaluate their tax structures, taking into consideration reduced U.S. corporate tax rates.

The TCJA provides an opportunity to review current tax structures, and model out new structures, especially for clients that have quarterly reporting requirements. There are also estate planning considerations involved for individuals in partnerships. This high-level modeling and analysis may take place ahead of potential TCJA guidance from the IRS.

Our clients are also considering the potential impact that global intangible low-taxed income (GILTI) will have on their financial reporting requirements.

Are your clients considering “checking the box” as a result of the TCJA?

Camacho:    Not a universal answer, as each client situation is unique. We are modeling out different scenarios, while considering relevant tax and legal implications.

Some clients are considering injecting a C-Corp above their CFCs, where they currently have a flow-through structure (e.g., partnership), to take advantage of the new 100 percent dividends-received deduction (DRD), Section 250 deduction for GILTI inclusions and the 21 percent corporate tax rate.

How are you generally calculating the cost of goods sold (COGS) under BEAT?

Martinez:    Not a lot of flexibility in the COGS definition. Some of our large clients believe that they may not meet the base erosion and anti-abuse tax (BEAT) threshold. Only one out of about 10 client calls we receive relates to this exception. Instead, most clients are focused on changing their transactional flows to comply with the BEAT rules.

Do you have clients with foreign intellectual property (IP) that are considering moving this IP to the U.S.?

Martinez:    Some clients with IP offshore must keep it offshore due to foreign regulatory requirements. Clients transferring IP should consider exit taxes that would be imposed by foreign tax authorities. We are working with our foreign offices to determine whether clients could be subject to this tax.

There is a GILTI impact here as well, so it’s a very factual issue for us to evaluate. GILTI can make the question of where to place IP somewhat moot.

Onshoring IP to the U.S. can be expensive, so it is not a simple process. The GILTI rules may cause clients to keep IP offshore, depending on the foreign tax rate. Middle-market clients are not as willing to move their IP around. We see more planning opportunities for clients that have a blank piece of paper transaction wise. Clients are reluctant to incur costs (e.g., lawyer’s fees) from moving IP, unless there is a substantial tax savings.

Which BEPS action items will have the most impact on your clients following U.S. tax reform?

Camacho:    The OECD BEPS recommendations are not binding. The bigger question is how the World Trade Organization (WTO) will categorize foreign-derived intangible income (FDII) (e.g., prohibitive subsidy).

Also, the IRS intends to share country-by-country (CbC) reporting data with individual U.S. states, leading to potential state audits down the road. CbC report information will likely be public within the next 20 years. Blockchain technology will allow tax authorities to view corporate information in real time in the future.

Some of the BEPS action items relevant for our clients include the potential expansion of permanent establishment (PE) rules under Action 7. Most TCJA rules are consistent with the BEPS recommendations (i.e., neutralizing hybrid mismatches, anti-deferral of CFC income, and the interest expense limitation).

What are some of the challenges you see with clients in complying with the Section 965 transition tax?

Martinez:    Documentation is a challenge, as clients may not have adequate records, including around their tax pools. Gathering E&P information is another challenge, especially when trying to determine how many years to go back for Section 965 inclusion purposes. Current Section 965 IRS guidance will impact the timing of filing U.S. tax returns.

A big issue we see is how to calculate the net investment income tax (NIIT), which is an additional tax on individuals, imposed by Section 1411. The NIIT applies at a rate of 3.8 percent to certain net investment income of individuals, estates, and trusts that have income above statutory threshold amounts. A partnership subject to the Section 965 inclusion may also be subject to the NIIT. One question that arises is the deduction allowed under Section 965(c) also applies to compute the NIIT tax base (U.S. shareholder of a CFC can deduct an amount for the taxable year, in which an amount is included in its gross income under Section 965, sufficient to achieve a net rate of 15.5 percent for cash and cash equivalents and 8 percent for other amounts of deferred offshore income).

What issues are you seeing with the new FTC baskets?

Camacho:    Tax credits that were sitting in the general FTC basket may now fall into the foreign branch basket, where there generally is no allocated income. As a result, taxpayer credits may expire. U.S. financial statements must reflect the changes of credits, whether written off or valued down, until the IRS issues additional guidance. We see issues where client have credits in their general basket but income now is going in the branch basket.  However, the credits in the general basket might not get utilized and clients may have to write them off, or set up a valuation allowance. There is no current IRS guidance on the issue, but we expect Treasury to issue transition rules at some point. Clients may not be aware of the changes to FTC basket rules under the TCJA.

This  interview originally appeared on Tax & Accounting Blog. Reprinted with permission from Thomson Reuters.

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