International Tax Corner: Edition 8

The International Tax Corner: Edition 8

Anti-Deferrals and Foreign Investments

If you’ve stayed awake so far through Edition 7, you know the definition of a US Shareholder under IRC §951(b) – For purposes of this title, the term “United States shareholder” means, with respect to any foreign corporation, a United States person (as defined in section 957(c)) who owns (within the meaning of section 958(a)), or is considered as owning by applying the rules of ownership of section 958(b), 10 percent or more of the total combined voting power of all classes of stock entitled to vote of such foreign corporation, or 10 percent or more of the total value of shares of all classes of stock of such foreign corporation. Essentially, we’re talking about a US person owning at least 10 percent of the vote or value of a foreign corporation.

Let’s keep talking about an individual for discussion purposes. We see many people fall into traps here. For instance, is the individual a US person under IRC §7701(a)(30)? Is the person a citizen or resident of the US? Often the answer is easy, but advisors need to ask the question. Are you a US citizen? If not, do you hold a Green Card? If yes, how much time do you spend in the US, and where else do you spend time? In other words, and going back to Edition 4 and Edition 6, where is the individual resident? Perhaps it’s someone who is not a citizen or a Green Card holder who spends insufficient time in the US to be a US person. We’ve seen mostly well-thought-out analyses on whether a foreign entity is a controlled foreign corporation (“CFC”); however, the advisor may have missed the first step and never accurately determined residency. So, make sure there is familiarity with the residency rules before jumping into a US Shareholder and CFC analysis. Note: We’ve also seen the flip side where we’re asked to do an analysis of a non-US person investing in the US, only to learn later the person is a US resident – ugh!

Edition 7 also discussed when there’s a CFC, including the IRC §957 definition of a CFC as any foreign corporation if more than 50 percent of the total combined voting power of all classes of stock of such corporation entitled to vote, or the total value of the stock of such corporation, is owned by United States shareholders on any day during the taxable year of such foreign corporation.

So that’s pretty easy, right? Slow down… because there are things we see too often to ignore here. One, we sometimes see shoddy detail and minimal documentation. For instance, was that USD 1M sent from Pat’s personal bank account to a foreign company debt or equity? Was the issue ever discussed? Was there planning on the US and foreign side about how dividends versus interest versus anti-deferral income would be treated so Pat knows the effective global tax rate – or putting it more succinctly – does Pat know how much cash will arrive in Pat’s bank account on foreign earnings of 100? Once an intent is clear, did anyone bother to review whether in substance under the laws of both jurisdictions, the financing is debt versus equity?[1] The foreign tax authorities might focus here, generally on the way that generates more revenue for the fisc, often by determining a “debt” instrument is really equity, and therefore denying an interest deduction. The IRS plays in this area too.

[1] At least one country has what we call a purgatory account. For instance, contributions for future capital increases, aportaciones para futuros aumentos de capital. While for foreign purposes this might not directly be debt or equity, for US purposes, it is one or the other.

Another is the constructive ownership rules of IRC §318 as modified for international items by IRC §958(b). If we have the patience to go through all those rules, they might feature in another edition; however, know there’s ownership attribution between certain family members, partnerships and estates and their partners or beneficiaries, trusts and their beneficiaries, and corporations and their owners.

Make sure you have a detailed ownership chart, lots of patience, and perhaps some caffeine before you tackle these sections. Details matter. Cross-ownership of shares is nightmare-ish. That’s where a subsidiary company may own shares of the parent or aunt/uncle company.

More next time.

About Schwartz International

The International Tax Nerds at Schwartz International team with individuals, companies of all sizes, and other accounting and law firms to provide practical international tax planning, structuring, implementation, and compliance advice.

We live and breathe international tax daily, and since we’ve lived in various countries, we understand the diverse cultural challenges you face. We work in four key areas: International Tax Advisory; International Tax Compliance; Cryptocurrency; and Law via our sister company, The Schwartz Law Firm.

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