Posts Tagged ‘government’

This past week, Treasury Secretary Jacob Lew sent a letter to key members of Congress calling for the nation to embrace a “new sense of economic patriotism” and stop supporting corporations that are moving their tax home out of the U.S. to reduce their corporate income tax burdens by taking advantage of an existing loophole in the tax code.

The loophole, known as “corporate inversion,” is a transaction where a U.S. based multinational group acquires a foreign corporation located in a country whose tax rates are lower than in the U.S. These reorganizations have the effect of changing the U.S. corporation’s domicile to a foreign country but typically results in little change to the U.S. operations of the entity. Although operations in the U.S. would continue to be subject to U.S. tax, the foreign operations conducted by the newly formed group would be subject to the lower foreign country tax rates. In addition, the foreign income is not taxed to the U.S. shareholders until dividends are paid. Moreover, the U.S. corporation may engage in earnings stripping transactions where deductible payments to the parent company reduce U.S. taxable income.

These transactions are particularly attractive to pharmaceutical and medical device companies who seem to have more choices of appropriately sized targets overseas and enjoy many benefits of a global presence. Popular destinations seem to be Britain, Ireland and Bermuda for their lower tax rates and other attractive R&D incentives. Transactions involving pharma and medical device companies have spiked in recent years, most notably the recent merger of Medtronic and Covidien, the attempted acquisition by Pfizer of AstraZeneca, and the AbbVie takeover of Shire, the largest inversion deal to date.

Here’s a summary of how the proposed inversion of Pfizer might have worked:
A newly created UK holding company would acquire the shares of both Pfizer and AstraZeneca. In the resulting structure, Pfizer and AstraZeneca would be subsidiaries of the UK parent and the former Pfizer shareholders would own 73% of the UK company and AstraZeneca former shareholders would own 27%. Pfizer hoped to shift profits to the UK, where the tax rate is around 21% as compared to 35% in the US.

For similar types of inversion transactions like the one proposed in the Pfizer deal, the U.S. government has attempted to curb the use of these inversion transactions:

• Where shareholders of the U.S. corporation subsequently acquire over 50% of the new foreign parent corporation, section 367(a) causes a gain on the transfer of U.S. stock to the parent corp.
• Where shareholders of the U.S. corporation subsequently acquire 60% or more, but less than 80% of the new foreign parent corporation, section 7874 prevents the U.S. corporation from using tax attributes, such as NOLs, to offset section the 367(a) inversion gain.
• Where shareholders of the U.S. corporation subsequently acquire 80% or more of the new foreign parent corporation, section 7874 treats the new foreign parent company as a U.S. corporation for tax purposes, effectively removing any real U.S. tax savings from the transaction.

• In triangular reorganizations, section 367(b) and Notice 2014-32 causes a potential taxable dividend as a result of a “deemed” distribution between parent and subsidiary on the acquisition of the target foreign corporation in exchange for parent stock.

Under Pfizer’s proposed new structure, the corporation would not have been considered a U.S. corporation for tax purposes under section 7874 because less than 80% of the foreign parent company would be held by the former U.S. shareholders. The U.S. corporation might have had to pay tax under the other anti-abuse regulations of section 7874 and section 367, however it planned to save over $1 billion in tax due to the tax rate differential alone, according to some reports. In other inversion transactions, some corporations were able to avoid the imposition of section 367(a) inversion gain by manipulating certain aspects of section 367(b)(“Killer B reorganization” rules), in order to make the transaction nearly tax free. Much tax planning goes into achieving these various tax savings from moving overseas and the transactions can get very complicated.

The letter from Secretary Lew calls for a lowering of the U.S. corporate income tax rate, among the highest in the world. At the very least, he asks Congress to pass laws to prevent or deter companies from using these inversion strategies, including retroactive laws to prevent tax savings on restructuring deals already agreed to, such as the recent Shire takeover. Despite bipartisan disagreement on how to address the tax loophole, tax reform in this area is likely to occur in some form. However, many tax practitioners and financial experts believe that these transactions will continue to be used at an increased pace until real reform occurs to lower U.S. corporate tax rates. In the meantime, patriotism aside, corporate management will maintain its allegiance to its shareholders and continue to strive to improve the corporate bottom line in the ever increasing global economy.

Author: Susan San Filippo

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A mere three days after the Senate failed to advance the Democratic-sponsored Buffett Rule, the House is set to gather today and vote on a Republican proposal that would grant a tax deduction equal to 20% of taxable income for every business with less than 500 employees.

Billed as a “small business” tax break by its creator, Republican House majority leader Eric Cantor, the proposal came under intense criticism after an independent analysis by the Tax Policy Center revealed that 49% of the benefits of the plan would be reaped by businesses earning over $1,000,000 per year. This is a rather logical result, considering 99.7% of the nation’s businesses have fewer than 500 employees, but the bill has moved forward nonetheless.  

Some specifics about the bill:

  •  The deduction would be added to the Code as I.R.C. § 200, a nod to the domestic production activities deduction of I.R.C. § 199 — the provision the new law would be most closely tied to in terms of computation.  
  • The 20% deduction would be equal to 20% of the lesser of:

(1) qualified domestic business income (domestic business gross receipts less cost of goods sold allocable to such receipts, less other expenses, losses or deductions allocable to such receipts); or

(2) taxable income (without regard to the new deduction) for the tax year.

  • The deduction can’t exceed 50% of the greater of 1) W-2 wages paid to non-owners of the business; or 2) W-2 wages paid to non-owner family members of direct owners, plus W-2 wages paid to 10%-or-less direct owners (all using the constructive ownership rules of I.R.C. § 267). This provision has drawn considerable heat, as it precludes sole-proprietorships and wholly-owned businesses with no outside employees from taking the deduction.
  • Certain partners’ distributive shares of partnership items can be treated as W-2 wages.

Of course, when Republicans control the House but Democrats control the Senate and White House, tax votes are of little consequence, and this one appears no different. As a preemptive “FU” to Republicans,  President Obama has already vowed to veto the bill should it make its way to his desk. Publicly, the President has echoed the concerns of other Democrats that the proposal is an ineffective way to spur the economy and favors too many “large”  businesses, but I’ve got to think there’s an element of payback involved for the manner in which his beloved Buffett rule was unceremoniously dumped by Republicans in the Senate.

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The U.S. government announced today the formation of an “IRS SWAT Team,” perhaps the least intimidating name for a collection of presumably tough guys since my 2009 fantasy football team was christened “The Fightin’ Amish.”

The SWAT team — comprised primarily of former Big 4 auditors and attorneys — will be charged with cracking down on “transfer pricing” — companies that shift overseas profits from country to country in search of favorable tax rates.

Reuters has more…

Transfer pricing is a booming field of global tax law. It involves multinational corporations that are constantly moving goods, services and assets from one subsidiary to another in different countries and how they account for these “transfers.”

By carefully manipulating the pricing of such moves, companies can effectively shift profits to low-tax countries from high-tax ones, lowering their overall tax costs.

Governments in the developing and developed world, many of them faced with crushing deficits, are working to curb transfer pricing because it reduces corporate tax revenues.

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