The Ten Commandments of The Ten Commandments of International Tax ManagementInternational Tax Management

International Tax ManagementInternational Tax Management

International tax management

Cost allocation Transfer pricing Import tariffs Repatriation of profits

First CommandmentFirst Commandment

Where you have excess tax credits, report Where you have excess tax credits, report branch profits in the lowest-tax jurisdiction by branch profits in the lowest-tax jurisdiction by

allocating costs to highest tax-jurisdiction. allocating costs to highest tax-jurisdiction. Elsewhere, cost allocation does not matter Elsewhere, cost allocation does not matter

(from the standpoint of tax payments).(from the standpoint of tax payments).

Second Second CommandmentCommandment

Where one branch sells to another, set the Where one branch sells to another, set the transfer price as high as possible when transfer price as high as possible when ππ*>*>ππ, , without making profits negative, and as low as without making profits negative, and as low as possible when possible when ππ*<*<ππ without making profits without making profits negative. negative.

ππ is the tax rate on profits earned by the first branch is the tax rate on profits earned by the first branch

ππ* is the tax rate on profits earned by foreign branch.* is the tax rate on profits earned by foreign branch.

Third Third CommandmentCommandment

3a.3a. In the absence of excess tax credits, use low transfer In the absence of excess tax credits, use low transfer prices to minimize tariffs. If you have excess tax credits, prices to minimize tariffs. If you have excess tax credits, minimize the sum of taxes and tariffs by comparing minimize the sum of taxes and tariffs by comparing π* to [π π* to [π + π*+ π*dd ( 1-π*)] ( 1-π*)]

3b. Use a high transfer price if π*>[π +π*3b. Use a high transfer price if π*>[π +π*d d (1-π*)], so long (1-π*)], so long as profits are positive, and a low transfer price if π*<[π+ as profits are positive, and a low transfer price if π*<[π+ π*π*d d (1-π*)].(1-π*)].

π-income tax rate in exporting countryπ-income tax rate in exporting countryπ*-income tax rate in importing country (foreign tax paid on marginal profits π*-income tax rate in importing country (foreign tax paid on marginal profits

booked in the importing country)booked in the importing country)π+ π*π+ π*d d (1-π*)]- total tax bill associated with marginal profits booked in the (1-π*)]- total tax bill associated with marginal profits booked in the

exporting country)exporting country)

π*π*d- d- Import duty in the importing countryImport duty in the importing country

Fourth CommandmentFourth Commandment

If you don’t plan to If you don’t plan to repatriate profits, repatriate profits, profitable operations profitable operations should be subsidiaries. should be subsidiaries. Loss making foreign Loss making foreign operations should operations should always be branches so always be branches so long as loses can be long as loses can be used to offset profits used to offset profits elsewhere.elsewhere.

Fifth CommandmentFifth Commandment

Where profits aren’t repatriated they should Where profits aren’t repatriated they should be reported in the lowest-tax jurisdiction by be reported in the lowest-tax jurisdiction by allocating cost to the highest-tax jurisdiction allocating cost to the highest-tax jurisdiction or by setting transfer price as high as or by setting transfer price as high as possible when possible when π* > π, and as low as π* > π, and as low as possible when π*< πpossible when π*< π, so long as profits are , so long as profits are positive. positive. ππ is the tax rate on profits earned by the first subsidiary is the tax rate on profits earned by the first subsidiary

ππ* is the tax rate on profits earned by foreign subsidiary* is the tax rate on profits earned by foreign subsidiary

Sixth CommandmentSixth Commandment

If there is no repatriation, report subsidiary If there is no repatriation, report subsidiary profits in the lowest-tax jurisdictions by profits in the lowest-tax jurisdictions by setting transfer prices as high as possible setting transfer prices as high as possible when when π* > π, and as low as possible when π* > π, and as low as possible when π*< π, without making profits negative.π*< π, without making profits negative.ππ is the tax rate on profits earned by the first subsidiary is the tax rate on profits earned by the first subsidiary

ππ* is the tax rate on profits earned by foreign subsidiary* is the tax rate on profits earned by foreign subsidiary

Seventh CommandmentSeventh Commandment

If there is no repatriation of profits, minimize If there is no repatriation of profits, minimize total subsidiary taxes paid in the presence of total subsidiary taxes paid in the presence of import tariffs by comparing import tariffs by comparing π* to π + ππ* to π + πdd**(1-(1-

π*) by using a high transfer price if π* > π π*) by using a high transfer price if π* > π +π+πdd**(1-(1-π*) and a low transfer price if π* < π π*) and a low transfer price if π* < π + π+ πdd**(1-(1-π*), without making profits negative.π*), without making profits negative.

Eighth CommandmentEighth Commandment

Repatriate profits Repatriate profits from branches before from branches before repatriating profits repatriating profits from subsidiaries from subsidiaries (there is no tax payoff (there is no tax payoff to holding profits from to holding profits from branches abroad.branches abroad.

Ninth CommandmentNinth Commandment

If profits are fully repatriated and there are If profits are fully repatriated and there are no excess tax credits, it generally doesn’t no excess tax credits, it generally doesn’t matter whether foreign operations are matter whether foreign operations are branches or subsidiaries. branches or subsidiaries.

Where there are excess tax credits, foreign Where there are excess tax credits, foreign operations should be set up as branches to operations should be set up as branches to avoid withholding taxes on profit avoid withholding taxes on profit repatriation, or if unprofitable, to receive repatriation, or if unprofitable, to receive immediate tax benefits. immediate tax benefits.

Tenth CommandmentTenth Commandment

With partial repatriation, subsidiaries should With partial repatriation, subsidiaries should pay dividends where the sum of the pay dividends where the sum of the withholding tax and additional tax liability to withholding tax and additional tax liability to the U.S. government is lowest. In other the U.S. government is lowest. In other words, minimize excess tax credits.words, minimize excess tax credits.

Intertemporal ConsiderationsIntertemporal Considerations

One-year investment horizon-focus on One-year investment horizon-focus on before-tax rates of return before-tax rates of return

Longer investment horizon- after-local-tax Longer investment horizon- after-local-tax rates of return are relevantrates of return are relevant

Summary of Branch Tax Summary of Branch Tax Management CommandmentsManagement Commandments

DecisionDecision Firm Doesn’t Have Firm Doesn’t Have Excess Tax CreditsExcess Tax Credits

Firm Has Excess Firm Has Excess Tax CreditsTax Credits

Cost allocationCost allocation Does not matterDoes not matter Allocate cost to Allocate cost to

high-tax countrieshigh-tax countries

Transfer PricingTransfer Pricing Does not matterDoes not matter Show profits in low-Show profits in low-tax countriestax countries

Transfer Pricing Transfer Pricing with Tariffwith Tariff

Low transfer priceLow transfer price Minimize total Minimize total taxes taxes