u.s. & cross-border tax breakfast · • 2012: $1.1 trillion • 2013: $700 million to $950...
TRANSCRIPT
U.S. & Cross-Border Tax Breakfast
May 26, 2011
1
Introduction
• Larry Vicic • Welcome
• Eddie Goldsberry • Current U.S. Tax Developments
• Elaine Reynolds • U.S. Vacation Property
• Rafael Carsalade & Bill Macaulay • Canadian Business Expansion into the U.S.
• John Forrest • Doing Business in Washington State
2
Tax Update: Things You Need to Know About Doing Business in the U.S.
Edward N. Goldsberry
3
It’s the Debt/Deficit, Stupid!
• Debt just hit $14.294 trillion – the “debt ceiling”. No more borrowing until it is raised.
• Federal government runs out of money on August 2.
• U.S. current and expected budget deficits: • 2010: $1.3 trillion
• 2011: $1.4 trillion (projected)
• 2012: $1.1 trillion
• 2013: $700 million to $950 million, depending
• Entitlements expected to increase as population ages.
• Latest CBO estimates show likely $7.2 trillion deficit over next 10 years without major changes.
4
Changed Political Landscape
• Republicans now have the majority in the House, and Democrats no longer have 60 vote majority in the Senate.
• Obama still has veto power, and Republicans cannot override his veto.
• Republicans are split between Tea Party conservatives and moderates.
• Two immediate results - the last-minute, Lame Duck compromise that extended the Bush tax cuts, and repaired several other broken tax provisions, and repeal of expanded Form 1099 reporting.
• Republicans also captured majorities in most state legislatures. Huge implications for Congressional “redistricting”.
• Example – Texas will get 4 new House seats allocated to it in 2012, and the Republications largely control who will get them.
5
Busy Summer Ahead
• Democrats want more taxes to cut deficit.
• Moderate Republicans want to cut spending moderately and to make a deal.
• Tea Party Republicans want to really cut spending, including entitlements and are adamantly against tax increases.
• Deal has to be made by August 2nd or risk either shutting down the government or possibly more loss of investor confidence in U.S. debt – or both.
• Stalemate possible, but not likely. Almost certain that the U.S. will not run risk of debt default.
• The good side of stalemate – less uncertainty.
6
Tax Legislation Crystal Ball
• Lots of talk about major reform. Not likely to happen soon.
• Pace of legislation will be much slower than in first two years of Obama administration.
• Raising tax rates on the “rich” off the table until 2012.
• Near-term raising of taxes on the Big 5 oil companies is a real possibility. Much more politically palatable than earlier proposals that would have devastated smaller companies and domestic drilling.
• Possible repeal of the estate tax.
• Probably not much of a precedent on the state level, but Michigan just repealed much of their draconian and anti-business tax system.
7
International Tax Policy Climate
• Very active and not particularly pro-business Administration (and Congress through end of 2010).
• Offshore tax abuses estimated to cost U.S. government as much as $100 billion per year. May not be too far off.
• IRS clear position of increased scrutiny of international tax compliance for recent past and expected future. UBS investigation & scrutiny of U.S. taxpayers with foreign accounts – IRS now after HSBC in India.
• Enforcement of legislation already passed likely to be stringent. Compliance costs for international business will continue to rise, but not by as much as we feared.
• Continued interest in international corporate tax changes.
• Increased emphasis by IRS on transfer pricing.
8
Good News
• U.S. needs foreign direct investment.
• U.S. federal tax policy will likely continue to favor SME’s where they know most jobs are created.
• States and localities will continue to fight for jobs with tax breaks.
• States and localities, even in the budget crunch, are continuing to devote resources to providing services to assist in-bound investment.
9
Costs of Doing Business
FOREIGN BANK ACCOUNT REPORTS
FATCA
1099 REPORTING (REPEALED)
10
FBAR – U.S. Person
• U.S. Person is • 1. A citizen of resident of the U.S.
• 2. A domestic partnership
• 3. A domestic corporation
• 4. A domestic estate or trust
• But, only (so far) for years 2010 and prior
• May ultimately include non-residents engaged in U.S. trade or business. To date, this has been suspended via IRS notices for foreigners considered to be “in or doing business in the U.S. Exemption does not apply to anyone considered a U.S. tax resident.
11
FATCA(T) – Withholding Imposed
• Targets U.S. persons failing to report/hiding income and assets outside the U.S.
• Effective for payments after 1/1/2013.
• Imposes 30% withholding tax on any withholdable payment of U.S. sourced income to any foreign financial institution
• Subject payments include any fixed or determinable annual or periodic income (FDAP), and
• Gross proceeds from sale of property that could produce U.S. source interest or dividends
• Withholding agent includes any person, an any capacity, having control, receipt, custody, disposal or payment of any withholdable payment
12
FATCA(T) Withholding Expansion
In addition, now also subject to withholding:
• proceeds from sale of property that produces interest/dividend income (i.e. capital gain transaction)
• interest on deposit with foreign branch of U.S. bank
• Any payment of such income to an “unqualified” foreign financial institution will be automatically subject to the 30% withholding rate. Exception for “qualified” institutions.
• Any payment of such income to a foreign nonfinancial entity also subject to the 30% withholding. Exception for cases where certification exists, recipient is publicly traded or subsidiary of a publicly traded corporation, governmental entities, international organizations, and others.
13
Foreign Financial Institutions
Qualified foreign financial institutions will need to: • Obtain enough information on all account holders to determine which
ones are U.S. accounts.
• Follow IRS procedures to determine which are U.S. accounts.
• Report annually all U.S. accounts and its holders, account balances, gross receipts, and withdrawals from the account.
• Withhold 30% on applicable payments
• Comply with information request by IRS on U.S. accounts
• Attempt to obtain waiver from foreign law where it would prevent such disclosure on its account holders, and close the account if waiver is not obtained.
• Agree to withhold on “recalcitrant” account holders.
14
FATCA(T) –
Non-Financial Foreign Entity
• Also applies to payments to non-financial foreign entities – any entity that is not a foreign financial institution
• That has one or more “substantial U.S. owners”
• Substantial is ownership, directly or indirectly, of 10% or more of a corporation, partnership or of a trust treated as a grantor trust, or holder of 10% of more beneficial interest in a non-grantor trust
• 10% is reduced to zero if the foreign corporation or partnership is engaged primarily in the business of investing
• To be exempt, must: • Provide certification that there is no substantial U.S. ownership,
• or provide name, TIN and address of each substantial U.S. owner
15
OTHER KEY POINTS – NOT NECESSARILY NEW
16
Treaty Based Return Disclosures
• A treaty based return position is any case where there is a difference in tax liability due to a provision of a tax treaty – common example is a position that business profits are not taxable because there is no permanent establishment (PE) in the U.S.
• Disclosed by attaching IRS Form 8833 to the tax return
• Penalties for failure to disclose
• Disclosure waived under most circumstances where U.S. payer properly reports on From 1042-S
• Where payer and payee are unrelated and FDAP paid exceeds $500,000, disclosure is required.
17
U.S. Inbound Individuals
• Most common error is failure to realize that foreign nationals become taxed just as if they were U.S. citizens when they become a U.S. tax resident. “Closer connection” tests in U.S.-Canada tax treaty can provide limited relief.
• Biggest risk today is failure to comply with U.S. reporting requirements for non-U.S. income and assets, including trusts, companies and real property.
• Planning – everyone in the world is a U.S. taxpayer – they just do not know it yet. Non-residents who become U.S. tax residents are treated as if they have always been U.S. taxpayers with some strange and, at times, counter-intuitive results.
18
Circular 230 Legend
• Pursuant to U.S. Treasury Department Circular 230, unless we expressly state otherwise, any tax advice contained in this presentation is not intended or written to be used, and cannot be used, by the recipient for the purpose of avoiding penalties that may be imposed under the Internal Revenue Code or applicable state or local tax law provisions.
19
Contacts
Eddie Goldsberry, Director, International Tax Services
Phone: (713) 860-1450
Email: [email protected]
20
Canadian Business Expansion into the U.S.
Rafael Carsalade Bill Macaulay
21
Business Expansion into the U.S.
• U.S. and Canadian tax considerations • Business
• Employees
• Evolution over time • Independent sales agent
• Employee working from home
• Third party warehouse
• Lease an office
• Form a U.S. subsidiary
• Identify the issues and plan accordingly
22
Timeline Issues
• Questions that track the business evolution: • Do I have a taxable presence in the U.S.?
• What type of legal entity should I use?
• In what State should I base my operations?
• How do I finance my U.S. operations?
• What do I need to consider when transferring employees to the U.S.?
• What are some other common issues?
23
U.S. Taxable Presence
• Non-U.S. entities will be subject to U.S. taxation on their operations if they are deemed to be “conducting a trade or business within the U.S.”
• Threshold for U.S. trade or business is low:
• personal services
• trading in securities and commodities
• selling of products through an agent
• export of goods from the U.S. and associated operations
• partner in a partnership doing business in the U.S.
• Ownership and transactions involving U.S. real property
• Other examples based on facts and circumstances of particular case.
24
Permanent Establishment
• Article V (Permanent Establishment) of the Canada-U.S. Tax Treaty has higher threshold for level of activities giving rise to a taxable U.S. presence.
• The Treaty trumps U.S. domestic tax law in determination of taxable presence – so if no PE, no tax on business profits.
• Under Article V, PE generally includes: place of management, branch, factory, office, workshop, mines, oil & gas wells and other natural resource extraction site, construction site/project lasting more than 12 months, use of agent, etc. …
• Article V also provides specific guidance for when physical presence while performing services constitutes a PE.
25
Deemed PE -- Services
• Change to the Treaty starting 2010
• A “temporal” rather than physical approach to “permanent”
• Applies to service businesses
• Deemed to provide services through PE if either: • a) Services provided by an individual who is present for a period or periods
exceeding 183 days in any 12 month period and during those periods more than 50% of gross revenue is from the services provided in the U.S. by that individual, or
• b) Services provided in the U.S. for 183 days or more in any 12 month period with respect to the same or connected project for customers who are U.S. residents or have a PE in the U.S. (and services related to that PE)
26
Does the Treaty Apply?
• Corporations with a foreign parent (other than U.S. or Canada) must review the availability of treaty exemptions due to the Limitation on Benefits rules in the changes to the Treaty
May lose key treaty benefits, for example:
• Carrying on business in the other country but not through a permanent establishment
• Reductions in withholding tax rates
• Capital gains exemptions
27
U.S. Legal Entities
• Legal entities are formed at the State level, not Federal.
• Most common types of business legal entities available: • Corporation (Corp)
• Partnership, general and limited (GP and LP)
• Limited Liability Company (LLC)
• Limited Liability Partnership (LLP)
• Most common types of business tax entities available: • C-Corporation
• S-Corporation
• Partnership
• Sole proprietorship
28
Corporations & Partnerships
• S- Corporation: cannot have non-U.S. owners.
• C-Corporation: • Federal income tax rate: 34%
• State income/franchise taxes apply
• Dividends taxable to recipients
• Required for public companies
• Partnership: • Income taxes deemed distributed yearly to partners who are
responsible for the tax.
• Flexibility in different allocations of income, losses, and capital for partners.
29
Limited Liability Companies
• Legal liability advantages of a corporation, with more flexibility in ownership structure and also on tax treatment.
• Tax treatments available: • Partnership: the default tax treatment of an LLC will be a partnership.
• C-Corporation: the LLC may elect under “check-the-box” rules to be treated as a c-corporation for tax purposes.
• Disregarded entity: a partnership requires at least two partners. Since LLCs may have only one owner, such LLCs will be disregarded for Federal income tax purpose.
30
Canadian Issues for LLC
• Pitfalls of using an LLC to carry on your U.S. business
• LLC is a corporation for Canadian purposes; generally not for U.S. purposes – timing and sourcing issues
– No foreign tax credit available to Canadian parent
– Can give rise to FAPI in Canadian parent, with no underlying foreign accrual tax
– Potential loss of 5% treaty rate on U.S. branch tax– result 30% branch tax
31
Consideration for Canadian Parent Company
• Consider the impact of U.S. expansion on the “Small Business Corporation” status of the Canadian corporation
• $750,000 lifetime capital gains exemption
• Exemption from corporate attribution rules
• Allowable business investment losses
• Consider a sister corporation as the Canadian holding company
32
Canadian Issues
Canadian Opco
U.S. Subco
Shares Loans
Lifetime capital gains exemption
Don’t want shares and loans to U.S. Subco to exceed 90% of FMV of Parent’s total assets
Active business in Canada
Canadian resident individual
33
Sisterco Alternative
Canadian Opco
U.S. Subco
Shares Loans
Lifetime capital gains exemption
Opco satisfies the 90% of FMV test
Active business in Canada
Canadian resident individual
Canadian Sisterco
34
State and Local Taxes
• In addition to Federal tax laws, 50 U.S. states exist each with their own set of local income, franchise, sales, and property tax laws. Commonalities exist.
• States do not necessarily respect the Treaty.
• Tax rates:
• Income/franchise tax rates generally from 0% to 12%
• Sales tax rates generally 4% - 9%
• Property tax rates vary from county to county.
• Generally, State taxable income is computed as:
Federal taxable income
+ State law adjustments (i.e. depreciation)
State allocable income
x State apportionment factor (sales/payroll/property)
State taxable income
35
Location Operations
• Delaware? Nevada? Where to locate company and operations?
• The adoption of unitary and combined filing by most states make the choice less important from an income/franchise tax perspective
• Unitary and combined filing generally causes its U.S. operations to be considered as a whole (regardless of legal entities) in computing state income/franchise taxes. Then state taxable income calculated based on activity in the state (i.e. sales, property, and payroll).
• Local incentives: where a physical facility will be setup and jobs created, tax incentives may be obtained from the local authorities interested in attracting the company.
36
Financing U.S. Operations
• With 0% interest withholding under the Canada-U.S. treaty, incentive to finance operations through debt.
• No specific debt-to-equity ratio required, the IRS will look at facts and circumstances specific to the situation.
• Where debt is used, certain items common to third party debt should be present: written loan agreement, reasonable interest rate charged, clear repayment terms, respect to loan terms from year to year, payment of interest and principal not tied to profitability of company, etc.
• Even where debt-to-equity ratio is not challenged, limitation to the deduction of interest paid to related parties may apply where ratio is too high.
37
Canadian Parent Company Consideration
• Deductibility of interest expense on funds borrowed by shareholder and loaned into the Canadian parent company and loaned to the U.S.
• Canadian parent company needs to consider charging interest to have a good source of income
• Charging interest may help with deductibility of a capital loss on the funds loaned to the Canadian parent company by controlling shareholder
38
Employee Payroll
• Compliance with U.S. immigration law should be the first concern of both employee and company.
• Once legally allowed to work in the U.S., obtaining a social security number and starting to report compensation on U.S. payroll are next steps.
• Option to be included on U.S. payroll, or to be kept in both U.S. and Canadian payrolls in what is known as a “split payroll”.
• Certificate of coverage: obtaining one under the U.S.-Canada Totalization Agreement could exempt employee from U.S. Social Security and Medicare taxes for up to 5 years if they continue to contribute to CPP/OAS.
39
Canadian Payroll Consideration
• Canadian residents are generally subject to Canadian payroll withholdings on their worldwide employment income
• If working in the U.S. and duplication results, request waiver from the CRA in respect of U.S. taxes being withheld
40
Employee Compensation
• What needs to be reported as compensation on the U.S. payroll?
• Base salary, bonus, and fringe benefits for the services rendered for the U.S. employer, regardless of whether service is performed in the U.S. or abroad.
• Common fringe benefit examples:
• Car and housing allowances
• Dependent education allowances
• Cost of family home travel
• Equity-based compensation (i.e. stock options)
• Employer contributions to deferred compensation arrangements (i.e. pension funds).
41
Stock Option Compensation
• Statutory vs Nonstatutory stock options, or also called
• Qualified vs nonqualified stock options
• Statutory stock options are those drafted to meet specific requirements of Internal Revenue Code sections that allow for the deferral of income and recognition of part of gain as capital gains.
• In general, unless stock option plan was drafted with the intent to meet IRC requirements, stock options will be nonstatutory.
• Income is recognized upon exercise of nonstatutory stock option, and treated as compensation for services rendered and so ordinary income. Reportable on Form W-2 or 1099.
42
Stock Option Recognition
• To compute ordinary income:
• Grant date: no taxable event. Begin of vesting period.
• Vesting period: Determines the sourcing of the income, U.S. or foreign, depending on where the employee physically worked during this time.
• Exercise date: Taxable event. For U.S. tax resident employee, entire amount of income will be recognized. For U.S. tax nonresident, only U.S. source portion of income will be recognized.
• Ordinary taxable income from exercise: • Fair value of stock at exercise date – option price
43
Stock Options -- Canada
• Canada has similar computation of economic benefit
• Most arm’s length employees will only have 50% of their benefit taxed – special rules
• Generally taxed on exercise or receipt of payment
• May be deferred to sale of stock if qualifying CCPC
• Withholdings required since Budget 2010
• Cross-border services will result in double withholding – get waiver – some challenges with options
44
Personal Tax Rates
• 2011 personal tax rates
– B.C. (combined) 43.7%
– U.S. (federal only) 35.0% but FICA in the U.S.
– Withholding on salary could be huge
– Withholding on stock option benefit could be • 50% of 43.7% plus 35% > 56% --still huge
45
Where Do You Want Your Profits Taxed?
• 2011 corporate tax rates
– B.C. (combined) 26.5%
– U.S. (federal only) 35.0%
• Shift profits home to the extent supportable
– Interest, management fees, royalties, reimbursements
46
Other Items
• TRANSFER PRICING: simply charging a “management fee” won’t be acceptable. Transfer pricing methodology should be reasonable, properly documented, and consistent from year to year.
• Tax authorities getting more aggressive in pursuing transfer pricing in audits, and trend is to continue this way.
• FIRPTA: acquisition of U.S. real property (i.e. headquarters, warehouse, etc…) causes additional tax concerns because of the Foreiogn Investment in U.S. Real Property Tax Act (FIRPTA).
• Acquisition of U.S. real property, whether for operations or as investment, should be properly planned to avoid surprises.
47
Other Items
• Review all foreign cross-border interest payments for exemptions and reductions
• Canada Revenue Agency has new non-resident withholding forms to calculate the withholding tax required on payments to partnerships, fiscally transparent entities such as limited liability companies and S-Corporations. A look-through approach
• Interest
• Dividends
• Royalties
• Management fees, etc.
48
Contacts
Rafael Carsalade, Senior Manager, International Tax Services
Phone: (713) 860-5412
Email: [email protected]
Bill Macaulay, Partner, Smythe Ratcliffe LLP
Phone: (604) 694 7536
Email: [email protected]
49
Doing Business in Washington State
John Forrest, CPA
50
Doing Business in Washington State
• Business & Occupation (B&O) Tax
• Sales & Use Tax
• Personal Property Tax
51
Business & Occupation Tax
Overview
• Gross Receipts tax
• B&O tax vs. GST
• B&O vs. State Income Tax
52
B&O Tax – Recent Developments
• Old rules – Cost apportionment
• New rules – Customer receives service
• Economic Nexus
• Physical Presence (based on activity) vs. Permanent Establishment
• Targeted Credits
53
Sales & Use Tax
• Tax paid by end user consumer
• Remitted to the State by business collecting tax
• Business can be liable for tax if not properly collected
• Manufacturers exemption
• Business and individuals liable for Use Tax
54
Personal Property Tax
• Tax on business personal property
• Tax based upon depreciated value
• Collected by County
55
Thank you
SmytheRatcliffe CHARTERED ACCOUNTANTS
Smythe Ratcliffe LLP
Suite 700, Marine Building
355 Burrard St., Vancouver, BC V6C 2G8
57