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When bringing in money from an offshore business into America, when does it become a taxable event?
Almost every country in the world has a lower tax rate on some activity than another country's rate on that activity.6 Since countries routinely use their tax laws to influence the use of capital, 7 income tax rates on any given activity vary wildly throughout the world.8 A country which taxes at a high rate for one activity may concur rently provide a low tax on another activity. Only a few countries, however, choose not to tax any income of non-citizens.9 Tax professionals call these countries "tax havens."10 Because the law differs in each of these countries, this paper will consider only one: the Cayman Islands [hereinafter "Cayman"]. Cayman is appropriate for two reasons. One is that Cayman is one of the most popular tax havens.11 The other is that it has similar tax laws to other popular tax havens such as Switze rland and the Bahamas.12 Cayman also has decades of experience as a foreign tax haven.13
Can offshore corporations be used as a way to defer taxes?
Sure, I can address. A foreign corporation (“FC”) owned by a US shareholder(s) (defined as a shareholder with greater then a 10% interest (see Section 951(b)) where US shareholder(s) own more then 50% of the shares represents a controlled foreign corporation (“CFC”) as noted in Section 957(a). So, we are seeing a US shareholder owning a FC has a so called CFC.As you noted in your question, a FC pays income tax on its profits based on the foreign tax laws where managed or formed. And, a US shareholder only pays tax when the FC transfers dividends back to the US shareholder. Thus, a US shareholder can defer taxes. This fact assumes we are dealing with a FC with business operating income • selling services or products for example.Here, we are dealing with a CFC with passive income from dividends and gains and losses on investment returns which Section 954(c) defines as personal holding company income (“PHCI”). The US shareholder’s includes PHCI coming from a CFC in his/her gross income regardless if the FC distributes the proceeds as noted in Section 951(a)(1)(A).So, the problem you face: you lose the tax deferral here given you have passive income coming from a CFC.Also, all FC’s with a 25% greater US ownership have annual reporting requirements as covered in Section 6038A. Non compliance carries a $10,000 fine as noted in subsection (d). We would file these annual reporting requirements in early 2022 for the 2022 tax year.I have completed the tax analysis based on the facts given. If the facts change any, the tax results may change materially. www.rst.tax
What's the process for setting up a Canadian subsidiary of a US-based corporation?
Sure, I can address the tax issues from the United States side. Only a US attorney would address US legal issues. And, of course only a Canadian attorney and tax person will address Canada legal and tax issues respectively.In this situation, the US Corporation (“USC”) represents the parent corporation and the Canadian Corporation (“CFC”) represents a subsidiary. The USC may or many not have other US subsidiary corporations or LLC’s filing as a tax corporation. These US companies represent an affiliated group for tax purposes as noted in Section 1504(a). If they wish, the US affiliated group may file a consolidated tax return as noted in Section 1501. Here, the US group represents one economic tax entity for tax purposes. So, losses from start up members may offset profits from other members if the members have been part of the affiliated group regardless if they have filed a consolidated tax return as noted in Consolidated Treasury Regulation Section 1.1502-1(f)(2)(ii).However, the CFC has its own US tax requirements separate from the US group. As Treasury does not allow a foreign corporation as a member of a US group for tax purposes as noted in Section 1504(b)(3). If the CFC only operates in Canada and not in the US, the CFC does not have a United States Trade or Business with effectively connected income. So, the CFC tax requirements remain in Canada. Under Treasury Regulation Section 1.6012-2(g)(1)(i) CFC does not file a tax return in this particular situation based on the fact assumptions.When, the CFC returns profits to USC in the form of a dividend, Canada will require CFC withhold tax on dividends coming to USC. However, we then turn to the US Canada Bilateral Tax Treaty to see if we can mitigate the tax results. Under Subparagraph 2(a) of Article 10 of the 2022 US Canada Protocol, USC has only a 5% withholding rate based on treaty results.Using a treaty here does not require a US tax return filing by CFC as the taxes were withheld at the source as noted In paragraph (g)(2)(i)(a) of the above treasury regulation.Further, USC can apply the taxes paid in Canada against it US taxes due on the dividends with the foreign tax credit provisions under Section 902.In addition, USC has annual Treasury reporting requirements for its ownership of CFC as noted in Section 6038(a). Failure to file this specific annual report carries a $10,000 fine for non compliance under subsection (c)(2)(A). We file these reports in early 2022 for the 2022 tax year.I have completed the above tax analysis based on the facts provided. If the facts change any, the tax results may change considerably. www.rst.tax
If a US citizen owns 100% of a controlled foreign corporation which has no assets in the US, does the CFC pay taxes to the IRS?
No, absolutely not. The company’s status as a CFC does NOT make the company itself subject to US tax. So, the company can earn all the income it wants, and it won’t ever owe anything to the IRS.This is the structure my expat entrepreneur clients usee. Operating their business through a non-US corporation allows them to (i) pay zero US tax on the first $100k or so of salary from the company and (ii) defer US tax on the company’s net earnings above their salary. Here’s more detail: How to Structure your Non-US Business or Profession - U.S Tax ServicesHowever, the company’s status as a CFC does have a potential impact on you. If the company earns any “Subpart F income,” then you will be required to include that amount in your income, even if the company doesn’t pay a dividend to you. (But you’re not subject to US tax again when the company does pay a dividend.)There are all sorts of Subpart F income. The most common type is passive income-interest, dividends, rent, and gain on sale of assets that produce that income. The way to avoid Supbart F income is by investing your company’s retained earnings in assets that don’t produce current income, like exchange traded funds.Finally, don’t forget that you’ll have some fancy forms to include in your tax return by reason of your ownership of a non-US company. More detail here: Own Stock of a Non-US Corporation? The IRS Wants to Know All About it - U.S Tax Services
How are capital gains from the sale of a foreign property owned by a foreign corporation (said corporation owned 100% by US citizens) taxed in the US?
Generally, a United States shareholder (“USS”) does not face income tax on its foreign corporation’s (“FC”) earnings until FC distributes the earnings back to USS as a dividend. Most likely FC’s home country taxes the dividend (unless FC resides in a non taxing country). If FC resides in a fully developed taxing country having a specific bilateral tax treaty with the US, USS may claim a treaty position for reducing the withholding rate as noted in Article 10 of the US Model Treaty.However, Treasury requires certain FC’s with certain income types report such income and require certain USSs report such income currently on their tax returns in the year earned by FC. This result means a USS gets taxed currently regardless if the FC distributes the profits from particular gain transactions.Applying the above, we look to USS for ownership of FC. Then, we look at FC’s particular type of income to see if the USS ownership rules apply.In the fact situation above, the FC represents a controlled foreign corporation (“CFC”). As a USS owns more than 50% of FC as noted in Section 957(a). As we count all US shareholder with a 10% or more ownership in the 50% test (Section 951(b)). And, USC reports foreign base income in the current year earned by FC as detailed in Sections 951(a) and 952(a)(2). Further, foreign base income includes foreign personal holding company income (Section 954(c)).Getting to the gain on the property, subsection (c)(1)(B) includes certain gains from property transactions as part of foreign personal holding income. For example, a real estate property held for investment and which FC rented represents includable income including the gain. If the property were used in FC’s active business, the gain does not get included as noted in Treasury Regulation Section 1.954-2(e).In addition FC has annual reporting requirements under Section 6038. Failure to comply here carries a $10,000 fine as noted subsection (b)(1). We would file this annual report for the 2022 tax year in early 2022 with other required documentation depending upon the outcome of the property type transaction above.I have completed this tax analysis based on the fact situation. Any changes in the facts may materially affect the tax results here. www.rst.tax
Does my foreign company have to pay US withholding taxes if it earns royalties from a US company? I am a US citizen.
From the way I understand your question, you own the shares of a foreign corporation. The foreign corporation receives royalty payments from a US corporation. Treasury sources royalties from intangibles from the place where they are used. So, intangibles used in the US represent US source income as noted in Treasury Regulation Section 1.861-5.And, Treasury taxes a foreign corporation on its US source income for fixed payments under Section 881(a). In this situation, the US corporation withholds 30% with the foreign corporation receiving the net payment after taxes.If the foreign corporation’s home country has a specific tax treaty with the US, the treaty will mitigate the US tax law results above. For example, the 2022 US Model Treaty Article 12 reduces the royalty withholding tax rate to 0%. Though, the foreign corporation applies the exact treaty for implementing this provision. If no treaty exists between the US and the foreign corporation, no treaty provision applies.Another issues foreign corporations owned by US persons face for the 2022 tax year comes from the tax changes under the 2022 Tax Law for repatriated earnings.A US person owning greater than 50% of the shares of a foreign corporation has controlled foreign corporation (CFC) for tax purposes Section 951(b), 957(b) and 958(a)). Here, a US person represents a US citizen or tax resident, tax partnership, or domestic corporation as noted in Section 7701(a)(30).The US person includes the CFC’s deferred accumulated earnings as income its US tax return for 2022 (Section 965(a)). So, all past income the CFC has generated ends up on the US tax person’s return for 2022. Further, this tax law provision also requires a foreign corporation (non CFC) with a tax C owner to include such income in its return as noted in subsection (e).The mechanics of this tax provision play out in various steps. First, these deferred earnings represent subpart F income as noted in subsection (a). This fact allows for the inclusion in the 2022 year as subpart F income always get included.This income faces a 15.5% tax for deferred foreign profits made up of cash like investments and a 8% tax for foreign deferred foreign profits made up of non cash investments (subsection (c)). Since the tax C gets taxed at 35% in 2022. and the US person includes the full foreign deferred income in the tax return, the US person takes a expense deduction for equalizing the rates down to 15.5% and 8% for this particular income (paragraph (2)(A) and (B)).The CFC or other deferred corporation may use its past foreign taxes paid for reducing the tax US person’s tax in the US. However, the US person can only use a portion of these tax credits as noted in subsection (g). The US person reduces the credits by 77.1% for the 8% tax and 55.7% for the 15.5% tax as covered in paragraph (2)(A) and (B)).Further, the taxpayer may elect installment payments under Section 965(h).As in all things tax, we are dealing with complex tax law issues here. As I have simplified the above provision for readability. Though, we work through the complexities for filing an accurate and timely US persons’s return including the 965 Transaction statement mentioned below.As a side note, Treasury issued a news release (IR-2018-53 March 13, 2022. providing tax mechanical direction for computing these amounts as they provided a Section 965 Transaction statement format.A US person has available a six month extension for filing the 2022 tax return.So, one tax strategy we use centers on estimating amounts and filing the extension election and the above 965(h) installment election with an repatriated tax estimated payment. This provides time for completing a more accurate 2022 return given the particular complexities for this particular year. Another strategy centers on having an outside tax person familiar with international US tax law handle the 965 Transaction report only as a separate engagement. As computing the repatriated earnings from the CFC have very little to do with actually filing the US person’s return. As once we complete the transaction report complete, we can provide this information to the US tax preparer.I have included the above information based on subchapter N tax law. If the situation changes in any way, the tax results may change considerably. www.rst.tax
Would a foreign corporation owned by a U.S. partnership (LLC without election) that is in turn owned more than 50% by foreign partners be considered a controlled foreign corporation (CFC), or would the LLC be ignored?
A controlled foreign corporation (“CFC”) results if US persons own more than 50% of the CFC’s stock on any day during the taxable year (Section 957(a)). Here, a US person includes a domestic tax partnership (legal LLC filing as tax partnership under Treasury Regulation Section 301.7701-3(b)(i)) owing ten percent or more of the CFC stock (Sections 951(b)). As Section 957(c) specifically details US persons by referring us to Section 7701(a)(30)(B) which includes the tax partnership as a US person.Since, the legal LLC tax partnership owns greater than 50% of the stock of the foreign corporation, a CFC exists here. Thus, we look at the situation from the partnership level versus the partner level based on tax law.I have completed the above analysis based on the fact situation. If the facts change any, the tax results may change considerably. www.rst.tax
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