Trump’s Tax Reforms and Their Impact on Foreign Taxation
Part 1 — Businesses (Inbound)
So, a couple of weeks ago President Trump and the GOP released their long awaited tax reform plans, the nattily titled Tax Cuts and Jobs Act. There’s been copious coverage on these issues since then and the Senate have given their view and amendments already, but what I want to look at are the points that relate to foreign issues and specifically the changes that are likely to affect an international business operating in the USA; a core part of our client base.
Here are the general rules likely to affect US inbound companies that on the face of matters, do not appear foreign in nature.
Reduction of corporate tax to 20% (section 3001)
- A pretty straight forward and apparent beneficial move for all of our clients that are operating in the US via a C corporation. Essentially the US federal corporate tax rate will be limited to 20% tax which I’m sure we can all agree (except maybe the treasury…) is a good thing.
Small business exception from limitation on deduction of business interest (section 3203)
- Section 163(j)(2) of the code (it’s exciting quoting section numbers) limits the interest deduction an entity can take for the interest it pays, utilizing a convoluted computation relating to the US corporations debt to equity ratio and their gross receipts. Essentially it tends to catch our US in-bound clients as it ordinarily applies to newly formed US subsidiaries that are funded in their infancy by their overseas parents by virtue of debt rather than equity. These rules and restrictions are currently applied to all US entities regardless of size. It appears the proposed rules will look to give an exemption to small businesses with regards to this interest deduction limitation. A small business under IRC is determined to be one with a turnover less than $25m in accordance with a newly proposed (in this Act) section 448(c) of IRC. At first glance this appears a rather good exemption for newly formed US entities with a foreign parent and a welcome exemption for our client base.
Limitation on interest deductions (section 3301)
- This amends the rules mentioned above in section 163(j) with regards to the interest paid by a US business, with particular regard to its overseas parent in our clients situations as explained above. What this adjustment appears to do is limit the interest deduction to interest income (as before) but now limited to 30% (as opposed to 50%) of net taxable income of the entity. In reality this rarely comes in to point as the interest deduction of our clients is not significant enough to warrant limitation but this may come in to play more with our clients that have had long standing debt relationships with their subsidiaries that they have yet to address.
Revision of contributions to capital (section 3304)
- These new rules appear to be extremely interesting and a little concerning for our overseas clients looking to establish an entity in the US. What they appear to indicate is that any contribution to capital that is not determined to be in exchange for stock may be includible as gross income in that entities books and records. This certainly appears to be a newly stated position on corporations and I think will largely impact those US subsidiaries of foreign corporations that are settled with part share capital and part debt to help the entity establish itself and function. This therefore appears to me that much greater care needs to be taken to ensure all paperwork is put in place from the outset to ensure that what is subscribed for share capital and what is separately stated as debt is documented immediately and then reviewed annually thereafter to ensure full compliance with these rules and the penal treatment they appear to impart.
Now, what’s interesting here is that the above hasn’t even touched on the section that was outlined as being “foreign” in the proposals. The rules that are specifically “foreign” targeted are really there at addressing perceived abuses by the largest USA corporations and the hope that they are able to generate revenue from the repatriation of the overseas profits back to the US economy in some way shape or form. This what we call “out-bound” taxation in US international taxation and will form part of the next article later this week.
As ever please get in touch with me with any questions that the above may raise and we’ll do our best to help you through them.