International Tax Monthly: U.S. Repatriation, EU Corporate Tax, Canadian Report


 U.S. Multinationals Optimistic for Another Repatriation Holiday

President-elect Donald Trump’s election win moves Apple, Pfizer, Microsoft and other big U.S. corporations much closer than they have been in years to winning a big tax break on approximately $2.6 trillion in foreign profits.

This article explains the mechanics of taxing foreign-source income, the 2004 repatriation holiday, proposals for another holiday, and the prospects of enacting a repatriation holiday under the Republican-controlled government.

U.S. corporations are taxed on a worldwide basis, meaning that they’re generally taxed on income that’s earned within and outside of the U.S. subject to certain exceptions; income earned outside the U.S. isn’t subject to U.S. tax until it’s brought back to the United States — in other words, until it’s repatriated. At that point, it’s included in the corporation’s gross income. To mitigate double taxation, U.S. corporations may elect to either deduct or claim a foreign tax credit for the foreign income taxes that were paid or accrued on the foreign earnings.

Most developed countries, on the other hand, have adopted a territorial tax system. Such countries generally only tax income derived from sources within their borders.

The U.S. tax system has come under fire. Given the increasingly international nature of businesses today, many U.S. multinationals now earn most of their income overseas. Critics argue that the current U.S. tax system, coupled with the country’s high corporate income tax rate, renders U.S. multinationals uncompetitive, discourages repatriation, and encourages more aggressive tax planning (such as corporate inversions).

2004 Repatriation Holiday

In an effort to stimulate the U.S. economy by triggering the repatriation of foreign earnings that otherwise likely would have remained abroad, Congress enacted a provision in the tax code in 2004 that let U.S. companies repatriate earnings at a reduced tax rate if they met several conditions. Specifically, they could elect, for one tax year, an 85% dividends received deduction for eligible dividends from their foreign subsidiaries.

There wasn’t an intent to make the holiday permanent, extend it, or enact it again in the future. Some reports on the 2004 measure have been largely critical of its overall effectiveness. In particular, critics question:

1. The extent (if any) to which the measure actually stimulated the U.S. economy or furthered jobs growth,

2. Whether it has encouraged corporate taxpayers to hoard money overseas and wait for Congress to pass another repatriation holiday, and

3. If it disproportionately benefited the companies that are the most aggressive in shifting their income overseas.

There have been subsequent proposals for similar repatriation holidays or other tax measures to minimize the impact of repatriating overseas funds, often floated as a way to jumpstart economic growth in the U.S.

Post-election Prospects

Tax reform is likely to be among the most fruitful areas for cooperation between President-elect Trump and his fellow Republicans. Trump and congressional Republicans have separate, but similar, tax reform plans. Both would slash tax rates on businesses, simplify and cut individual taxes, and let companies bring overseas profits into the country at a low tax rate.

The plan envisioned in the House of Representatives, which Speaker Paul Ryan (R-WI) and other leading Republicans promoted throughout the campaign, would:

  • Lower the corporate tax rate from 35% to 20%,
  • Force multinationals to repatriate existing foreign earnings, and
  • Adopt a territorial system that would largely end taxation of U.S. companies’ foreign income.

Trump is calling for a steeper corporate tax rate cut to 15%, and he has proposed a 10% tax rate for repatriated overseas profits held in cash, payable over a decade.

Trump and Ryan would still need to agree on how to pay for lower corporate tax rates and on whether U.S.-based multinationals should pay U.S. taxes on future foreign profits.

Some are optimistic that those differences can be overcome. “In the end, there are no differences that can’t be solved on the tax issue,” said Representative Tom Cole (R-OK). They would also need support for tax reform from Democrats if they intend to present the package as a benefit for the country as a whole, analysts say.

Such proposals have stumbled before on Democrats’ objections that they are corporate giveaways, and on Republicans’ insistence that they be paired with a cut in the corporate income tax rate. Democrats could still block legislation from reaching the floor of the Senate, which requires a super majority of 60 votes to advance a measure, but there are procedural maneuvers Republicans could use to bypass them.

The one-time surge in revenue that would result from repatriation could help fund another cornerstone of Trump’s campaign platform — a pledge to boost the economy through big investments in U.S. highways, roads, bridges, airports and seaports. Infrastructure spending was not a campaign priority for congressional Republicans, but a new job-creating program could appeal to Democrats and be valuable to lawmakers in the 2018 midterm elections.

Potential Timing

Within the first 100 days after his inauguration, President-elect Trump plans to introduce various tax reforms to Congress. It’s uncertain which of these proposals will be made into law — or when the changes might go into effect. But, with Republicans retaining control of both chambers of Congress, some sort of overhaul of the U.S. tax code is likely.

EU Reboots Common Corporate Tax Base Proposal

The European Commission presented the European Parliament a revised common consolidated corporate tax base (CCCTB) proposal that it says would:

  • Target tax avoidance involving hybrid mismatches,
  • Speed the resolution of double-taxation disputes, and
  • Bolster antiabuse rules.

The commission said the new system would eliminate mismatches between national systems that aggressive tax planners currently exploit. It would also remove transfer pricing and preferential regimes, which are primary vehicles for tax avoidance.

In addition, it contains robust antiabuse measures, to stop companies shifting profits to non-European Union (EU) countries. Since the common tax will be mandatory for the biggest multinational groups operating in the EU, those companies most likely to pursue aggressive tax planning will be unable to attempt large-scale tax avoidance, the commission said.

Resolving Double Taxation Disputes

Double taxation is a major obstacle for businesses, creating uncertainty, unnecessary costs and cash-flow problems. The commission proposes adjusting resolution mechanisms to better meet the needs of businesses. A company subject to double taxation would be able to initiate a procedure whereby the states in question must try to solve the dispute amicably within two years. If no solution is found, the states would set up an advisory panel to arbitrate on the case. If the states fail to do this, the company can ask the national court to do so.

The arbitration panel would have six months to deliver an immediately enforceable binding decision.

A third proposal is aimed at preventing companies from exploiting loopholes between EU and non-EU tax systems to avoid taxation. If a hybrid mismatch with a third country leads to double nontaxation, the company may have to pay tax on certain payments in the EU which it normally wouldn’t have to, or may no longer be able to deduct certain payments.

Cross-border Loss Offset

One of the main attractions for businesses in the common consolidated corporate tax base is the ability to offset losses in one member state against profits in another. This would be particularly important to support start-ups and business expansion, as it would ensure that their cross-border activities enjoy the same loss-offset treatment as purely national activities.

To encourage swift progress, the commission said it is breaking the implementation of the proposed tax regime into a manageable two-step process. It said the common tax base can be quickly agreed to unlock key benefits for both businesses and EU member states.

Consolidation should be introduced soon after. That would allow a group to add up the profits and losses of all its constituent companies in different EU member states, to reach a net profit or loss for the entire EU. Based on this net figure, the rules in the common base would be used to decide the group’s amount of profits that should be taxed.

Shared Taxable Profits

Once the tax base has been established, the company’s taxable profits will be shared among the states where it’s active. Each state could tax its share of the profits at its own national rate. The proportion of the company’s base that a member state can tax would be based on the following three equally weighted factors related to the company’s presence in a state:

  • The assets the company has in that member state (for example, buildings, machinery),
  • The labor the company has in that member state (that is, the number of employees and employment costs), and
  • The sales that the company made in that member state. The sales factor will be calculated on the basis of destination (that is, where the goods are sold/dispatched to or where the service is carried out).

The proposed corporate taxation system would give companies for the first time a single rulebook for calculating their taxable profits throughout the EU.

One Tax Return

Companies would be able to use a single set of rules (once various exemptions and deductions have been accounted for) and work with their domestic tax administration to file one tax return for all of their EU activities. For example, the common base would ensure that all member states allow the same rate of depreciation for a particular asset or allow the same particular expense to be tax-deductible.

Significantly, corporate tax rates aren’t covered by the common corporate tax base, as they remain an area of national sovereignty.

Canadian Panel Urges Steps to Tackle Tax Avoidance and Evasion

A committee of Canada’s House of Commons recently issued a report that included recommendations for how the Canada Revenue Agency (CRA) should address tax avoidance and evasion.

Among the recommendations outlined by the Standing Committee on Finance were the following:

  • Complete by August 31, 2017, a review of the 92 tax treaties and 22 tax information exchange agreements to which Canada is a party to ensure that they don’t facilitate noncompliance with tax laws.
  • Address offshore noncompliance with tax laws through greater collaboration with other jurisdictions, including through enhanced joint audits with tax treaty partners.
  • Report on the progress of audits related to the “Panama Papers” before June 1, 2017.
  • Require tax advisors operating in Canada to register all of their tax products with the CRA.
  • Complete by March 31, 2017, a comprehensive review of the CRA’s Voluntary Disclosures Program and review guidelines on litigating and settling cases with individuals and organizations avoiding or evading taxes.
  • Enhance the CRA’s technical, human resource and other capabilities related to aggressive domestic and international tax planning.

Avoidance and Evasion Defined

The CRA defines “tax avoidance” as minimizing tax by contravening the object and spirit — but not the letter — of the law. It occurs when provisions of the tax legislation are used in a manner that wasn’t intended. A taxpayer is deemed to be innocent of tax avoidance if it is unclear whether abusive tax avoidance has occurred.

“Tax evasion” is the deliberate underreporting of tax payable by concealing income or assets, or making false statements. Aggressive tax planning refers to domestic and international strategies that the CRA says “push the limits of acceptable tax planning.”