International Taxation

D Dahn J LeahyD. Dahn J. Leahy11-6-2007

Legal Entity Modelg y• What is your tactical

business plan?business plan?• What business design

have you chosen?T i l b ll– Typical buy-sell arrangement

– Limited risk distributorContract manufacturer– Contract manufacturer

– Commissionaire/FSO office• What are the commercial

i k ?risks?• What are your internal

requirements?q• What are the statutory

requirements?

Legal Entity ModelsT Buy sell Limited Risk Commissionaire AgentType Buy-sell Limited Risk

DistributorCommissionaire Agent

Legal title of goods Distributor to customer, DT has title

LRD to customer, LRD has flash title

Principal direct to customer

Principal direct to customer

Invoicing the Customer

Distributor invoices customer

LRD invoices customer

Commissionaire invoices customer

Principal invoices customer

Advantages Centralized inventory & Central inventory risk Central inventory risk & Central inventory g yownershipCentralized functions & risksRelatively simple to implement

y& ownershipCentralized functions & risksRelatively simple to implement

yownershipSame face to customerLow PE risksCentralized functions and risks possible

yrisk & ownershipCentralized functions & risksRelatively simple to implementp e e t

Low PE riskSame face to customer

p e e tLow PE riskSame face to customer

and risks possible p e e t

Disadvantages AR on the books of sales companyHigher reported sales in local entityB i k b th

AR on the books of sales companyHigher reported sales in local entity; e.g. stat reporting

VAT & Acc’t complex to implement due to buy-sell for VAT and Commissionaire agent for accounting

Two faces to the customer [sales & Invoice] PE risk for principalC i i kBears more risk; both

operational & commercial

reporting Bears less risk; e.g. currency exposure

for accountingPE risks in common law countries; e.g. UK

Conversion risk may be higher

Manage RiskManage Risk

Model:Model:

Identify Manage Monitor Report

This process can be used for foreign exchangeThis process can be used for foreign exchange, Interest rate management and other

exposures

What is the company risk profile?

Formulate a strategyFormulate a strategy

• Model:Strategy Execution

Model: Contingency Plan

Develop a ViewDevelop a View

Tax/Treasury

Economic informationIndustry Information

Statistical InformationMarket Information

Controller/exposure Analysis & data

Identified exposure

Goals & objectives

Identified exposureyAnalysis & data

Organisation for Economic Co-operation and D l t [OECD]Development [OECD]

• The Organisation for Economic Co-operation and Development is a unique forum where the governments of 30 market democracies work together to address the economic social andgovernments of 30 market democracies work together to address the economic, social and governance challenges of globalisation as well as to exploit its opportunities.

• The Organisation provides a setting where governments can compare policy experiences, seek answers to common problems, identify good practice and co-ordinate domestic and international policies. It is a forum where peer pressure can act as a powerful incentive to improve policy and p p p p p p ywhich produces internationally-agreed instruments, decisions and recommendations in areas where multilateral agreement is necessary for individual countries to make progress in a globalised economy. Non-members are invited to subscribe to these agreements and treaties.

• Exchanges between OECD governments flow from information and analysis provided by a t i t i P i Th t i t ll t d t it t d d l d f tsecretariat in Paris. The secretariat collects data, monitors trends, and analyses and forecasts

economic developments. It also researches social changes or evolving patterns in trade, environment, agriculture, technology, taxation and more.

• The OECD is a group of like-minded countries. Essentially, membership is limited only by a country’s commitment to a market economy and a pluralistic democracy It is rich in that its 30country s commitment to a market economy and a pluralistic democracy. It is rich, in that its 30 members produce almost 60% of the world’s goods and services, but it is by no means exclusive. Non-members are invited to subscribe to OECD agreements and treaties, and the Organisation shares expertise and exchanges views on topics of mutual concern with more than 70 countries worldwide, from Brazil, China and Russia to least developed countries in Africa.

Organisation for Economic Co-operation and Development [OECD]Development [OECD]

• Taxationwww.oecd.org/taxation

• The OECD helps policy makers shape the tax systems of the 21st century. The Centre for Tax Policy and Administration examines all aspects of taxation, including tax policy and taxPolicy and Administration examines all aspects of taxation, including tax policy and tax administration. It also fosters dialogue with non-OECD economies, thereby promoting international co-operation in taxation.

• This involves dialogue with more than 80 non-OECD economies and includes work on negotiating, applying, and interpreting tax treaties, transfer pricing and effective exchange of informationinformation.

• Major statistical publications provide annual comparisons of tax levels and tax structures in member countries. The Centre works with other directorates on issues with a strong tax component such as the impact of taxation on the functioning of labour markets.

• Tradewww oecd org/tradewww.oecd.org/trade

• Trade and investment liberalisation has stimulated economic growth and has been a key factor in integrating an expanding number of countries in the world economy. The Trade Directorate's work supports a strong, rules-based multilateral trading system that will maintain momentum for progressive trade liberalisation and rules-strengthening while contributing to rising standards of li i d t i bl d l t i OECD d OECD t i It t th fliving and sustainable development in OECD and non-OECD countries. It supports the process of liberalisation flowing from multilateral trade negotiations in the World Trade Organization (WTO) and the effective functioning of the multilateral trading system.

• Its analytical work seeks to underpin the rationale for continued trade liberalisation and to foster an understanding of the links between trade liberalisation and a range of issues of public concern. This work advances an informed debate and helps build consensus. The directorate is involved in analysis and preparations for ongoing and future trade negotiations that may cover new categories of trade rules. At the same time, its analysis of evolving trade issues and policies can help forestall problems that emerge under the pressure of ever-intensifying competition.

Intercompany Transfer PricingIntercompany Transfer PricingWhy ICTP?

L l i• Legal requirements– Documentation requirements

• Statutory obligations– OECD considerations– OECD considerations

• Model Tax Convention• Articles 5 - 9

• Economic scaleSi t it & l– Size; assets, equity & sales

• Economic scope– Diversity of operations, FDI

[foreign direct investment][ g ]• Effective tax rate

– GAAP’s- financial disclosure -[SEC & PCAOB, FASB, IFRS f/k/a IAS]IFRS f/k/a IAS]

Standard Approaches• Economic study of transactions • – Risks, goods/services transferred

B fit i d t t• – Benefits received test • – No “netting” • – NO stewardship expenses • – Documentation is contemporaneous • – Adjusted in books/records at least

quarterly• – Basis of consistent allocation • – Impact on taxes and administration p• • CUP: comparable uncontrolled

price • • Cost plus • • Cost sharing Cost sharing • • Profit Split • • TNMM: Transactional Net Margin • • Resale Minus

S f h b d hi hi• Safe harbors and hierarchies

Transfer Pricing focusTransfer Pricing focus• Key developments – as corporate profits continued to be heavily y p y

taxed, the burden is accompanied by increasing regulations and enforcement to maintain the tax base in the world’s largest economies.

Si 2003 fi l th iti h t k ti t f– Since 2003, more fiscal authorities have taken action on transfer pricing requirements and access to documentation.

– Complexity of transfer pricing regulations increasing Audits highly aggressive– Audits highly aggressive

– Advanced pricing arrangements, what will that do for most MNC’s?

• Mitigation of transfer pricing adjustments under auditMitigation of transfer pricing adjustments under audit• Can be costly – more common in the US, Canada, UK & Australia

– Not considered purely a compliance exercise anymore

Rural Germanyy• According to the OECD definition of “predominantly

rural” regions, Germany’s rural regions account for 29% of the surface area, 12% of the population and 9% of GDP. Using Germany’s classification of rural districts, a smaller unit of analysis, they

t f 59% f th f 27% f thaccount for 59% of the surface area, 27% of the population and 21% of GDP.

• Rural regions lag behind other region types on several indicators of income, but that gap is stable to improving. The trend in GDP per capita by region type in Germany is comparable to findings within yp y p gthe OECD overall. Rural regions are at 80% of the national average for GDP per capita. East versus West Germany disparities in GDP per capita are striking for all region types. North versus South differences are also noticeable. As in most other OECD countries, a lower labor productivity (GDP , p y (per worker) is a main driver of a lower average GDP per capita. The differences in employment rate, as well as commuting, also explain this lower level performance in predominantly rural regions in Germany, more so than sectoral specialization or the proportion of old residents.e p opo o o o d es de s

• There exist opportunities for sustainable economic development in terms of both agriculture and non-agriculture land uses. There is a potential for exploiting new markets such as renewable energy, farm tourism, marketing of farm produce maintenance of rural landscapes andproduce, maintenance of rural landscapes, and services for older populations, among others.

TP case study- Germanyy y• The German Tax Authority [GTA] has decided to conduct

a transfer pricing audit at your location in Munich. The business has been in Germany > 6yrsbusiness has been in Germany > 6yrs.

• The statutory time period for the audit was when the legal entity operated as a full distributor. The distributor serves 3 different manufacturing locations worldwide and3 different manufacturing locations worldwide and supports post-sales activities such as warranty, T&M and optional service contracts. Many IC transactions.

• This location was a regional service center for Europe. g p• GTA has noted that the Company has losses in 2 of the

three years under review and quickly points to transfer pricing as the cause.p g

• As a vanilla distributor, what can be done to show that losses incurred during the audit period should remain within Germany and not passed to the shareholder?

TP case study - GermanyTP case study Germany• Do you know the various types of business y yp

models and the contemporaneous documentation requirements by country? What functional analysis must be on hand?functional analysis must be on hand?

• If you were the Tax Director, what would be your first approach?first approach?

• How could the transfer pricing be inadequate? How does the business model affect what the EBIT should be?

• What is a “loss cause analysis”?

International TradeInternational Trade• International Trade implicationsp

– Free Trade Zones• Free circulation – what does that mean?

– What about bonded equipment under evaluation?• Tax holidays and lowered rates

• ITAR – International Traffic in Arms Regulations [Export control][Export control]– License requirements– Denied parties list

Security measurement– Security measurement• Audit review

– Class, value, quantity and statistical q y

International Trade – Customs & VAT

• VAT-VAT• VAT is applied to the importation and sale of tangible

goods.• The standard VAT rate is 17% while certain goods• The standard VAT rate is 17% while certain goods

are taxed at a lower rate of 13%.• Exports are zero-rated and related input VAT;

d di th t f d ld b f lldepending on the category of goods, could be fully or partially refunded.

• VAT is levied on the basis of value added to the taxable goods at each stage of the supply chain.

• Custom valuation and transfer pricing; what you need to know.

Strategic Business & Taxobjectives

• To achieve an optimal global structure that is flexible, e g allowing for expansion and divestiture and is taxe.g., allowing for expansion and divestiture, and is tax efficient.– Optimal U.S. tax structure could focus on:

– Obtaining a benefit for losses that are currently un-utilized;– Efficiently managing the multi-state apportionment of the

Company’s profits; and– Realizing business and tax benefits from intellectual propertyRealizing business and tax benefits from intellectual property

– An international structure could focus on:– Aligning and integrating operations– Realizing business and tax benefits from intellectual propertyRealizing business and tax benefits from intellectual property – Optimizing ETR through selection of the right business model– Migrating business function/risks and related income to a low tax

jurisdiction

• What are considerations for all intercompany [ICTP related] transactions?

Legal Authority – Profit repatriationd fState Administration of

Foreign Exchange [SAFE][SAFE]Under the current foreign exchange laws and regulations, an FIE could repatriate its profits through therepatriate its profits through the following approaches;

DividendsInterest, rentalsInterest, rentalsRoyaltiesTechnical service feesNon-technical service feesNon technical service feesSales commissionsR & D cost sharingReimbursementsReimbursementsExpatriate salaries

Legal Authority – Profit repatriationLegal Authority Profit repatriation

• Repatriation of dividends from ChinaRepatriation of dividends from China– Earnings and profits after 10% legal reserve can be freely distributed to

foreign investors– Profits of FIEs distibuted as dividends are not subject to any withholdingProfits of FIEs distibuted as dividends are not subject to any withholding

tax when remitted outside the PRC– Dividends received by FIEs from other FIEs in the PRC are exempt from

tax– Remittances of after-tax profits or dividends to foreign investors in FIEs

must be supported by written resolutions of the board of directors and by audited financial statements, and may not be made until after the applicable corporate income taxes are paidapplicable corporate income taxes are paid

– They must be made from foreign exchange accounts, otherwise conversion and payment must take place at designated foreign-exchange banksg

International Strategy -Offshore Intellectual Property

CompanyCompany

Create an offshore intellectual property company• Create an offshore intellectual property company located in a low-tax foreign jurisdiction.

• Migrate certain intellectual property to the offshore g p p ycompany.

• Offshore intellectual property company owns the “IP” and licenses it to the parent company.

• Project annual savings of $$$.

International Strategy -International Strategy Offshore Trading Company

• Over time the company could migrate additional functionality to the Offshore Intellectual Property y p yCompany. This would transform the Offshore Intellectual Property Company into an Offshore Trading Company.g p y

• The Offshore Trading Company would oversee certain development, and distribution of the Company’s products and servicesCompany s products and services.

• As a result the Offshore Trading Company would earn a significant portion of Company worldwide profits in a low tax jurisdictionprofits in a low tax jurisdiction.

• Project annual savings of $$$.

Offshore Trading Company Modelg p yFunctions, risks and profits are shifted to the Offshore Trading Company with a low effective tax rate.

Headquarters(HQ)

lafter sales

servicet

researchservices

adminservices

Shared services centerSalesR&D center

purchase materials

arrange sales service

sale of finished goods

managementservices

purchase materials

deliver deliverprocessing

sale of finished goodsSupplierOffshore Trading Company

(Hong Kong, or Ireland/Switzerland) Customer

legal titlephysical flow

materialsdelivergoods

p gservices

7/27/2008 21

p yservices Factory

(USA, UK)

Thank You!Thank You!• Janice Leahy - Main # 978-749-9900y• David Dahn

Prepare for Successwww.dahnleahy.com