IMGCAP(1)]Companies with non-U.S. earnings parked overseas should start contemplating what they will do with the money if tax repatriation legislation is passed.
“There are currently three major repatriation proposals,” said Mike Minihan, a principal at the global tax consulting firm Ryan. “One is the Rand Paul-Barbara Boxer proposal, which would tax repatriated funds at the nominal rate of 6.5 percent. We say nominal’ because, depending on how the final bill is written, the amount could be reduced by the foreign tax credit. The proposal is interesting because it comes from both sides of the aisle.”
“The second proposal is the McCain-Franks proposal,” said Ian Boccaccio, principal and practice leader for international tax at Ryan. “Both are Republicans, so it’s not bipartisan. Under it, repatriated funds would be taxed at 8.75 percent, but there’s a kicker—if the money coming back to the U.S. is used for job growth, the rate drops to 5.25 percent.”
The third proposal is contained in the Obama administration’s budget, Minihan noted. “It would tax the repatriated funds at a 14 percent nominal rate. The amount taxed would be used to restore the Highway Trust Fund.”
“The issue with all three proposals is that they are not revenue neutral,” he said. “Each one is scored with a new cost to the government, so they probably won’t be enacted as they stand. That said, it’s clear that the messages coming from different sources in both parties is that there is real interest in getting provisions like this done.”
“In 2004, the American Jobs Creation Act created a one-time repatriation holiday under Code section 965 when they reduced the rate to incentivize companies to repatriate non-U.S. earnings,” said Boccaccio. “The idea was to take the cash and create jobs. The point is the same today—let’s get the cash back into the U.S.”
What happened the last time, with the 2004 Act, came as a pleasant surprise for most companies, according to Boccaccio. “There was a very short window between the time the legislation was enacted and the time when the repatriation had to occur,” he said. “Taxpayers could elect to either enjoy the reduced rate on dividends in the tax year before the legislation was enacted, or in the first tax year after the enactment date [Oct. 27, 2004]. Either way, the calculations required to make a repatriation are pretty substantial, and companies were really scrambling to do the analysis.”
“It’s like a perfect storm,” said Boccaccio. “The legislation will likely come to pass in some form, with record profits sitting offshore. The current exchange rate environment also makes repatriation to the U.S. interesting, perhaps advantageous. The dollar has strengthened during the past six months. When you make a repatriation, you compute it in U.S. dollars and translate the distribution at the spot rate on the day you make it. There is a corresponding foreign tax credit that will get to offset the U.S. tax, and you’re paying non-U.S. taxes in non-U.S. currency. The method required to compute the foreign tax credit is not the spot rate. It’s the average rate for the year.”
“What all this means is that it is cheaper to pay a dividend now with repatriated funds than it was a year ago,” Minihan said. “You could argue that even without repatriation it’s the right time to take a look at a repatriation strategy. The only way to do that is through a quantitative analysis of non-U.S. attributes.”
“There’s a fair amount of complexity in calculating how much foreign tax credit you can take on a U.S. tax return,” he said. “Because companies will be working with non-U.S. earnings that were not intended to be repatriated, the analysis can be complicated and voluminous, spanning the full earnings and taxation history of the entity remitting the funds to its U.S. parent. The difference between doing a thorough calculation and doing a back-of-the-envelope calculation can be material. Getting it right and being thorough is extremely important.”
