This country-specific Q&A provides an overview to tax laws and regulations that may occur in United States.
It will cover witholding tax, transfer pricing, the OECD model, GAAR, tax disputes and an overview of the jurisdictional regulatory authorities.
This Q&A is part of the global guide to Tax. For a full list of jurisdictional Q&As visit http://www.inhouselawyer.co.uk/index.php/practice-areas/tax-3rd-edition
How often is tax law amended and what are the processes for such amendments?
Congress periodically amends the Internal Revenue Code (the “Code”) through the normal legislative process. Changes to the Code, like other statutes, require approval by both houses of Congress (the House of Representatives and the Senate) and the President to the United States. In recent years, it has been difficult for Congress to pass significant tax legislation where the two major political parties split control of the Presidency or either House of Congress.
In 2017, under Republican control, Congress enacted landmark Tax Reform legislation (the so-called “Tax Cuts and Jobs Act” or “TCJA”). The TCJA was the most significant US tax legislation since 1986 and makes fundamental changes particularly to the taxation of foreign profits of US corporations.
What are the principal procedural obligations of a taxpayer, that is, the maintenance of records over what period and how regularly must it file a return or accounts?
Taxpayers are required to file Federal income tax returns on an annual basis. Taxpayers are required to file payroll tax returns (relating to social security and withholding taxes) on a quarterly basis. In addition, indirect taxes (e.g., sales and use taxes) are administered at the state and local levels and require quarterly or annual tax return filings in each jurisdiction in which the taxpayer is required to collect tax.
Under Code Section 6001, the taxpayer must maintain records necessary to substantiate the treatment of items on its Federal income tax returns for as long as those items may become material. The normal statute of limitations is three (3) years from the filing date of a tax return, although this period may be extended by agreement of the taxpayer or through various exceptions.
Who are the key regulatory authorities? How easy is it to deal with them and how long does it take to resolve standard issues?
The Internal Revenue Service (“IRS”) is in charge of administering the Federal income tax laws and auditing tax returns. The IRS also has a program for granting advanced private letter rulings on certain issues, subject to payment of a user fee. State and local taxes are subject to separate audit and administration at the state or local level.
Large corporate taxpayers are under audit by the IRS on a continuous basis. Certain corporations also have been admitted into Compliance Assurance Program (“CAP”), which allows for real-time audit of issues prior to the corporation’s filing of its tax returns. CAP has been popular with corporate taxpayers in minimizing disputes with the IRS, but new applications to the CAP program were recently suspended.
The difficulty of dealing with the IRS depends on the nature of the issue and taxpayer’s relationship with the IRS. The IRS’ Large Business & International (LB&I) division has designated certain issues as “campaigns” requiring coordinated national treatment within the IRS. Issues involved in campaigns may be expected to involve more controversy between taxpayers and the IRS.
Are tax disputes capable of adjudication by a court, tribunal or body independent of the tax authority, and how long should a taxpayer expect such proceedings to take?
Upon completion of an audit by the IRS, Taxpayers may protest any proposed assessment within the IRS at the IRS Appeals office. IRS Appeals is a separate body within the IRS that is intended to operate independently of the IRS examination function. IRS Appeals will attempt to resolve dispute issues through a negotiation that takes into accounts the parties’ likelihood of success on the merits (i.e., the hazards of litigation). Most disputes involving corporate taxpayers are protested to IRS Appeals and resolved there, rather than being litigated.
Taxpayers may also litigate a disputed tax deficiency in one of three judicial forums: the United States Tax Court, the Federal District Court for the district in which the taxpayer resides and the Court of Federal Claims. Tax Court is only the forum that allows prepayment review of a disputed assessment, whereas both Federal District Court and the Court of Federal Claims require the payment of the tax and filing a claim for refund. The Tax Court and the Court of Federal Claims are each courts of national jurisdiction and to different degrees specialize in tax matters. The Federal District Court is a court of general jurisdiction that handles a wide range of civil and criminal litigation. Decisions of all three courts are subject to appeal to the Circuit Court of Appeals in the region of the country where the taxpayer resides.
Are there set dates for payment of tax, provisionally or in arrears, and what happens with amounts of tax in dispute with the regulatory authority?
In the case of a calendar year taxpayer, corporate tax returns are due by April 15 of the following year or with an extension, by October 15. Payment of tax shown on the return is due with the payment. In addition, taxpayers are required to make quarterly estimated tax payments of their amounts due throughout the year.
If the taxpayer overpays their taxes for a year, the taxpayer may file for a refund with the IRS. Both underpayments and overpayments of tax bear interest at statutory rates. Taxpayers facing a potential tax deficiency may make a deposit of tax to prevent the accrual of interest pending resolution of the dispute.
Is taxpayer data recognised as highly confidential and adequately safeguarded against disclosure to third parties, including other parts of the Government?
Is it a signatory (or does it propose to become a signatory) to the Common Reporting Standard? And/or does it maintain (or intend to maintain) a public Register of beneficial ownership?
Code Section 6103 provides for confidentiality of tax return information obtained by the IRS during the course of an audit. Section 6103 generally prevents the IRS from disseminating tax return information to any third parties outside of the IRS, or subject to limited exceptions, to other parts of the government not involved in the audit. IRS employees that violate the restrictions on disclosure of taxpayer information may be subject to civil or even criminal penalties.
The US has not adopted the OECD’s Common Reporting Standard (CRS). The Code requires different beneficial ownership information to be collected by financial intermediaries and reported to the IRS and withholding agents pursuant to the Foreign Account Tax Compliance Act (“FATCA”) and related intergovernmental agreements between the United States and various countries worldwide.
What are the tests for residence of the main business structures (including transparent entities)?
With a limited exception for so-called “inversion” transactions, corporations and other business entities are considered to be residents of the country under whose laws they are created or organized. Place of management and control is not relevant. Foreign corporations engaged in the conduct of business within the United States are subject to US tax, however, on their profits effectively connected with that US trade or business.
Transparent entities, such as partnerships and limited liability companies, are also considered US tax residents if they are created or organized under US laws. Such US resident transparent entities generally have US tax return filing obligations, even if they are not themselves subject US federal income tax.
Have you found the policing of cross border transactions within an international group to be a target of the tax authorities’ attention and in what ways?
The IRS has devoted significant resources within LB&I to policing cross-border transactions, and following the TCJA, will be expected to continue to do so.
One area of significant focus within the IRS has been transfer pricing, particularly of licenses and transactions involving intangible property involving low-taxed foreign affiliates of US corporations. In recent years, the IRS has litigated transfer pricing cases involving hundreds of millions or billions of dollars of transfer pricing adjustments against Amazon, Medtronic, and Coca-Cola, among others. As part of Tax Reform, changes have been made to the transfer pricing statute, Code Section 482, to attempt to codify certain of the IRS’s litigation positions.
Another major focus of the IRS has been on cross-border reorganizations and “inversion transactions.” For example, in July 2018 (TD 9834), the IRS and Treasury finalized a comprehensive and controversial set of regulations under Section 7874 to limit the ability of US parent companies to “invert” under foreign ownership in certain cross-border mergers and combinations. The Section 7874 regulations greatly expand the reach of the inversion rules and the consequences of having been subject to an inversion. These rules need to be carefully considered in any transaction in which a US corporation is reorganized under a foreign corporation.
The IRS and Treasury have aggressively challenged transactions perceived to result in the tax-free repatriation of foreign earnings by US multinationals. Most recently, this includes IRS Notice 2016-73, addressing tax-free repatriation via so-called “Killer B” transactions. In another example, in Illinois Tool Works Co. v. Commissioner, TC Memo. 2018-121, the Tax Court recently rejected the IRS’s challenge to use of intercompany lending by a US parented group to effect a tax-efficient repatriation of earnings. With the TCJA’s repeal of deferral and new worldwide tax on foreign profits as GILTI, it can be expected that cash repatriation strategies will be less of a focus of taxpayers or the IRS in future periods.
In the context of foreign-owned US groups, another major focus of the IRS has been on intercompany debt and interest deductibility. Historically, the IRS has challenged such interest stripping using common law debt-equity principles to assert that purported debt was, in fact, an equity contribution. Recently, final regulations under Section 385 also apply to treat debt owed by a US corporation to a foreign affiliate as equity where it is created in certain debt pushdown transactions that do not result in new investment into the United States. The Section 385 regulations are under review by the Trump administration and may be repealed or modified. In addition, TCJA has amended Section 163(j) to provide a thin capitalization test to all interest expense of US corporations, whether on intercompany debt or third party debt (see Question 9 below).
Is there a CFC or Thin Cap regime? Is there a transfer pricing regime and is it possible to obtain an advance pricing agreement?
The US has comprehensive CFC rules, which have been further expanded by TCJA to include a global minimum tax of 10.5% on most CFC profits of a US corporate shareholder.
Under longstanding CFC rules, a controlling US shareholder of a CFC is subject to current US taxation on any so-called Subpart F income of the CFC. Subpart F income is intended to capture what Congress perceived to be “tax haven” income, and thus includes certain interest, dividends, rents, royalties and gains, as well as certain income from sale of property and provision of services involving related parties. An exception to subpart F income is provided for income subject to a local country tax of at least 90% of US the corporate rate (now 18.9% = 90% * 21%).
In addition, the TCJA introduced a new category of income captured by the CFC regime – so-called “Global Intangible Low-Taxed Income” (GILTI). GILTI consists of all income of the shareholders’ CFCs that is not subpart F income (or eligible for certain limited exceptions), to the extent that such income exceeds a 10% return on the CFC’s investment in tangible assets used in its trade or business (measured by tax basis). GILTI is fully included in taxable income of the US shareholder on a current basis in each year, with a 50% deduction provided for US corporate shareholders that results in an effective US tax rate of 10.5%. Foreign tax credits are allowed against US tax on both subpart F income and GILTI.
The TCJA also added the US’s first comprehensive thin capitalization test through amended Code Section 163(j). As amended Section 163(j) limits interest deductions of corporations and other businesses to 30% of adjusted taxable income. New Code Section 163(j) applies to all debt, whether third party or intercompany, whether the lender is US or foreign, and regardless of the US corporation’s debt-equity ratio. “Adjusted taxable income” is defined generally as US taxable income without regard to interest expense, loss carryforwards, and for taxable years beginning before January 1, 2022, depreciation or amortization (i.e., EBITDA). After 2022, deductions for depreciation or amortization are no longer added back, so that interest expense is limited to 30% of EBIT. Interest expense deductions that are disallowed carry forward indefinitely.
As noted above, Code Section 482 and the regulations thereunder provide a comprehensive set of transfer pricing rules. In addition, strict liability penalties apply to transfer pricing adjustments in excess of certain thresholds, unless the taxpayers has maintained contemporaneous documentation with the filing of the original tax return in a form specified by the transfer pricing regulations.
Advanced Pricing Agreements (APAs) are available from the IRS on a prospective basis. In the case of transactions between the US Company and an affiliate in a treaty country, bi-lateral and multi-lateral APAs are also available involving the IRS and the other competent authorities.
Is there a general anti-avoidance rule (GAAR) and, if so, in your experience, how would you describe its application by the tax authority? Eg is the enforcement of the GAAR commonly litigated, is it raised by tax authorities in negotiations only etc?
There is no GAAR recognized in US tax law. The right of a taxpayer to structure its affairs so as to pay the least amount of taxes legally permitted has been explicitly recognized by US courts. See Helvering v. Gregory, 69 F.2d. 809 (2d. Cir. 1934).
US courts have long applied judicial doctrines such as substance-over-form and the step transaction doctrine to re-characterize transactions in accordance with the underlying substance or disregard meaningless or transitory steps. These rules are commonly applied both by the IRS on examination and by taxpayers and their advisers in analyzing the expected tax treatment of transactions. Step-transaction and substance-over-form doctrines generally apply without regard to the taxpayer’s intent.
US courts have also applied an “economic substance” or “business purpose” doctrine to disregard transactions that have no appreciable effect on the taxpayer other than reduction of federal income taxes. Code Section 7701(o) codifies the economic substance doctrine, and further provides for a strict liability penalty of 40% for transactions lacking economic substance that are not adequately disclosed by the taxpayer on its tax return. The economic substance transaction has primarily been applied to “tax shelters” and other similarly marketed transactions. In the area of normal corporate tax planning, the IRS has been restrained in its application of the economic substance and business purpose doctrines.
Have any of the OECD BEPs recommendations been implemented or are any planned to be implemented and if so, which ones?
The US has adopted by regulations requirements of Country-by-Country (“CbC”) Reporting (OECD BEPS Action 13). The Regulations 1.6038-4 apply to US corporations with one or more foreign subsidiaries that, if the US corporation were publicly traded, would be required to file consolidated financial statements with the US corporation. Only groups with more $850 million of revenue in the preceding year are subject to the requirement. Where it applies, the US corporation provides to the IRS the CbC reporting data for each of its foreign subsidiaries through an attachment to its corporate tax return. The IRS intends to enter competent authority agreements with countries with which it has a tax treaty to share CbC information under appropriate safeguards.
As part of TCJA, Congress enacted anti-hybrid legislation in new Code Section 267A. New Code Section 267A disallows the US tax deduction for interest or royalties paid to related parties as part of a hybrid transaction or arrangement involving hybrid entities, where the amount is not included in income of the recipient. New Code Section 267A is intended to operate similarly BEPS Action 2.
The US has not become a party to the OECD’s multilateral instrument (MLI) and is not expected to do so. The US has stated publicly that it does not believe the changes to the permanent establishment definition and Treaty’s principal purpose test are appropriate.
In your view, how has BEPS impacted on the government’s tax policies?
While not adopting the BEPS action items relating to transfer pricing, the IRS has at times taken positions in transfer pricing examinations that are similar to the principles of the BEPS project. Transfer pricing regulations adopted by the previous administration (TD 9738, Sept. 2015) provide for aggregation of related transactions to ensure “full value” is captured by a transfer pricing method. As noted above, TCJA also amended Code Section 482 to provide for the aggregation of related transactions where necessary to achieve appropriate results.
The US’s adoption of the new worldwide tax system for GILTI addresses the concerns of the BEPS project by providing for a global minimum tax of 10.5% on most foreign profits of US multinationals.
Does the tax system broadly follow the recognised OECD Model?
Does it have taxation of; a) business profits, b) employment income and pensions, c) VAT (or other indirect tax), d) savings income and royalties, e) income from land, f) capital gains, g) stamp and/or capital duties.
If so, what are the current rates and are they flat or graduated?
The US federal tax system is principally comprised of an income tax on individuals and corporations, payroll tax on wages and other items of compensation, and a gift and estate tax.
a) Taxation of Business Profits
US corporations are generally subject to tax on their worldwide taxable income at a flat 21 percent. However, US corporations are effectively taxed at a lower rate of 13.125 percent on their foreign-derived intangible income, which, for taxable years through 2025, is achieved by a 37.5 percent deduction. Finally, certain US corporations may be subject to a base erosion minimum tax that is payable in addition to any other tax liability. The base erosion minimum tax amount is generally the excess, if any, of 10 percent (five percent in the case of taxable years beginning in calendar year 2018) of the corporation’s modified taxable income over an amount equal to its regular tax liability reduced by certain tax credits.
b) Taxation of Employment Income and Pensions
- Income Taxes. US individuals are generally subject to tax on their worldwide taxable income, including wages and other items of compensation. Graduated tax rates are then applied to the individual’s taxable income to determine his or her individual income tax liability. Unlike the taxation of corporations, an individual may be subject to additional taxation if the alternative minimum tax applies. For 2018, income of a US individual may be subject to tax at the following graduated tax rates, depending on the taxpayer’s applicable tax bracket: 10, 12, 22, 24, 32, 35, and 37 percent. Finally, US individuals may offset their taxable income by certain tax credits.
- Self-Employment Taxes. US individuals who are self-employed must pay self-employment taxes consisting of Social Security and Medicare taxes. For 2018, the self-employment tax rate is 15.3 percent (12.4 percent for Social Security and 2.9 percent for Medicare). Furthermore, an additional Medicare tax of 0.9 percent applies to wages, compensation, and self-employment income above a threshold amount. Self-employed US individuals may be entitled to deduct the employer portion of the self-employment taxes.
- Social Security Taxes. Wages and other items of compensation paid to US individuals that are not self-employed are likewise subject to Social Security taxes. For 2018, the tax rate for Social Security is 12.4 percent, 6.2 percent of which is borne by the employer and 6.2 percent of which is borne by the employee. Social Security taxes are subject to a wage base limit. For 2018, the wage base limit is $128,400.
- Unemployment Compensation Taxes. Federal Unemployment Taxes provides for payments of unemployment compensation to unemployed workers. Federal Unemployment Taxes are not deducted from the employee’s wages, but are instead borne solely by the employer. For 2018, the Federal Unemployment Tax rate is 6.0 percent, subject to certain wage base limitations, which, for 2018, is $7,000 per employee.
- Medicare Taxes. Wages and other items of compensation paid to US individuals who are not self-employed is likewise subject to Medicare taxes. The current rate for Medicare is 1.45 percent for the employer and 1.45 percent for the employee, or 2.9 percent in total. Again, an additional Medicare tax of 0.9 percent applies to wages and other items of compensation above a threshold amount.
c) VAT (or Other Indirect Tax)
The US does not impose a VAT, nor is there currently a US federal sales or use tax. However, the majority of US states have enacted sales or use taxes.
d) Savings Income and Royalty
US corporations are generally subject to tax on portfolio income, such as interest, dividends, and royalties, at a flat 21 percent tax rate, as described in 13.a, above. Unlike US individuals, however, no preferential tax rates apply to dividends received by US corporations, although, under certain circumstances, a US corporation that receives a dividend may be entitled to a dividends received deduction, as discussed below in 22.
US individuals are likewise generally subject to tax on interest and royalties at the tax rates set forth in 13.b.1, above. However, provided certain requirements are met, qualified dividends may be subject to preferential tax rates similar to capital gains, as discussed below in 13.f. Moreover, US individuals are generally subject to an additional 3.8 percent net investment income tax on portfolio income.
e) Income from Land
US corporations are generally subject to tax on income from real property (rents and gain from the sale of the property) at a flat 21 percent tax rate. A US corporation’s ability to utilize losses on a sale or other taxable disposition of real property that is treated as a capital asset for US federal income tax purposes may be limited.
US individuals are likewise generally subject to tax on income from real property at the statutory rates described above in 13.b.1. However, to the extent the real property is treated as a capital asset for US federal income tax purposes, gains from the sale or other taxable disposition of real property may be subject to preferential rates; losses from a capital asset are generally limited. Moreover, a US individual may be subject to an additional net investment income tax of 3.8 percent on rents and capital gains from the sale of real property.
Finally, an additional withholding tax of 15 percent may apply to the gross proceeds from the sale or other taxable disposition of US real property (including stock of a US corporation, if at least 50% by value of the corporation’s assets is comprised of US real property) by a non-US individual or entity.
f) Capital Gains
The sale or other taxable disposition of property characterized as a capital asset for US federal income tax purposes is subject to special rules. Generally, a capital asset is any asset other than inventory, depreciable property, real property used in a trade or business, and accounts receivable.
In general, US corporations are taxed at the regular income tax rate of 21 percent on the sale or other taxable disposition of a capital asset. A corporation may not deduct capital losses in excess of capital gains for the taxable year; disallowed losses may be carried back and forward, however.
By contrast, US individuals who have held a capital asset for more than one year before selling it may be eligible for reduced tax rates. Losses from the sale or disposition of a capital asset may be limited. US individuals may also be subject to an additional net investment income tax of 3.8 percent on any gains from the sale of a capital asset.
g) Stamp and/or Capital Duties.
The US does not impose any stamp taxes or capital duties.
Is the charge to business tax levied on, broadly, the revenue profits of a business as computed according to the principles of commercial accountancy?
US tax law generally allows a taxpayer to select the method of accounting to be used to compute taxable income, provided that such method clearly reflects the income of the taxpayer. Permissible methods of accounting include the cash receipts and disbursements method, an accrual method, or any other method permitted by the US Treasury Department or IRS.
Many businesses, including most corporations, use an accrual method of accounting for tax purposes. Under an accrual method of accounting, taxpayers generally accrue items of income when all the events have occurred that fix the right to receive the income and the amount of the income can be determined with reasonable accuracy. However, as enacted in the TCJA, businesses that use an accrual method of accounting may not treat the “all events” test as having been met for any item of income any later than when that item is taken into account as revenue in an applicable financial statement.
Are different vehicles for carrying on business, such as companies, partnerships, trusts, etc, recognised as taxable entities? What entities are transparent for tax purposes and why are they used?
Yes. Under US tax law, certain entities are eligible to elect their classification for US tax purposes. Foreign as well as domestic entities may make the election.
Whether an entity is eligible to elect its classification for US tax purposes depends largely on whether the entity is treated as a “per se corporation” for US tax purposes (in which case it will be taxed as a separate taxable entity) and the number of its beneficial owners.
An entity with only one beneficial owner may elect to be treated as an entity that is disregarded from its owner for US tax purposes or as a separate taxable entity. An entity with more than one beneficial owner may elect to be treated as a partnership for US tax purposes or as a separate taxable entity.
For US tax purposes, certain legal entities, such as limited partnerships, LLCs, and small business corporation, are generally taxed as “pass-through” entities. A “pass-through” entity is not itself subject to US tax. Rather, income flows through, and is directly taxed, to the entity’s owners. Such entities may be used to mitigate the effects of double taxation of income.
Is liability to business taxation based upon a concepts of fiscal residence or registration? Is so what are the tests?
Yes. US persons are generally subject to tax on their worldwide income. US tax law defines US person to include all U.S. citizens and residents as well as domestic entities such as partnerships, corporations, estates and certain trusts. As described above in question 7, the determination of whether an entity is subject to US taxation on its worldwide income is generally made on the basis of its place of organization.
Are there any special taxation regimes, such as enterprise zones or favourable tax regimes for financial services or co-ordination centres, etc?
Yes. The US tax system provides certain incentives aimed at encouraging economic growth and investment in distressed communities by providing certain tax benefits to businesses located within certain designated geographic locations. For example, taxes on capital gains from investments in qualified opportunity zones may be deferred and, in some instances, permanently excluded.
Are there any particular tax regimes applicable to intellectual property, such as patent box?
No. However, the US tax system does subsidize certain research activities, for example, by offering a credit for qualified research expenditures and permitting research expenditure to be expensed rather than amortized over time.
In addition, although not strictly a “patent box” regime (due, in part, to the lack of nexus), the TCJA introduced section 250 of the Code, which provides a reduced rate of 13.125 percent on the foreign-derived intangible income (“FDII”) of a US corporation, which, as explained above in 13a, is achieved by a 37.5 percent deduction. For these purposes, FDII generally includes income from property sold, leased, or licensed by a US corporation to any non-US person for use outside of the US, as well as certain services a US corporation renders to non-US persons. It is anticipated that there may be challenges to FDII brought against the US in the World Trade Organization, as with similar export sales incentives previously provided by the Code. Thus whether FDII will be a long-term feature of the Code is open to question.
Is fiscal consolidation employed or a recognition of groups of corporates for tax purposes and are there any jurisdictional limitations on what can constitute a group for tax purposes? Is a group contribution system employed or how can losses be relieved across group companies otherwise?
Yes. Under US tax law, US corporations that are affiliated through 80 percent or more corporate ownership may elect to file a consolidated return reflecting the group’s combined income and loss, instead of each corporation filing a separate return. In this regard, US corporations filing consolidated return generally are treated as a single entity. As a result, the losses of one corporation can offset the income (and thus reduce the otherwise applicable tax) of other affiliated corporations. Some states may not follow federal consolidated return filings.
Are there any withholding taxes?
Yes. In general, non-US persons are subject to US tax only with respect to income from US sources. US source income that is “fixed or determinable annual or periodical gains, profits, and income” (FDAP) and that is not effectively connected with a US trade or business is generally subject to a 30 percent gross basis withholding tax, which is withheld at the source by the payor or the payor’s withholding agent.
FDAP includes, for example, dividends, interest, royalties, and rents. FDAP income generally does not include gain from the sale of property, however, certain gains from sales of U.S. real property interests are subject to tax as effectively connected income (or in some instances as dividend income) and subject to withholding of 15 percent on a gross basis.
Many types of income are either exempt from tax (e.g., portfolio interest) or subject to a reduced rate of tax under an applicable income tax treaty. To the extent that the withholding agent deducts and withholds an amount, the withheld tax is credited to the recipient of the income. If the agent withholds more than is required, and results in an overpayment of tax, the excess may be refunded to the recipient of the income upon filing of a timely claim for refund.
Finally, certain foreign financial institutions and other noncompliant entities may be subject to a 30 percent withholding tax under FATCA.
Are there any recognised environmental taxes payable by businesses?
Yes. The US federal tax system imposes certain environmental taxes on operators of oil refineries and users or exporters of crude oil, as well as certain manufacturers or importers of ozone-depleting chemicals.
Is dividend income received from resident and/or non-resident companies exempt from tax? If not how is it taxed?
Yes. Under US tax law, corporations are generally allowed a deduction for dividends received from other taxable US corporations. The deductible amount is calculated as a percentage of the dividends received, depending on the level of ownership that the corporate shareholder has in the US corporation paying the dividend. Currently, the dividends received deduction is 50 percent of the dividend if the recipient owns less than 20 percent (by vote and value) of the stock of the payor corporation (resulting in an effective tax rate of 10.5 percent), 65 percent if the recipient owns at least 20 percent but less than 80 percent of the stock of the payor corporation (resulting in an effective tax rate of 7.35 percent), and 100 percent if the recipient owns 80 percent or more of the stock of the payor corporation.
Furthermore, dividends corporations receive from non-US corporations are not generally eligible for the dividends received deduction. However, if a corporation owns at least 10 percent (by vote and value) of the stock of a foreign corporation paying the dividend, the US corporation is generally entitled to a deduction for the untaxed US source portion of the dividends. And, as enacted as part of the TCJA to transition the US to a hybrid territorial tax system, certain domestic corporations that own at least 10 percent (by vote or value) of a foreign corporation are entitled to deduct 100 percent of the untaxed foreign-source portion of dividends received by the foreign corporation, provided the US corporate shareholder has met certain holding period requirements.
If you were advising an international group seeking to re-locate activities from the UK in anticipation of Brexit, what are the advantages and disadvantages offered?
Following the passage of the Tax Cuts and Jobs Act in December 2017, the US tax system has become more competitive, especially for US corporations that provide services or sell goods abroad. For example, as noted above, corporations are subject to a 21 percent flat tax rate and, although the US statutory corporate tax rate is still not as low as the UK (19 percent for 2018), certain income derived from sales of good and services outside of the US is effectively taxed at 13.125 percent.
While US corporations now enjoy significantly reduced income tax rates on their worldwide income (including subpart F income and GILTI), large US corporations may now be subject to a base erosion minimum tax (“BEAT”) that is payable in addition to any other tax liability. As noted, the base erosion minimum tax amount is generally the excess, if any, of 10 percent (five percent in the case of taxable years beginning in calendar year 2018) of its modified taxable income over an amount equal to its regular tax liability reduced by certain tax credits.
Finally, under the TCJA, US shareholders of CFCs are now subject to tax on their pro rata share of GILTI, without regard to whether the income is distributed to the shareholders. For these purposes, GILTI generally includes all business income of a CFC other than subpart F income or income effectively connected with a US trade or business. And, while the new GILTI regime reflects an expansion of the US tax base to tax active business of a US shareholder’s CFC, US corporate shareholders are generally allowed a 50 percent deduction on their share of GILTI. A foreign tax credit generally is available to offset, in whole or in part (only 80 percent, in the case of GILTI), the US tax owed on non-US source income.