H. Jacob Lager

Google’s Irish Sandwich Explained

In Business tax rate, Business tax rates, Foreign taxes on January 3, 2013 at 2:16 pm

irish sandwich

In our last entry I promised to explain how Google’s infamous “Double Irish” sandwich creates some serious US tax savings for the giant search engine.  Now, it’s recipe time.

In the best plain English I can manage, here is how the epicurean structure works:

Step One (the ingredients):  A US firm with valuable intellectual property creates two Irish subsidiaries and one in the Netherlands.

The first subsidiary (“HoldCo”) will be formed in Ireland but actually controlled in a low-tax environment such as Bermuda.   While US tax law (which looks to the jurisdiction of incorporation) will consider HoldCo an Irish subsidiary of the parent, Ireland will consider it a Bermudian entity because that’s where HoldCo’s “effective centre of management” will be domiciled.

The second subsidiary (“DutchCo”) will be a wholly owned subsidiary of HoldCo, organized and controlled in the Netherlands, and will elect to be disregarded from HoldCo, its sole owner for US tax purposes.

The third and final subsidiary, the management company (“MCo”), will be a wholly-owned Irish subsidiary of DutchCo, and will also elect disregarded status.  For US tax purposes, all three subsidiaries will be treated as one Irish entity.  However, Ireland will view the structure as consisting of three distinct corporations, one subject to Irish corporate tax (MCo) and the others exempt from it (HoldCo and DutchCo).

Step Two (putting it all together):  The US parent sells its valuable IP to HoldCo.  HoldCo will then license the IP to MCo (through DutchCo).  MCo will exploit that IP throughout the world, collecting income.   In Google’s case, this income consists of advertising revenue from all its non-US sources.

MCo’s taxable revenues will be reduced by its deductible royalty payments made to DutchCo pursuant to the two subs’ license agreement.  Similarly, DutchCo will then pay out its revenues to the Bermuda-based HoldCo.  Here are how the taxes then get calculated:

  • Whatever MCo profits exist will be taxed at Ireland’s 12.5 percent corporate rate.  But because it will deduct any royalty payments made to HoldCo, this number will be relatively small.  (This, by the way, is the essential condiment of the Irish Sandwich:  the fact that it relies on Ireland’s history of relatively weak transfer pricing laws.  Transfer pricing rules typically ensure that charges between units of a multinational corporate family approach fair market arm’s-length value.  Otherwise, a US firm could easily drain its profits by making wildly expensive (and tax-deductible) payments to its own Bermuda subsidiary.  Google’s Double Irish is meant to create the maximum possible tax value for corporations within the relative liberality of Irish transfer pricing laws.  A successful sandwich relies on bending, but not breaking, these transfer pricing rules. )
  • The payments that go to HoldCo (through DutchCo) will avoid Ireland’s 20 percent withholding tax on royalties due to operation of certain EU tax treaties.
  • The majority of MCo revenues will sit in HoldCo in Bermuda, where the corporate tax rate is essentially zero.

The end result?  Only a small Irish tax is paid on the vast majority of Google’s non-US income.

It sounds great, but is it legal?  Well, Google reportedly only implemented the structure after obtaining an IRS advance ruling after three years of negotiations.  So, yes, as long as Google keeps to its agreement, it can continue to eat this sandwich just so long as the Irish, Dutch, and Bermuda ingredients don’t spoil.

Photo provided by Urban Sea Star.

  1. How is something like this legal? If so, is everyone else doing something similar? Apple is usually on top of this type of thing, too. Are they doing it?

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