H. Jacob Lager

Archive for the ‘Business entities’ Category

Fiscal cliff fallout: Did you survive?

In Business entities, Fiscal cliff, Foreign taxes on January 9, 2013 at 4:39 pm

Fiscal cliff:  did you survive?

For roughly 24 hours we dangled – no, fell – off the dreaded “Fiscal Cliff.”  Then Congress saved us.  Well, saved us from uncertainty at any rate.

While Cliff coverage focused primarily on individual tax rates, two very important tax provisions for multinational firms were extended for another year.

First, the “active financing exception,” which allows domestic corporations to exclude foreign  interest income earned by their active foreign subsidiaries was, again, extended until 2014.  This rule was created in 1997 as a temporary measure to help U.S. banks and manufacturers compete internationally.  It has been annually renewed every year since.  We examined it here a few months ago.  So Morgan Stanley, Ford, and GE can rest easy for another twelve months.

Second, Congress also extended the “look-through” treatment of certain payments between related foreign subsidiaries (known as “controlled foreign corporations” or “CFCs”) for one more year.   With this rule, passive income (namely dividends, interest, rents, and royalties) received by one CFC from a related CFC will not be subject to the Subpart F rules.  The Subpart F regime would otherwise force the CFCs’ common U.S. parent to recognize a taxable dividend on such inter-company income.  The key to this exemption is that the character of the income in the hands of the payor CFC must not be Subpart F income itself.  In other words, once one foreign sub earns foreign income from an active trade or business, the multinational family is free to move it around with no U.S. tax consequences.

For another year, at least.

Photo by mith_y.

Advertisements

The top four tax rumors about the Facebook IPO: Busted!

In Business entities, Business entity, Offshore Accounts, Tax rumors on May 23, 2012 at 6:50 am

Facebook tax

I love it when current events make my job easy.

To wit: the recent Facebook IPO, Ed Saverin’s expatriation, and Sen. Chuck Schumer’s legislative reaction thereto.

In case you live entirely off the grid, chances are you’ve heard about a little company called Facebook that went public this past Friday, making a lot of people instant millionaires, and a few people billionaires.  One of those people, Ed Saverin reportedly ceded his US citizenship recently to avoid paying US taxes on his recent windfall.  In response, Sen. Schumer (D-NY) introduced a rather drastic piece of legislation that would ban Saverin from ever setting foot on US soil again!

So, with that in mind, I give you, the top four tax rumors about the Facebook IPO:  Busted! (Consider this the tax version of Snopes.com).

1.   Ed Saverin has sneakily avoided US taxes.

Status: False

By expatriating, Saverin has incurred what’s known as the “exit tax.” He will be treated as having sold all his US assets on the day of his expatriation, which will cause Saverin to owe a 15% a capital gains tax for 2012 on the appreciation of his Facebook shares.  Although his exact stake in Facebook is unknown, Saverin himself has issued statements indicating that his exit tax bill will exceed several hundred million dollars.

So why is Schumer so upset?

2.  Ed Saverin is paying less taxes than he would have without leaving the US.

Status: True

The date of Saverin’s exit is key.  By leaving prior to the IPO, Saverin effectively “sold” his Facebook shares at a value that is far less certain (and likely less rich) than it’s opening $38/share value.

Saverin’s early exit also opens the door for some valuation discounting.  At the time of his expatriation, Saverin owned a non-controlling minority position in a company that was not publicly traded.  Also, as famously depicted in The Social Network, Saverin had long ago been pushed out of any management role at the company.

“So that means that it is highly likely that Saverin applied one or more significant discounts to the value of his shares due to the lack of any open market for his shares and  the lack of company control that his minority stake would impart a willing buyer,” notes Barbara Barschak, CPA a partner with the Los Angeles firm of Katz Cassidy.

So, if we assume Saverin’s shares had a book value of $20/share at the time of his exit, a 40 percent discount would further reduce his per share value to $12.   Compared to today’s $34 trading value, Saverin would be paying $1.80 of capital gains tax on each share instead of $5.10.  That’s 35.3 percent of what he would pay today.

But wait!  There’s more!

3.  Ed Saverin is avoiding future US taxes.

Status: True

In general, proceeds from the sale of intangible property is sourced to the seller’s tax residence.  This means that when Saverin does decide to sell his shares, the resulting proceeds will be subject to the prevailing capital gain tax rate of Singapore.

If Singapore had a capital gains tax.  It does not.

When you consider the likelihood of higher US capital gains rates in the future (at the very least, we know Saverin would be subject to next year’s extra 3.8% Medicare tax on high earners), expatriating this year ends up saving Saverin even more money.

“Good for him, but bad for the US,” says Barschak.

4.  Ed Saverin will never be allowed to return to the US.

Status:  Highly Unlikely.

Because expatriation is perfectly legal, there is very little the federal government can do to thwart Saverin’s savings.  The IRS could dispute Saverin’s per share value or his applied discounts, but those are just factual disputes.  The concepts underlying Saverin’s tax savings are legal and somewhat vanilla.  At the end of the day he will realize a significant tax savings from this move,

So  what’s a lawmaker filled with righteous fury to do?

Why, ban Saverin from ever visiting the US again, of course!  That’s what Senators Chuck Schumer and Robert Casey (D-Pa) have proposed for any US citizen who expatriates to avoid taxes.

In the unlikely event this legislation actually becomes law, such a retroactive application would be vulnerable to constitutional attack as a targeted bill of attainder.  So why would a US Senator waste his time pushing such a bill?

Oh, right.  Election year.

Flowchart: All Your Business Entity Selection Questions Answered On One Page

In Business entities, Business entity, Business tax rate, Business tax rates on May 14, 2012 at 9:27 am

Business entity selection is an issue at comes up in every deal I encounter.  For tax purposes, the correct type of business entity for a given client cam be ascertained by how they answer the following questions:

Am I the sole owner?

Am I willing to pay a state/franchise tax for limited liability?

Am I taking on any debt?

Am I taking on any preferred investors?

Am I willing to deal with a second level of taxation?

Compare your answers to this flowchart to see where you end up.

Business entity selection, business entities

If you have even more questions regarding business entity selection, please contact me.  We can cover your specific needs and help start the best business entity for your situation.