educational

International Tax Structures

Scott Wentz
Companies that have customers outside the U.S. have an opportunity to defer and permanently reduce the effective tax rate on income earned. What does this mean in plain English? A company that is paying more than 15 percent federal rate on its earnings from outside the U.S. is paying too much.

What are earnings from outside the U.S.? How does a company know if a customer is from abroad? An Internet-based company may be able to trace this information from payment statements, addresses, or even general statistics of a contract.

For example, if a company earns monies from Yahoo! or AFF, and that company only receives a check from these U.S.-based companies, then an organization may take the position that it is earning, say, 40 percent of its revenue from abroad as at least 40 percent of Yahoo! and AFF’s businesses are from abroad.

For a U.S. company that earns income from abroad, there are a number of legitimate methods to defer the U.S. tax on the income. The options range from simple to complex.

A simple option is to set up a domestic international sales company in Nevada, which can earn up to $400,000 tax free and then may make a dividend out to owners at 15 percent (when the funds are needed).

A more complex option is to set up a foreign company in a tax haven jurisdiction that enters into a cost-sharing agreement with the U.S. company and invoices customers outside the U.S. or is a party to contracts with all who view the site, such that if they are foreign, they are in contract with the foreign company.

Both of these options are structures that allow for all income earned by the foreign company to be taxed at a zero rate (until distributed). Cash is brought back to the U.S. company via the cost-sharing payments.

Another popular model is the use of foreign companies set up in the Netherlands Antilles, or elsewhere. In this model, the foreign company is the main contracting entity.

This model can work to defer the U.S. tax on income, but if the operation has any U.S. employees or agents, the foreign company may be required to file a U.S. tax return.

Canada also has its share of Internet-based companies, which in itself does not require a U.S. tax filing. But like the Netherlands Antilles structure described above, if the Canadian operation has any business presence (employees or binding agents) in the U.S., the Canadian company may be required file a U.S. tax return.

Also note, when foreign companies are owned by U.S. citizens or residents, the shareholder must report its ownership on a Form 5471. Failure to report has penalties of up to $25,000 per year (even more if the IRS considers it fraud).

These are a few options to effectively defer the payment of U.S. federal and state tax for those operations earning monies from non-U.S. sources. An effective international tax structure may reduce your overall U.S. tax liability by 30 percent!

Since each business and its activities (selling product, service, or license revenue) are unique, we recommend consulting with an international tax consultant to determine the best option for your company.

Montage Services, Inc. (www.montage-services.com) provides international and domestic tax consulting and advisory services primarily for corporations. To inquire about a particular tax issue or seek consulting services, contact Scott Wentz, Managing Director, at (415) 963-4016 or scott@montage-services.com.

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