From International Taxes

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How Brexit Will Affect Tax Departments

On Friday June 24, the world woke up to the news that the United Kingdom had voted to leave the E.U.

The resulting economic uncertainty has sparked market volatility, as everyone struggles to predict the consequences of such an unprecedented move.

It’s important to note that there are no immediate tax consequences of the referendum. Parliament hasn’t triggered Article 50, and even once Article 50 is set in action, the U.K. will have two years to hammer out a plan for exiting the E.U.

When the United Kingdom does strike out on its own, it will impact businesses headquartered in Britain, as well as those who operate within its borders. While much is still uncertain, the articles below represent some of the best attempts to decipher the tax and mobility implications of Brexit for companies.

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Does The Pfizer-Allergan Deal Validate Tax Inversion?

Written on January 22, 2016 by Natalie Boatner

If you’re keeping up with recent events in tax inversion trends, then you’ve likely seen extensive coverage of the Pfizer-Allergan merger. The $160 billion deal would shift Pfizer’s New York headquarters to Ireland and, in the process, substantially reduce Pfizer’s U.S. tax bill. For many, the acquisition highlights flaws in U.S. tax law and the existing corporate tax structure. Understanding the mechanics behind the practice of tax inversion, and the Pfizer-Allergan move in particular, can help us better understand what tax inversion means for companies and for the U.S.

Tax inversion, or corporate inversion as it is sometimes called, is a practice in which a corporation whose legal domicile is within a high-tax nation relocates, often via merger, to a legal domicile with lower tax rates. Despite relocating, the inverted corporation will often maintain its physical headquarters and/or material operations in its higher-tax domicile nation. The U.S. charges higher corporate income tax than most of the world with state and local taxes, it amounts to close to 40% in 2015. This means that there is a higher cost to capital, and that net growth means a corporation must earn the cost of capital or greater to generate actual revenue, whether or not the company is growing.

What’s more, the U.S. is one of only a few developed countries still operating on a global taxation model, as opposed to a territorial model. In the global model, income generated anywhere is taxed at the U.S. rate (which is higher than the corresponding tax in other nations). In the territorial model, the tax rate of income is applied based on the tax rate of the nation in which the income was generated. If this wasn’t enough, there is a clause in the tax code that states that the additional U.S. tax on income generated overseas is only paid when that income is repatriated. This causes a phenomenon known as “trapped” income. In 2015, the amount of “trapped” income was estimated to be $2.6 trillion.

So why is this important, and why are people so upset about Pfizer merging with Allergan? The deal will be the largest instance ever of an American company relocating to reduce its tax burden. The U.S. could miss out on billions of dollars of tax revenue, as well as see a plunge in domestic jobs. Allergan is incorporated in Ireland—a nation that operates on a global tax model. Ireland’s corporate tax rates, at 12.5%, are substantially lower than America’s 40%, eliminating negative effects of relocation. When Pfizer merges with Allergan and shifts its incorporation to Ireland, it untraps a few billion in revenue, and potentially its value and market shares from the revenue saved on corporate taxes. (Although several investors have been disappointed in the projected size of cost reductions.)

While there is no definite reason to believe major reforms will occur after three decades of severe corporate taxation, there has been very loud rhetoric in the political sphere surrounding the Pfizer-Allergan merger. Increasingly, politicians are decrying inversion and addressing the need for reform. But, it’s safe to assume that the flaws in the international corporate tax structure will not be instantly solved by whichever new regime steps into office next year. Pfizer’s CEO claims the new deal will help put the company on equal footing with its competitors. Many eyes are watching to see if his promise holds true in the coming years.

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The Law That Could Put Millions of Americans’ Passports In Jeopardy

Written on January 20, 2016 by Natalie Boatner

Americans living abroad have a new cause for worry when they file their 2015 tax returns: making a mistake could cost them their passports. For over eight million Americans living abroad, compliance with the Foreign Account Tax Compliance Act (FATCA) has created headaches since 2010. Now a piece of new legislation called the Fixing America’s Surface Transportation, or FAST, act has many Americans contemplating relinquishing their U.S. citizenship for fear of financial or criminal penalties imposed by the IRS.

Critics have long argues that FATCA’s reporting requirements are unrealistically complex and disadvantage Americans abroad. FATCA targets non-compliance by American taxpayers abroad but it relies mainly on individual reporting by taxpayers and on reporting by foreign financial institutions regarding taxpayers’ holdings.

The FAST act increases the potential penalties for expats who fail to comply with FATCA. The long document has two important provisions buried inside its tax code. These two provisions mean that the IRS can now impact the denial, renewal, or attaining of a U.S. passport.

The first passport provision gives the U.S. Secretary of State the power to revoke or deny the application for or renewal of a passport if the IRS identifies the taxpayer as seriously delinquent. The second provision gives the same power to the Secretary of State if the applicant fails to provide a valid, correct social security number. If a passport was issued, it can be revoked if the invalid or incorrect social security number was provided willfully, recklessly, or negligently.

The problem lies in the definitions of the terms “seriously delinquent,” and “recklessly, or negligently.” Under the provisions, seriously delinquent means any outstanding federal tax debt exceeding $50,000. This includes interest and penalties, and is actually fairly easy to achieve among American expats. Recklessly and negligently are under the discretion of the IRS and State Department to define on a case-by-case basis.

For American expats and foreign nationals abroad already struggling with international taxes under FATCA, FAST is likely going to make things more complicated. It is of the utmost importance to fill out your passport paperwork carefully, as even minor errors can rack up major travel, lodging, lawyer, and visa fees. Even more helpful would be to employ a tax lawyer or an accountant. The most important thing to do is stay informed. The FAST Act can be read in full here.

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What You Need to Know: The OECD’s New Tax Reforms

On Monday, the OECD unveiled new standards for international corporate taxation. The changes are the most expansive overhaul of international tax rules in decades.

The OECD stated that, “Revenue losses from BEPS are conservatively estimated at USD 100-240 billion annually, or anywhere from 4-10% of global corporate income tax (CIT) revenues.”

The new rules still have to be approved by finance ministers and G-20 leaders, but once approved some rules will take effect immediately. Below are some of the key changes proposed. You can read the full document here.

Key Changes:

The majority of the OECD’s changes are designed to create a system where company’s profits are closely tied to where revenue is generated.

    • More detailed reporting requirements – Multinational companies will be required to create a thorough summary of their global activities, broken down by country. This summary will be shared with tax regulators globally.
    • Crackdown on cross-border structures – Countries will introduce rules to prevent cross-border structures that exploit the discrepancy in tax codes between two countries.
    • Tougher requirements on permanent establishment – There will be more stringent rules on what constitutes taxable business within a country and how a company proves whether it is active or inactive within a country.
    • Increased transfer pricing curbs – The OECD continues its crusade against the manipulation of transfer pricing, with changes designed to “make sure that the outcomes are in line with value creation and substance,” according to OECD official Marlies de Ruiter. The new revisions focus on three areas: 1) contractual allocation of risk, 2) transactions involving intangibles, and 3) other high-risk areas (including “cash boxes”).
    • Stricter guidelines for digital multinationals – There will be tighter definitions to bar digital multinational companies from splitting closely aligned business activities into onshore and offshore components. Tax experts point to this as one area where OECD is directly challenging Google’s operating practices in Europe.

Some Caveats:

Not everyone is thrilled about the proposed changes. Several executives at (mostly U.S.-based) technology companies have voiced the concern that the new changes allow for too much interpretation by national tax authorities, which could result in companies being taxed multiple times on the same profit by different governments.

Conversely, others have expressed skepticism that all governments, particularly those of the U.S. and the U.K., will implement the proposed changes. Richard Murphy of Tax Research UK told the BBC, “Anyone who thinks that this will solve the problem with international tax is living in cloud cuckoo land.”

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Experts Highlight Challenges of Business Traveler Tax Compliance

Business travel is a growing concern for companies, according to experts from Bloomberg BNA, Ernst & Young, and the Minnesota Department of Revenue. A 90-minute webcast covered pressing issues including nonresident income taxes, payroll compliance and audit defense. Below are highlights from the discussion.

Nonresident Tax Enforcement Rising Steadily

It’s estimated that U.S. business travelers will take 492.1 million trips in 2015, up 1.7% from the previous year. At the same time, state audit rates are rising steadily and business travelers are in the crosshairs.

Which states have the most to gain from pursuing nonresident income taxes? EY’s Kristie Lowery stated there are three major factors:

  1. If a state has a high volume of nonresident visitors
  2. If the business traveler doesn’t pay income tax in her resident location
  3. If the nonresident income tax rate is greater than the resident tax rate (this is most likely in states with very high personal income tax rates)

“The question is no longer if employers should comply with nonresident income tax, but how,” said Lowery.

Understanding Nexus for Resident Income Tax Withholding

What triggers nexus?

Nexus is typically triggered when a company conducts business or has some type of business connection to a location.

Are there general guidelines to what constitutes nexus for income tax withholding purposes?

In general, employee work presence in a state is taken into consideration. However, state and local laws vary in how they define what constitutes nexus. In addition, other factors can affect nexus for other business taxes, such as franchise and corporate taxes.

What is the Business Activity Tax Simplification Act (H.R. 2584)?

The Business Activity Tax Simplification Act is a bill that would prohibit states from imposing corporate and/or gross receipts taxes to companies with physical presence in a state for fewer than 15 days. The act was recently cleared by the House Judiciary Committee for a full House vote.

What is courtesy income tax withholding?

Employers may withhold resident income tax for the employees’ convenience, even if there isn’t nexus. However, it’s important to be aware that special registration may be necessary to avoid incorrect assessments of other business taxes.

Payroll Tax Pitfalls

Important payroll tax variables include whether the employer, employee, and wages are covered.

Employers – Some types of employers and industries may be exempt from nonresident income tax requirements. Non-profit organizations and government employers are exempt from FUTA.

Employees and employment – Variables that affect whether withholding and employment tax apply include the type of employment, employee-specific exemptions, time worked in the location, and worker classification.

Wages – Every jurisdiction maintains its own definition of covered wages. Some common exclusions include health or welfare benefits and qualified retirement plan contributions. However, these exclusions don’t always apply, depending on the jurisdiction and tax type.

Putting a Process in Place

When putting in place a policy, change management and communication are crucial. Employees need to understand why a new process is being put in place and how it may affect them. Tim Dalton from Ernst & Young stated that companies can perform a one-minute tax risk assessment, ranking their risk from high to low on each of the five phases of mobile workforce income tax compliance: policy design, trip tracking, tax research, tax onboarding, and withholding and reporting.

“Communication and consensus among stakeholders and coordination with service providers are key to designing and maintaining an effective system for managing your mobile workforce,” said Dalton.