Anti-Deferral Regimes: U.S. Taxation of Foreign Corporations

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When a U.S. business expands abroad, it is frequently believed that the income of foreign subsidiary corporations will not be taxed in the U.S. until dividends are distributed to the U.S. shareholder. This is known as tax deferral, which is the general expectation of clients. However, in the U.S., tax deferral may be overridden by provisions accelerating the imposition of U.S. tax on U.S. shareholders of foreign corporations. As a result, income may be taxed before a dividend is distributed. This article describes the anti-deferral provisions of U.S. tax law that may be applicable in certain situations.

ANTI-DEFERRAL REGIMES

The Internal Revenue Code contains two principal anti-deferral regimes that may impose tax on a U.S. taxpayer on a current basis when its foreign subsidiaries generate income. These provisions reflect a policy under which Congress believes the deferral rules are being abused to inappropriately defer U.S. tax, especially if foreign tax is not imposed for one reason or another. The two regimes are the:

• Controlled Foreign Corporation (“C.F.C.”) regime under Code §§951-964, also known as the “Subpart F” provisions; and
• Passive Foreign Investment Company (“P.F.I.C.”) regime under Code §§1291-1298.

Controlled Foreign Corporations

Under Code §957(a), a foreign corporation is a C.F.C. if stock representing more than 50% of either the total combined voting power or the total value of shares is owned, directly, indirectly, or by attribution, by “U.S. Shareholders” on any day during the foreign corporation’s taxable year. With respect to a foreign corporation, a U.S. Shareholder is defined as a “U.S. person” that owns, under the foregoing expanded ownership rules, stock representing 10% or more of the total voting power of all classes of the foreign corporation’s stock that is entitled to vote. A “U.S. person” includes a U.S. citizen or resident, a U.S. corporation, a U.S. partnership, a domestic trust, and a domestic estate. Stock ownership includes indirect and constructive ownership under the rules of Code §958. Consequently, ownership can be attributed, inter alia, from foreign corporations to shareholders, from one family member to another, and from trusts and estates to beneficiaries, legatees, and heirs.

Israeli Law Confronts International Tax Treaties and Principles Via New Treatment of Mixed-Beneficiary Trusts

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HISTORY AND OVERVIEW OF ISRAELI TAXING MODELS IN RESPECT OF NON-ISRAELI TRUSTS

Pre-2006 Situation – the Corporate Model

Israel has come a long way in its efforts to tax foreign-established trusts, which historically were assumed to have been used to shelter Israeli-source funds of high net worth Israeli residents and their families. Prior to the adoption of any relevant comprehensive Israeli tax legislation in 2006, the practice consisted mostly of viewing trusts and beneficiaries similarly to corporations and shareholders.

Thus, under customary Israeli international tax rules, if the “management and control” of the non-Israeli trust was effected outside of Israel, the trust was considered to be nonresident because the trust’s assets were situated outside of Israel and the trustees had full discretion over their control. No formal powers were exercised directly or indirectly by Israeli beneficiaries. Hence, the trust was simply not subject to Israeli taxation. Moreover, discretionary distributions were viewed as tax-free gifts. In this way, wealthy Israelis could cause foreign trusts to be funded by Israeli-source wealth and invested outside Israel without subjecting the resulting income to Israeli tax.

Israel has neither an estate/inheritance tax nor a gift tax, which means that bona fide gifts and inheritances are free of tax for both the donor or the decedent and the recipient. Thus, a foreign trust ostensibly became the perfect Israeli tax planning tool. Assets could be donated by an Israeli settlor to a foreign irrevocable discretionary trust for the benefit of family members. Legally, the assets were no longer owned by the Israeli donor but rather by a foreign body managed and controlled by a foreign trustee. Therefore, the trust’s non-Israeli assets and income were outside the scope of Israeli taxation. Distributions by these trusts to Israeli resident beneficiaries that were bona fide discretionary gifts were exempt in the hands of an Israeli recipient.

The U.S.-Sweden I.G.A.: A Practitioner's Perspective

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Sweden recently entered into an intergovernmental agreement (“I.G.A.”) with the U.S. to address the application of F.A.T.C.A. to Swedish financial institutions. The subsequent modifications to Swedish law to accommodate the I.G.A. were made public on August 11, 2014 in a proposal by the Ministry of Finance. The proposal added numerous modifications to the requirements for compliance and published the reporting forms that will be due starting next year. The complexity of F.A.T.C.A. compliance will trigger a number of changes in many areas of Swedish legislation, which are likely to be approved by the Swedish Parliament in the fall of 2014. It is clear that F.A.T.C.A. will make life more complex for the regulated groups.

F.A.T.C.A. will have a broad, sweeping effect on Swedish financial institutions (“F.I.’s”), including large Swedish banks, insurance companies, and private equity companies. These F.I.’s have been planning for F.A.T.C.A. and have implemented technology, procedures, and training that have caused them to incur in significant costs. However, based on personal experience, it appears that there is a large group of “institutions” that do not understand that they are in fact F.I.’s and must act accordingly. Recently, when discussing due diligence procedures mandated by F.A.T.C.A. with management of a Swedish permanent establishment, the response was simply “thanks for the heads up,” which indicated that the compliance requirements were not yet on the company’s radar.

Some of these institutions may revert to the simplest solution – barring Americans from being accepted as investors or account holders. This solution, however, is suboptimal for an F.I. as it eliminates a large group of Swedish/U.S. dual citizens from the client base. Of greater importance is the fact that barring Americans does not mean an institution can ignore F.A.T.C.A. F.A.T.C.A. requires disclosure of U.S.-controlled foreign entities that may be account holders at these institutions, a task that will require creating new on-boarding procedures and a review of all preexisting accounts.

Inbound Investment in German Real Estate

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INTRODUCTION

Investments in German real estate are attractive to international investors. Low interest rates and positive economic conditions exist in Germany. The demand for commercial and residential rental properties has increased in urban centers such as Berlin, Düsseldorf, Frankfurt, Hamburg, Cologne, Munich, and Stuttgart. In these circumstances, it is expected that Germany will remain an attractive market for real estate investments.

Germany provides reliable political conditions, which are advantageous for a successful investment. However, there is an increasing complexity to the general legal conditions, and the success of a real estate investment strongly depends on proper structuring of the investment in a tax-efficient way.

This article provides an overview of the tax consequences of inbound investments in German real estate.

Different investment structures are compared:

• Holding the property directly,
• Holding shares in a property company, and
• Holding interests in a property partnership.

In addition to income tax, German real estate transfer tax aspects are discussed, and planning opportunities to reduce or eliminate German trade tax are explored.

I.R.S. Announces Major Changes to Amnesty Programs

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The I.R.S. announced major changes to its amnesty programs last month. These changes can be broken into two parts: changes to the 2012 Offshore Voluntary Disclosure Program (“O.V.D.P.”), which can be to referred to as the 2012 Modified O.V.D.P. or the 2014 O.V.D.P., and changes to the streamlined procedures (“Streamlined Procedures”). As the requirements for the latter are relaxed, the requirements for the former are tightened.

The changes in the amnesty programs reflect the new I.R.S. approach for addressing taxpayers with offshore tax issues. The new approach provides one path for willful taxpayers, with steeper penalties but certainty, and another path for taxpayers who believe their conduct was non-willful, with reduced penalties but uncertainty to the extent their conduct is subsequently proven willful.

CHANGES TO O.V.D.P.

The major changes to the 2012 O.V.D.P. include the following:

1. Changes to Preclearance Process

Under the 2012 O.V.D.P., all that was required was to submit a preclearance request was a fax to the I.R.S. O.V.D.P. department that contained the taxpayer’s name, social security number, date of birth, address, and if the taxpayer was represented by an authorized party, an executed power of attorney (P.O.A.).

Using the U.K. as a Holding Company Jurisdiction: Opportunities and Challenges

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INTRODUCTION: AN IDEAL HOLDING JURISDICTION?

At a time when a quintet of septuagenarian comics attempt to revive former glories with a final run of a live show of Monty Python in London, it is worth reflecting on the Holy Grail of the international tax practitioner: to find the perfect international holding company jurisdiction.

In this, the holding company jurisdiction needs certain characteristics:

• The possibility of returning profits to shareholders with minimal tax leakage;
• The ability to receive profits from underlying subsidiaries without taxation at home;
• The ability to dispose of investments in the underlying subsidiaries without triggering a tax charge on any profit or gain;
• A good treaty network to ensure that profits can be repatriated to the holding company from underlying subsidiaries, whilst minimizing local withholding taxes; and
• Low risk from anti-avoidance measures that profits of subsidiaries will otherwise be taxed in the holding company jurisdiction.

The U.K. has emerged over the last decade as an increasingly viable holding company jurisdiction, particularly for investments in countries within the European Union.

Swiss Trustees and Board Members of Foundations Have to Prepare for F.A.T.C.A.

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BACKGROUND

Trusts are unknown under Swiss law and family foundations are not commonly used because their purpose is very limited by law. Consequently, many Swiss trust companies, family offices or lawyers act as trustees of non-Swiss trusts or as members of family foundations. It is not uncommon for trustees, trusts or foundations, and underlying companies to be established under the laws of different jurisdictions, and typically Liechtenstein is used.

Foreign trusts and foundations, foreign trustees and underlying holding companies that invest in the U.S. must determine their classification under the Foreign Account Tax Compliance Act (“F.A.T.C.A.”) and possibly a relevant intergovernmental agreement (“I.G.A.”). In the case of Switzerland, a Model 2 I.G.A. exists.

The determination must be made prior to the end of June 2014, even if no U.S. owners or beneficiaries are involved. The reason is that, by 1 July 2014, a foreign entity that is a Foreign Financial Institution (“F.F.I.”) must register on the I.R.S. F.A.T.C.A. portal and receive a G.I.I.N. The I.R.S. has announced that the last date to register and receive a G.I.I.N. prior to 1 July 2014 is 5 May. Registration is required unless the F.F.I. is a certified deemed-compliant F.F.I. or a Non-Financial Foreign Entity (“N.F.F.E.”). An exempt F.F.I. could be a sponsored investment entity, a sponsored closely held investment vehicle, or an owner-documented F.F.I. In each of those fact patterns, another entity is engaged to carry out the F.A.T.C.A. reporting. An N.F.F.E. is an entity that is formed outside the U.S. that is not an F.F.I.