As a business owner, expanding your business globally can be a rewarding venture. However, while living the expat life might seem exciting, repatriating your foreign earnings and doing expat taxes just sucks out the excitement. If you own a business outside the U.S., you might want to read this blog about tax repatriation and how it works.
What Is Tax Repatriation?
The open truth is that American citizens living abroad are obligated to comply with a system of cumbersome rules and regulations that are punitive and difficult to understand, and one of the most outstanding ones is the required annual filing with the IRS.
Tax repatriation refers to the tax imposed by the U.S. on the return of profits that multinational corporations make overseas. With tax repatriation, the IRS required corporations to pay taxes on all foreign and domestic income. Tax repatriation applies when a multinational corporation sends home profits overseas to the U.S.
Tax Repatriation Before 2017
Over the past few years, a lot of things have changed in the tax landscape. Here’s a little backstory: Before the Tax Cuts and Jobs Act in 2017, the U.S. followed a worldwide tax system that required U.S. corporations abroad to include all domestic and international earnings into their tax base. However, income earned abroad was only taxed when repatriated to the parent company in the U.S.
At this time, corporate income tax had one of the highest rates among developed countries; in fact, upon repatriation, the income could be subjected to up to 35% tax rate with a credit for foreign taxes paid. This encouraged many corporations with significant earnings abroad to avoid paying corporate income tax.
US companies could defer taxes on their foreign corporations’ earnings by not paying dividends and letting earnings accumulate in a foreign subsidiary, resulting in nearly $2.8 million in untaxed profits by U.S. corporations in foreign subsidiaries. On top of that, the Federal Reserve System board estimated that $1 trillion in cash was held overseas by multinational enterprises.
Repatriation After The Tax Cuts And Jobs Act
With the Tax Cuts and Jobs Act (TCJA), corporation tax dropped from 35% to 21%. Even better, companies would not have to pay the full 21% when repatriating profit. Any company that made a profit by deferring taxes on foreign income is subject to a one-time tax on that Income taxed at 15.5% on liquid assets and 8% on non-cash assets. It was treated as if the companies repatriated cash before 2018. This means the tax rate was lower than the standard corporate tax rate, encouraging foreign companies to repatriate their foreign earnings. This was created to encourage companies to return their foreign-earned income and invest it in the U.S. economy.
Current Status Of The TCJA
While the TCJA imparted the repatriation of foreign income and the transition of foreign earnings overseas, it was only a one-time measure. After the TCJA, the U.S. changed to a territorial tax system that exempts foreign income from US taxes. However, other anti-abuse provisions and other tax rules are still applicable and can affect the taxation of repatriated profits.
How Do Companies Shift Income To Foreign Subsidiaries?
Companies often shift profits to better tax jurisdictions by selling intangible assets to their foreign subsidiaries incorporated in those tax haven countries. For example, a biotech company could move patent ownership to its foreign subsidiary so that when products relying on those patents are sold, the profit can be recorded in the foreign jurisdiction because the foreign subsidiary owns the patent.
How Does Your Organization Account For Foreign Taxes?
Withholding Taxes
A lot of countries impose withholding taxes on royalties, interests, dividends, and other payments to expatriates. The withholding tax rate imposed depends on whether there’s an income tax treaty between the foreign country and the United States. If there’s a treaty and the beneficial owner of the dividend is eligible for treaty benefits, withholding taxes can also be reduced below the payer country’s statutory rate. While US companies can claim a foreign tax credit for withholding taxes paid, expatriates should consider withholding taxes before repatriating cash.
Foreign Taxable Income
A payment that leads to income in the US but doesn’t create an expense in the foreign country might not optimize a company’s worldwide taxes. Before making a cash repatriation, consider how the payment will be treated in the foreign country.
Take Home
When repatriating earnings from a foreign country to the United States, companies are often frightened by the complex nature of taxes. Book a free consultation call to discover more about repatriations and the right approach for your company.
