Strategizing International Tax Best Practices – by Keith Brockman

Posts tagged ‘interest limitation’

US Sec. 163(j): Guidance/complexity

The IRS recently released Proposed Regulations on Section 163(j): an interest limitation that is applicable for the calculation of Global Intangible Low-Taxed Income (“GILTI”) under the US Tax Act (“TCJA”).  A copy of the Proposed Regulations are provided for reference, highlighting some areas of clarity/surprise.  Comments are due within 60 days of publication in the Federal Register, with a public hearing set for Feb. 25, 2019.

  • Former Proposed Regulations for Sec. 163(j), never finalized, are withdrawn
  • Proposed Regulations may be elected for 2018
  • General rule-Same as C corp; election (alternative method) for a CFC group
  • One limit for a consolidated group (affiliated, non-cons. group, or partnership n/a)
  • Adjusted Taxable Income (“ATI”) requires an adjustment for:
    • Capitalizable Sec. 263A costs re: inventory/sales  
    • sales/dispositions of certain property
    • Sec. 78 gross-up, Sec. 951(a) Subpart F, Sec. 951A GILTI, Sec. 250(a)(1)(B) deduction, without regard to Sec. 250(a)(2) limitation, related to GILTI
  • Upper tier CFC members include “excess interest” of lower tier CFC’s
  • Further guidance re: ordering of Code provisions, including BEAT, will be issued
  • A “new” definition of interest is provided, including:
    • Sec. 1275(a) and Reg. Sec. 1.1275-1(d) instruments
    • Factoring income
    • OID
    • Accrued market discount
    • Guaranteed payments of Sec. 702(c)
    • Income/loss re: hedges of interest-bearing assets/liabilities
    • Swaps, separated into a loan and payment swap (collateralized swap n/a)
    • Commitment fees
    • Debt issuance costs
  • Anti-avoidance rule
  • Sec. 382 attribution for pre/post-change periods
  • Sec. 381 includes the attribute for disallowed interest expense carryovers
  • No effect on E&P
  • Sec. 163(j) limit at partnership level
  • Intercompany CFC debt is included as interest income and expense, thus resulting in a net -0-; other debt will be a net adjustment to be allocated to separate CFC’s
  • New Form 8990 will be required

The most contentious items, as noted in recent days, are the adjustment of Sec. 263A depreciation (thus a factory does not add back depreciation in EBITDA), add back of Sec. 78, Sec. 951(a), Sec. 951A as reduced by the relevant Sec. 250 amount, complexity including excess ATI adjustments, and the new definition of interest, which includes interest equivalent instruments/transactions that will be included as a potential limitation.

The 439 pages require several readings for a general comprehension, aided by webinars and summaries from various advisory firms.

https://www.irs.gov/pub/irs-drop/REG-106089-18-NPRM.pdf

Debt/cap review: Finland/US/…

Finland is expanding its rules on interest deductibility, including additional breadth over the OECD/BEPS Actions.  Finland is following many other countries, in disallowing such deductions while not providing a deferral/exemption of interest income in the related jurisdiction for interest income.

Additionally, US tax reform has also introduced new interest limitation rules, based upon a 30% tax adjusted EBITDA concept.

This is the ideal time to review one’s capital structure worldwide; is it achieving the economic interests that were in place?  Most MNE’s will be affected in one or more countries from the BEPS, and expanded BEPS, actions by many countries.  The expanded legislative framework dictates a new review of global capital structures.

https://home.kpmg.com/xx/en/home/insights/2018/01/tnf-finland-proposed-changes-to-interest-deduction-limitation-rules.html

BEPS update: transparency

The latest BEPS updates are detailed in EY’s Global Tax Report, with the underlying premise of transparency.

Summary:

OECD: On 5 December 2016, the OECD released an updated version of the Guidance on the Implementation of Country-by-Country Reporting, providing flexibility for notification filing dates for countries not requiring a country-by-country (CbC) report for 2016.

Belgium: New innovation deduction covering patent and other IP rights.

EU: Proposal for hybrid mismatch rules with non-EU countries

Norway: Adoption and regulations for CbC reporting

UK: Interest limitation rules, among other provisions

US: CbC Form 8975 released

From a MNE perspective, it is increasingly apparent that deductions to, and benefits from, tax haven countries are under attack and substance is the key to business and tax decisions.  

(CbCR).http://www.ey.com/Publication/vwLUAssets/The_Latest_on_BEPS_-_19_December_2016/$FILE/2016G_04446-161Gbl_The%20Latest%20on%20BEPS%20-%2019%20December%202016.pdf

EU Anti-Tax Avoidance Directive: Primer

The Anti Tax Avoidance Directive includes six anti-abuse measures to address tax avoidance: interest deductibility, exit taxes, a switch-over clause, general anti-abuse rule (GAAR), controlled foreign company (CFC) rules and a hybrid mismatch framework.  The Directive prescribes a minimum protection for Member States’ corporate tax systems.

A summary of the anti-abuse measures is provided, based upon the European Commission’s presumption and related summary of actions to address such abuses.

Interest

Presumption: Corporate taxpayers incur interest in high-tax jurisdictions, with income reported in low/nil tax jurisdictions, thereby shifting profits.

Summary: Net (of interest income) interest expense is limited to a 10-30% EBITDA basis.

Exit taxes

Presumption: Tax residence is moved solely to benefit from a low-tax jurisdiction.

Summary: Tax on transferring assets cross-border to capture unrealized profits.

Switch-over clause

Presumption: Low-taxed income is moved within the EU to shift profits.

Summary: Foreign income is subject to a tax, with foreign tax credits, vs. an exemption.

General Anti-Abuse Rule (GAAR)

Presumption: Tax planning schemes are abusive.

Summary: Backstop defense rule for “abusive tax arrangements.”

Controlled foreign company (CFC) rules

Presumption: Income is passive and is shifted to low-tax jurisdictions.

Summary: Reattributes income to a parent company that is taxed at a higher rate.

Hybrid mismatch framework:

Presumption: Double deduction situations due to legal mismatches are being sought.

Summary: Legal characteristics of payment country carries over to recipient country.

 

The detailed rules, which require a unanimity of approval by the Member States, are complex and far-reaching.  The breadth of the rules captures the perceived presumptions stated for each measure, notwithstanding the fact that such measures may also produce economically disadvantageous tax situations (i.e. paying interest from a low-tax to a high-tax jurisdiction), and the possibility of a Member State to legislate rules that move beyond the minimum threshold set forth.

These rules are also being legislated unilaterally outside of the EU Market, such that there may be very broad anti-abuse themes globally with each country having deviations from a general rule that will provide complexity and areas of disagreement for many years.

 

 

 

NID: Italy’s perspective

Italy’s new guidelines deny benefits of the Notional Interest Deduction (NID) to “tainted contributions” to avoid the granting of dual benefits by respective entities.  There is a tracing mechanism that can be confirmed in a ruling process to rebut the dual benefit presumption.

PwC’s publication provides a succinct summary of this latest development.

http://www.pwc.com/en_US/us/tax-services/publications/insights/assets/pwc-guidelines-notional-interest-deduction-anti-avoidance-rules.pdf

The NID arrangement may represent an opportunity to achieve a local tax benefit as OECD’s BEPS Action Item and unilateral legislation enacted by various countries restrict interest expense deductions premised on the basis of a base erosion / profit shifting technique, although not suggesting an interest income offset that would ameliorate double taxation for a multinational organization.  

However, the proposed US Model Income Tax Convention (refer to 23 May 2015 post) includes the denial of treaty benefits for Special Tax Regimes, which is inclusive of a NID arrangement.  The arrangement that Italy is providing may not receive treaty benefits with the US if this proposal is included in the final legislation, thereby providing evidence of unilateral actions that produce non-intuitive and disjunctive results.  This lack of coordination will increase with future unilateral actions by countries that mitigate the OECD’s brave intentions to achieve global consistency and uniform guidelines.

S. Africa’s BEPS incentivized interest rules

S, Africa’s new interest limitation on related party debt, approximating 40% of EBITDA, is effective as of 1/1/2015.  The new rules are prescribed prior to the OECD BEPS Action 4 Guidelines re: interest limitations.  Disallowed interest is carried over indefinitely, subject to the subsequent year’s limitation.

PwC’s guidance is provided for reference:

http://www.pwc.com/en_US/us/tax-services/publications/insights/assets/pwc-south-africa-introduces-interest-deduction-limits-debts-owed.pdf

As countries aggressively enact BEPS incentives with unilateral legislation, the premise of worldwide consistency for new OECD guidelines diminishes virtually daily.  New legislation also reduces the country’s further incentive to change such legislation to align with final OECD guidelines.

As S. Africa’s new rules demonstrate, there should be a BEPS champion/team in place at MNE’s to capture such changes worldwide and measure such impacts upon the global organization.  Additionally, future strategic planning should consider current BEPS initiatives, and unilateral legislation that has been passed, to measure tax efficiencies of current and future debt structures.

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