As 2013 draws to a close, CFOs, tax directors and controllers should take a last look at their global structure and international operations. The following are five key questions they should be asking before year-end to surface potential tax risks and opportunities.
Do I know what my people are doing outside United States? The pace of developing a global presence these days can make it difficult to keep tabs on your people. If they have and exercise the authority to negotiate or conclude contracts or are engaged in a profit-making activity in a foreign location, you may be creating a taxable presence or permanent establishment in that jurisdiction. Developing a plan for your non-U.S. people can help limit non-U.S. corporate taxes and lessen the administrative burden of operating internationally. The year’s end is an opportune time to review and evaluate the character of those activities to determine if a tax presence has been, or likely will be, created in such a location. If so, consider the nature of the presence you want – for instance, a representative office, a branch of the U.S. company, or an incorporated subsidiary. In any event, filing obligations can be identified by a year-end review, which can set the stage for planning the creation of a tax presence in the following year.
An emerging issue for technology companies: the increasing use of servers located in the United States and many foreign jurisdictions by multinational taxpayers to engage in business activities with their customers – that is, cloud computing. In many cases these servers have taken over activities performed by employees on the ground a few years ago. Are permanent establishments being created by these activities? There is limited guidance on the topic in most jurisdictions, but the issue is getting increasing scrutiny by tax authorities. Enterprises engaging in these activities are well advised to seek counsel in the jurisdictions involved, take any appropriate steps to mitigate the risk and stay apprised of developments.
Am I borrowing from our foreign subsidiaries? As your global structure generates cash outside the United States, it’s tempting to want to access that cash back here. But borrowing from your controlled foreign subsidiaries (CFCs) can be treated as a taxable dividend. Certain investments in U.S. property by a taxpayer’s CFC can be considered a repatriation or dividend to the U.S. shareholder from the CFC.
The last day of the year is generally one of the quarterly test dates for determining the existence of such investments. You should evaluate the situation before that date so you can take steps to eliminate the investment before the testing date if you want to avoid or reduce the repatriation and associated tax costs.
Am I thinking of moving cash within my international structure? One of the significant benefits of deferring the U.S. taxation of profits accumulated in your CFCs is the reinvestment of those profits into your growing foreign operations. But profits accumulated in one of your CFCs are often needed in another CFC.
If it would be beneficial to have one CFC pay a dividend, interest, rent or royalty to one of your other CFCs, consider doing so before year-end. After 2013, such payments from one CFC to another CFC may be taxable in the U.S. under expiring look-through rules. And now may be a good time to evaluate whether an international holding company structure could ease the movement of cash internationally in a tax-effective manner.
How can VAT affect my business? Most countries in the world have a value-added tax (VAT) system, and most flows of goods and services outside the United States are subject to local VAT. Generally, this includes electronic and telecommunication services to private individuals. With ever-evolving forms of digital sales and services being offered to business partners and private individuals all around the world, U.S. CFOs are often unfamiliar with potential VAT obligations.
Further, governments around the world are attempting to quickly adapt to capture a growing revenue source. Local-country VAT registration is typically required once a certain turnover is reached in a jurisdiction, even if the company isn’t domiciled or established in the local jurisdiction or has an actual physical presence there. Failure to property register for VAT can result in significant penalties and interest. Before year-end, resource-constrained technology CFOs should review whether their transactions are subject to VAT and act quickly to minimize the tax risk.
Should I be using non-U.S. contractors? As an enterprise expands into new countries, CFOs can be tempted to use “independent contractors,” as opposed to employees, to help jumpstart their presence in the global marketplace. But if the contractor really acts like an employee according to the laws of the local country and spends a significant amount of time working many for your organization, you could be exposing your company to significant withholding and social taxes, interest and penalties.
Third-party contractors — even “formally independent” individuals or companies — can trigger a corporate income tax liability if the contractor can and does conclude contracts on behalf of the U.S. company or otherwise acts more like an employee of the U.S. company for local-country purposes.
Determining a worker’s status differs from country to country. But many countries focus the distinction on a number of similar factors, including who controls day-to-day tasks, whether the employer provides a majority of the income to the worker, and whether the worker is supplied tools to perform its job (a laptop, for instance). If the worker is misclassified, there are often significant withholding and year-end reporting obligations that must be satisfied.
If the company doesn’t want to hire its own employees, the company should involve outside expertise to develop a well-documented approach to limit any potential exposure. One approach could be the use of a professional employer organization (PEO). PEOs vary from country to country, but can often become employers of record and provide the employment services. In any event, it’s important to plan ahead and understand the risks.
Before 2013 closes, be sure you can answer those five questions for your company. A little time spent on such issues at year-end can pay significant dividends.
Greg Alwood and Adam Steinberger are managing directors at WTAS, an independent tax consulting firm.