Tag Archives: foreign tax plan

What is the Worst International Tax Planning Structure for Small Business?

Amazing and I am just amazed at the number of telephone calls I get from small business owners with the worst international tax structure.

And to be honest with you, there is nothing that can be done to fix it.  First, let me tell you the fatal problem of a corporation for both domestic and foreign tax planning.  All corporations are like a cage.  You can’t take property out without adverse taxation.

This includes S-corporations, domestic corporations, foreign corporations, and foreign LLCs.[1]

Table of Contents to International Tax Planning Strategies

What is the worst international tax structure for small business?

Foreign Tax Credit Planning for the Small Business. 

What is the worst international tax structure for small business?

Small business international tax planning should avoid the use of a U.S. corporation.   This above structure is the worst for small business.   Corporations traded on the stock market can use this structure because they have a different tax law than privately owned businesses.

As the foreign entities make a profit, they start transactions with the U.S. Parent Corporation. These related party transactions terminate the tax deferral legitimately earned by the foreign entities.

In other cases, the foreign entity borrows money from the U.S. Parent Corporation.   The IRS can treat these loans as an equity investment in the foreign entity.  Repayment of the loans is taxable income.  This tax law is called “debt versus equity”.   I have information on this debt versus equity on this link.

On the other hand, if a foreign entity loans money to the U.S. Parent Corporation, the loan is treated as a dividend because of tax code section 956.  You can learn more about section 956 on this link.

Now here is the dumbest plan that I have seen.  A “check the box” election is made for the Foreign   LLC #1 creating an unexpected taxable event.   This international tax law issue is the same if the U.S. Parent Corporation is taxed as a C-corporation or an S-corporation.

Foreign Tax Credit Planning for the Small Business

Yep, it is getting worse.  This international tax structure causes the loss of the foreign tax credit unless a complicated tax accounting method is elected.  This election, once made, is for all future years.

The election works great for publically traded companies because they want “earnings per share” for their audited financial statement.  Small business owners want to create wealth and pay less in taxes so that they can grow their business.

If you need help organizing your international business, give me (Brian Dooley, CPA, MBT) a call at 949-939-3414.  Of course, my easy to read (in two hours) book is a must for every small business owner.

[1] Foreign LLC have an exception if you elect to treat them a disregarded entities or partnerships in their first year of business.

Section 956 Controlled Foreign Corporation

International tax planning for foreign corporations looks carefully at section 956.  This is the tax law that prevents American companies from investing their foreign profits back into the U.S.

Now, you may wonder “why would Congress passed such a stupid tax law?”.  Well, Congress excels in stupid.  Of course, the President has to approve every new tax law.  So, they share the blame.   The point of this blog is to help you avoid this tax trap.

A foreign tax plan requires U.S. shareholders to have a long term plan.  The income created by section 956 is reported on form 5471.

Section 956 requires shareholders of controlled foreign corporations (CFC) to recognize dividend income if the profits are invested in “United States property.”  The investment in U.S. property creates the taxable dividend.

If you would like to brainstorm your tax planning ideas, then please call me, Brian Dooley CPA, at 949-939-3414 for a complimentary consultation with your CPA or get me easy to read international tax book at Amazon.

I rewrote the law in the format of a simple to use equation. Placing the code into an equation simplifies the law.  You can learn more with my book at Amazon.  Try any of my books on international taxation and planning for a week risk-free.  You will find section 956 explained in easy terms.

If you are interested in exploring international tax strategies for your business, I invite you to email me, Brian Dooley, CPA, at [email protected]

 

Amazon International Tax Book by Brian Dooley, CPA, MBT

Our most popular and best value book is International Taxation in America for the Entrepreneur.  This is the best International Tax Planning Book for small business. 

An easy two hour read that will teach you tried and true tax saving plans. You can buy it now for $9.50 at Amazon on this link (return it in seven days if you do not like the book).

Each of our International Tax Planning Books include links to hundreds of additional offshore tax planning strategies.  You will learn how small business are saving taxes with properly planning their international businesses. 

International Tax Planning Book for the attorney and CPA

For the CPA and attorney, the book on this link provides an indepth explanation of international income tax and international estate and gift taxes.  It includes a free PDF version that is used for tax research.  The Adobe Reader find function quickly locates the most complex tax issue.

If you would like to explore your international tax questions, then please contact me,  Brian Dooley CPA, at [email protected]   Learn more about international tax law for small business on this link.

This Amazon International Tax Book is an easy two hour read.  It was written in plain English for the busy entrepreneur.   

The Kindle version has links to many of the articles on this blog.  These links provide you with expert information on the topic that you are reading.  By the way this blog has more than 600 international tax articles. 

Amazon allows you to try the Kindle book out for seven days. If you don’t like it, merely return it.     

As you read the book and you have a question, then contact me. We can set up a time for your CPA, you and me to talk about your question.  Matter of fact, you will like the book so much, that you will buy a copy for your CPA. 

Saving Taxes with the New IRS Foreign Entity Classification Rules

Domestication of a foreign trust

Applying for an IRS ruling on your international tax planning will save you taxes in the long run.

Your first task in foreign tax planning  is  knowing if your foreign company is treated as  a corporation or a pass through entity for U.S. taxes.  Both have great but different tax savings.

Foreign entities have different rules as to their classifications as a foreign corporation, a foreign partnership or a foreign disregarded entity. 

For example, most foreign LLC have a default classification  as a foreign corporation.  You can elect a partnership or disregarded classification on  a timely election.  A foreign foundation may be a trust or a corporation for U.S. tax law.

Privately owned businesses must have a “pass through” entity to get a foreign tax credit.    Yet, they want asset protection with a limited liability entity such as a corporation or an LLC.  The IRS entity classification rules are below in the blue print

tax planning, international tax strategies, foreign tax strategies, foreign tax plan, international tax plan, offshore tax,

Learn how to save taxes with “International Taxation in America for the Entrepreneur” using tried and true methods.

Tax planning ideas come from reading below and seeing what is not included.   Get more tried and true international tax planning strategies in my easy to read book, International Taxation in America for the Entrepreneur on this link.  Amazon has the Kindle version on sale for only $9.50.  However, the new audiobook allows you to become a tax expert while you are driving. 

SECTION 1. PURPOSE

The Treasury Department and the Internal Revenue Service (IRS) have become aware that taxpayers are concerned about the validity of elections made by certain foreign eligible entities under § 301.7701-3(c) of the Procedure and Administration Regulations to be classified for federal tax purposes as a partnership or disregarded as an entity separate from its owner (a disregarded entity).

The Treasury Department and IRS understand that these concerns arise due to uncertainty regarding the number of owners for federal tax purposes of the foreign eligible entity on the effective date of the election.

To alleviate these concerns and simplify tax administration, this revenue procedure provides that, if the requirements of this revenue procedure are satisfied, the IRS will treat an election under § 301.7701-3(c) to classify a foreign eligible entity that is a qualified entity (as defined in section 3.02 of this revenue procedure) as a partnership or disregarded entity as an election to be treated as a partnership or disregarded entity (as appropriate) rather than as an association taxable as a corporation.

SECTION 2. BACKGROUND

.01 Section 301.7701-1(a)(1) states that the Internal Revenue Code (Code) prescribes the classification of various organizations for federal tax purposes. Whether an organization is an entity separate from its owners for federal tax purposes is a matter of federal tax law and does not depend on whether the organization is recognized as an entity under local law.

.02 Section 301.7701-1(b) provides that the classification of organizations that are recognized as separate entities is determined under §§ 301.7701-2, 301.7701-3, and 301.7701-4 unless a provision of the Code provides for special treatment of that organization.

.03 Section 301.7701-2(a) defines the term “business entity” as any entity recognized for federal tax purposes (including an entity with a single owner that may be disregarded as an entity separate from its owner under § 301.7701-3 (“a disregarded entity”)) that is not properly classified as a trust under § 301.7701-4 or otherwise subject to special treatment under the Code.

A business entity with two or more members is classified for federal tax purposes as either a corporation or a partnership. A business entity with only one owner is classified as a corporation or is disregarded; if the entity is disregarded, its activities are treated in the same manner as a sole proprietorship, branch, or division of the owner.

.04 Section 301.7701-3(a) provides that a business entity that is not classified as a corporation under § 301.7701-2(b)(1), (3), (4), (5), (6), (7), or (8) (an eligible entity) can elect its classification for federal tax purposes.

An eligible entity with at least two members can elect to be classified as either an association (and thus a corporation under § 301.7701-2(b)(2)) or a partnership, and an eligible entity with a single owner can elect to be classified as an association or to be disregarded as an entity separate from its owner. Elections are necessary only if an eligible entity does not want its default classification or if an eligible entity chooses to change its classification.

.05 Section 301.7701-3(b)(2)(i) provides that, except for certain existing entities described in § 301.7701-3(b)(3), unless a foreign eligible entity elects otherwise, the entity is: (A) a partnership if it has two or more members and at least one member does not have limited liability; (B) an association if all members have limited liability; or (C) disregarded as an entity separate from its owner if it has a single member that does not have limited liability.

Author note- Here is a new  IRS memo The IRS disregards these rule if the foreign entity could be a trust.    

.06 Section 301.7701-3(c)(1)(i) provides that an eligible entity may elect to be classified other than as provided under § 301.7701-3(b) by filing Form 8832, Entity Classification Election, with the appropriate IRS Service Center. Under § 301.7701-3(c)(1)(iii), this election will be effective on the date specified by the entity on Form 8832 or on the date filed if no such date is specified on the election form.

The effective date specified on Form 8832 cannot be more than 75 days prior to the date on which the election is filed and cannot be more than 12 months after the date on which the election is filed.

.07 Section 301.7701-3(c)(1)(ii) provides that an eligible entity required to file a federal tax or information return for the taxable year for which an election is made must attach a copy of its Form 8832 to its federal tax or information return for that year. If the entity is not required to file a return for that year, a copy of its Form 8832 must be attached to the federal income tax or information return of any direct or indirect owner of the entity for the taxable year of the owner that includes the date on which the election was effective.

.08 Section 301.7701-3(c)(1)(iv) provides in part that, if an eligible entity makes an election under paragraph (c)(1)(i) of this section to change its classification (other than an election made by an existing entity to change its classification as of the effective date of this section), the entity cannot change its classification by election again during the 60 months succeeding the effective date of the election. An election by a newly formed eligible entity that is effective on the date of formation is not considered a change for purposes of this paragraph (c)(1)(iv).

.09 Section 301.7701-3(c)(2)(i) provides that an election made under § 301.7701-3(c)(1)(i) of this section must be signed by: (A) each member of the electing entity who is an owner at the time the election is filed; or (B) any officer, manager, or member of the electing entity who is authorized (under local law or the entity’s organizational documents) to make the election and who represents to having such authorization under penalties of perjury.

SECTION 3. SCOPE

.01 In General. This revenue procedure provides guidance on the classification for federal tax purposes of a business entity that is a qualified entity (as defined in section 3.02 of this revenue procedure) and is in lieu of the letter ruling process ordinarily used to obtain relief for a late change of entity classification election filed pursuant to §§ 301.7701-3(c), 301.9100-1, and 301.9100-3. Accordingly, user fees do not apply to corrective actions under this revenue procedure.

.02 Qualified Entity. For purpose of this revenue procedure, a business entity is a “qualified entity” if the following conditions are satisfied:

  • (a) As a partnership based on the reasonable assumption that it had two or more owners as of the effective date of the election; or (b) As a disregarded entity based on the reasonable assumption that it had a single owner as of the effective date of the election;
    (a) The business entity and its actual and purported owners (or owner) have treated the entity consistently with the election on the otherwise valid Form 8832 on all filed information and tax returns; or (b) No information or tax returns have been required to be filed since the effective date for the election made on the otherwise valid Form 8832; and

(1) The business entity is an eligible entity under § 301.7701-3(a);

(2) The business entity is foreign under § 301.7701-5(a);

(3) The classification of the business entity, either by default under § 301.7701-3(b)(2)(i)(B) for a newly formed or newly relevant eligible entity, or by election under § 301.7701-3(c) for an existing relevant entity, would be or was an association taxable as a corporation;

(4) As permitted under § 301.7701-3(c), the business entity filed an otherwise valid Form 8832 electing to be treated for federal tax purposes,
(5) For federal tax purposes, either:
(6) The period of limitations on assessments (as established under section 6501(a) of the Code) has not ended for any taxable year of the business entity or its actual and purported owners (or owner) affected by the election made on the otherwise valid Form 8832.

.03 Entities That Fail to Qualify for Relief Under This Revenue Procedure

.A business entity that does not qualify for relief under this revenue procedure may request relief through the letter ruling process in accordance with Rev. Proc. 2010-1, 2010-1 I.R.B. 1 (or its successor).

SECTION 4. APPLICATION

.01 If a qualified entity files an otherwise valid Form 8832 to be classified as a partnership for federal tax purposes but it is later determined that the qualified entity had a single owner for federal tax purposes as of the effective date of the election, the IRS will treat the Form 8832 as an election to classify the qualified entity as a disregarded entity for federal tax purposes provided that:
(1) The qualified entity’s actual single owner and purported owners as of the effective date of the election file original or amended returns consistent with the treatment of the entity as a disregarded entity for any taxable year that would have been affected if the election had been made to treat the qualified entity as a disregarded entity for federal tax purposes;

(2) All required amended returns are filed before the close of the period of limitations on assessments under § 6501(a) for any relevant taxable year; and

(3) A corrected Form 8832 is filed with the appropriate Internal Revenue Service Center and a copy of the corrected Form 8832 is attached to the single owner’s amended return for the taxable year during which the original election was made as required under § 301.7701-3(c)(1)(ii). The statement “FILED PURSUANT TO REVENUE PROCEDURE 2010-32” must be included across the top of the corrected Form 8832. Additionally, the corrected Form 8832 must satisfy the requirements of § 301.7701-3(c)(2)(i).
.02 If a qualified entity files an otherwise valid Form 8832 electing to be classified as a disregarded entity for federal tax purposes but it is later determined that the qualified entity had two or more owners for federal tax purposes as of the effective date of the election, the IRS will treat the Form 8832 as an election to classify the qualified entity as a partnership for federal tax purposes provided that:
(1) The qualified entity files information returns and its actual owners file original or amended returns consistent with the treatment of the entity as a partnership for any taxable year that would have been affected if the original election had been made to treat the qualified entity as a partnership for federal tax purposes;

(2) All required information and amended returns are filed before the close of the period of limitations on assessments under § 6501(a) for the relevant taxable year; and

(3) A corrected Form 8832 is filed with the appropriate Internal Revenue Service Center and a copy of the corrected Form 8832 is attached to the owners’ amended returns for the taxable year during which the original election was made as required under § 301.7701-3(c)(1)(ii). The statement “FILED PURSUANT TO REVENUE PROCEDURE 2010-32” must be included across the top of the corrected Form 8832. Additionally, the corrected Form 8832 must satisfy the requirements of § 301.7701-3(c)(2)(i).

If you need to up the quality of your tax planning, then contact me, Brian Dooley, CPA, MBT, at [email protected]

Saving Taxes with the 2016 IRS International Audit Guide for Offshore Entities Classification

IRS International Auditors have an updated audit guide for attacking the classification of foreign entities- especially foreign LLC’s.  

You will save taxes with this guide.  The IRS explains (in easy to read the language) which type of foreign companies provide the tax breaks that you want.

If you would like to brainstorm your tax planning, then please call me, Brian Dooley CPA, at 949-939-3414 for a free one-hour consultation.  Successful international tax planning starts with the correct type of foreign corporation.  Foreign tax plans require an IRS tax election with 75 days after formation.

Excerpts from the foreign entity audit guide are below.

Entity Classification

  1. This text contains background and guidelines for classifying a form of foreign business organization for U.S. tax purposes. Entity classification affects the extent of the U.S. taxing jurisdiction, including, in some cases, whether the entity is subject to U.S. tax in any event.   A U.S. corporation pays U.S. tax on its worldwide income while a foreign corporation generally pays U.S. tax only on its income effectively connected with a U.S. trade or business (or, in the case of a corporation entitled to applicable treaty benefits, on income attributable to a permanent establishment in the United States or otherwise subject to U.S. tax under the treaty).
  2. The entity classification regulations under IRC Section 7701 are effective January 1, 1997, (hereafter referred to as the check-the-box regulations). The check-the-box regulations allow certain business entities to choose their classification for Federal tax purposes under an elective regime. “Per Se” corporations are statutory corporations and are not allowed to choose their classification. ” Per Se” corporations are defined in Reg. 301.7701-2(b) and a list is provided in Reg. 301.7701-2(b)(8).

Background

  1. The classification of a foreign entity as a corporation, a partnership, or disregarded entity, potentially affects many aspects of U.S. taxation.
  2. Applying the U.S. entity classification criteria under the prior regulations to foreign forms of business organization was difficult due to the differences among the various national legal systems. The most difficult cases ultimately turn on the facts and circumstances. For cases which fall under the old regulations, lEs must carefully evaluate their taxpayers based on the factors outlined in the “Prior Classification Rules” below.

Guidelines

  1. U.S. tax law governs the classification of a form of foreign business organization for U.S. tax purposes.
  2. The check-the-box regulations under IRC section 7701, are effective January 1, 1997, provide that any “business entity” that is not required to be treated as a corporation is an “eligible entity” that may choose its classification. The regulations provide default classification rules. Eligible entities may elect out of the default rules. Entities that wish to change their previous classification must also do so by filing an election that qualifies for purposes of IRC 7701.

Business Entity Classification Process

  1. The first step under the check-the-box regulations is to decide whether there is an entity for federal tax purposes. Whether an organization is an entity separate from its owners for federal tax purposes is a matter of federal tax law and does not depend on whether the organization is recognized as an entity under local law.
  2. The next step is to determine whether an entity is a business entity.Certain business entities are by definition classified as a corporation under Reg. 301.7701–2(b). Reg. 301.7701–2(b)(8) contains a list of foreign entities that are corporations by definition (“per se” entities).
    1. A business entity is any entity recognized for federal tax purposes that are not properly classified as a trust or otherwise subject to special treatment under the IRC.
    2. The rules for determining whether an entity is classified as a trust for federal tax purposes are in Reg. 301.7701–4. Usually, the beneficiaries of an entity properly classified as a trust for this purpose do no more than accept the benefits of trust property and do not create the trust.
  3. A business entity that is not necessarily classified as a corporation under Reg. 301.7701–2(b) (an “eligible entity” ) can elect its classification for federal tax purposes under the rules of Reg. 301.7701–3. Those rules provide that
An eligible entity with:Can be classified as:
At least two membersEither partnership or an association taxable as a corporation
A single memberAn association or “disregarded as an entity separate from its owner (a”disregarded entity)” )”
  1. The activities of a disregarded entity are treated in the same manner as a sole proprietorship, branch or division of the owner.
  2. The check-the-box classification regulations provide a default rule for an eligible entity that does not elect its classification. An election is necessary only when an eligible entity chooses to be classified initially other than under the default rule, or when the entity chooses to change its classification.
  3. A foreign eligible entity is an eligible entity that is not created or organized in the U.S. or under the law of the U.S. or any State. The key for the default classification for foreign entities is whether the members have limited liability. A foreign eligible entity is an association and thus a corporation if all of its members have limited liability. A foreign eligible entity is a partnership if it has two or more members and at least one member does not have limited liability. The entity is a branch or proprietorship if it has a single owner and that owner does not have limited liability. The entity is a disregarded entity if it has a single owner and that owner does not have limited liability on that foreign eligible entity.
  4. The default classification of an entity in existence before January 1, 1997, is the classification that the entity had claimed before that date. A foreign eligible entity is treated as being in existence before January 1, 1997, only if the entity’s classification was relevant at any time during the sixty months before that date. If a foreign eligible entity’s classification was relevant before January 1, 1997, but the entity did not claim a classification, the entity’s classification default classification is determined under the prior classification regulations.
  5. An entity that was formed after December 31, 1996, and before October 21, 2003, has a classification even it is it not relevant. An entity that was formed on or after October 22, 2003, has a classification only when it becomes relevant.
  6. A foreign eligible entity is relevant when its classification affects the liability of any person for federal tax purposes.
  7. A special rule applies to foreign eligible entities in existence and relevant on May 8, 1996, and on the per se corporation list of Reg. 301.7701–2(b)(8). Under this rule, such entities may retain their claimed classification after January 1, 1997, if an entity whose initial classification is determined by default retains that classification (without regard to changes in the members’ liability) until the entity makes an election to change its classification.
    1. they had a reasonable basis for claiming the classification under prior law;
    2. no person (including the entity) for whom the classification was relevant on May 8, 1996, treats the entity as a corporation for the taxable year including May 8, 1996;
    3. any change in the entity’s classification within 60 months prior to May 8, 1996, occurred solely as a result of a change in the entity’s organizational documents, and the entity and all members of the entity recognized the federal tax consequences of the change; and
    4. neither the entity nor any member was notified in writing on or before May 8, 1996, that the classification of the entity was under examination (in which case the entity’s classification will be determined in the examination).

Classification Election

  1. An eligible entity may affirmatively elect its classification by filing Form 8832, Entity Classification Election. The election is effective on the date specified on Form 8832, or if no date is specified, on the filing date. However, if an election specifies an effective date more than 75 days prior to the date on which the election is filed, it will be effective only 75 days before the date it was filed. Also, if an election specifies an effective date more than 12 months from the date on which the election is filed, it will be effective 12 months after the date it was filed. If an election specifies an effective date before January 1, 1997, it will be effective as of January 1, 1997.
  2. The election must be signed by each member of the entity or by an authorized representative who represents to having such authorization under penalties of perjury. A retroactive election must also be signed by every person who was an owner during the period of retroactivity, but is not an owner at the time the election is filed.
  3. A change of classification may constitute a recognition event for U.S. tax purposes.
  4. A taxpayer that makes an entity classification election (other than an election effective on January 1, 1997, or an election by a newly formed entity effective on the date of formation) generally cannot change its classification by election during the sixty months following the effective date of the election. However, the Commissioner may permit a change within that time if more than fifty percent of the ownership has changed since the filing date or effective date of the election.
  5. An eligible entity required to file a federal tax or information return for the taxable year for which an election is made must attach a copy of the Form 8832. If the entity is not required to file a return, a copy of the Form 8832 generally must be attached to the federal income tax return or information return of any direct or indirect owner of the entity. Failure to comply with these filing requirements does not invalidate the election, but the non-filing party may be subject to penalties.

Prior Classification Rules… this rules still apply to foundations. 

  1. The classification rules in effect prior to January 1, 1997, were found in former Reg. 301.7701–1 through –4.
  2. Under the prior regulations, an entity with associates and an objective to carry on business was classified as a corporation if it had a preponderance of the following factors:
    1. continuity of life;
    2. centralization of management;
    3. limited liability;
    4. free transferability of interests;

Note:  If it did not have a preponderance of the above factors,  the entity  was classified as a partnership