tag:blogger.com,1999:blog-19922065040552822452024-03-12T21:37:54.185-07:00Hale Stewart Law Tax Law BlogAnonymoushttp://www.blogger.com/profile/07993720456025396144noreply@blogger.comBlogger66125tag:blogger.com,1999:blog-1992206504055282245.post-63092510275225654812013-12-01T06:26:00.003-08:002013-12-01T06:26:51.444-08:00Please Visit Our New Site<a href="http://www.halestewartlaw.com/hale-stewart-tax-law-blog.html">Hale Stewart's Tax Law Blog has moved to an embedded position in his website. You can see the new site at this link.</a>Anonymoushttp://www.blogger.com/profile/07993720456025396144noreply@blogger.com0tag:blogger.com,1999:blog-1992206504055282245.post-10697307692265048172013-11-17T06:09:00.002-08:002013-11-17T06:10:36.244-08:00US CFC Rules: What Income Is Included?<div style="text-align: justify;">
<span style="font-size: x-large;">The CFC rules regarding income inclusion have to thread a very small needle. On one hand, they need to prevent US taxpayers from moving offshore, thereby taking advantage of a technical reading of the US tax code that prevents taxation of non-US (foreign) corporations (<a href="http://hstaxblog.blogspot.com/2013/11/the-us-controlled-foreign-corporation.html">see discussion here</a>). On the other hand, they can't be so restrictive they prevent US corporations from expanding internationally, thereby hindering legitimate business development. In effect, the rules need to exclude income derived from "legitimate" business expansion but include evasion.</span></div>
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<span style="font-size: x-large;">Before moving forward, be advised: <b>below is a <i>general summation</i> of the CFC income inclusion rules: there are many nuanced ins and outs to these rules that are far beyond the scope of a blog post. </b></span></div>
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<span style="font-size: x-large;">So -- if a corporation is a CFC, what income do we include in the US taxpayer's income for the taxable year? Under section 951(a)(1)(A)(i) we include the taxpayers "pro rate share of sub-part F income" which is more completely defined in section 954 and the accompanying treasury regulations. The code defines Subpart F income as being "foreign base company income" which is further broken down "foreign personal holding company income," "foreign base company sales income" and "foreign base company services income." Let's look at each one of these sub-sections as defined in the treasury regulations.</span></div>
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<span style="font-size: x-large;"><a href="http://www.gpo.gov/fdsys/pkg/CFR-2012-title26-vol10/xml/CFR-2012-title26-vol10-sec1-954-2.xml"><b>Foreign personal holding company income</b></a> is designed to include the income from offshore investment accounts. As such it includes dividends, capital gains, interest, commodities and currencies transactions and all other manner of standard investment transactions. In short, if a US person wants to move his investment account to the Cayman's and place it into a corporation, this provision would include all the trading income from the account in his income for the taxable year. </span><br />
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<span style="font-size: x-large;"><a href="http://www.gpo.gov/fdsys/pkg/CFR-2012-title26-vol10/xml/CFR-2012-title26-vol10-sec1-954-3.xml"><b>Foreign base company sales income</b></a> <i>"consist of gross income (whether in the form of profits, commissions, fees or otherwise) derived in connection with the purchase of personal property from a related person and its sale to any person, the sale of personal property to any person on behalf of a related person, the purchase of personal property from any person and its sale to a related person, or the purchase of personal property from any person on behalf of a related person." </i></span></div>
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<span style="font-size: x-large;">In general, here's what the rules are trying to prevent: using an offshore entity to act as a sales agent for a US company and then structuring transactions with that sales company to effectively transfer income to this low-tax entity. </span></div>
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<span style="font-size: x-large;">There are two very important exclusions to this rules which are:</span></div>
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<span style="font-size: x-large;"><br /></span></div>
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<i><span style="font-size: x-large;">Foreign base company sales income does not include income derived in connection with the purchase and sale of personal property .... if the property is manufactured, produced, constructed, grown, or extracted in the country under the laws of which the controlled foreign corporation which purchases and sells the property (or acts on behalf of a related person) is created or organized.</span></i></div>
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<span style="font-size: x-large;">AND</span></div>
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<span style="font-size: x-large;"><br /></span></div>
<div style="text-align: justify;">
<i><span style="font-size: x-large;">Foreign base company sales income does not include income derived in connection with the purchase and sale of personal property .... if the property is sold for use, consumption, or disposition in the country under the laws of which the controlled foreign corporation which purchases and sells the property (or sells on behalf of a related person) is created or organized or (b), where the property is purchased by the controlled foreign corporation on behalf of a related person, </span></i></div>
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<i><span style="font-size: x-large;"><br /></span></i></div>
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<span style="font-size: x-large;">So -- the definitions exclude income if the company is not simply forming an offshore sales agent but instead is looking to actually develop a market in the company of incorporation.</span></div>
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<span style="font-size: x-large;"><br /></span></div>
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<span style="font-size: x-large;">And finally, we exclude "<a href="http://www.gpo.gov/fdsys/pkg/CFR-2012-title26-vol10/xml/CFR-2012-title26-vol10-sec1-954-4.xml">foreign base company services income</a>", which is </span></div>
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<span style="font-size: x-large;"><br /></span></div>
<div style="text-align: justify;">
<i><span style="font-size: x-large;">... income of a controlled foreign corporation, whether in the form of compensation, commissions, fees, or otherwise, derived in connection with the performance of technical, managerial, engineering, architectural, scientific, skilled, industrial, commercial, or like services which—</span></i></div>
<div style="text-align: justify;">
<i><span style="font-size: x-large;">(1) Are performed for, or on behalf of a related person, and</span></i></div>
<span style="font-size: x-large;"><i></i></span><br />
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<i><span style="font-size: x-large;">(2) Are performed outside the country under the laws of which the controlled foreign corporation is created or organized.</span></i></div>
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<i><span style="font-size: x-large;"><br /></span></i></div>
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<span style="font-size: x-large;">Put more generally, a company can't transfer it's human capital offshore and then trap the profits earned by the human capital offshore.</span></div>
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<span style="font-size: x-large;">Remember that the above rules generally summarize the big points of the CFC income inclusion rules; <b>there are many nuanced points contained in the treasury regulations that go far beyond the confines a blog post. </b> But, the above inclusions do provide a good start for outlining the broad strokes of the law.</span></div>
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Anonymoushttp://www.blogger.com/profile/07993720456025396144noreply@blogger.com0tag:blogger.com,1999:blog-1992206504055282245.post-83284440835715806512013-11-09T06:00:00.001-08:002013-11-09T06:00:37.325-08:00US CFC Rules: What Is A US Shareholder?<div style="text-align: justify;">
<span style="font-size: large;">Like most subparts in the US tax code (the <a href="http://www.law.cornell.edu/uscode/text/26/subtitle-A/chapter-1/subchapter-N/part-III/subpart-F">CFC rules are a sub-part to sub-chapter N in the code</a>), the CFC rules have specific concepts and definitions that apply <i>only to this particular sub-part</i>. The most important definition is that of a "US shareholder." In addition, like most sections in the code, the CFC rules require us to reference multiple sections to get a complete definition.</span></div>
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<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;">Let's start with <a href="http://www.law.cornell.edu/uscode/text/26/957">section 957</a>, which states:</span></div>
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<span style="font-size: large;"><i><br /></i></span></div>
<div class="ptext-11" style="text-align: justify;">
<span style="font-size: large;"><i>For purposes of this subpart, the term “controlled
foreign corporation” means any foreign corporation if more than 50
percent of—
</i></span></div>
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<span style="font-size: large;"><i>
</i></span></div>
<div class="psection-2" style="text-align: justify;">
<span style="font-size: large;"><i><a href="http://www.blogger.com/null" name="a_1"></a>
<span class="enumbell"> </span></i></span></div>
<div class="psection-2" style="text-align: justify;">
<span style="font-size: large;"><i><span class="enumbell"> (1)</span>
<span class="ptext-">the total combined voting power of all classes of stock of such corporation entitled to vote, or
</span></i></span>
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</i></span></div>
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<span style="font-size: large;"><i>
<a href="http://www.blogger.com/null" name="a_2"></a>
<span class="enumbell"> </span></i></span></div>
<div class="psection-2" style="text-align: justify;">
<span style="font-size: large;"><i><span class="enumbell"> (2)</span>
<span class="ptext-">the total value of the stock of such corporation,
</span>
</i></span><div class="outdent-2">
<span style="font-size: large;"><i> </i></span></div>
<div class="outdent-2">
<span style="font-size: large;"><i>is owned (within the meaning of section
<a alt="§ 958 - Rules for determining stock ownership" href="http://www.law.cornell.edu/uscode/text/26/958" title="§ 958 - Rules for determining stock ownership">958</a>
<a alt="(a)" href="http://www.law.cornell.edu/uscode/text/26/usc_sec_26_00000958----000-#a" title="(a)">(a)</a>), or is considered as owned by applying the rules of ownership of section
<a alt="§ 958 - Rules for determining stock ownership" href="http://www.law.cornell.edu/uscode/text/26/958" title="§ 958 - Rules for determining stock ownership">958</a>
<a alt="(b)" href="http://www.law.cornell.edu/uscode/text/26/usc_sec_26_00000958----000-#b" title="(b)">(b)</a>, by United States shareholders on any day during the taxable year of such foreign corporation.</i></span></div>
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<div class="psection-2" style="text-align: justify;">
<span style="font-size: large;">Remember that under the tax code's definitions section (<a href="http://www.law.cornell.edu/uscode/text/26/7701">section 7701</a>), a "foreign" corporation is one not formed in the US. So, according to the CFC definition, a non-US company that is owned by a "US shareholder" is a CFC. This, of course, leads us to define a "US shareholder" which is defined in section 951(b):</span></div>
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<span style="font-size: large;"><i><br /></i></span></div>
<div class="psection-2" style="text-align: justify;">
<span style="font-size: large;"><i>For purposes of this subpart, the term “United States shareholder”
means, with respect to any foreign corporation, a United States person
(as defined in section
<a alt="§ 957 - Controlled foreign corporations; United States persons" href="http://www.law.cornell.edu/uscode/text/26/957" title="§ 957 - Controlled foreign corporations; United States persons">957</a>
<a alt="(c)" href="http://www.law.cornell.edu/uscode/text/26/usc_sec_26_00000957----000-#c" title="(c)">(c)</a>) who owns (within the meaning of section
<a alt="§ 958 - Rules for determining stock ownership" href="http://www.law.cornell.edu/uscode/text/26/958" title="§ 958 - Rules for determining stock ownership">958</a>
<a alt="(a)" href="http://www.law.cornell.edu/uscode/text/26/usc_sec_26_00000958----000-#a" title="(a)">(a)</a>), or is considered as owning by applying the rules of ownership of section
<a alt="§ 958 - Rules for determining stock ownership" href="http://www.law.cornell.edu/uscode/text/26/958" title="§ 958 - Rules for determining stock ownership">958</a>
<a alt="(b)" href="http://www.law.cornell.edu/uscode/text/26/usc_sec_26_00000958----000-#b" title="(b)">(b)</a>,
10 percent or more of the total combined voting power of all classes of stock entitled to vote of such foreign corporation.
</i></span></div>
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<div class="psection-2" style="text-align: justify;">
<span style="font-size: large;">And finally, attribution rules from <a href="http://www.law.cornell.edu/uscode/text/26/318">section 318</a> apply under <a href="http://www.law.cornell.edu/uscode/text/26/958">section 358</a>, preventing a US resident from diversifying his ownership over several companies and or family members to theoretically prevent technical ownership while still actually remaining in control. </span></div>
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<span style="font-size: large;"> </span></div>
<div class="psection-2" style="text-align: justify;">
<span style="font-size: large;">Putting these two sections together, we arrive at the following definition: <b>if more than 50% of the combined voting power of a foreign (non-US company) is owned by a "US shareholder(s) (individuals who each own at least 10% of the stock)" we have a controlled foreign corporation, thereby requiring us to include certain types of income from that company in each shareholder's gross income on a pro-rata basis. </b></span></div>
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<span style="font-size: large;"><br /></span></div>
<div class="psection-2" style="text-align: justify;">
<span style="font-size: large;">It's very important to note that we have <i>two</i> ownership thresholds to meet in this definition. First, we have to establish majority control by "US shareholders." This means that if the foreign corporation is majority owned by foreigners (non-US individuals), a CFC does not exist. In addition, we only have to include certain types of income in the personal gross income of US residents who own more than 10% of the company. </span></div>
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<span style="font-size: large;"><br /></span></div>
<div class="psection-2" style="text-align: justify;">
<span style="font-size: large;">Next, we'll start to look at what types of income we need to include.</span></div>
Anonymoushttp://www.blogger.com/profile/07993720456025396144noreply@blogger.com0tag:blogger.com,1999:blog-1992206504055282245.post-61927718300282492192013-11-01T06:49:00.000-07:002013-11-02T07:47:48.477-07:00The US Controlled Foreign Corporation (CFC Rules): An Introduction<div style="text-align: justify;">
<span style="font-size: large;"> Commentators and practitioners often refer to the US controlled foreign corporation statute (or "CFC") as extremely complex and Byzantine in their construction and application. I would agree with this assessment to a point; if someone is simply trying to learn the pure mechanics of the statute then, yes, it is very difficult to fathom. However, when one looks at the rules after understanding the underlying policy for their implementation and overall effect, the statutory scheme becomes easier to comprehend. So, let's begin with an explanation of why the US (and other developed, OECD countries) put these types of rules into place.</span></div>
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<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"> To begin we will need to know a few definitions from <a href="http://www.law.cornell.edu/uscode/text/26/7701">section 7701</a>. A domestic corporation is one "created or organized in the United States or under the law of the United States or of any State" while a foreign corporation is "one that is "is not domestic." Moving one step further, a foreign corporation is taxed by the US on income that is either <a href="http://www.law.cornell.edu/uscode/text/26/882">connected with a "United States business"</a> or is derived from <a href="http://www.law.cornell.edu/uscode/text/26/881">sources within the United States</a>. Putting all of these definitions together into a workable (and far more user friendly) statement, the US taxes a foreign corporation when that corporation either formally engages in a trade or business within US borders or derives some type of profit from an activity within the US. While this all may seem a bit obvious, knowledge of these definitions is key to understanding why the US implemented CFC rules.</span></div>
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<div style="text-align: justify;">
<span style="font-size: large;"> Next, it's important to remember the US taxes US corporations and individuals on world wide income (income from "<a href="http://www.gpo.gov/fdsys/pkg/CFR-2012-title26-vol2/pdf/CFR-2012-title26-vol2-sec1-61-1.pdf">whatever source derived</a>"). But given the above definitions, it would be possible for a US person to transfer his assets to a foreign company thereby removing the income from the US taxation, as that company would have no taxing nexus with the US -- they were not conducting a trade or business within the US or engaging in any non-business related transaction. And as the entity was not a partnership, the income would not pass through to the individual. And this is exactly what was happening to a larger extent in the 1950s -- US corporations and individuals would form foreign corporations outside the US' taxing jurisdiction while still living and residing in the US. This creates a "free rider" problem: people or companies who live/reside in the US receive all the benefits of taxpayer funded programs (the interstate system, public education, a judiciary to name a few) without funding them through taxes. And it is that behavior which the CFC rules were designed to prevent.</span></div>
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<div style="text-align: justify;">
<span style="font-size: large;"> In general, the CFC rules attribute offshore corporate income to US shareholders when the perceived purpose of the offshore corporation is not to engage in legitimate foreign business (such as opening a "bricks and mortar" branch to sell products) but instead to divert income to a low-tax jurisdiction with the sole intent of removing it from the US tax base. As we move forward into a general overview of the CFC mechanics, keep this concept in mind as it helps to clarify the underlying CFC policy and makes the overall rules that much easier to understand.</span></div>
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Anonymoushttp://www.blogger.com/profile/07993720456025396144noreply@blogger.com0tag:blogger.com,1999:blog-1992206504055282245.post-86414539536335779272013-10-19T10:31:00.002-07:002013-10-26T05:04:47.336-07:00Captives And Life Insurance: A Bad Combination<div style="text-align: justify;">
<span style="font-size: large;"><span class="page1"> No topic splits the <a href="http://www.producersweb.com/r/pwebmc/d/contentFocus/?pcID=6d3235015e947cd8f4bcb7fc73e964be" target="_New">captive insurance world</a>
more than the issue of life insurance — or, more specifically, whether
or not a captive can purchase a whole life policy as part of its
investment portfolio. Those in favor point to the stable returns offered
by whole life and the fact that banks are allowed to purchase BOLI as
primary reasons for favoring the practice. Those against the practice cite
anti-avoidance law along with the IRS’s long history of successfully
attacking more aggressive life insurance plans as negative factors.
Adding further fuel to the fire is the lack of any formal guidance from
the IRS on the issue, leaving both camps with enough legal wiggle room
to claim validation.
<br /><br /> I have always fallen in the negative camp, largely based on
anti-avoidance law concerns. By way of quick background, anti-avoidance
law is a series of judicial doctrines used by the courts and the IRS to
attack transactions largely on “substance over form” grounds. This
doctrine has a long and extremely convoluted legal history, which can be
traced to the <i>Gregory v. Helvering</i> case, and stretches to well over 1,000 citations in cases, law review articles and legal treatise.
Highly questionable annuity and life insurance transactions are at the center of several of the more famous citations, such as <i>Knetsch</i> (which involves and annuity transaction) and <i>In Re CM Holdings</i> (which is one of four COLI cases from the 1900s and early 2000s).
<br /><br /> Firmly hardening my antagonism to this transaction is a recent law
review article by Beckett Cantley, law professor at John Marshall School
of Law in Atlanta. His piece, "<a href="http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2315868" target="_new">Historical IRS Policy Weapons to Combat CIC Deductible Purchases of Life Insurance,</a>
provides the most in-depth treatment of this transaction, highlighting
the IRS’ successful attacks on more aggressive life insurance planning,
the policy reasons behind those attacks and the application of the
reasoning of those successful prosecutions to captive purchases of life
insurance.
<br /><br /> He concludes, “The IRS will likely view an arrangement where a small
business owner funds a CIC for the primary purpose of obtaining
deductions on life insurance premium payments (“Insurance Transaction”)
as similarly abusive to prior listed transactions involving I.R.C. § 419
plans, I.R.C. § 412(e)(3) plans, and I.R.C. § 831(b) PORCs.”
<br /><br /> Professor Cantley outlines the basic argument that would allow the IRS to successfully challenge these transactions.
<br /><br /> The starting point is section 264(a) of the tax code, which states: “No
deduction shall be allowed for—(1) Premiums on any life insurance
policy, or endowment or annuity contract, if the taxpayer is directly or
indirectly a beneficiary under the policy or contract.”
<br /><br /> The underlying policy reason for this is to prevent tax free
accumulation of income, which would disproportionately benefit
high-net-worth individuals. If this deduction were allowed, a
high-net-worth business owner would be able to purchase vast amounts of life insurance
coverage, deduct those premiums as a trade or business expense, and then
have the tax-free proceeds benefit his family on his death. </span></span></div>
<div style="text-align: justify;">
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<div style="text-align: justify;">
<span class="page1"><span style="font-size: large;"><span class="page2"> The next step is the premium payment from the parent
company to the captive, which is tax deductible under 162(a) as a trade
or business expense. This is followed by the captive’s purchase of life
insurance, which benefits the captive owner by either naming his family
or business as a beneficiary. Note what’s transpired with this
transaction: The business owner has deducted the premium payment for a
property and casualty policy, the proceeds of which have been used to
purchase a life insurance policy that in some way benefits him. He has
done indirectly (purchased life insurance via some type of deductible
payment) what he can’t do directly (take a deduction for a life
insurance payment via 264(a)). A general underlying concept in tax law
is a taxpayer cannot do indirectly what he can't do directly. However,
here, he has done just that.
<br /><br /> In addition, there are several basic anti-avoidance law theories which
would underlie the services attacks; these involve application of the
step transaction doctrine, the economic substance doctrine, general form
over substance and the sham transaction doctrine. Professor Cantley
outlines these arguments in far more detail in a forthcoming law review
article titled, “Relearning the Lesson: IRS Judicial Doctrine Attacks on
the Captive Insurance Company Tax Deductible Line Insurance tax
Shelter.” His analysis for all doctrines is very convincing, and indicates the Service has multiple avenues to successfully challenge this transaction.
<br /><br /> One of the more unfortunate aspects of practicing law is we are forced
to read the legal tea leaves when there is no formal guidance from the
relevant authorities. However, in-depth research and a broad knowledge
of the law often suffice where lack of guidance exists. Here, the
history of anti-avoidance law, the general tax policy of preventing a tax
deduction (either directly or indirectly) for purchases of life
insurance and the IRS’s long and successful history of challenging
aggressive life insurance transactions provide a clear picture:
Purchasing life insurance as a portfolio investment in a captive
insurance company should be avoided. </span></span></span><br />
<br />
<span class="page1"><span style="font-size: large;"><span class="page2"><i><br /><a href="http://www.thewpi.org/pdf_files/Cash%20Value%20Life%20Insurance%20in%20Captives.multi.page.summary.pdf#!"></a></i> </span></span></span></div>
Anonymoushttp://www.blogger.com/profile/07993720456025396144noreply@blogger.com0tag:blogger.com,1999:blog-1992206504055282245.post-77564337296467732462013-10-16T05:25:00.002-07:002013-10-16T05:25:27.644-07:00Double Irish Loophole to Close<div style="text-align: justify;">
<span style="font-size: large;"><a href="http://www.marketwatch.com/story/ireland-says-it-will-close-apple-tax-loophole-2013-10-16?dist=beforebell">From CBS Marketwatch:</a></span></div>
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<span style="font-size: large;"><br /></span></div>
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<span style="font-size: large;"><i>Ireland's finance minister, Michael Noonan, said Tuesday that he will work to close a legal loophole that allowed <span class="mandelbrot_refrag"><a class="mandelbrot_refrag" href="http://www.marketwatch.com/companies/Apple_Inc?lc=int_mb_1001">Apple Inc.</a></span> <span class="quotePeekContainer" style="cursor: pointer;">
<span class="quotepeekbase bgQuote up" id="quote2053059580">
<a class="plainsymbol" href="http://www.marketwatch.com/investing/stock/AAPL">AAPL</a>
<span class="data bgPercentChange symbol">+0.56%</span>
</span>
</span>
to sidestep big tax payments, the Financial Times reported on
Wednesday. Noonan said he will publish leglislation that ensures
companies registered in Ireland declare a tax residency in another
jurisdiction or become liable for a 12.5% corporate tax rate in 2015. </i></span></div>
Anonymoushttp://www.blogger.com/profile/07993720456025396144noreply@blogger.com0tag:blogger.com,1999:blog-1992206504055282245.post-28281844132353890712013-10-10T05:25:00.003-07:002013-10-11T06:21:20.059-07:00Cadbury's Tax Plan and Inverse Mergers: More Corporate Tax Planning Enters the Spotlight<div style="text-align: justify;">
<span style="font-size: large;"> One of the more interesting business reporting trends over the last few years is the focus on corporate tax planning. I believe this started in conjunction with the investigations by the US and other OECD countries into offshore/tax haven planning mechanisms which has led to some embarrassing tax disclosures. Regardless of the cause, we are seeing far more actual disclosure about aggressive corporate tax planning techniques. For example, <a href="http://www.ft.com/intl/cms/s/0/ae066430-d9a8-11e2-98fa-00144feab7de.html?siteedition=intl#axzz2h2RYhgnv">the Financial Times has recently issued a two part report on Cadbury's tax planning. </a></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><br /></span></div>
<div data-track-pos="0" style="text-align: justify;">
<span style="font-size: large;"><i>Cadbury, the British confectionery maker that became a cause célèbre for tax justice campaigners after it was acquired by US food group Kraft in 2010, engaged in <a href="http://www.ft.com/cms/s/0/90b042b4-d4ff-11e2-b4d7-00144feab7de.html" title="http://www.ft.com/cms/s/0/90b042b4-d4ff-11e2-b4d7-00144feab7de.html">aggressive tax avoidance schemes</a> before the takeover that were designed to slash its UK tax bill by more than a third.</i></span></div>
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</i></span></div>
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<span style="font-size: large;"><i>A Financial Times investigation into the tax affairs of the company –
established in 1824 by Quakers and known for its philanthropic ethos –
has uncovered tax avoidance schemes former senior executives admit were
“highly aggressive”.</i></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><i>.....</i></span></div>
<div style="background-color: white; border: medium none; color: black; overflow: hidden; text-align: justify; text-decoration: none;">
<span style="font-size: large;"><i>Like <a href="http://www.ft.com/cms/s/0/46e44b6c-c203-11e2-ab66-00144feab7de.html" title="Q&A: How multinationals use Ireland to lower their tax bills - FT.com">many multinationals</a>,
Cadbury reduced its corporation tax bill by loading operations in high
tax countries, such as the UK and US, with debt, while using equity to
fund its growth through low tax jurisdictions such as Ireland.</i></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><i>
</i></span></div>
<div style="text-align: justify;">
<br /></div>
<div style="text-align: justify;">
<span style="font-size: large;"><i>But it went even further by devising schemes to engineer interest
charges that could be deducted from its gross profits and reduce UK tax.</i></span></div>
<div style="text-align: justify;">
<br /></div>
<div style="text-align: justify;">
<span style="font-size: large;"> And <a href="http://dealbook.nytimes.com/2013/10/08/to-cut-corporate-taxes-a-merger-abroad-and-a-new-home/?hp">the New York Times Deal Book</a> recently published an article on the increased use of international mergers as a way to cut corporate tax bills:</span></div>
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<br /></div>
<div style="text-align: justify;">
<span style="font-size: large;"><i>From New York to Silicon Valley, more and more large American
corporations are reducing their tax bill by buying a foreign company and
effectively renouncing their United States citizenship.</i></span></div>
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<div style="text-align: justify;">
<span style="font-size: large;"><i>
</i></span></div>
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<span style="font-size: large;"><i>“It’s almost like the holy grail,” said Andrew M. Short, a partner in
the tax department of Paul Hastings, which advises a number of American
corporations on deals. “We spend all of our time working for
multinationals, thinking about how we’re going to expand their business
internationally and keep the taxation of those activities offshore,” he
added.</i></span></div>
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</i></span></div>
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<div style="text-align: justify;">
<span style="font-size: large;"><i>Reincorporating in low-tax havens like Bermuda, the Cayman Islands or
Ireland — known as “inversions” — has been going on for decades. But as
regulation has made the process more onerous over the years, companies
can no longer simply open a new office abroad or move to a country where
they already do substantial business.</i></span></div>
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</i></span></div>
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<span style="font-size: large;"><i>Instead, most inversions today are achieved through
multibillion-dollar cross-border mergers and acquisitions. Robert
Willens, a corporate tax adviser, estimates there have been about 50
inversions over all. Of those, 20 occurred in the last year and a half,
and most of those were done through mergers.</i></span></div>
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Anonymoushttp://www.blogger.com/profile/07993720456025396144noreply@blogger.com0tag:blogger.com,1999:blog-1992206504055282245.post-57236344006157202182013-10-03T14:07:00.000-07:002013-10-03T14:09:36.417-07:00OECD v. Tax Havens Part V: Intra-Company Transfers<div style="text-align: justify;">
<span style="font-size: large;"> The IRS (nor any other taxing authority) does not like intra-company transfers. This is a prime reason for section 482 of the US tax code, which reads:</span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><i>In any case of two or more organizations, trades, or businesses (whether or not incorporated, whether or not organized in the United States, and whether or not affiliated) owned or controlled directly or indirectly by the same interests, the Secretary may distribute, apportion, or allocate gross income, deductions, credits, or allowances between or among such organizations, trades, or businesses, if he determines that such distribution, apportionment, or allocation is necessary in order to prevent evasion of taxes or clearly to reflect the income of any of such organizations, trades, or businesses. In the case of any transfer (or license) of intangible property (within the meaning of section 936(h)(3)(B)), the income with respect to such transfer or license shall be commensurate with the income attributable to the intangible.</i></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;">The accompanying Treasury Regulations provide guidance on US transfer pricing rules. The OECD has issued its transfer pricing guidelines, which can be accessed <a href="http://www.keepeek.com/Digital-Asset-Management/oecd/taxation/oecd-transfer-pricing-guidelines-for-multinational-enterprises-and-tax-administrations-2010_tpg-2010-en#page1">here</a>. Both organizations are extremely concerned that related organizations will use their relationship to manipulate their respective earnings.</span></div>
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<div style="text-align: justify;">
<span style="font-size: large;"> This is an issue at the forefront of the new OECD list of potential actions to prevent BEPS -- <a href="http://www.oecd.org/ctp/BEPSActionPlan.pdf">base erosion and profit shifting.</a> One of their first concerns is the use of interest deductions between related companies. Action point 3 states:</span></div>
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<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><i>Develop recommendations regarding best practices in the design of rules to prevent base erosion through the use of interest expense, for example through the use of related-party and third-party debt to achieve excessive interest deductions or to finance the production of exempt or deferred income, and other financial payments that are economically equivalent to interest payments.</i></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;">One of their primary concerns is <a href="http://www.oecd-ilibrary.org/taxation/model-tax-convention-on-income-and-on-capital-2010/r-6-double-taxation-conventions-and-the-use-of-conduit-companies_9789264175181-99-en">the use of a conduit company </a>in an offshore haven to hold financial assets, which in turn makes a loan to the parent company to drain corporate profits form a high tax environment to a non-tax environment. </span></div>
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<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"> But there are other concerns related to intra-company transfers. Action point 8 is to "develop rules to prevent BEPS by moving intangibles among group members," while action point 9 is meant to "develop rules to prevent BEPS by transferring risks among, or allocating excessive capital to, group members." Action 10 states: "develop rules to prevent BEPS by engaging in transactions which would not, or would only very rarely, occur between third parties." And finally there is action point 14 to "develop rules regarding transfer pricing documentation to enhance transparency for tax administration, taking into consideration the compliance costs for business."</span></div>
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<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"> Central to all of these concerns is the creation of a wide corporate structure encompassing many jurisdictions and then using the inter-relationships between the companies to manipulate earnings in a manner not intended or envisioned by the code. All of the recommendations point to new rounds of intensive scrutiny on the part of the OECD.</span></div>
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<span style="font-size: large;"> </span></div>
Anonymoushttp://www.blogger.com/profile/07993720456025396144noreply@blogger.com0tag:blogger.com,1999:blog-1992206504055282245.post-33307643806125029232013-09-29T09:32:00.002-07:002013-09-29T09:32:22.287-07:00The OECD v. Tax Havens: Pt IV The Digital Economy<div style="text-align: justify;">
<span style="font-size: large;"> The current tax rules underpinning practically every tax code around the globe are derived from a "bricks and mortar" or manufacturing based economy. What this means is the underlying concepts were developed when all world economies were based on building physical products that were bought and sold (think industrial revolution). For example, the tax treaty phrase "permanent establishment" was actually developed by League of Nation's negotiators during their preliminary discussions to develop a working tax treaty framework. Compare this to today's digital economy where "products" are actually multiple lines of computer code that exist in cyber-space (or a trademark or patented item) or where a "store front" (the old "permanent establishment") is in fact a web site located halfway around the globe on a server in a tax haven. This mismatch between the underlying concepts of the old tax code and the new economy have allowed tax planners to devise tax plans that exploit the inherent conceptual incongruity between the underlying tax code and actual business being taxed.</span></div>
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<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"> The original OECD model tax treaty attempted to deal with some of the problems created by this situation in their electronic commerce section of the OECD model tax treaty commentary (paragraphs 42.1-42.10). Paragraph 42.8 of that section concluded:</span></div>
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<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><i>Where, however, such functions form in themselves an essential and significant part of the business activity of the enterprise as a whole, or where other core functions of the enterprise are carried on through the computer equipment, <b>these would go beyond the activities covered by paragraph 4 and if the equipment constituted a fixed place of business of the enterprise (as discussed in paragraphs 42.2 to 42.6 above), there would be a permanent establishment.</b></i></span></div>
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<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;">(for further explanation, you may also wish to see <a href="http://www.slideshare.net/Bonddad/using-websites-in-international-tax-planning">this presentation available on slideshare</a>)</span></div>
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<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"> However, this solution is rather narrow; serious exploitation of the old rules when applied to a more modern business is still part and parcel of modern international tax planning. As such, this is an area which <a href="http://www.oecd.org/ctp/BEPSActionPlan.pdf">the OECD recommendations target for change, </a>including a targeting of the following areas:</span></div>
<ol style="text-align: justify;">
<li><span style="font-size: large;"><i>the ability of a company to have a significant digital presence in the economy of another country without being liable to taxation due to the lack of nexus under current international rules, </i></span></li>
<li><span style="font-size: large;"><i>the attribution of value created from the generation of marketable location-relevant data through the use of digital products and services, </i></span></li>
<li><span style="font-size: large;"><i>the characterisation of income derived from new business models, </i></span></li>
<li><span style="font-size: large;"><i>the application of related source rules, and </i></span></li>
<li><span style="font-size: large;"><i>how to ensure the effective collection of VAT/GST with respect to the cross-border supply of digital goods and services. Such work will require a thorough analysis of the various business models in this sector. </i></span></li>
</ol>
<div style="text-align: justify;">
<span style="font-size: large;">Each of these areas is a topic onto itself, but suffice it to say that breadth of the potential changes is incredibly broad.</span></div>
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Anonymoushttp://www.blogger.com/profile/07993720456025396144noreply@blogger.com0tag:blogger.com,1999:blog-1992206504055282245.post-89360261145250793782013-09-24T13:02:00.001-07:002013-09-24T13:02:56.835-07:00The OECD v. Tax Havens: Pt III New Concerns<div style="text-align: justify;">
<span style="font-size: large;">On July 13, the OECD issued a new paper titled, <a href="http://www.oecd-ilibrary.org/taxation/action-plan-on-base-erosion-and-profit-shifting_9789264202719-en">Action Plan on Base Erosion and Profit Shifting</a>. The purpose of this paper was to outline the OECD's new round of concerns regarding tax havens and their use in international tax planning. It's first important to understand what is behind the issuing of this new report:</span></div>
<div style="text-align: justify;">
<br /></div>
<div style="text-align: justify;">
<span style="font-size: large;"><i>Over time, the current rules have also revealed weaknesses that create opportunities for BEPS. BEPS relates chiefly to instances where the interaction of different tax rules leads to double non-taxation or less than single taxation. </i></span></div>
<div style="text-align: justify;">
<br /></div>
<div style="text-align: justify;">
<span style="font-size: large;">One of the central purposes of the OECD's original tax treaty was to divide taxing rights and privileges between the two sovereigns that sign a particular treaty. Essentially, each country can tax transactions which occur within their borders (hence the residence requirements of section 1, the residency stipulations of section 4 and the permanent establishment/business profits interaction in sections 5 and 7 of the OECD model treaty). However, through the interaction of two different tax systems, planners have come to exploit situations so no taxation occurs<i>. </i>Hence the issue of "double non-taxation." </span></div>
<div style="text-align: justify;">
<br /></div>
<div style="text-align: justify;">
<span style="font-size: large;">In addition, less than single taxation is also possible. While this term may seem a misnomer, in fact it's not. One of the central ideas both of accounting and taxation is to effectively align income and expenses. For example, when a company produces a product, it is allowed under most tax and accounting systems to deduct expenses incurred in production of that product. This is sometimes referred to as the matching principal. Less than single taxation occurs when a company manipulates transfer pricing rules to drain money away from the location where the expense should occur to a lower tax jurisdiction. One of the most common examples is placing intellectual property in a low-tax jurisdiction and paying royalties to that jurisdiction for use of the property, even though the production of that IP occurred in the higher tax jurisdiction. </span></div>
<div style="text-align: justify;">
<br /></div>
<div style="text-align: justify;">
<span style="font-size: large;">This point leads nicely into the third primary concern of the OECD:</span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><i>The spread of the digital economy also poses challenges for international taxation. The digital economy is characterised by an unparalleled reliance on intangible assets, the massive use of data (notably personal data), the widespread adoption of multi-sided business models capturing value from externalities generated by free products, and the difficulty of determining the jurisdiction in which value creation occurs. This raises fundamental questions as to how enterprises in the digital economy add value and make their profits, and how the digital economy relates to the concepts of source and residence or the characterisation of income for tax purposes. At the same time, the fact that new ways of doing business may result in a relocation of core business functions and, consequently, a different distribution of taxing rights which may lead to low taxation is not per se an indicator of defects in the existing system. It is important to examine closely how enterprises of the digital economy add value and make their profits in order to determine whether and to what extent it may be necessary to adapt the current rules in order to take into account the specific features of that industry and to prevent BEPS.</i></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;">Over the last 6-9 months, the tax planning of Apple, Google, Amazon and Adobe have been publicized in a negative light. Because these companies all utilize IP, they are able to send their valuable assets to offshore low-tax jurisdictions and use these venues as "hubs" which collect vast sums of money in a low tax manner. The OECD is concerned that these structures remove money from higher tax jurisdictions in a manner that does not reasonably employ matching concepts. The OECD expresses their concern thusly:</span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><i>It also relates to arrangements that achieve no or low taxation by
shifting profits away from the jurisdictions where the activities
creating those profits take place. No or low taxation is not per se a
cause of concern, but it becomes so when it is associated with practices
that artificially segregate taxable income from the activities that
generate it. In other words, what creates tax policy concerns is that,
due to gaps in the interaction of different tax systems, and in some
cases because of the application of bilateral tax treaties, income from
cross-border activities may go untaxed anywhere, or be only unduly lowly
taxed. </i></span></div>
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Anonymoushttp://www.blogger.com/profile/07993720456025396144noreply@blogger.com0tag:blogger.com,1999:blog-1992206504055282245.post-89197907935969139522013-09-18T14:37:00.000-07:002013-09-18T14:38:34.070-07:00The OECD v. Tax Havens, Part II: Initial Recomendations<div style="text-align: justify;">
<span style="font-size: large;"><a href="http://hstaxblog.blogspot.com/2013/09/the-oecd-v-tax-havens-part-i-what-is.html">As discussed in the previous post</a>, the OECD originally went after tax havens in a 1998 document titled, <a href="http://www.oecd.org/tax/transparency/44430243.pdf">Harmful Tax Competition, An Emerging Global Issue. </a> They defined a tax haven as a low or no tax jurisdiction that employs secrecy and does not exchange information with other taxing officials. To counter-act the effect of havens, the OECD proposed a number of options. There are several that stand out.</span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><b><i><br /></i></b></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><i><b>Recommendation concerning Controlled Foreign Corporations (CFC) or equivalent rules:</b> that countries that do not have such rules consider adopting them and that countries that have such rules ensure that they apply in a fashion consistent with the desirability of curbing harmful tax practices.</i></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;">Most advanced economies have some form of CFC rules, the purpose of which is to attribute offshore income to onshore shareholders. The US adopted its rules in the early 1960s, as did most of the larger European countries. </span></div>
<div style="text-align: justify;">
<br /></div>
<div style="text-align: justify;">
<span style="font-size: large;"><i><b>Recommendation concerning foreign information reporting rules:</b> that countries that do not have rules concerning reporting of international transactions and foreign operations of resident taxpayers consider adopting such rules and that countries exchange information obtained under these rules. </i></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;">The US tax system -- as with most other tax systems -- is a self-reporting system. Taxpayers annually report their income, and the threat of an audit prevents abuse. However, in the age of electronic banking, it's very easy for people to open an account and then fund it in an un-reportable manner. This led to the passage and implementation of FATCA rules.</span></div>
<div style="text-align: justify;">
<br /></div>
<div style="text-align: justify;">
<span style="font-size: large;"><i><b>Recommendation concerning greater and more efficient use of exchanges of information:</b> that countries should undertake programs to intensify exchange of relevant information concerning transactions in tax havens and preferential tax regimes constituting harmful tax competition. </i></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;">While the OECD Model Tax Treaty contains an exchange of information section, after the organization published the <i>Harmful Tax Competition </i>document, they began to encourage the signing of mutual assistance treaties between countries that focused exclusively on the exchange of relevant information. A report issued in 2007 noted the progress that had been made:</span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><i>The 2006 Report showed that both OECD and non-OECD countries had implemented or made considerable progress towards implementing the transparency and effective exchange of information standards that the Global Forum wishes to see achieved. It also showed that further progress is needed if a global level playing field is to be achieved. Thus, the Statement of Outcomes issued after the Global Forum meeting in Melbourne on 15-16 November 2005 outlined a series of steps involving individual, bilateral and collective actions which would be needed to both achieve and maintain the goal of a level playing field.</i></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;">Countries continue to sign mutual assistance treaties. </span></div>
<div style="text-align: justify;">
<br /></div>
<div style="text-align: justify;">
<span style="font-size: large;">The report contained other recommendations; those listed above are simply the more important proposals.</span></div>
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Anonymoushttp://www.blogger.com/profile/07993720456025396144noreply@blogger.com0tag:blogger.com,1999:blog-1992206504055282245.post-31679093225502069622013-09-14T11:33:00.001-07:002013-09-14T11:33:02.248-07:00The OECD v. Tax Havens, Part I: What Is A Tax Haven?<div style="text-align: justify;">
<span style="font-size: large;">Recently, the OECD ramped up its conflict with tax havens by issuing a report titled, <a href="http://www.oecd.org/ctp/BEPSActionPlan.pdf">Action Plan on Base Erosion and Profit Sharing</a>. Obviously, the purpose of this report is to provide a set of options that OECD countries can enact to counter the negative impact of tax base erosion, or the shifting of tax revenue away from developed/higher tax countries to lower tax/tax havens. But before I get to the report, a bit of background is necessary to provide some context to the conflict.</span></div>
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<span style="font-size: large;">First, how did tax havens develop? <a href="http://bonddad.blogspot.com/2013/03/how-did-cyprus-become-this-important.html">As I noted in a post I wrote on my economic blog about the Cyprus situation:</a></span></div>
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<span style="font-size: large;"><br /></span></div>
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<span style="font-size: large;"><i>First, let's classify countries geographically. If you look at a map of
the world and then look at the tax rates of most countries, the small
countries -- typically islands -- have low to non-existent tax rates.
The reason is actually pretty simple: they have small populations and
small geographic areas. Hence, their need for tax revenue is greatly
reduced (they don't have a social safety net to pay for and they don't
have a great deal of infrastructure needs). This is why the islands in
the Caribbean have become tax havens -- a development made far easier
because of electronic banking. And when low tax rates are combined with
bank-secrecy laws, an entire industry is now born -- offshore banking.</i></span></div>
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<br /></div>
<div style="text-align: justify;">
<span style="font-size: large;">While these countries were bit players for the first half of the 20th century, their importance has increased as electronic commerce makes it far easier to form and manage companies from a distance and transfer certain types of assets through electronic or paper means. As the world economy become more integrated, these jurisdictions increased in importance, slowly draining tax revenue out of higher tax countries.</span></div>
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<span style="font-size: large;"><br /></span></div>
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<span style="font-size: large;"><i> </i></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><i> </i>In response to this cash drain, the OECD issued a report called <a href="http://www.oecd.org/tax/transparency/44430243.pdf">Harmful Tax Competition, An Emerging Global Issue i</a></span><span style="font-size: large;"><span style="font-size: large;">n 1998. </span>The report noted that as the modern economy developed, certain types of economic activities could be moved from higher tax to lower tax countries. Some of the more common structures include the following:</span></div>
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<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;">1.) <b>Intellectual property centers:</b> all IP is stored in an offshore company that is located in a low tax environment. The company's branches pay royalties to the company, thereby draining cash from high tax countries to low tax countries. </span></div>
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<br /></div>
<div style="text-align: justify;">
<span style="font-size: large;">2.) <b>International finance centers:</b> companies place all of their liquid financial assets in an offshore company which then provides financing to branches. Interest payments allow money to move from high tax countries to low tax countries. </span></div>
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<span style="font-size: large;"><br /></span></div>
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<span style="font-size: large;">3.) <b>Offshore transportation registry:</b> Companies with transportation sections place all of their transportation assets into an offshore company which then owns the various boats, planes and the like.</span></div>
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<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;">4.) <b>Offshore e-commerce:</b> a website located on a server is considered a permanent establishment for tax treaty purposes. Therefore, companies will house their websites on servers located in tax havens, creating a point of sale in the low tax jurisdiction and trapping profit there.</span></div>
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<div style="text-align: justify;">
<span style="font-size: large;">There are or course, many variations on the above along with others concepts.</span></div>
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<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;">The report also had to define a tax haven. They settled on with the following criteria. </span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;">1.) <b>A low tax or no tax environment:</b> this is an obvious main point that must exist. If the territory has 0% tax rate or a very low tax rate (say less than 10%), then it's a good bet it's a tax haven.</span></div>
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<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;">2.) <b>Are there laws that prevent the effective exchange of information?</b> If the home country can't find out about a company's activities in a jurisdiction, it's highly likely that the company doesn't want to have its activities discovered. This requirement also ties into another qualification: <b>an overall lack of transparency. </b> Secrecy also encourages certain types of activities such as money laundering and terrorist financing. </span></div>
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<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;">3.) <b>The absence of a requirement that the activity be substantial. </b> By now, we've all heard about the Cayman Island street address that is actually the home of over 1,000 companies. Obviously, no actual business is transacted at these locations; no meetings are held, no votes are taken no decisions are actually made. Instead, these companies only exist on paper, usually to house highly mobile company asset. The fact that no substantive business has to occur at these locations is very important, as it allows MNEs to create numerous paper companies.</span></div>
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<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;">4.) <b>Does the jurisdiction hold itself out as a tax haven?</b> Some places have an international reputation as an offshore tax haven. If a country says it is, it's probably true.</span></div>
<div style="text-align: justify;">
<br /></div>
<div style="text-align: justify;">
<span style="font-size: large;">5.) While the report notes that <b>"failure to adhere to international transfer pricing principles"</b> is an "other" factor, I would argue it's a primary qualification -- and one that exists in all tax havens. </span></div>
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<div style="text-align: justify;">
<span style="font-size: large;">There is hardly anything controversial in the above statements. </span></div>
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<span style="font-size: large;">Next, we'll look at the new report issued by the OECD.</span></div>
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Anonymoushttp://www.blogger.com/profile/07993720456025396144noreply@blogger.com0tag:blogger.com,1999:blog-1992206504055282245.post-33656164262995600072013-09-12T05:24:00.006-07:002013-09-12T05:26:03.842-07:00 More Signs Of An International Tax Evasion Clampdown<div style="text-align: justify;">
<span style="font-size: large;">In 1998, the OECD issued a document titled <a href="http://www.oecd.org/tax/transparency/44430243.pdf">Harmful Tax Competition: An Emerging Global Issue</a>. This was the first shot in a war between developed countries and offshore tax havens. Over the ensuing 15 years offshore havens have become far more cooperative with higher tax countries -- at least in the compliance area; many have signed mutual assistance treaties which allow the exchange of information. And the US has aggressively clamped down on certain evasion structures, specifically targeting UBS and Switzerland. </span></div>
<div style="text-align: justify;">
<br /></div>
<div style="text-align: justify;">
<span style="font-size: large;">The US is not alone in its efforts. Over the last 6-12 months, we've seen the OECD and EU adopt a more aggressive posture towards advanced tax planning strategies. <a href="http://www.ft.com/intl/cms/s/0/bc045306-1afa-11e3-b781-00144feab7de.html?siteedition=intl#axzz2egCTdzE3">The latest news is reported by the Financial Times:</a></span></div>
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<span style="font-size: large;"><i>Brussels is probing Ireland, Luxembourg and the Netherlands over their <a href="http://www.ft.com/intl/cms/s/0/099eb084-1704-11e3-9ec2-00144feabdc0.html?siteedition=intl" title="G20 leaders ratchet up pressure on tax avoidance">tax deals with multinationals</a> paving the way potentially for a formal investigation into illegal sweeteners.</i></span></div>
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</i></span></div>
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<span style="font-size: large;"><i>Europe’s top competition authority has asked the
governments to explain their system of tax rulings and give details of
assurances given to several specific companies – including <a class="wsodCompany" data-hover-chart="us:AAPL" href="http://markets.ft.com/tearsheets/performance.asp?s=us:AAPL">Apple</a> and <a class="wsodCompany" data-hover-chart="us:SBUX" href="http://markets.ft.com/tearsheets/performance.asp?s=us:SBUX">Starbucks</a> – according to people who have seen the request.</i></span></div>
Anonymoushttp://www.blogger.com/profile/07993720456025396144noreply@blogger.com0tag:blogger.com,1999:blog-1992206504055282245.post-11018518559814891232013-09-11T04:48:00.003-07:002013-09-11T04:56:13.585-07:00How Not To Create Corporate Substance; the Flowers Case<div style="text-align: justify;">
<span style="font-size: large;">As we approach the end of the year, the annual tax scam circus will start coming around. Expect promoters to make pitches for numerous half-baked schemes. A good example of same is the Flowers case from 1983 (80 T.C. 914). The case's facts are still a great example of how to <i>not</i> create corporate substance, thereby making the whole transaction suspect.</span></div>
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<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;">The facts are very simple: the promoters sought to form a limited partnership which invested in the record business by buying the rights to four "albums" and then selling the right to use the copyrights (The judge went so far as to describe all music albums as poorly performed and recorded). Unfortunately for the taxpayers, the transaction was an utter sham as shown by the following facts:</span></div>
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<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><b>The promoters had no experience in the business -- <i>absolutely none:</i></b> While this alone is not fatal to their business venture, they also didn't seek the input of people who did have the experience. All businesses require a special skill set in order to make money. Some -- such as the music business -- are especially skill specific. When no one involved in the transaction has any expertise, its a sure bet there's something wrote.</span></div>
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<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><b>There was no arms length negotiation:</b> The promoters purchased four master recordings from a recording studio who simply named their price. There was no second hand evaluation of product to determine if the valuation was in any way realistic.</span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><b>The promotional literature was heavy on the promoter CYA and tax benefits: </b> Essentially the promoters wrote the package to escape all liability. There assumed no responsibility for the potential sales of the product and stated that the shelter could be audited by the IRS. In addition, the sales brochures were heavy on promoting the tax benefits.</span></div>
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<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><b>The promoters were completely unaware of their responsibilities as managing partners:</b> When questioned at trial, it became apparent the promoters had no idea what a general partner in a limited partnership was supposed to do. And after forming the limited partnership, the promoters simply walked away. They did not hold meetings nor they did not keep any corporate records.</span></div>
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<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><b>There was no physical business:</b> the limited partnership had no fixed address, no phone and no equipment. There was literally nothing save a state level filing to prove the business even existed.</span></div>
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<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><b>Fantastical business projections: </b>the individuals who sold the albums projected all four would be rise to platinum level status (over 1 million units sold). The promoters did not challenge these projections nor did they seek a second opinion. </span></div>
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<span style="font-size: large;">Like all tax plans, if it sounds too good to be true, it probably is. </span></div>
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Anonymoushttp://www.blogger.com/profile/07993720456025396144noreply@blogger.com0tag:blogger.com,1999:blog-1992206504055282245.post-88892366671796571332013-09-07T09:07:00.001-07:002013-09-07T09:08:14.729-07:00The OECD Model Treaty, Business Profits and Transfer Pricing<div style="text-align: justify;">
<span style="font-size: large;">One of the key benefits to international transactions is the ability to utilize a network of inter-related corporate entities to shift profits to lower tax regions. In tax vernacular, this is referred to as transfer pricing. While a complete discussion of this discipline is far beyond the scope of this post, it's important to understand the OECD model treaty grants broad authority to taxing authorities to recast the economic terms of a transaction to better reflect arms-length principles.</span></div>
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<br /></div>
<div style="text-align: justify;">
<span style="font-size: large;">The granting of authority starts in paragraph 2 of Section 7:</span></div>
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<br /></div>
<div style="text-align: justify;">
<span style="font-size: large;"><i>2. Subject to the provisions of paragraph 3, where an enterprise of a Contracting State carries on business in the other Contracting State through a permanent establishment situated therein, there shall in each Contracting State be attributed to that permanent establishment the profits which it might be expected to make if it were a distinct and separate enterprise engaged in the same or similar activities under the same or similar conditions and dealing wholly independently with the enterprise of which it is a permanent establishment.</i></span></div>
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<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;">This section ties directly into Section 9, which is titled "Associated Enterprises," and states the following:</span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><i><br /></i></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><i>1. Where<br /><br />a) an enterprise of a Contracting State participates directly or indirectly in the management, control or capital of an enterprise of the other Contracting State, or<br /><br />b) the same persons participate directly or indirectly in the management, control or capital of an enterprise of a Contracting State and an enterprise of the other Contracting State,<br /><br />and in either case conditions are made or imposed between the two enterprises in their commercial or financial relations which differ from those which would be made between independent enterprises, <b>then any profits which would, but for those conditions, have accrued to one of the enterprises, but, by reason of those conditions, have not so accrued, may be included in the profits of that enterprise and taxed accordingly.</b></i></span></div>
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<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;">The granting of authority is developed and explained over several sections of the commentary.</span></div>
<div style="text-align: justify;">
<br /></div>
<div style="text-align: justify;">
<span style="font-size: large;">1.) The starting place for the analysis is the company's books and records. Paragraph 12 of the commentary to section 7 states: <i>In the great majority of cases, trading accounts of the permanent establishment -- which are commonly available if only because a well-run business organisation is normally concerned to know what is the profitability of its various branches -- will be used by the taxation authorities concerned to ascertain the profit properly attributable to that establishment. </i></span></div>
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<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;">2.) However, the taxing authority does not have to take these accounts at face value. Paragraph 12.1 of the commentary to section 7 states: <i>However, where trading accounts are based on internal agreements that reflect purely artificial arrangements instead of the real economic functions of the different parts of the enterprise, these agreements should simply be ignored and the accounts corrected accordingly. </i></span></div>
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<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;">3.) The related commentaries give the taxing authorities broad authority to re-write internal accounts if they do not reflect economic reality. Paragraph 2 of the commentary to section nine states: <i>"This
paragraph provides that the taxation authorities of a Contracting State
may, for the purpose of calculating tax liabilities of associated
enterprises, re-write the accounts of the enterprises if, as a result of
the special relations between the enterprises, the accounts do not show
the true taxable profits arising in that State."</i></span></div>
<br />
<span style="font-size: large;">So, the taxing authority will start by looking at the company's records. If these appear to be fine, then the analysis stops there. But if there's a problem, they can dig deeper and if warranted completely rewrite the transactions if the original terms to not reflect "economic reality."</span><i><span style="font-size: large;"> </span></i><br />
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<br />Anonymoushttp://www.blogger.com/profile/07993720456025396144noreply@blogger.com0tag:blogger.com,1999:blog-1992206504055282245.post-52974128015058648652013-08-31T12:32:00.002-07:002013-08-31T12:35:50.645-07:00Moline Properties and The Separate Nature of the Corporation<div style="text-align: justify;">
<span style="font-size: large;">Moline Properties’ facts are straightforward. An individual who owned commercial real estate placed a single building into a corporation and subsequently placed the corporate shares with a voting trustee for the benefit of the mortgagee.2 When the corporation sold the property three years later, the single shareholder attempted to claim the sale as individual income rather than corporate income.3 The court ruled against the taxpayer, writing this now famous conclusion:</span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><br /><i>The doctrine of corporate entity fills a useful purpose in business life. Whether the purpose be to gain an advantage under the law of the state of incorporation or to avoid or to comply with the demands of creditors or to serve the creator's personal or undisclosed convenience, so long as that purpose is the equivalent of business activity or is followed by the carrying on of business by the corporation, the corporation remains a separate taxable entity.4</i></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><br />The broad range of reasons given by the court to justify incorporation is striking. The incorporator can be “seeking to take advantage under the law,” the most obvious of which is the corporation’s limited liability shield. In addition, he can be seeking to comply with creditor demands as in this case or do so merely for his “convenience.” Regardless of the actual reason, it’s possible to read practically any legally cognizable justification into the above cited sentence.<br /><br />But just as importantly, ample reasons existed for the court to not recognize the separate nature of the company. The taxpayer in Moline Properties was less than diligent in maintaining the required corporate formalities as the corporation kept no books or records.5 These are factors often cited as reasons for piercing the corporate veil (see discussion below), which the court could arguably have done in this case. Also note the corporation was hardly a hot bed of corporate activity:<br /> </span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><i>Until 1933 the business done by the corporation consisted of the assumption of a certain obligation of Thompson to the original creditor, the defense of certain condemnation proceedings and the institution of a suit to remove restrictions imposed on the property by a prior deed. The expenses of this suit were paid by Thompson. In 1934 a portion of the property was leased for use as a parking lot for a rental of $ 1,000. Petitioner has transacted no business since the sale of its last holdings in 1936 but has not been dissolved. 6</i><br /> </span></div>
<div style="text-align: justify;">
<span style="font-size: large;">While the corporation was a petitioner in a lawsuit, it did not pay for its own legal expenses. This factor in combination with the lack of corporate formalities would give most courts ample reason for veil piercing or, at minimum, non-recognition of the corporate form. Yet the court chose not to do so, instead ruling sufficient substance existed for the separate nature of the corporation.<br /> </span></div>
<div style="text-align: justify;">
<span style="font-size: large;">To this day, Moline Properties is cited as a primary authority for the proposition that courts must accept the separate nature of a properly incorporated entity. It has been cited approvingly in all but the 10th judicial circuit. More importantly, it has been citing approvingly by the U.S. Tax Court 30 times and 26 times by various IRS materials, including Chief Counsel Memorandum,7 General Counsel Memos,8 Private</span></div>
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<br /></div>
<div style="text-align: justify;">
<span style="font-size: large;">2 <u>Moline Properties, Inc. v. Commissioner</u>, 319 U.S. 436, 437 (1943)<br />3 <i>Id</i><br />4 <i>Id</i> at 438-439</span></div>
<div style="text-align: justify;">
<span style="font-size: large;">5 <i>Id</i> at 437-438<br />6 <i>Id</i><br />7 IRS CCA 201123027, 2011 IRS CCA LEXIS 119 (I.R.S. 2011)<br />8 Gen. Couns. Mem. 35481 (1973)<br />Letter Rulings,9 and Field Service Advance Memos.10 While none of the IRS materials cited are binding, they amply demonstrate the IRS’ knowledge of this well-settled legal doctrine.</span></div>
Anonymoushttp://www.blogger.com/profile/07993720456025396144noreply@blogger.com0tag:blogger.com,1999:blog-1992206504055282245.post-91122484721507924632013-08-25T06:17:00.003-07:002013-08-25T06:26:47.447-07:00Court Denies Motion for Summary Judgement in Bancroft Case<div style="text-align: justify;">
<span style="font-size: large;">The following is the court's ruling on the motion for summary judgement in one of the Bancroft cases. It proves that courts indeed have a sense of humor: </span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><i>The Court has amply telegraphed its belief that Bancroft’s “Premium Lite” “insurance” program is, at best, a scheme, and at worst, a scam. This Court has on multiple occasions [Dkt. Nos. 76, 94, 140] dealt with the factual underpinnings of Plaintiff’s Motion for Partial Summary Judgment [Dkt. #160]. No matter how the parties reformulate the questions, the answer is the same: “That’ll be DENIED.” The Court does not believe the parties. The Court does not believe the lawyers. This matter will be resolved once and for all in the crucibles of trial. Credibility issues alone prevent summary adjudication of core issues in this case.</i></span></div>
Anonymoushttp://www.blogger.com/profile/07993720456025396144noreply@blogger.com0tag:blogger.com,1999:blog-1992206504055282245.post-79139980419556462872013-08-07T13:35:00.002-07:002013-08-18T08:09:53.378-07:00UK Doubles the Amount of Tax Evasion Cases<div style="text-align: justify;">
<span style="font-size: large;"><a href="http://www.ft.com/intl/cms/s/0/3d9be62c-fb84-11e2-a641-00144feabdc0.html#axzz2b5w6xn7p">From the Financial Times:</a></span></div>
<div style="background-color: white; border: medium none; color: black; overflow: hidden; text-align: justify; text-decoration: none;">
<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><i>The
number of criminal prosecutions for tax evasion more than doubled last
year, as the government stepped up its crackdown on individuals
suspected of defrauding the Exchequer. </i></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><i>
</i></span>
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<div data-track-pos="0" style="text-align: justify;">
<span style="font-size: large;"><i>Tax evasion prosecutions rose from 302 in 2011-12
to 617 in 2012-13, according to figures obtained by Pinsent Masons, an
international law firm. The increase reflects the <a href="http://www.ft.com/cms/s/0/0ce3c85e-c425-11df-b827-00144feab49a.html" title="Tax crackdown targets not only the rich - FT.com">Treasury’s pledge in 2010</a> to quintuple the number of tax prosecutions in an effort to create a more robust deterrent against evasion.</i></span></div>
<div data-track-pos="0" style="text-align: justify;">
<span style="font-size: large;"><br /></span></div>
<div data-track-pos="0" style="text-align: justify;">
<span style="font-size: large;">Practically all tax systems are based on self-reporting -- meaning that each taxpayer reports his level of income to the appropriate<i> </i>governmental authority. This of course encourages the non-reporting of income along with various practices which makes income untraceable. </span></div>
<div data-track-pos="0" style="text-align: justify;">
<span style="font-size: large;"><br /></span></div>
<div data-track-pos="0">
<div style="text-align: justify;">
<span style="font-size: large;">The threat of prosecution keeps most taxpayers this side of to the compliance line. However, a dearth of prosecutions encourages taxpayers to play "audit roulette" -- not complying with the law in the hopes they won't get caught. In a low prosecution environment, this is actually a well-reasoned strategy (although as an attorney I would advise against it). </span></div>
<div style="text-align: justify;">
<span style="font-size: large;"><br /></span></div>
<div style="text-align: justify;">
<span style="font-size: large;">The US recently went through a period of heightened audits for high net worth individuals as well. I would expect more of the same over the next few years. </span></div>
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Anonymoushttp://www.blogger.com/profile/07993720456025396144noreply@blogger.com0tag:blogger.com,1999:blog-1992206504055282245.post-32519265945545166422013-07-25T06:36:00.001-07:002013-07-25T08:14:52.962-07:00Is A New Round Of International Tax Regulation Coming?<div style="text-align: justify;">
<span style="font-size: large;">Over the last few years, large corporation's tax bills have come into more and more public focus. Both Google and Apple have been called in front of Congress to explain their low rate and the overall tax plan of both corporations has become public knowledge. These revelations are occurring at a time when the global tax base is being eroded as companies are shifting more and more of their income and assets to low-tax countries. As a result,<a href="http://www.keepeek.com/Digital-Asset-Management/oecd/taxation/action-plan-on-base-erosion-and-profit-shifting_9789264202719-en"> the OECD has issued a report titled, </a>"Action Plan on Base Erosion and Profit Shifting." </span></div>
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<span style="font-size: large;">Let's first look at a brief history of the OECD-tax haven conflict to provide historical perspective, starting with this question: why are the tax rates in tax havens so low? There are two inter-related answers: they have a tiny geography and small population. <a href="https://www.cia.gov/library/publications/the-world-factbook/geos/cj.html">The Cayman Islands</a> is a mere 264 square km in size with a population of 53,737. Looking at these two inter-related factors from a governing perspective, there is little need for a massive infrastructure system or social safety net programs and hence, little to no need to tax. The exact opposite is true for OECD countries, who have large land masses and large populations.</span></div>
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<span style="font-size: large;">Compounding this difference between large, populous countries and small less populated island nations is that businesses which require far more paper-work than physical product are easily moved to tax havens. The first and most obvious example of this is financial services, an industry dominated by ledgers and accounts, not physical products. The digital age has exacerbated this phenomena as web pages replace physical storefronts, thus enabling transactions to occur in cyberspace which can be located on a computer server rather than a bricks and mortar locale. We can also place non-physical assets </span><span style="font-size: large;"><span style="font-size: large;">such as intellectual property </span>into corporations located in these offshore jurisdictions and establish an intra-company payment system where a company will pay its offshore subdivision for usage of the company's intellectual property. As a result of all these developments, more and more actual economic activity can be moved to these low-tax jurisdictions, thereby eroding the tax base of larger countries. </span></div>
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<span style="font-size: large;">The OECD started to target offshore activity in the late 1990s with the issuance of the report <a href="http://www.oecd.org/tax/transparency/44430243.pdf">"Harmful Tax Competition: An Emerging Global Issue."</a> In effect, the report argued the combination of banking secrecy and low taxes was eroding the OECD's tax base, leading the group to begin a lobbying campaign with these jurisdictions to both lift the secrecy veil and raise their taxes. Little happened on this front until 9/11, which added further strength to the OECDs anti-secrecy arguments. Now, more and more offshore jurisdiction are signing "mutual assistance" treaties which allow coordination of tax prosecutions with treaty signatories in certain situations. From a macro perspective, these developments are leading to a slow end to the age of banking secrecy, which will probably disappear for the most part by the end of my lifetime. </span></div>
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<span style="font-size: large;">However, the issue of offshore tax arbitrage is still alive and well, <a href="http://www.ft.com/intl/cms/s/0/a2752ec6-eb23-11e2-bfdb-00144feabdc0.html#axzz2Z7DPDSb0">hence the talk of a new global crackdown:</a></span></div>
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<i><span style="font-size: large;">Finance ministers from the Group of 20 leading nations plan to launch a new phase of the international crackdown on corporate tax avoidance
this week even as UK business leaders are warning their government to
resist “radical new solutions” to profit shifting by multinationals. </span></i></div>
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<span style="font-size: large;"><i>Britain has taken a lead in pressing for reform of the international
tax rules after a wave of public anger over the low tax bills paid by
some large multinationals. An action plan on tackling base erosion and
profit shifting is due to be presented to the G20 by the Paris-based
Organisation for Economic Co-operation and Development on Friday.</i></span></div>
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<span style="font-size: large;">We have no idea where this will end -- or if it will get anywhere in the first place. However, I do think with the heightened spotlight on low multi-national tax bills and increasing number of cross-border tax arrangements, this might have legs.</span></div>
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Anonymoushttp://www.blogger.com/profile/07993720456025396144noreply@blogger.com0tag:blogger.com,1999:blog-1992206504055282245.post-66533964559307382882013-07-16T07:33:00.002-07:002013-07-16T07:40:41.575-07:00What Does a Tax Scam Look Like?<div style="text-align: justify;">
<span style="font-size: large;">Planners have offered questionable ways to "minimize" tax since the implementation of the tax code. Attesting to this are the first assignment of income cases which tested the validity and strength of the grantor trust rules when first established (see <a href="http://www.law.cornell.edu/uscode/text/26/subtitle-A/chapter-1/subchapter-J/part-I/subpart-E">code sections 671-679</a>). In fact, a thorough reading of anti-avoidance case law shows there were several important periods in tax scams: the 1950s brought attempts to create phantom "interest" deductions, the 1970s and early 1980s brought limited partnership plans and the 1990s saw the creation of an entire industry encompassing the accounting, legal and financial professional industry. </span></div>
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<span style="font-size: large;">But while the long history of this industry could lead to the impression there is a vast difference regarding these plans, there is in fact a remarkable amount of similarity to the way they were structured. What follows are some of the more common elements.</span></div>
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<span style="font-size: large;"><b>A hyper-technical reading of the tax code: </b>this is probably one of the most common traits of tax shelters across the time periods listed above. While the ability to comprehend particular sections of the tax code is obviously a prime requirement for a tax attorney, that knowledge has to be placed in the context of the legislative intent of the code in general. For example, a common tax shelter in the 1990s involved the contingent liability section of the tax code, which would shift the gains of a transaction to a tax neutral participant (a party for whom income was immaterial) while it shifted the losses to a party that was trying to offset capital gains (usually a US taxpayer). While these transactions complied with the technical aspects of the contingent liability section of the code, they had no <i>substance</i>, meaning there was no meaningful business purpose for the transaction, save sheltering taxable income.</span><br />
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<span style="font-size: large;"><b>Ground up tax planning:</b> Most legitimate tax planning starts with a company approaching their attorney with one of four basic needs: the need to increase income (such as expanding into a new market), the need to lower expenses (combining subsidiaries; lowering taxes alone is not a legitimate reason), the need to raise capital or the need to lower risk. But all four of these transactions starts at a high level and are motivated by a legitimate business need. In contrast, most tax shelters are transactions in search of a client -- that is, a tax promoter will develop a transaction (usually involving a hyper-technical reading of the tax code) and then sell it to a client, one who is usually looking to offset income or capital gain. When a transaction starts at a low level it has a difficult time establishing business purpose. For a further explanation of this issue, see the <a href="http://www.levin.senate.gov/newsroom/press/release/?id=e220e5cd-7daa-4683-8616-12a523c033f6">Senate's Report on tax shelters</a>.</span></div>
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<span style="font-size: large;"><b>Multiple, pre-planned steps:</b> most transactions are actually very simple: company X buys company Y; company X forms an accounts receivable sub-division; company X divests itself of a subsidiary; company X issues stock, etc... In contrast, most tax shelters use multiple, pre-planned steps to arrive at a particular destination. For example, company X and company Y form an offshore partnership. After 30 days, they purchase short-term notes. After 35 days, they sell notes to received a contingent liability note. After 12 months, company Y leaves the partnership ... you get the idea. Pre-planned steps are a big warning sign that something is probably amiss.</span></div>
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<span style="font-size: large;"><b>Offshore:</b> first of all, about 30% of my practice involves international tax planning, so I'm obviously not against the practice. However, tax shelter promoters typically use an offshore jurisdiction for one reason: secrecy, a trait shared by many offshore jurisdictions (although this practice is changing). This has obvious benefits if the participants are attempting to lower their tax burden in a questionable manner. </span><br />
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<span style="font-size: large;"><b>Business Entities with a short life span:</b> how long should a business enterprise exist? Ideally in perpetuity -- which is one of the primary advantages of the corporate form. And while businesses do go bankrupt or are sold, thereby ending their corporate life, most business owners want their business to exists for as long as possible as this indicates the company is a viable, ongoing concern. In contrast, short duration corporations or partnerships are common in tax shelters, some of which contain entities with a life span of no more than 18 months. While some could argue that joint ventures are an exception to the rule, most of these short-term combinations still have expected corporate an life expectancy of multiple years.</span><br />
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<span style="font-size: large;">The above points cover most of the basic problems seen in tax shelters. If you can think of others, please post them in the comments section.</span><br />
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<span style="font-size: large;"> </span>Anonymoushttp://www.blogger.com/profile/07993720456025396144noreply@blogger.com0tag:blogger.com,1999:blog-1992206504055282245.post-67371085450633450062013-07-05T06:14:00.001-07:002013-07-05T08:12:38.549-07:00How Reality Severely Limits My Vast Legal Super-Powers<div style="text-align: justify;">
<span style="font-size: large;">The highly skilled lawyer who saves the protagonist from certain impending legal doom is one of the most iconic images in popular media. <i>Perry Mason</i> of course stands out as one of the first characters that fit this bill, although others such as the cast of <i>LA Law</i> (a college favorite), <i>The Practice</i> and <i>Law and Order </i>stand out as well. Real life examples include Clarence Darrow (who was portrayed wonderfully by Spencer Tracey in <i>Inherit the Wind)</i> and Johnny Cochran ("If the glove does not fit, you must acquit!"). These real and fictional individuals have given the public the impression that lawyers are super men who can always overcome disadvantageous odds to secure victory.</span></div>
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<span style="font-size: large;">Sadly, realty often intrudes into real life expectations. For while I would love to tell clients that I am one of these supermen of yore, I am in fact greatly hampered by three elements: the facts and circumstances of a particular case, the law as it is (not as we want it to be) and the legal code of ethics. Let me explain each of these in more detail.</span></div>
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<span style="font-size: large;">Hypothetically, suppose I'm a defense attorney, called in to defend an accused murderer. On the other side of the court sits the prosecution who has four witnesses, all of whom are nuns with 20/20 vision and perfect recall memory, none of whom were more than 10 feet from the incident when it occurred. Three video tapes of the crime also exist (all of which can be substantiated at trial), all with a good angle to witness the event. While the TV or movie lawyer would be able to overcome these facts, the real attorney would merely be trying to keep his client out of the execution chamber (assuming the state had the death penalty). Although these facts are deliberately extreme, they illustrate a key point: <i><b>we are always limited by the facts and circumstances of the case we are given. </b></i>On a far more mundane (and far more realistic) note, consider a potential client who wants to form a captive insurance company, but who is also in the middle of a lawsuit. Under the Uniform Fraudulent Transfer Act, I can't do anything because this transaction could easily be construed as an attempt to "hinder, delay or defraud" a potential creditor. As these illustrations highlight, the facts and circumstances of a particular fact pattern can severely limit my legal options.</span></div>
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<span style="font-size: large;">The law as it exists (not how we theoretically want it to be) is another element that can provide a fair amount of constraint for legal representation. Suppose a client wants to transfer money to an offshore jurisdiction that has very tight secrecy laws with the intent of not paying US income taxes. The clients states this is his goal. At this point, I have to advise him that 1.) going offshore to hide money is illegal, 2.) he will have to file an informational return to comply with US law, regardless of what he wants to do, and 3.) as the US has a world wide taxation regime, he'll have to pay taxes on his offshore funds. The preceding three statements highlight the law as it is, so, as an attorney, I would have to tell the client that his motivation runs afoul of the law. It also means I probably won't be representing this client.</span></div>
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<span style="font-size: large;">As a first corollary to the preceding point, it's also important to note that I can't fix your behavior after it occurs so that it complies with the law. Like most people, potential clients regularly "shoot first and ask questions later." And while I don't expect to be consulted on mundane issues, being aware of a bigger decision before it's made to discuss its legal ramifications helps to prevent bigger problems from developing. Regrettably, attorneys are usually the last people consulted on decisions. </span></div>
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<span style="font-size: large;">Finally, there is the legal code of ethics, with the biggest prohibition<a href="http://www.americanbar.org/groups/professional_responsibility/publications/model_rules_of_professional_conduct/rule_3_3_candor_toward_the_tribunal.html"> I face as an attorney:</a></span></div>
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<span style="font-size: large;"><i>(a) A lawyer shall not knowingly:</i></span></div>
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<span style="font-size: large;"><i>(1)
make a false statement of fact or law to a tribunal or fail to correct a
false statement of material fact or law previously made to the tribunal
by the lawyer;</i></span></div>
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<span style="font-size: large;"><i>.....</i></span></div>
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<span style="font-size: large;"><i>(3) offer
evidence that the lawyer knows to be false. If a lawyer, the lawyer’s
client, or a witness called by the lawyer, has offered material evidence
and the lawyer comes to know of its falsity, the lawyer shall take
reasonable remedial measures, including, if necessary, disclosure to the
tribunal. A lawyer may refuse to offer evidence, other than the
testimony of a defendant in a criminal matter, that the lawyer
reasonably believes is false.</i></span><br />
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<span style="font-size: large;">I realize it may sound like a joke that an attorney can't lie, nor can he coach others to lie. But there it is, plain as day in the model code of conduct. And it's something that I and other lawyers whom I know take very seriously. There is also <a href="http://www.americanbar.org/content/dam/aba/administrative/professional_responsibility/formal_opinion_463.authcheckdam.pdf">new formal guidance for attorneys</a> regarding representation and its relationship to money laundering -- rules which are very similar to the "know your client" rules. </span></div>
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<span style="font-size: large;">So, what exactly can I do? Within the confines of the above stated concepts, a great deal. First, I can develop and implement a strategy that is compliant with the law as it exists. Unlike the impression given by such services as Legal Zoom, the law is not merely a series of interlocking forms; each element of a form has legal ramifications and is derived from a substantive area of law that must be understood. Second, I can keep this plan compliant with the law at it develops. Remember, the law is always changing, sometimes in substantive ways. Third, I can keep you out of trouble so long as you consult me on big decisions. </span></div>
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<span style="font-size: large;">So, the above three points are really my vast legal super powers as they exist in the real world. </span></div>
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Anonymoushttp://www.blogger.com/profile/07993720456025396144noreply@blogger.com0tag:blogger.com,1999:blog-1992206504055282245.post-8380447706324365242013-06-29T06:12:00.000-07:002013-06-29T06:19:45.350-07:00Using the Material Participation Rules to Establish Corporate Substance<div style="text-align: justify;">
<span style="font-size: large;">As I have previously noted, the concept of corporate "substance" is a poorly developed area of law. In this post, I wanted to expand the concept for the practitioner with the intent of borrowing from other legal areas in the hopes of providing further guidance. I want to note upfront that the analysis I am about to offer has to my knowledge not been proposed or offered in any case law or law review article (if a reader knows of this, please post it in the comments); it's merely presented as a way to broaden the concept and provide high level guidance.</span></div>
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<span style="font-size: large;"><br /></span></div>
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<span style="font-size: large;">Establishing corporate substance is incredibly difficult for the small to medium size business owner for two reasons: (1) they typically work long hours building their business but (2) they have insufficient staff to document their actions in order to establish the requisite paper trail proving corporate substance. Compare this to a larger company which either has in-house legal or an ongoing relationship with an outside firm that continually monitors and documents the company's legal developments in real time. The former situation could leave a company vulnerable to a veil piercing claim in the event of lawsuit with the lack of a contemporaneously created record adding fuel to the fire. But an alternative approach does exist which borrows from tax law, using the concept of material participation.</span></div>
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<span style="font-size: large;">The material participation rules were added to the tax code in reaction to the tax shelter industry of the 1970s and 1980s, where promoters put together limited partnerships that primarily invested in assets with high interest deductions or depreciation expenses. </span><span style="font-size: large;"><span style="font-size: large;">A deeper examination of these deals usually revealed a
remarkable lack of business substance, and included things such as
phantom loans, circular cash flows and massively overstated basis. </span>These deals were sold to high net worth individuals who were looking for ways to obtain losses to offset income; they wouldn't "materially participate" in these deals, instead acting as the classic "silent partner" exemplified by their legal status as a limited partner. </span></div>
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<span style="font-size: large;">As a result, Congress <a href="http://www.law.cornell.edu/uscode/text/26/469">passed section 469 of the tax code,</a> which divided income into passive and active income. "Usually, passive activity losses can be offset only against passive activity income." <span style="font-size: x-small;">William Hoffman, <u>Corporations, Partnerships, Estates and Trusts,</u> page 10-35 (c) 2008, West</span>. Hence, limited partners would now need to have passive gains against which to offset their passive losses, essentially shutting down this type of tax shelter.</span></div>
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<span style="font-size: large;">But just as important as passive activity is active activity, which is established by a person "materially participating" in the enterprise. <a href="http://www.law.cornell.edu/uscode/text/26/469">Under section 469</a>, "<i>[a] taxpayer shall be treated as materially participating in an activity only if the taxpayer is involved in the operations of the activity on a basis which is—<br /> </i></span></div>
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<span style="font-size: large;"><i>(A) regular,<br />(B) continuous, and<br />(C) substantial. </i></span></div>
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<span style="font-size: large;">The regulations provide some guidance on the actual definition of these terms. <a href="http://www.taxalmanac.org/index.php/Treasury_Regulations,_Subchapter_A,_Sec._1.469-5T">Here are three basic facts patterns</a> from the accompanying Treasury Regulations that would apply to most individuals:</span></div>
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<span style="font-size: large;"><i><br /></i></span>
<span style="font-size: large;"><i>(1) The individual participates in the activity for more than 500 hours during such year;<br /><br />(2) The individual's participation in the activity for the taxable year constitutes substantially all of the participation in such activity of all individuals (including individuals who are not owners of interests in the activity) for such year;<br /><br />(3) The individual participates in the activity for more than 100 hours during the taxable year, and such individual's participation in the activity for the taxable year is not less than the participation in the activity of any other individual (including individuals who are not owners of interests in the activity) for such year;</i></span></div>
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<span style="font-size: large;">Arguing material participation is prima facia evidence of corporate substance has one powerful benefit: <b>counsel is not advancing a new, untested concept, but instead relying on a well-established and now well-developed area of law to prove his point. </b> </span></div>
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<span style="font-size: large;">The three fact patterns would apply to a broad swath of entrepreneurial activities. Assuming a 40 hour work week (which grossly understates the hours worked by most business owners), fact pattern 1 would account for 3 1/2 months of work. Fact pattern two would be appropriate for any individual who is self-employed and has filed entity status (and when combined with fact pattern 1 would be extremely powerful) while fact pattern 3 would apply to most lightly staffed companies. </span></div>
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<span style="font-size: large;">More importantly, all three fact patterns should establish a sufficient amount of corporate substance as they indicate a fair amount of activity -- at least enough to give a potential veil piercing claim pause. </span></div>
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Anonymoushttp://www.blogger.com/profile/07993720456025396144noreply@blogger.com0tag:blogger.com,1999:blog-1992206504055282245.post-3609262012946429332013-06-21T14:31:00.000-07:002013-06-22T06:14:53.482-07:00Veil Piercing and Corporate Substance<div style="text-align: justify;">
<span style="font-size: large;">The idea of corporate substance is essential to corporate law. Professors inform students in corporation class they must endeavor to give their corporate clients "substance" lest courts be given the opening to pierce the corporate veil. Unfortunately there is a dearth of scholarship defining and developing this concept, despite its obvious importance. While this post will hardly provide the depth needed for a true analysis, it will provide some insight on the exact nature of this idea.</span></div>
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<span style="font-size: large;">Depending on your view, a corporation is either a privilege granted by the state (an older, more traditional view) or a nexus of contracts (from a <a href="http://en.wikipedia.org/wiki/Law_and_economics">law and economics analysis</a>). But regardless, it's an artificial construct with no physical existence. At the same time, a corporation is allowed to perform many of the acts of an individual such as sign contracts, sue and be sued, hold property, transact business and the like. <span style="font-size: small;"><a href="http://delcode.delaware.gov/title8/c001/sc02/index.shtml">Del. Code Ann. tit. 8 Section 122.</a></span> This leads to the question of how exactly do we prove the corporation not only exists, but is in fact a unique entity with a separate existence? Or, to put it more existentially, how to we demonstrate it is "alive" or has "substance?" </span></div>
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<span style="font-size: large;">This is usually demonstrated by establishing a paper trail -- meeting minutes, a sales records, contracts and the like. This leads to point number 1: the paper trail must exist and it must be documented. Ideally, each fiscal year of a corporation's life can be placed into a folder (most likely electronic in nature) that includes contracts, payments, meeting minutes etc... outlining what exactly has occurred. The folder should be readily available and easy to access. </span></div>
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<span style="font-size: large;">But there is an important corollary to rule number 1: the existence must demonstrate uniqueness, <a href="http://dictionary.reference.com/browse/unique?s=t">which is defined as,</a> "existing as the only one or as the sole example; single; solitary in type or characteristics." While this is easily accomplished with a larger publicly traded or private company it can run into trouble with smaller, closely held family businesses. As an example, take the generic company Acme Corp.; Mr. Smith is the president, and Mrs. Smith is the treasurer. The company has made two questionable purchases: high-end cars for its executives as a perk and property in a known vacation spot like Colorado in the name of "entertaining potential clients." Has the company purchased these for legitimate corporate reasons or has the Smith family used the company to make personal purchases disguised as company purchases?</span></div>
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<span style="font-size: large;">Enter the concept of "alter ego" from veil piercing doctrine. According to Ballentine's Law Dictionary, an alter ego is literally "the other self." Instead of the company being a separate and distinct legal entity, it's actually an extension of an individual or another company who are using the limited liability shield not to protect their investment (a primary reason for the shield) but instead for other, non-state sanctioned purposes such as fraud. When the inter-mingling of personal and business substance is so inter-twined -- or when a company is not "unique" but a mere extension of an individual -- a court can "pierce the corporate veil" stripping the company of its limited liability shield thereby making the individual shareholders personally responsible for the corporation's debt. </span></div>
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<span style="font-size: large;">Depending on the jurisdiction, there are either two or three elements to veil piercing. The three prong test is usually worded thusly: (1) a single individual or small group of individuals is in complete control of the company, (2) they use the corporation to commit some type of tort or breach of contract and (3) the tort or breach is the proximate cause of the plaintiff's harm. The two prong test is phrased thusly: there is such unity of the interests between the individual and the corporation that the separateness of the corporation is erased and holding the "alter ego" as the only liable party would lead to an injustice. There is a fair amount of overlap between the two tests. In addition, veil piercing is not the cause of action but the equitable remedy; the plaintiff must allege an additional cause of action such as fraud or breach of contract.</span></div>
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<span style="font-size: large;">The courts will look at many factors to consider piercing the veil, such as, "(1) majority ownership and pervasive control of the affairs of the corporation; (2) thin capitalization; (3) nonobservance of corporate formalities or absence of corporate records; (4) no payment of dividends; (5) nonfunctioning of officers and directors; (6) insolvency of the corporation at the time of the litigated transaction; (7) siphoning of corporate funds or intermingling of corporate and personal funds by the dominant shareholder(s); (8) use of the corporation for transactions of the dominant shareholder(s); and (9) use of the corporation in promoting fraud." <span style="font-size: small;">Pointer (U.S.A.), Inc. v. H & D Foods Corp., 60 F. Supp. 2d 282, 287 (S.D.N.Y. 1999). </span> There is no magical combination of factors for the court to use in arriving at its decision. Instead, they weigh various elements in relation to the facts.</span></div>
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<span style="font-size: large;">And this returns us to the concept of "substance." A company that exhibits some of the factors listed in the previous paragraph and also engages in questionable behavior does not demonstrate that it has sufficient substance to be recognized at law. In the alternative, it is not a unique entity with its own demonstrable personality, but instead an abuse of the limited liability granted by law. As there is insufficient substance, a court can hold individual shareholders personally liable for corporate debts and obligations. </span><span style="font-size: large;"> </span></div>
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Anonymoushttp://www.blogger.com/profile/07993720456025396144noreply@blogger.com0tag:blogger.com,1999:blog-1992206504055282245.post-55351915734499120602013-06-15T05:42:00.001-07:002013-06-15T06:31:38.487-07:00An Inquiry Into the Legitimacy of Offshore Planning: Establishing Business Purpose<span style="font-size: small;">I have <a href="http://hstaxblog.blogspot.com/2013/05/an-inquiry-into-apples-and-googles.html">previously referred to US anti-avoidance</a> law as a "conceptual briar patch." In learning about this law, the practitioner is first faced with a fundamental question of just how many US doctrines exist. He could easily come to the conclusion there were five, which are</span><br />
<ol>
<li><span style="font-size: small;">Substance over form</span></li>
<li><span style="font-size: small;">Sham Transaction</span></li>
<li><span style="font-size: small;">Business Purpose</span></li>
<li><span style="font-size: small;">Economic Substance </span></li>
<li><span style="font-size: small;">Step Transaction Doctrine</span></li>
</ol>
<span style="font-size: small;">At the same time, he could reasonably conclude the sham transaction and economic substance doctrine are the same concept (both have an objective and subjective component) with sham transaction terminology used from the late 1950s to the late 1970s/early 1980s and the economic substance doctrine used thereafter. Or he could conclude the sham transaction is used in simpler transactions (such as interest deduction manipulations) whereas economic substance is used in more complex transactions (such as the tax evasion plans promulgated during the 1990s). And is the business purpose doctrine a separate doctrine or one of the factors of the shame transaction/economic substance doctrine? A reading of the case law supports both views. And just to make matters that much more confusing, aren't they all really just branches of the substance over form doctrine? </span><br />
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<span style="font-size: small;">The preceding discussion highlights the overall complexity of this area of US tax law. I will admit to treating the business purpose doctrine as one of the factors of the economic substance doctrine for a number of years, largely based on the <i>BNA Tax Portfolio</i> asserting this argument. However, I have come to the conclusion that business purpose is a separate doctrine for two reasons. The first is the <i>Frank Lyon </i>Supreme Court Decision <span style="font-size: xx-small;"><u>Frank Lyon Co. v. United States</u><i>, </i>435 U.S. 561 (1978)</span>. Any doctrine outlined in a Supreme Court case should rise of the level of black letter law, largely based of the precedential weight afforded the deciding body. But just as importantly, this case provides a <i>positive</i> <i>set of factors</i> with which the practitioner must comply. This is in sharp contrast to the vast majority of anti-avoidance cases which contain only negative suggestions: most cases essentially state <i>don't do this, </i>but offer no affirmative guidance. </span><br />
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<span style="font-size: small;">The facts in the case are straightforward. Worthen bank in Arkansas wanted to build a new headquarters. However, "[a]s a bank chartered under Arkansas law, Worthen legally could not pay more interest on any debentures it might issue than that then specified by Arkansas law. But the proposed obligations would not be marketable at that rate." To avoid this problem, the bank structured a sale-leaseback transaction, selling the building and underlying property to the Frank Lyon company (Frank Lyon sat on the bank's board), who in turn leased the building back to the bank. New York Life also provided financing. The service determined that for tax purposes Lyon did not own the building, so the deductions claimed as a result of property ownership were not allowed. While the lower court sided with Lyon, the appellate court ruled for the service.</span><br />
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<span style="font-size: small;">Sale-leaseback transactions are hardly a revolutionary concept. In fact, I believe one could argue they are part and parcel of corporate transactional practice -- a reality recognized by the court:</span><br />
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<span style="font-size: small;"><i>The present case, in contrast, involves three parties, Worthen, Lyon,
and the finance agency. The usual simple two-party arrangement was
legally unavailable to Worthen. Independent investors were interested
in participating in the alternative available to Worthen, and Lyon
itself (also independent from Worthen) won the privilege. Despite Frank
Lyon's presence on Worthen's board of directors, the transaction, as it
ultimately developed, was not a familial one arranged by Worthen, but
one compelled by the realities of the restrictions imposed upon the
bank. Had Lyon not appeared, another interested investor would have
been selected. <a href="http://www.blogger.com/null" name="1100-576"><span class="pmtermS1" id="s1100-576" name="S1" style="text-decoration: none;" title="Click to highlight 435 U.S. 561, *576">T</span></a>he ultimate solution would have been essentially the same. Thus, the
presence of the third party, in our view, significantly distinguishes
this case from Lazarus and removes the latter as controlling authority </i><span style="font-size: xx-small;">(Lyon at 576-576)</span><i>. </i></span><br />
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<span style="font-size: small;">By noting the taxpayer had a legitimate business reason to structure the transaction in this manner, the court outlined several factors that must be present in all business transactions to demonstrate business purpose:</span><br />
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<li><span style="font-size: small;">there is a genuine multiple-party transaction </span></li>
<li><span style="font-size: small;">with economic substance that is </span></li>
<li><span style="font-size: small;">compelled or encouraged by business or regulatory realities, </span></li>
<li><span style="font-size: small;">that is imbued with tax-independent considerations, and </span></li>
<li><span style="font-size: small;">that is not shaped solely by tax-avoidance features to which meaningless labels are attached. <span style="font-size: xx-small;"> (Lyon at 583-584)</span></span></li>
</ol>
<span style="font-size: small;">Now that we've outlined business purpose factors, the question logically turns to proving a transaction complies with them. As I've previously noted, one commentator has correctly observed that business transactions fall into three categories: increasing revenue, lowering expenses, raising financing or some combination of the three <span style="font-size: xx-small;">(Peter C. Canellos, <u>Business Purpose, Economic Substance and Corporate Tax Shelters</u>, 54 SMU L. Rev. 47, 52-53, (2001))</span>. I would add that lowering a risk profile is also a valid business purpose. This is one of the fundamental reasons corporations divide themselves into divisions and a primary motivator for incorporation in the first place. Successfully showing that a transaction falls into one or more of these categories would demonstrate substance. The process of making this determination requires the lawyer to look at the transaction at the company level, making an exhaustive inquiry one that is similar to those engaged in by courts implementing an economic substance doctrine investigation. Only after the practitioner develops the facts of the case should he begin developing a transactional strategy that incorporates various elements of law such as business entities, tax, securities and insurance. </span><br />
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<span style="font-size: small;"><br /></span>Anonymoushttp://www.blogger.com/profile/07993720456025396144noreply@blogger.com0tag:blogger.com,1999:blog-1992206504055282245.post-23537861596927874072013-06-08T08:13:00.001-07:002013-06-08T08:18:07.784-07:00An Inquiry Into The Legitimacy Of Offshore Tax Planning; Substance Over Form and World Wide Taxation<span style="font-size: small;">When planning and constructing a transaction, merely complying with the technical provisions of the code is insufficient. For example, the tax code allows a specific deduction for interest (<a href="http://www.law.cornell.edu/uscode/text/26/163"><span id="goog_974409134"></span>26. U.S.C. 163<span id="goog_974409135"></span></a>). But the debt used in a transaction claiming the deduction must comply with certain factors in order for the transactional instrument to be recognized at law. All tax code sections contain this added layer of depth with which each element of the transaction must comply. This is the lesson learned from the myriad tax shelters promoted by large accounting firms in the 1990s that followed the letter of the law to a "T" but had no corporate substance (<a href="http://www.gpo.gov/fdsys/pkg/CPRT-108SPRT90655/html/CPRT-108SPRT90655.htm">see this Senate report (from the 108th Congress) on the US tax shelter industry</a>). </span><br />
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<span style="font-size: small;">All of the transactions listed in this report (BOSS, son of BOSS, OPIS, BLIPs and many others) began with an extremely technical analysis of a particular code provision -- or even a much smaller sub-section of the code. A structure was then built around this particular analysis and sold to clients. The inherent problem with this methodology is it completely ignores the particular client's situation and moreover assumes a uniformity of structure and need between potential clients that does not exist. The proper way to construct a transaction is the exact opposite: begin with an analysis of a client's overall situation and stated goals then develop a solution which complements that situation. While it sounds cliche' (and perhaps a bit like a legal inside joke) the individual facts and circumstances of each circumstance really are unique and should be considered in their respective entirely to craft a unique solution to each situation.</span><br />
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<span style="font-size: small;">When looking at the legislative intent (or substance) of the tax code, one fact stands out very clearly, rising to the stature black letter law: the US' tax code intends to tax US citizens on their world wide income. This is derived from two sources, the first of which is a plain reading of <a href="http://www.law.cornell.edu/uscode/text/26/61">26 U.S.C. 61</a> which states, "gross income means <b>all income from whatever source derived</b>, including (but not limited to) the following items." The <a href="http://www.taxalmanac.org/index.php/Treasury_Regulations,_Subchapter_A,_Sec._1.61-1">accompanying Treasury Regulations</a> use the exact same phrase: "Gross income means <b>all income from whatever source derived, </b>unless excluded by law." And finally, Treasury Regulation 1.1-1(b) states, "In general, all citizens of the United States, wherever resident, and
all resident alien individuals <b>are liable to the income taxes imposed by
the Code whether the income is received from sources within or without
the United States.</b>"</span><br />
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<span style="font-size: small;">Regarding foreign earned business income, earnings from various foreign corporations is included in the income of certain US shareholders under the <a href="http://www.law.cornell.edu/uscode/text/26/subtitle-A/chapter-1/subchapter-N/part-III/subpart-F">controlled foreign corporation statute (</a>sections 951-965 of the tax code). These rules were added to the tax code in the early 1960s as a way to prevent the then growing practice of forming a corporation offshore and then transferring family wealth to the newly formed foreign corporation. The assumption in this section of the code is that certain offshore structures are prima facie evidence of tax evasion. Offshore partnership income is assumed to flow through to US taxpayers via general partnership law tax principles and the code sections listed in the previous paragraph clearly and indisputably apply to personally earned income. <a href="http://www.law.cornell.edu/uscode/text/26/679">Certain income from offshore trusts </a>are also included in US taxpayer's income under specific grantor trust rules. Finally, the US tax code uses a foreign tax credit system, offsetting US taxes with foreign taxes paid. </span><br />
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<span style="font-size: small;">The legislative intent could not be clearer: the code defines income in the broadest terms possible, and then specifically excludes various categories of income, all contained in <a href="http://www.law.cornell.edu/uscode/text/26/subtitle-A/chapter-1/subchapter-B">Chapter 1, Subchapter B</a> of the tax code. The locus of the earning activity is not relevant; it is included unless specifically excluded. Put more directly, the substance of the tax code when read in its entirely is that all income earned by US citizens is taxable by the US. Moving offshore for the sole purpose of avoiding US taxation runs counter to legislative intent and the substance of the tax code when read holistically. And complying with the technical requirements of code -- especially in small section level pieces -- is insufficient legal grounds for a transaction to be recognized at law. </span><br />
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<span style="font-size: small;"> </span>Anonymoushttp://www.blogger.com/profile/07993720456025396144noreply@blogger.com0