U.S. Tax Reform Implications for Foreign Investments

Last December, the U.S. Congress voted to enact the Tax Cuts and Jobs Act which reduces business tax rates and revamps the U.S. international tax system. As a result, the reforms will have important consequences for companies and markets all around the world, including the taxation of U.S. corporations’ foreign subsidiaries. These subsidiaries pay corporate tax at their host country and are free to reinvest the after-tax profit locally or in operating businesses in any other country except the U.S.

The Tijuana Economic Development Council recently hosted a conference by Procopio, Cory, Hargreaves & Savitch, in which the international implications of the U.S. tax reform where briefly explained and include:

  • S. corporations are not required to pay taxes on dividends received from foreign subsidiaries in which there is a participation of at least 10 percent.
  • As part of the transitional regime for the exemption of foreign dividends, profit held in foreign subsidiaries is considered ficta repatriation (distribution is unnecessary).
  • Base Erosion Anti-Abuse tax establishes a taxation of 10 percent on payment from U.S. corporations to foreign related parties that is applied to corporations with annual gross receipts of $500 million, whose payments to foreign related parties are greater than 3 percent of their deductions.
  • Global Intangible Low-Taxed Income – a 10.5 percent tax on “income from foreign intangibles” exceeding an annual return of 10 percent of the fiscal cost of tangible assets abroad.
  • Foreign Derived Intangible Income – a deduction established for U.S. corporations with income from abroad attributable to intangibles. In general terms, this applies to income from the sale of goods abroad; license for intellectual property abroad; and services provided abroad.
  • No deduction of interest payments and royalties (“hybrids”) made to foreign related parties.
  • Contributions to foreign companies for “active business” will cease to be “tax-free”.
  • Sales of partnership participation (shares) will be taxed 10 percent of selling price when purchased from a foreign vendor.
  • The participation of non-resident foreigners is allowed for “S” corporations in the U.S. through a trust.

Procopio further shared that the Act imposes additional restrictions to anti-inversion rules previously adopted by the previous administration. Incentives are provided for U.S. corporations to remain in the United States, reduce their business abroad (and bring it back), and penalize those who look to exit by way of inversions. Both U.S.-parented and foreign-parented global organizations face a more complicated picture.

The changes, along with a 35 percent reduction of corporate-tax rate, could encourage another round of tax reforms at developed countries seeking to improve their competitiveness to internationally movable capital.

Detailed information of Procopio’s tax reform analysis is available here (in Spanish).