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Chapter 10
McGraw-Hill/Irwin
International Taxation
Chapter Topics
International Taxation
Learning Objectives
1. Describe differences in corporate income tax and withholding tax
regimes across countries.
2. Explain how overlapping tax jurisdictions cause double taxation.
3. Show how foreign tax credits reduce the incidence of double
taxation.
4. Demonstrate how rules related to controlled foreign corporations,
subpart F income, and foreign tax credit baskets affect U.S.
taxation of foreign source income.
10-3
International Taxation
Learning Objectives
5. Describe some of the benefits provided by tax treaties.
6. Explain and demonstrate procedures for translating foreign
currency amounts for tax purposes.
7. Describe tax incentives provided by countries to attract foreign
direct investment and stimulate exports.
10-4
10-5
Types of Taxes
Learning Objective 1
10-6
Learning Objective 1
10-7
Since the mid 1980s, there has been a worldwide trend toward
reduced tax rates.
The U.S. started this trend with many other countries following suit
in order to be competitive in attracting foreign investments.
Tax haven countries take this trend to the extreme with some of
these jurisdictions having zero percent tax rates.
The Organization for Economic Cooperation and Development
(OECD) has established guidelines to mitigate the negative impact
of tax havens.
Learning Objective 1
10-8
Withholding taxes
10-9
Value-added tax
Learning Objective 1
10-10
Learning Objective 2
10-11
Learning Objective 2
10-12
Learning Objective 2
10-13
Learning Objective 2
10-14
Learning Objective 3
10-15
Learning Objective 3
10-16
Learning Objective 3
10-17
Learning Objective 3
10-18
Learning Objective 3
Deduction
$50,000
$36,500
$13,500
$ 4,725
$
0
$ 4,725
Credit
$50,000
$
0
$50,000
$17,500
$16,500
$ 1,000
10-19
Learning Objective 3
10-20
Learning Objective 3
10-21
Passive income
High withholding tax interest
Financial services income
Shipping and aircraft income
Dividends of domestic international sales corporations (DISCs)
Foreign trade income of a foreign sales corporation (FSC)
Dividends from an FSC
Foreign oil and extraction income
All other income
Learning Objective 3
10-22
Learning Objective 3
10-23
Baskets
A foreign corporation where U.S. shareholders own more than 50
percent of the combined voting power or fair value of the stock
A U.S. shareholder is a U.S. taxpayer that owns at least 10 percent
of the stock.
Much CFC income is referred to as Subpart F income.
Unlike the deferral of tax on foreign subsidiaries until receipt of a
dividend, Subpart F income is taxable currently.
There is a safe harbor for such income in jurisdictions with tax rate
> 90% of the U.S. rate.
Learning Objective 4
10-24
Baskets
What is the legal form of the foreign operation?
Is the operation a CFC?
Is the operation located in a tax haven?
Does the income qualify as Subpart F income?
The answers to each of these questions affects the determination
of how foreign source income is taxed.
Learning Objective 4
10-25
Tax Treaties
Tax treaties bilateral agreements regarding how individuals from
one country are taxed on income earned in the other country.
Their purpose is to alleviate double taxation problems.
Reducing double taxation helps facilitate international trade and
investment.
Tax treaties also involve information sharing between governments
that helps in domestic enforcement.
Learning Objective 5
10-26
Tax Treaties
Model treaties
The OECD model treaty is the basis for most bilateral treaties of
developed countries.
A key part of the OECD model is that host countries only tax
business profits of foreign companies associated with permanent
establishments.
Recommending withholding tax rates is another key part of the
OECD model.
The United Nations model treaty is designed to serve as a basis for
treaties between developed and developing nations.
Learning Objective 5
10-27
Tax Treaties
U.S. tax treaties
The U.S. also has a model tax treaty that serves as a starting point
when negotiating tax treaties.
This model has zero percent withholding tax for interest and
royalties and 15 percent for dividend payments.
The U.S. has treaties with over 50 countries.
One notable exception is Brazil, primarily due to lack of Brazilian
investment in the U.S.
Treaty shopping is a tax reduction tactic, related to treaties, that
some countries are trying to stop.
Learning Objective 5
10-28
Learning Objective 6
10-29
Dividends paid to the U.S. parent are translated at the spot rate on
the date of payment.
Taxes deemed paid on the dividend, translated at the spot rate on
the date of payment, are then added, or grossed up.
The translated amount of taxes deemed paid is used to determine
the foreign tax credit.
Learning Objective 6
10-30
Tax Incentives
Tax holidays
The term tax holiday refers to an incentive used by a government
that partially or completely exempts a taxpayer for a period of time.
Many Asian countries offer tax holidays to foreign companies.
The primary reason for offering tax holidays is to encourage foreign
direct investment.
MNEs can enjoy significant tax reductions provided that profits are
not repatriated.
Learning Objective 7
10-31
Tax Incentives
U.S. export incentives
CFC and Subpart F income provisions prevent some tax avoidance
strategies previously used by exporters.
Domestic international sales corporation (DISC) was a short-lived
export incentive program for U.S. companies.
Foreign sales corporation (FSC) was another short-lived export
incentive program for U.S. companies.
Both of these programs were eventually repealed due to foreign
opposition.
The Extraterritorial Income Exclusion Act (ETI) essentially replaced
the FSC.
Learning Objective 7
10-32
Tax Incentives
American Jobs Creation Act of 2004 (AJCA)
The AJCA was an attempt to spur job growth in the U.S.
manufacturing sector, broadly defined.
The program provides a deduction that effectively reduces income
tax rates for domestic manufacturers.
The deduction is available even to companies that dont export.
In addition, the AJCA contains a provision that allows for significant
tax breaks on repatriations of foreign source income.
Learning Objective 7
10-33