Talking Tax: Going Deeper Into Section 962
February 27, 2020 | BY Joshua Bondy
For a corporate taxpayer, the combination of a reduced corporate rate, a special deduction, and access to indirect FTCs largely mitigates the impact of GILTI and section 965 –Individuals and pass-through entities have no such benefits.
Consider an individual who owns, directly or through a pass-through entity, 100 percent of a German services company which pays a 30 percent rate of local income tax. If the German company generates $1,000 U.S. dollars of income, that income is first subject to $300 U.S. dollars of German taxes, then potentially the entire $700 remainder could be currently taxed as GILTI and subject to an additional 37 percent U.S. individual tax rate in the year incurred (note that GILTI inclusions are not eligible for the new section 199A business income deduction). The outcome: a current effective tax rate of over 55 percent, regardless of whether the individual owner draws a dividend or reinvests the business’ earnings.
Enter section 962 which allows an individual (or trust or estate) U.S. shareholder of a CFC to elect to be subject to corporate income tax rates (under Sections 11 and 55) on amounts that are included in his or her gross income.
The keys to the effectiveness of the election to minimize U.S. tax on anti-deferral income are:
1. The use of the 21% corporate tax rate to determine the baseline U.S. tax liability.
2. Access to the 50% Section 250 deduction against GILTI (although such offset is not available against income included under the historic anti-deferral rules).
3. The availability of the foreign tax credit mechanism to offset the calculated U.S. tax with foreign taxes on the included income (subject to the GILTI haircut of foreign taxes).
4. A special rule that prevents the spillover of personal or business deductions that could otherwise impair the use of foreign tax credits or subject the 50% deduction to a taxable income limitation.
Returning to the facts of the prior example, if the individual makes a section 962 election for the year, the German earnings are now subject to GILTI tax at the deemed-corporate level instead of the individual level. Applying GILTI’s rules for corporate indirect foreign tax credits and section 250 deductions, the $1,000 of pre-tax income is eligible for a 50 percent deduction ($500 U.S. dollars) and the net income of $500 U.S. dollars is subject to a 21 percent U.S. corporate rate. A FTC is available of up to 80 percent of the German taxes, or $240 U.S. dollars. The FTC offsets the full $105 U.S. dollars of corporate-level tax and, assuming the German earnings are not distributed to the shareholder, there is zero residual U.S. tax in the current year.
The §962 election is made on a year-by-year basis with the tax return filed for that year. As a result, US individual shareholders facing a significant tax on GILTI may wish to consider making this election to lower the taxes due. However, an individual making this election will also be subject to US tax when it receives a dividend from the CFC. Dividends from a foreign corporation are generally taxed at regular tax rates unless the dividend is from a “qualified foreign corporation” which is taxed at the long term capital gains tax rate of 20%. A qualified dividend is a dividend from a foreign corporation that is eligible for benefits under an income tax treaty between the US and their home country. The US has income tax treaties with many nations (e.g., England, France, Germany), but not with all nations.
Section 962 election may be a valuable tool in softening or deferring the double-tax blow of being a U.S. shareholder in a foreign business – but careful consideration should be used before making the election. Depending on the specific circumstances, using section 962 could result in an individual paying a greater effective rate of tax on their foreign earnings once they have been repatriated (distributed).
4 Steps to a Stronger Balance Sheet
February 26, 2020 | BY admin
Roughly half of CFOs believe an economic recession will hit by the end of 2020, and about three-quarters expect a recession by mid-2021, according to the 2019 year-end Duke University/CFO Global Business Outlook survey. In light of these bearish predictions, many businesses are currently planning for the next recession. Are you? Here are four steps to help your company strengthen its balance sheet against a possible downturn.
1. Identify what’s most important
The balance sheet shows your company’s financial condition — its assets vs. liabilities — at a specific point in time. Some line items are more critical to your success than others. For example, inventory is a top priority for retailers, and accounts receivable is important to professional service firms.
A “common-sized” balance sheet can help you determine what’s most relevant. This type of statement presents each account as a percentage of total assets. Items that represent the highest percentages are generally the ones that warrant the most attention.
2. Analyze ratios
Ratios compare line items on your company’s financial statements. They may be grouped into four categories: 1) profitability, 2) solvency, 3) asset management, and 4) leverage. While profitability ratios focus on the income statement, the others assess items on the balance sheet.
For example, the current ratio (current assets ÷ current liabilities) is a solvency measure that helps assess whether your company has enough current assets to meet current obligations over the short run. Conversely, the days-in-receivables ratio (accounts receivable ÷ annual sales × 365 days) is an asset management ratio that gauges how efficiently you’re collecting receivables. And the debt-to-equity ratio (interest-bearing debt ÷ equity) focuses on your company’s use of debt vs. equity to finance growth.
3. Set goals
The common-sized balance sheet and ratios can be used to create “goals” for each key line item. What’s right depends on the nature of your business and industry benchmarks.
For example, you may strive to meet the following goals over the next year:
Increase cash as a percentage of total assets from 5% to 15%,
Improve the current ratio from 1.1 to 1.2,
Decrease the days-in-receivable ratio from 40 to 35 days, and
Lower the debt-to-equity ratios from 5.6 to 4.
4. Forecast the impact
Once you’ve set goals, devise a plan to achieve them. For example, you might cut fixed costs or forgo buying equipment to build up your cash reserves. In turn, stockpiling cash — along with improving collections — might help boost your current ratio.
Part of your plan should be forecasting how the changes will filter through the financial statements. This exercise can help you determine whether your goals are realistic. For example, if you decide to build up cash reserves, it might be difficult to simultaneously pay down debt. You can generate only a limited amount of incremental cash in a year. Forecasting can help pinpoint the shortcomings of your plans.
We can help
Markets are cyclical. So, it’s only a matter of time before another downturn happens. We can help you take steps to position your organization to weather the next storm — whenever it arrives.
Digital Documents With E-Signatures Aren’t Going Away
February 24, 2020 | BY admin
Have you applied for a business loan lately? Or had some repairs done on your facilities? Maybe you’ve signed a contract with a certain technologically inclined customer or vendor. In any of these instances, you (or one of your employees) probably had to electronically sign a digital document.
So, the next question is: Why isn’t your company using this technology? If the answer is, “We are,” kudos to you (assuming it’s working out). But if your reply is, “We’ve always used paper and don’t want to deal with the expense and hassle of converting to digital documentation,” you may want to reconsider — because it’s not going away.
Why go digital?
For businesses, there are generally three reasons to use digital documents with e-signatures:
1. Speed. When you can review and sign a business document electronically, it can be transmitted instantly and approved much more quickly. And this works both ways: your customers can sign contracts or submit orders for your products or services, and you can sign similar documents with vendors, partners or consultants. What used to take days or even weeks, as paper envelopes crisscrossed in the mail, now can occur in a matter of hours.
2. Security. Paper has a way of getting lost, damaged and destroyed. That’s not to say digital documents are impervious to thievery, corruption and deletion, but a trusted provider should be able to outfit you with software that not only allows you to use digital docs with e-signatures, but also keep the resulting files encrypted and safe from anyone or anything who would do them harm.
3. Service. This may be the most important reason to incorporate digital docs and e-sigs into your business. Younger generations have come of age, if not grown up, with digitized business services. They expect this functionality and may prefer a company that offers it to one that still requires them to put pen to paper.
What about the law?
Many business owners hesitate to dive into digital docs and e-sigs because of legal concerns. This is a reasonable concern. However, e-signatures are now widely used and generally considered lawful under two statutes:
The Electronic Signatures in Global and National Commerce Act of 2000, a federal law, and
The Uniform Electronic Transactions Act, which governs each state unless a comparable law is in place.
What’s more, every state has some sort of legislation in place legalizing e-signatures. There may be some limited exceptions in certain cases, so check with your attorney for specifics.
Is now the time?
To be clear, investing in digital documents with e-signatures, and training your employees to use them, is a major strategic initiative. You need to ensure the return on investment will be worth the effort. We can assist you in evaluating whether now’s the time to “go digital” and, if so, in setting a budget for the software purchase and implementation.
FAQ’s About Audit Confirmations
February 20, 2020 | BY admin
Auditors use various procedures to verify the amounts reported on your financial statements. In addition to reviewing original source documents and comparing trends from prior years, they may reach out to third parties — such as customers and lenders — to confirm that outstanding balances and estimates agree with their records. Here are answers to questions you may have about audit confirmations.
When are they used?
External confirmations received directly by the auditor from third parties are generally considered to be more reliable than audit evidence generated internally by your company. Auditors may, for example, send paper or electronic confirmations to customers to verify accounts receivable and to financial institutions to confirm notes payable. They also may choose to substantiate cash, inventory, consigned merchandise, long-term contracts, accounts payable, contingent liabilities, and related-party and unusual transactions.
Before wrapping up audit procedures, a letter also will be sent to your attorney, asking whether the information provided about any pending litigation is accurate and complete. Your attorney’s response can help determine whether a legal situation has a material impact on the company’s financial statements.
What are the options?
The types of confirmations used vary depending on the situation and the nature of your company’s operations. Three forms of confirmations include:
1. Positive. This type asks recipients to reply directly to the auditor and make a positive statement about whether they agree or disagree with the information included.
2. Negative. This type asks recipients to reply directly to the auditor only if they disagree with the information presented on the confirmation.
3. Blank. This type doesn’t state the amount (or other information) on the request. Instead, recipients are asked to complete the confirmation form and return it to the auditor.
Some banks no longer respond to confirmation letters mailed through the U.S. Postal Service. Instead, they respond only to electronic requests. These may be in the form of an email submitted directly to the respondent by the auditor or a request submitted through a designated third-party provider.
How can you help?
You can facilitate the confirmation process by approving your auditor’s requests in a timely manner. However, there may be situations when you object to the use of confirmation procedures. When this happens, discuss the matter with your auditor and provide corroborating evidence to support your reasoning. If the reason for the refusal is considered valid, your auditor will apply alternative procedures and possibly ask for a special representation in the management representation letter regarding the reasons for not confirming.
Auditors also might ask your staff about confirmation recipients who aren’t responding to requests or exceptions found during the confirmation process. This may include discrepancies over the information provided in the request, as well as responses received indirectly, oral responses and restrictive language contained in a response. Your staff can help the audit team determine whether a misstatement has occurred — and adjust the financial statements accordingly.
Simple but effective
Audit confirmations can be a powerful tool, enhancing audit quality and efficiency. Let’s work together to ensure the confirmation process goes smoothly.
Safety in Numbers
February 18, 2020 | BY Simcha Felder
Numbers can be misleading. While data can give the impression of clarity and transparency, figures can mean different things depending on how they are presented.
For example: The Federal Reserve Chairman Jay Powell held a press conference and commented that US consumers in aggregate are propping up the economy. This phrase subtly highlights the very different situations experienced by the wide range of US consumers that are thrown together and summarized in one number. In short, the consumers that added $1.3 trillion to their savings last year are not the same ones who owe $1 trillion on their credit cards. Is this good news or bad news?
Charles Munger, one of the greatest business minds of our time and vice chairman of Berkshire Hathaway, calls out another example of misinformation by numbers, citing the proliferation of EBITDA as a fake profit metric. In business, there’s more than meets the eye in any given set of numbers. Take Uber for example. Its shares jumped last week after it announced it was moving up its EBITDA profitability target to the fourth quarter of this year.
Good investment? “It’s ridiculous,” Munger said, EBITDA — which is short for earnings before interest, taxes, depreciation and amortization — does not accurately reflect how much money a company makes, unlike traditional earnings. “Think of the basic intellectual dishonesty that comes when you start talking about adjusted EBITDA. You’re almost announcing you’re a flake.”
Today, with nearly all activities measured or recorded, it is more challenging than ever to discern what to keep track of and whether the numbers you’re seeing are telling the whole story. The right metrics enable your organization to examine concrete criteria and to meet its business goals. The wrong metrics lead you down a risky road.
Don’t risk it…Roth and Co.