EU Considers Listing US as Tax Haven

Looking for a Tax Haven?  Maybe the Answer is in the United States!

The European Commission is developing a list of jurisdictions that are considered to be risks for tax avoidance.  They are in the process of updating this list and the United States has been flagged as a risk in the area of tax good governance.

To be fair, the United States enters the list as one of 90 countries that the EU views as potential problems, and in 2017 the EU will winnow that list down to its final resolution.  Only 160 countries were initially assessed so more than half the world is subject to this next-level EU scrutiny.  Countries are identified based on three risk factors:

  • Transparency of the tax system (this seems to be focused more on automatic exchange of information on tax rulings and the automatic exchange of information between tax authorities, as opposed ot making taxation easy to understand)
  • Tax advantages for corporations
  • No corporate income tax or zero-percent income tax

The United States was identified in two out of the three categories: Transparency and corporate tax advantages.

This is just the first step in a three step process.  Now that the European Commission has produced a scoreboard of indicators, they still need to engage in screening and listing.  Under the screening process, EU Member States will identify nations that must be formally screened by the EU.  This screening will include a dialogue between the EU and the country in question, to allow the country to react to any concerns raised (perhaps this could be considered in any tax package that the new Administration proffers).  Then, when the screening process is complete, nations that refused to cooperate or engage with the EU regarding tax good governance concerns would be put on the EU list of ujsidictions without good tax governance.  Presumably this could lead to EU impediments against transfer of funds to or from those tax havens.

The EU will create a map that shows a full consolidated overview of countries and territories ‘listed’ by Member States for tax purposes.  The US is unlikely to be listed on the final list of bad actors, but it is unclear who may finally make that list.  It will be important to gauge whether this effort impacts international payments for members of the aerospace community.

A full review of the EU work program for this effort is available online.

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Should ASA Support a Repeal of the Estate Tax?

ASA has the opportunity to sign onto a letter supporting a bill that would repeal Subtitle B of the Internal Revenue Code of 1986 that relates to estate, gift, and generation-skipping taxes. The Bill is entitled the Death Tax Repeal Act of 2017.

Although it is typically thought of as only affecting the very wealthy, the estate tax can also have an effect on small and family-owned businesses; particularly those that are land- or asset-rich but cash poor. One oft-cited example is that of the family farmer, whose is land-rich (the value of his real property is high) but operating on very thin margins and doesn’t have a large amount of cash saved or other liquid assets. The family of the farmer may be forced to sell off a piece of the farm land in order to raise the money to pay the estate tax assessed against the total value of the farm upon the farmer’s death.

More close to home, in the aerospace distribution community, companies may have millions or even billions of dollars in inventory on the shelf that would be counted toward the value of a family business owner’s estate. This sort of vast parts inventory cannot be quickly liquidated upon a business owner’s death to cover an estate tax assessed against the value of the business (that includes that inventory). Additionally,  because many businesses rely on their inventory as collateral against which to take out loans or lines of credit, they cannot simply depreciate the value of the inventory to zero to minimize the value of the business for estate tax purposes, or they risk also minimizing the apparent value of the business as a whole, thus making it difficult to borrow in the future.

On the other hand, many people feel that the estate tax is something that only effects the very wealthy and thus repeal should not be a high priority (or a priority at all).

I would like to hear what ASA’s members think. Is a letter supporting the Death Tax Repeal Act of 2017 something ASA should sign on to? The deadline to sign on to the letter is Monday, January 23, so please let us know what you think before then.  You can email your thoughts to Ryan Aggergaard at ryan@washingtonaviation.com.

Omnibus Tax and Spending Bill Passed, Includes Important Business Deducations

The President signed Public Law No. 114-113, which is the Consolidated Appropriations Act of 2016.

The Bill passed in the House on a vote of 316-113 and in the Senate on a vote of 65-33.  It was then signed into law by the President.

The final law included a number of tax provisions that are important to ASA members:

  • Extension and modification of research credit
    • The research tax credit is made permanent (distributors may be able to use this when developing new ways to more efficiently engage in distribution, for example)
    • This can be used as a credit against AMT in the case of eligible small busiensses
  • Extension and modification of employer wage credit for employees who are active duty members of the uniformed services
    • The termination provision has been struck, which makes this provision permanent
    • The wage differential provision, which only applied to small businesses, will start to apply to all businesses in 2016
  • Extension and modification of increased expensing limitations under section 179
    • As expected, the $500,000 limit on expensing was made permanent
    • An inflation adjustment was added to increase the section 179 expensing limit in increments of $10,000 to keep up with inflation
  • Extension and modification of bonus depreciation
    • This was extended generally for 2015 only
    • An additional provision extends it for 2016-19 but only for certain software, water utility property and qualified improvement property
    • This bonus depreciation may also apply to certain transportation property (tangible personal property used in the trade or business of transporting persons or property) that has a recovery period of at least 10 years

As always, consult with your tax advisor to see how these provisions may affect your business.

Congress Working to Renew Business Tax Provisions

What do the following tax provisions all have in common?

  • Research and Development Tax Credit
  • Bonus Depreciation
  • Increased Expensing Limits

They are all business-friendly tax provisions that expired at the end of last year, and thus could be unavailable for businesses when they file their 2014 taxes.

These provisions have all been “temporary ” tax provisions that are regularly renewed.  The fact that they are regularly renewed means that businesses have come to rely on their regular renewal, and expect these provisions to be available.  This could be a real problem for American businesses if the provisions were not renewed; it would lead to unexpectedly high taxes for businesses.  In order to remedy the fact that these provisions are not yet renewed, Congress is still looking to reauthorize these provisions.

On December 3, the House of Representatives passed legislation that would extend these tax provisions by a year.  The measure passed by a vote of 378 – 46.  The bill is HR 5771.

The Senate is planning on taking this matter up, but wants to pass a two-year extender bill, to give businesses more confidence.

All of this needs to happen rapidly, because Congress will soon adjourn for the holidays.

IRS Delays Applicability of the Special “Rotable Accounting Rule” until 2014

Last December, the IRS announced new regulations concerning the distinctions between expenses and capital expenditures related to improvements to articles, like overhauls of rotable aircraft parts.  The title of the rulemaking was “Temporary Guidance Regarding Deduction and Capitalization of Expenditures Related to Tangible Property;” although at the same time, they had announced a proposal to make that temporary guidance permanent.  Recently, the IRS announced that taxpayers may rely parts of the guidance for tax year 2012, but will not be allowed to use the optional method for accounting for rotable parts until 2014 (when the guidance become required for all).

The rules in question are the IRS accounting rules for “Materials and Supplies.”   These regulations provide that a taxpayer may capitalize and depreciate any expenditure for materials and supplies (with certain exceptions), but they impose some limits on when those expenditures can be treated as expense (which can be immediately deducted in the present tax year and are not required to be depreciated).

The new regulations were generally meant to help companies distinguish between expenses related to property, and capital expenditures related to property.  Other guidance in the new rule did the following:

  • Provided advice on depreciating materials and supplies (guidance that could affect the tax treatment of some inventory held by your customers).
  • Clarified that if an expenditure merely restores the property to the state it was in before the work (like a repair), and the restoration does not make the property more valuable, more useful, or longer lived than it was when new, then such an expenditure is usually considered a deductible repair. In contrast, an activity that more permanently affects the longevity, utility, or worth of the property is to be considered capital expenditure (for example, a software upgrade to avionics that provides additional functionality that did not exist before).
  • Addressed the tax treatment of materials and supplies.
  • Clarified that an exception exists for materials and supplies that are not considered inventory.

Tax Accounting for Rotables

Finally, last year’s rule specified that rotable and temporary spare parts are used or consumed in the taxpayer’s operations in the taxable year in which the taxpayer disposes of the parts.  26 C.F.R. § 1.162–3T(a)(3).  This is important for air carriers because they may use a rotable part for many years before disposing of the part.  This could make tax accounting for such parts rather difficult, because the finance department will have to track the disposal of the part in order to know when to treat it as a deductible expense.  As matter of real-world practical application, this probably means that such parts have to be depreciated.  This guidance could affect recordkeeping practices among air carriers that carry rotable inventory, as well as distributors that carry rotables for use in their own equipment (like forklifts, etc.).

The rules provides an optional alternative for tax accounting of rotables.  Under the optional provision, an air carrier would deduct the amount paid to acquire or produce the part in the taxable year that the part is first installed on an aircraft in the air carrier’s operations.  26 C.F.R. § 1.162–3T(e)(2)(i).  Upon removal, the air carrier would then treat the fair market value of the part as income, and treat the fair market value and also the cost incurred to remove the part as part of the part’s basis.  26 C.F.R. § 1.162–3T(e)(2)(ii).  The repair cost would also be treated as part of the part’s basis.  26 C.F.R. § 1.162–3T(e)(2)(iii).  Then, when (if) the part is reinstalled in an aircraft, the basis, as well as the cost of installation, would be deductible in the tax year in which the part is installed.  26 C.F.R. § 1.162–3T(e)(2)(iv).

Under this optional provision, there is a distinct tax advantage to being able to show that you are using rotables in the same year that they are purchased/repaired (so they can be treated as ordinary and necessary business expenses in the year that they are purchased/repaired, instead of carrying-over that deduction to a later year in which they are installed/re-installed).  Air carriers with sensitivity to tax issues may keep fewer rotables in their inventories, relying more heavily on distributors to provide rotables on a just-in-time basis, in order to better take advantage of these tax accounting provisions.

The optional rotable accounting provision seems to make sense for rotables with longer lives such as those which may be found in many aviation products.  Under the recent announcement by IRS, though, this optional provision may not be used by the industry until tax years beginning on or after January 1, 2014.  This delay means that the air carriers and others must continue to use the primary rotables accounting language, which forbids a taxpayer from expensing a rotable until it is disposed-of (and thus likely fores most taxpayers to depreciate their rotables).

Rotable aircraft parts in a distributor’s inventory will usually be treated as inventory, rather than under the tax-accounting-for-rotables rule, because the rules defines rotables as things that are acquired for installation on the taxpayer’s own property:

“rotable spare parts are materials and supplies under paragraph (c)(1)(i) of this section that are acquired for installation on a unit of property, removable from that unit of property, generally repaired or improved, and either reinstalled on the same or other property or stored for later installation”

Distributors typically do not use rotables in this way, so their rotables will be treated as inventory; however repair stations may find some of their parts inventory being treated as rotables under the new rule, particularly if they are purchasing rotables for use on exchange units of loaner units that they own themselves.

Distributors may have rotable parts that they must account-for under these rules if the rotable are used ofr the distributors own property (like rotable parts for a forklift used in the distributor’s warehouse).

The announcement concerning timing of the guidance (that the guidance becomes fully effective in 2014 but may be used at the discretion of the taxpayer until then) can be found at 77 Federal Register 74583 (December 17, 2012). As always, this article is meant to be informative only and it does not constitute tax advice.

New IRS Guidance on Tax Treatment of Materials and Supplies (including Rotable Parts)

The IRS announced in December Temporary Guidance Regarding Deduction and Capitalization of Expenditures Related to Tangible Property.  At the same time, they announced a proposal to make that temporary guidance permanent.

These new rules are meant to help companies distinguish between expenses and capital expenditures related to property.  It also provides guidance on depreciating materials and supplies (guidance that may change the tax treatment of some inventory held by your customers).  Aircraft Parts distributors may find themselves affected by several elements of this rule, including guidance distinguishing “materials and supplies” from inventory, as well as new guidance for the tax treatment of rotable parts.

One purpose of the new (proposed) regulations is to clarify that if an expenditure merely restores the property to the state it was in before the work (like a repair), then situation prompting the expenditure arose and does not make the property more valuable, more useful, or longer lived, then such an expenditure is usually considered a deductible repair. In contrast, a capital expenditure is generally considered to be a more permanent increment in the longevity, utility, or worth of the property.

For example, if you decide to repair weather-related damage to your warehouse, this should be treated as a repair that does not need to be capitalized.  On the other hand, if you decide to construct a new bay door on your warehouse to accommodate larger trucks, then this adds to the utility of the property and it should be treated as a capital expenditure.

The new rules also address the tax treatment of materials and supplies. They clarify that the costs of acquiring or producing units of tangible property are required to be capitalized.  This means that if a company purchases and /or produces goods for resale, the amount paid to acquire or produce those goods must be capitalized.  So if you are supplying a manufacturer, the manufacturer may not deduct the cost of the inventory that goes into the final product until the product is actually sold.  This provides a firm tax basis for just-in-time manufacturing and discourages manufacturers from carrying a substantial raw materials or parts inventory.

The new rule also clarifies that an exception exists for materials and supplies that are not considered inventory.  Amounts paid for such materials and supplies are deductible in the year in which the goods are used in your company’s operations.  However, incidental materials and supplies for which no records of consumption, or for which beginning and end of year inventories are not taken, may be deducted in the year in which they are purchased (yes, this will provide a tax inventive to avoid keeping metrics on items, but the value of tracking such materials usually exceeds the tax inventive to not track them).  In all cases, the materials and supplies do not need to be capitalized into the value of the larger items on which the materials and supplies are used.

The formal definition of materials and supplies is:

Definitions—(1) Materials and supplies. For purposes of this section, materials and supplies means tangible property that is used or consumed in the taxpayer’s operations that is not inventory and that—

(i) Is a component acquired to maintain, repair, or improve a unit of tangible property (as determined under § 1.263(a)–3T(e)) owned, leased, or serviced by the taxpayer and that is not acquired as part of any single unit of tangible property;

(ii) Consists of fuel, lubricants, water, and similar items, that are reasonably expected to be consumed in 12 months or less, beginning when used in taxpayer’s operations;

(iii) Is a unit of property as determined under § 1.263(a)–3T(e) that has an economic useful life of 12 months or less, beginning when the property is used or consumed in the taxpayer’s operations;

(iv) Is a unit of property as determined under § 1.263(a)-3T(e) that has an acquisition cost or production cost (as determined under section 263A) of $100 or less (or other amount as identified in published guidance in the Federal Register or in the Internal Revenue Bulletin (see § 601.601(d)(2)(ii)(b) of this chapter)); or

(v) Is identified in published guidance in the Federal Register or in the Internal Revenue Bulletin (see § 601.601(d)(2)(ii)(b) of this chapter) as materials and supplies for which treatment is permitted under this section.

Finally, the guidance specifies that rotable and temporary spare parts are used or consumed in the taxpayer’s operations in the taxable year in which the taxpayer disposes of the parts.  This new guidance may drive some interesting recordkeeping among air carriers that carry rotable inventory.  Under this new rule, there is a distinct tax advantage to being able to show that you are using rotables in the year purchased (so they can be treated as ordinary and necessary business expenses in the year that they are purchased).  This may encourage air carriers to keep fewer rotables in their inventories, relying more heavily on distributors to provide rotables on a just-in-time basis.

Rotables in a distributor’s inventory will usually be treated as inventory, rather than under the new rotable rule, because the new rule defines rotables as

“rotable spare parts are materials and supplies under paragraph (c)(1)(i) of this section that are acquired for installation on a unit of property, removable from that unit of property, generally repaired or improved, and either reinstalled on the same or other property or stored for later installation”

Obviously, distributors typically do not use rotables in this way; however repair stations may find some of their parts inventory being treated as rotables under the new rule.

The temporary regulations can be found online here:

http://www.gpo.gov/fdsys/pkg/FR-2011-12-27/pdf/2011-32024.pdf

The purpose of the temporary regulations is to implement the rule immediately before going through notice and comment.

The permanent version of the regulation is subject to notice and comment.  The proposed permanent rule can be found online here:

http://www.gpo.gov/fdsys/pkg/FR-2011-12-27/pdf/2011-32246.pdf

Comments on whether these temporary rules should be made permanent are due by March 26, 2012.

Make Your Exports More Competitive By Reducing Your U.S. Tax Liability

Are you exporting aircraft parts? Looking for new ways to make your parts more competitive in the global marketplace?  If you are engaging in significant export volume from the United States then you may be able to reduce your U.S. tax liability by creating an Interest Charge-Domestic International Sales Corporation (IC-DISC).

At a manufacturing conference that I attended in October, I heard Kevin Cox of LarsenAllen discuss IC-DISCs as a way to minimize federal taxes on profits from exports. I though that this sounded like a fascinating way to reduce tax burden on exports and make American companies more competitive. I knew that this was a topic that would interest aircraft parts distributors.  After his presentation, I asked if his organization could provide me with more information. In response, his colleague Steve Roark wrote us the following article describing the IC-DISC and the way that a US exporter can use an IC-DISC to reduce its tax obligation. Contact information for LarsenAllen is at the bottom of the article.

Manufacturers and distributors work hard to provide products and services competitive in the global economy. Now more than ever, generating foreign sales is a necessary component to growth. Competition for export sales is burdened by many factors including foreign competition, tariffs, fees, foreign taxes and so forth. Wouldn’t it be great if companies could get a break from this burden? The rallying cry by many companies is that Congress needs to act now to allow U.S. manufacturers to be more competitive in the global market. Well, Congress did act – they just acted about 30 years ago. Years ago, congress recognized the growing disparity in global competition and provided a way to help compete on a level footing in the face of these burdensome requirements. The vehicle to do this is through the tax strategy called an IC-DISC.

Organizations that have export sales can significantly reduce their Federal tax by creating an Interest Charge-Domestic International Sales Corporation (IC-DISC). It’s a long name, but the concept is quite simple. By creating a separate entity, a domestic organization with international sales can defer and/or reduce their overall tax burden related to the income on these international sales.

The IC-DISC reduces U.S. taxation on exports of property originating in the United States for direct use outside the U.S. There are two types of sales that qualify. The first is for products shipped directly outside of the U.S. The second is for products sold in the U.S. that ultimately are added to a product that is shipped internationally. Many contract manufacturers and distributors are part of a supply chain that serves large OEM’s whose products end up outside the U.S. Parts shipped domestically to these OEM’s may also qualify for this tax advantaged status, even though on the surface they aren’t what you think of as foreign sales.

An IC-DISC can be used in a number of ways. Some of the advantages and benefits provided by an IC-DISC include:

• Permanent tax savings on export sales. Although an IC-DISC is a tax exempt entity, any cash distributed out of an IC-DISC is taxed to the shareholders at the capital gains rate of 15 percent. This results in up to a 20% savings on Federal taxes on the income associated with foreign sales.
• Tax deferral on export sales. An IC-DISC also allows a company to defer up to $10 million dollars of taxable income to the future. This can be a significant benefit if cash flow is tight, or if you are a proponent of deferring the payment of tax to Uncle Sam.
• Means to facilitate succession planning. An IC-DISC offers a number of capabilities for executing a succession plan. An important feature of the IC-DISC is that shareholders can be corporations, retirement accounts, individuals or a combination thereof. This can result in an effective means to distribute cash to beneficiaries in a tax-advantaged manner.

It doesn’t take much for a company to benefit from an IC-DISC. Companies with as little as $500,000 of export sales have shown savings from establishing an IC-DISC. In addition, the set-up and recurring maintenance of this strategy is relatively minimal compared to the savings.

IC-DISC’s have been around for close to 30 years, yet they are not widely used in small to mid-sized organizations – why is that?

One reason is the misconception that they are too complicated or administratively burdensome. An IC-DISC strategy does require a company to establish a separate entity to report these international sales. The IC-DISC is a “paper” entity created to make the company more competitive. It does not require corporate substance or form, office space, employees, or tangible assets. It simply serves as a conduit for export tax savings. Customers do not need to know about the IC-DISC, and contracts remain as they are today. In addition, the transactions required to be reported in the IC-DISC can be summarized and reported once a year.

Another reason is that in the past this structure didn’t provide much benefit. There were other provisions in the tax code that provided deductions for international sales. These provisions expired a number of years ago resulting in the IC-DISC strategy once again becoming more advantageous.

If you think this strategy may be an option for your company, it is important to act quickly. An IC-DISC is only allowed to provide benefit beginning on the date the IC-DISC is formed (benefits are not available retroactively). The sooner a taxpayer creates an IC-DISC entity the greater their benefits will be.

To maximize savings and ensure proper IC-DISC formation and administration, businesses that wish to create an IC-DISC should seek assistance from a qualified tax advisor. While the concept and administration are relatively simple, it is important that the initial set-up is done properly to maximize and protect this tax advantage status.

About the Author: Steve Roark is a Manager in the Manufacturing and Distribution group of LarsonAllen. Steve can be reached at 888.529.2648 or sroark@larsonallen.com. To learn more about LarsonAllen, visit www.larsonallen.com.

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