Richard S. Lehman, Esq.
LEHMAN TAX LAW

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Current Ponzi Schemes & Reference Information

October 11th, 2012 | Author:

1. Gurudeo “Buddy” Persaud

Ponzi Scheme Information

  • Orlando broker
  • astrology-based investment methods
  • reportedly told his clients that he would be investing their money in debt, stock, futures, and real estate markets. In reality, he has subscribed to the idea that gravitational forces affect human behavior and, in turn, the stock market
  • worked with at least 14 investors between July 2007 and January 2010 and according to the SEC complaint, he told them that the fund was risk-free.
  • he misappropriated around $415,000 — nearly half of the investment money — for his own personal use. The claim goes on to say that Persaud worked in “typical Ponzi scheme fashion” by repaying earlier investors with money he brought in from new investors.
  • White Elephant Trading Company

References

2. James Davis Risher

Ponzi Scheme Information

3. Norman Adie

Ponzi Scheme Information

4. Allen and Wendell Jacobson

Ponzi Scheme Information

  • operate from a base in Fountain Green, Utah
  • offer investors the opportunity to invest in limited liability companies (LLCs) in order to share ownership of large apartment communities in eight states
  • SEC alleges that the Jacobsons represent that they buy apartment complexes with low occupancy rates at significantly discounted prices. They then renovate them and improve their management, and aim to resell them within five years
  • Investors are said to share in the profits derived from rental income at the apartment complexes as well as the eventual sales.
  • the Jacobsons raised more than $220 million from approximately 225 investors through a complex web of entities under the umbrella of Management Solutions, Inc.
  • http://www.sec.gov/news/press/2011/2011-266.htm
  • http://www.sec.gov/litigation/litreleases/2011/lr22195.htm

5. Dunya Predovan

Ponzi Scheme Information

6. Frederick Darren Berg

Ponzi Scheme Information

7. Mark Feathers

Ponzi Scheme Information

  • SEC alleges that more than 400 investors were attracted to the funds by promises that profits from mortgage investments would yield annual returns of 7.5 percent or more.
  • Small Business Capital Corp.
  • raised $42 million by selling securities issued by Investors Prime Fund LLC and SBC Portfolio Fund LLC - two mortgage investment funds they controlled.
  • http://www.sec.gov/news/press/2012/2012-125.htm

8. Scott Rothstein

Ponzi Scheme Information

9. (14 ) sales agents : Bryan Arias, Hugo A. Arias, Anthony C. Ciccone , Salvatore Ciccone, Jason A. Keryc, Michael D. Keryc, Martin C. Hartmann III , Laura Ann Tordy, Christopher E. Curran, Ryan K. Dunaske, Michael P. Dunne, Diane Kaylor, Anthony Massaro, Ronald R. Roaldsen Jr.

Ponzi Scheme Information

10. Stanley Shew-A-Tjon

Ponzi Scheme Information

11. George Levin/Frank Preve

12. R. Allen Stanford

13. Brian Ray Dinning

14. Martin B. Feibish

15. George Elia

16. Ray Bitar

17. Keith Franklin Simmons

18. Alan G. Flesher, Nancy Carol Khalial

19. Thomas E. Kelly

20. Wayne L. Palmer and his firm, National Note of Utah, LC

21. Samantha Delay-Wilson

22. Anthony John Johnson

23. Jason Bo-Alan Beckman, Gerald Joseph Durand, Patrick Kiley

24. Richard H. Nickles

25. Andrew S. Mackey, Inger L. Jensen

26. Joseph Blimline

27. Anthony C. Morris

28. Robert G. Tunnell, Jr.

29. Daniel Wise

30. Steven Bartko

31. Shervin Neman

32. Ephren W. Taylor II

33. Timothy Melvin Murphy

34. Brett A. Amendola

35. C. Tate George

36. Kenneth Alfred Scudder

37. Lauren Baumann

38. William Wise, Jacquline Hoegel

39. John Terzakis

40. Jonathan D. Davey, Chad A. Sloat, Michael J. Murphy, Jeffrey M. Toft

41. Ira J. Pressman

42. Joseph Mazella

43. Richard Pettibone

44. CHARLES MICHAEL VAUGHN

45. Laurie Schneider

46. Gregory Viola

47. Ronald W. Shepard

48. ALGIRD M. NORKUS

49. Jenifer Devine

50. Douglas F. Vaughan

51. Johnny “Mickey” Brown

52. GEOFFREY A. GISH, MYRA J. ETTENBOROUGH

53. Richard Elkinson

54. Louis J. Borstelmann

55. David Lincoln Johnson

56. Celia Gallardo

57. Miko Dion Wady

58. Edward P. May

59. Daren Palmer

60. Kurt Branham Barton

61. Dante DeMiro

62. Wifredo A. Ferrer

63. Martin T. Sigillito, James Scott Brown, Derek J. Smith

64. Jeremiah C. Yancy

65. Timothy Durham

66. Francisco Illarramendi

67. Frederick H.K. Baker, Mark W. Akin

68. Paul Cirigliano

69. Anthony Eugene Linton

70. Richard Saunders

71. Lawrence Hamel

72. Christopher Jackson

73. Shaine Joseph Lavoie

74. Larry Benny Groover

75. Kent R.E. Whitney

76. Victoria Scardigno

77. Brian Kim

78. Michael Hudspeth , Timothy Bailey

79. Monroe L. Beachy

80. Peter Sbaraglia

81. Josh Gould

82. Jeanette and Elliott Berney

83. Larry Michael Parrish

84. Dale Edward Lowell

85. Ibis Febles, Giancarlo Giuseppe

86. Michael Crook, Roderick Rieman

87. Garry Bradford

88. Royce Newcomb

89. Steven Bingaman

90. Michael Morawski and Frank Constant

91. Nicholas Cox

92. John S. Dudley

93. Michael Kratville, Jonathan W. Arrington, Michael J. Welke

94. Steven White, Martin Kinsey

95. Spero X. Vourliotis, Carey Michael Billingley

96. Anthony Cutaia

97. Victor E. Cilli

98. Juneval Eduardo Machado

99. Christopher Blackwell

100. Fidel Bermudez

101. Jamie Campany

102. Wayne Ogden

103. Shawon McClung

104. Edward Allen, David Olson

105. Robbie Dale Walker

106. Richard Dalton

If you are involved in a Ponzi Scheme that is not listed on this page - contact Richard S. Lehman, Esq.

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New I.R.S. program granting Amnesty from criminal tax prosecution for offshore delinquent taxpayers

June 25th, 2012 | Author:


New United States tax laws require strict reporting of foreign assets and establish a new program granting Amnesty from criminal tax prosecution for offshore delinquent taxpayers.

The United States has finally caught up with the Global world when it comes to taxation. Three new laws are now in place to insure, as much as possible, that individual Americans and resident aliens will pay tax on their worldwide income.

Under the first new law known as the Foreign Accounts Compliance Act (“FATCA”), (“Foreign Asset Reporting”) beginning with the year 2011 annual income tax returns, there are new reporting requirements in place for U.S. individual taxpayers and U.S. entities. These laws require specified foreign assets that must be disclosed and reported on an information return that is filed together with the Federal income tax return.

At the same time that these more stringent disclosure of offshore assets is being demanded; the IRS has agreed to an open ended continued amnesty program for taxpayers who have not properly reported or paid tax on their worldwide income (the “Amnesty”). Unlike previous Amnesties, there is no time period to this latest program. However, I.R.S. has warned it can stop the Amnesty Program whenever it wants. The Amnesty Program charges a harsh fine but permits a taxpayer to avoid criminal penalties and a number of wealth destroying civil penalties that can be imposed on a U.S. Taxpayer who has not paid U.S. taxes on foreign bank deposits and other foreign assets.1/

This article is in two portions. The first portion considers the Amnesty program for unreported foreign income and the second portion considers the Foreign Asset Reporting Requirements.1/

PART I – THE AMNESTY

A U.S. Taxpayer (the “Taxpayer”) with undisclosed foreign accounts or entities and other assets, should make a voluntary disclosure because it enables the Taxpayer to become compliant, avoid substantial civil penalties and generally eliminate the risk of criminal prosecution. Making a voluntary disclosure also provides the opportunity to calculate, with a reasonable degree of certainty, the total cost of resolving all offshore tax issues.

Penalties Avoided

The following is a list with a short explanation of each potential civil and criminal penalty that is avoided by accepting the Amnesty terms.

Civil Penalties

  1. There is a penalty for failing report a direct or indirect financial interest in, or signature authority over any financial account maintained with a financial institution located in a foreign country that exceeds $10,000.
  2. There is a penalty for failing to file an Annual Return to Report large foreign gifts and transactions with Foreign Trusts.
  3. There is a penalty for failing to report any ownership interest in foreign trusts.
  4. A penalty for certain United States persons who are officers, directors or shareholders in certain foreign corporations who do not report such information to the United States.
  5. There is a penalty for U.S. persons that fail to file and report ownership of foreign partnerships

There are Fraud Penalties that result only in Civil Penalties. These penalties can be almost as high as the tax that has been avoided.

  1. A fraud penalty for failing to file a tax return.
  2. A fraud penalty for failing to pay the amount of tax shown on the return.
  3. An accuracy-related penalty on underpayment of tax.

Criminal Penalties

The failure to report and pay taxes on foreign income and bank account by US. Taxpayer can also result in Criminal Penalties.

  1. Possible criminal charges related to tax returns include filing a false return and failure to file an income tax return.
  2. A person convicted of tax evasion is subject to a prison term of up to five years and a fine of up to $250,000.
  3. Filing a false return subjects a person to a prison term of up to three years and a fine of up to $250,000.

All of this can be avoided by entering into the I.R.S. Amnesty Program. However, the cost is high.

The present Amnesty program provides a tax, interest and penalty framework. Individuals must pay their taxes on any unreported income, 20% penalty on the total unpaid taxes and interest on the amounts due. In addition, individuals must pay a onetime penalty of 27.5 percent of the highest aggregate balance at any one point in time of their foreign bank accounts or entities during an eight (8) year period prior to the disclosure. Some taxpayers will be eligible for 12.5 percent penalties instead of the 27.5% penalty.

The Taxpayer must:

  1. Provide copies of previously filed original or amended federal income tax returns for all tax years covered by the voluntary disclosure. The voluntary disclosure period can be a period of eight (8) years preceding the disclosure time.
  2. File complete and accurate original or amended offshore-related information returns.
  3. Cooperate fully with the voluntary disclosure process which includes providing information on offshore financial accounts, institutions and facilitators, and signing agreements to extend the period of time for assessing tax and penalties.
  4. Pay all taxes due as a result of the disclosure.2/
  5. Pay a 20% accuracy-related penalty on the full amount of the underpayment of tax for all years.
  6. Pay a penalty for the failure to file a tax return if tax return was not filed.
  7. Pay, in lieu of all other penalties that may apply, a penalty equal to 27.5% (or in limited cases 12.5% or 5% of the highest aggregate balance in foreign bank accounts/entitites or value of foreign assets during the period covered by the voluntary disclosure.
  8. Pay all interest on the outstanding amount.

ELIGIBILITY

Taxpayers who have undisclosed offshore accounts or assets are eligible to apply for IRS Criminal Investigation’s Voluntary Disclosure Practice and penalty regime for an eight year maximum disclosure period.

Corporations, partnerships, and trusts and other entities are eligible to make voluntary disclosures.

Amnesty Not Available – Investigation Commenced

However, if the IRS has initiated a civil examination, regardless of whether it relates to undisclosed foreign accounts or undisclosed foreign entities, the taxpayer will not be eligible to come in under the Amnesty. Taxpayers under criminal investigation are also ineligible. The taxpayer or the taxpayer’s representative should discuss the offshore accounts with the agent.

The purpose for the voluntary disclosure practice is to provide a way for taxpayers who did not report taxable income in the past to come forward voluntarily and resolve their tax matters. Thus, if you, reported and paid tax on all table income but did not file FBARs, do not use the voluntary disclosure process.3/

Taxpayers who reported and paid tax on all their taxable income for prior years but did not file FBARs should file the delinquent FBAR reports according to the FBAR instructions and attach a statement explaining why the reports are filed late. The IRS will not impose a penalty for the failure to file the delinquent FBARs if there are no underreported tax liabilities,

Notice of Qualification for Amnesty

Taxpayers or representatives may file to the Criminal Investigation Lead Development Center identifying information (name, date of birth, social security number and address) and an executed power of attorney (if represented) to request pre clearance before making an offshore voluntary disclosure.

Criminal investigation will then notify taxpayers or their representatives via fax whether or not they are cleared to make an offshore voluntary disclosure.

Taxpayers deemed cleared should take the steps within 30 days from receipt of the fax notification to make an offshore voluntary disclosure. Pre clearance does not guarantee a taxpayer acceptance. Taxpayers must still truthfully, timely and completely comply with all provisions of the offshore voluntary disclosure program.

PAYMENT

The terms of the Amnesty require the taxpayer to pay the tax, interest and accuracy related penalty and other penalties with their submission. However, it is possible for a taxpayer who is unable to make full payment of these amounts to request the IRS to consider other payment arrangements.

The burden will be on the taxpayer to establish inability to pay, to the satisfaction of the IRS, based on full disclosure of all assets and income sources, domestic and offshore, under the taxpayer’s control. Assuming that the IRS determines that the inability to fully pay is genuine, the taxpayer must work out other financial arrangements acceptable to the IRS to resolve all outstanding liabilities in order to be entitled to the penalty relief under this initiative.

Amnesty Documents

  1. Copies of previously filed original (and, if applicable, previously filed amended) federal income tax returns for tax years covered by the voluntary disclosure.
  2. Complete and accurate amended federal income tax return (for individuals, Form 1040X or original Form 1040 if delinquent for all tax years covered by the voluntary disclosure, with applicable schedules detailing the amount and type of previously unreported income from the account or entity (e.g. Schedule B for interest and dividends. Schedule D for capital gains and losses. Schedule E for income from partnerships, S corporations, entities or trusts.
  3. A completed Foreign Account or Asset Statement for each previously undisclosed foreign account or asset during the voluntary disclosure period. For those applicants disclosing offshore financial accounts with an aggregate highest account balance if any year of $1 million or more, a completed Foreign Financial Institution Statement for each foreign financial institution with which the taxpayer has undisclosed accounts or transactions during the voluntary disclosure period
  4. A check payable to the Department of Treasury in the total amount of tax, interest, accuracy-related penalty, and if applicable, the failure to file and failure to pay penalties, for the voluntary disclosure period. The total amount of tax, interest and penalties as described above cannot be paid, submit a proposed payment arrangement and a completed Collection Information Statement.
  5. For those applicants disclosing offshore financial accounts with an aggregate highest account balance in any year of $500,000 or more, copies of offshore financial account statements reflecting all account activity for each of the tax years covered by your voluntary disclosure. For those applicants disclosing offshore financial accounts with an aggregate highest account balance of less than $500,000, copies of offshore financial account statements reflecting all account activity for each of the tax years covered by your voluntary disclosure must be readily available upon request.
  6. Properly completed and signed agreements to extend the period of limitations.
  7. In a striking new approach to the Amnesty Program, the Program now extends the penalty beyond just offshore financial assets; if the assets are not acquired with after tax income. The offshore penalty is intended to apply to offshore assets that are related to tax on compliance. Thus, if offshore assets were acquired with funds that were subject to U.S. tax but on which no such tax was paid, the offshore penalty would apply regardless of whether the assets were producing current income. Assuming that the assets were acquired with after tax funds or from funds that were not subject to U.S. taxation, if the assets have not yet produced any income, there has been no U.S. taxable event and no reporting obligation to disclose. The taxpayer will be required to report any current income from the property or gain from its sale or other disposition at such time in the future as the income is realized.

The penalty applies to all assets directly owned by the taxpayer, including financial accounts holding cash, securities or other custodial assets, tangible assets such as real estate or art and intangible assets such as patents or stock or other interests in a U.S. or foreign business, if the assets were acquired with funds that evaded the payment of U.S. taxes. Whether such assets are indirectly held or controlled by the taxpayer through an entity or alter ego, the penalty may be applied to the taxpayer’s interest in the entity or, if the Service determines that the entity is an alter ego or nominee of the taxpayer, to the taxpayer’s interest in the underlying assets.

Amnesty Program – Modifications

The Amnesty cannot be taken in parts. If any part of the offshore penalty is unacceptable to the taxpayer the case will be examined and all applicable penalties will be imposed. After a full examination, any tax and penalties imposed by the Service on examination may be appealed.

Voluntary disclosure examiners do not have discretion to settle cases for amounts less than what is properly due and owing. However, because the 27.5% percent offshore penalty is a proxy for the FBAR penalty, other penalties imposed under the Internal Revenue Code, and potential liabilities for the voluntary disclosure years, there may be cases where a taxpayer making a voluntary disclosure would owe less if the especial offshore initiative did not exist. Under no circumstances will taxpayers be required to pay a penalty greater than what they would otherwise be liable for under the maximum penalties imposed under existing statutes.

The 5% Penalty

Taxpayers who meet all four of the following conditions will entitled to the reduced 5% offshore penalty (a) did not open or cause the account to be opened (unless the bank required that a new account be opened, rather than allowing a change in ownership of an existing account, upon the death of the owner of the account; (b have exercised minimal, infrequent contact with the account, for example, to request the account balance, or update accountholder information such as a change in address, contact person, or email address, (c) have, except for a withdrawal, closing the account and transferring the funds to an account in the United States, not withdrawn more than $1,000 from the account in any year for which the taxpayer was on compliant, and (d) can establish that all applicable U.S. taxes have been paid on funds deposited to the account (only account earnings have escaped U.S. taxation).

The 12.5% Penalty (Deminimus)

A taxpayer that does not qualify for a lesser payment or a 5 percent offshore penalty, but taxpayers whose highest aggregate account balances in each or the voluntary disclosure years is less than $75,000 will qualify for a 12.5 percent offshore penalty.

FOOTNOTES:

1/ While the Amnesty Program has no time deadline; there is in fact a practical deadline. The third law, which does not come into effect until 2014 will require foreign institutions to report all U.S. investors to the I.R.S. Once a Taxpayer is under I.R.S. investigation, the Amnesty Program is no longer available.

2/ PFIC Special Taxation. A significant number of investments involve Passive Foreign Investment Companies (“PFIC”). These investments will often add to the taxable income calculation since there may be accrued gains to account for. A lack of historical information on the cost basis and holding period of many PFIC investments makes it difficult for taxpayers to prepare statutory PFIC computations and for the Service to verify them. In order to not unduly delay matters, the I.R.S. has offered taxpayers an alternative to the statutory PFIC computation that will resolve PFIC issues on a basis that is consistent with the Mark to Market methodology but will not require complete reconstruction of historical data.

3/ Some Taxpayers can breathe a sigh of relief and can avoid the Bank Deposit penalty and other penalties if they reported their offshore income even though it was never disclosed in Information Returns.

Value can be lost without good professional advice. Contact Richard S. Lehman, Today.

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Foreign Financial Institutions - Reporting and Withholding United States Taxes

June 19th, 2012 | Author:

Introduction

Americans have become used to the idea that certain payments made to Foreign individuals, (Aliens) and Foreign Corporations require the American payor to withhold the U.S. taxes that must be paid by the foreign recipient of the U.S. income payment. This insures the taxes are paid. The law holds that if the American payor does not hold back, (withhold), the taxes due by the foreigner payee and pay these taxes to the U.S., the American payor is responsible to pay for the tax.

The United States has now passed a new law (the “New Law”) that is effective starting in 2014. This law that will require American payors to be responsible for a similar withholding tax on payments made by American Payors to American payees with accounts in certain Foreign Financial Institutions and Foreign Non Financial Entities that have substantial U.S. owners.1/

1/ Almost 50% of the New Law is used to provide definitions for all of the new “tax terms” that are used to describe the new tax concepts represented by the New Law.

The definitions have been provided to help better explain the overall pattern that the Treasury has tried to accomplish. Several of the definitions have been provided in the initial portion of this Article.

The New Law

The New Law generally requires Foreign Financial Institutions (FFIs) to provide information to the Internal Revenue Service (IRS) regarding the Foreign Financial Institutions’ United States accounts (U.S. accounts). It also requires certain Nonfinancial Foreign Entities (NFFEs) to provide information on their substantial United States owners (substantial U.S. owners).

The New Law requires that United States payors vs. Withholding Agent that make payments to Foreign Financial Institutions and Non Financial Foreign Entities to withhold the taxes payable by any U.S. persons who may be responsible for taxes to the United States on these payments.

The law takes a second step and imposes the same withholding tax on certain Foreign Financial Institutions for payments those institutions make to certain accounts that are owned by U.S. taxpayers or presumed to be owned by U.S. taxpayers.

The reasons for the new law are made quite plain in the preamble to the Regulations Governing the New Law. The United States is finally fully aware of the cost of offshore tax evasion and intends to stop it. The Preamble states:

As a result of recent improvements in international communications and the associated globalization of the world economy, U.S. taxpayers’ investments have become increasingly global in scope. Foreign Financial Institution (“FFI”) now provide a significant proportion of the investment opportunities for, and act as intermediaries with respect to the investments of, U.S. taxpayers. Like U.S. financial institutions, FFIs are generally in the best position to identify and report with respect to their U.S. customers. Absent such reporting by FFIS, some U.S. taxpayers may attempt to evade U.S. tax by hiding money in offshore accounts. To prevent this abuse of the voluntary compliance system and address the use of offshore accounts to facilitate tax evasion, it is essential in today’s global investment climate that reporting be available with respect to both the onshore and offshore accounts of U.S. taxpayers. This information reporting strengthens the integrity of the voluntary compliance system by placing U.S. taxpayers that have access to international investment opportunities on an equal footing with U.S. taxpayers that do not have such access or otherwise choose to invest within the United States.

[The New Law] extends the scope of the U.S. information reporting regime to include FFIs that maintain U.S. accounts. [It] also imposes increased disclosure obligations on certain Non Foreign Financial Institutions that present a high risk of U.S. tax avoidance. In addition, [it] provides for withholding on Foreign Financial and Non Financial Institutions that do not comply with the reporting and other requirements of [The New Law].

The New Law is codified in Internal Revenue Code Sections 1471 through 1474. This article will review each of those Code Sections.

Code Section 1471(a) of the Internal Revenue Code (“Section”) requires any person required to withhold taxes, (a “Withholding Agent”) to withhold 30 percent of any withholdable payment to a Foreign Financial Institution that does not meet certain requirements.

A withholdable payment is defined to mean

(i) any payment of interest, dividends rents, salaries, wages, premiums, annuities, compensations, remunerations, emoluments, and other fixed or determinable annual or periodical gains, profits, and income if such payment is from sources within the United States (Fixed Income) and

(ii) any gross proceeds from the sale or other disposition of any property of a type which can produce interest or dividends from sources within the United States. (“Sale Income”).

The types of U.S. income that are identified as being subject to the 30% withholding tax, when that income is paid to Foreign Financial Institutions, is the type of income known as fixed or determinable income. Also included is gains from the sale of certain capital assets. This is different than the withholding tax on payments by Americans to non resident aliens and foreign corporations because gains from the sales of capital assets are not included in the existing withholding rules.

However, while the New Law requires withholding on certain items to any Foreign Financial Institution and Foreign Non Financial entities, the Foreign Institutions can avoid the responsibility to withhold these taxes. The withholding on payments to and by a Foreign Financial Institution or a Non Financial Foreign Entity can be avoided if the Foreign entities comply with new U.S. Treasury requirements. To comply, the U.S. now wants full disclosure of every U.S. account holder in that Foreign Institution and on every substantial shareholder in the Non Foreign Financial Enterprise.

The U.S. Treasury has now made foreign banks, brokers and companies similar to U.S. bankers and brokers, when it comes to supplying information about U.S. taxpayers.

In order to avoid the withholding tax a FFI must enter into an agreement (“FFI Agreement”) with the IRS to perform certain obligations and meet requirements prescribed by the Treasury Department and the IRS.

The best way to provide an understanding of the overall purpose of the new statute and what it is all about is to start off with a list of new terms that are now going to show up as a result of this new law. After the reader has mastered these few terms, the article provides a summary of the purpose of the statute, the mechanics of the statute and the practical ramifications of what international banking is going to look like starting in the year 2014.

DEFINITIONS

U.S. Account:

A U.S. Account is any financial account maintained by a financial institution that is held by one or more specified U.S. persons or U.S. owned foreign entities. An account generally is considered to be held by the person listed or identified as the holder of such account with the financial institution that maintains the account, even if that person is a flow-through entity.

For accounts held by a grantor trust, the grantor is treated as the owner of the account or assets. For accounts held by agents, investment advisors, and similar persons, the person on whose behalf such person is acting is treated as the account holder. Each joint holder of a joint account will be treated as owning the account. Accounts that are insurance and annuity contracts consider the account holder is the person who can access the cash value of the contract or change the beneficiary, or, if there is no such person, the accountholder is the beneficiary.

Financial Account:

The term financial account means, with respect to any financial institution, any depository account maintained by such financial institution; any custodial account maintained by such financial institution; and any equity or debt interest in such financial institution (other than interests which are regularly trade on an established securities market). In addition, the Secretary may prescribe special rules addressing circumstances in which certain categories of companies, such as insurance companies, are financial institutions or the circumstances in which certain contracts of policies, for example annuity contracts or cash value life insurance contracts, are financial accounts

Depository Account:

A depository account is defined to include a commercial, checking, savings, time or thrift account, an account evidenced by a certificate of deposit or similar instruments, and any amount held by an insurance company under an agreement to pay interest. A custodial account is defined to include an account that holds any financial instrument or contract held for investment for the benefit of another person.

Debt/Equity:

The proposed regulations also provide guidance on the treatment of debt or equity as a financial account. An equity interest includes a capital or profits interest in a partnership and beneficial interests in the case of a trust.

U.S. Owned Foreign Entity:

Any foreign entity that has one or more substantial U.S. owners. An owner-documented FFI will be treated as a U.S. owned foreign entity if it has one or more direct or indirect owners that are specified U.S. persons, whether or not it has a substantial U.S. owner.

Financial Institution (FFI)

FFI means any financial institution that is a foreign entity

The term financial institution means any entity that (i)accepts deposits in the ordinary course of a banking or similar business; (ii) holds as a substantial portion of its business financial assets by the account of others; or (iii) is engaged (or holding itself out as being engaged) primarily in the business of investing, reinvesting, or trading in securities, partnership interest, commodities, or any interest (including a futures or forward contract or option) in such securities, partnership interest or commodities.

The types of entities that constitute “financial institutions” lists the activities that constitute a “banking or similar business” for a deposit-taking institution, and clarifies that entities engaged in a banking or similar business include, but are not limited to, entities that would qualify as a “bank” under [I.R.S. Rules] The proposed regulations provide that the determination of whether an entity conducts a banking or similar business is based on the character of the business conducted, and the fact that the entity is subject to local regulation is relevant, but not necessarily determinative.

An entity is engaged primarily in the business of investing, reinvesting, or trading securities and other relevant assets if the entity’s gross income from those activities is at least 50 percent of the entity’s total gross income over the testing period.

An entity that is an insurance company and issues (or is obligated to make payments with respect to): a cash value insurance policy or an annuity contract is a financial institution.

Excluded Foreign Entities:

Many Foreign Entities are excluded from the definition of a financial institution or are treated as Non Financial Institutions that do not need to meet any of the withholding and/or reporting requirements. These entities include certain nonfinancial holding companies, certain startup companies, nonfinancial entities that are liquidating or emerging from reorganization or bankruptcy, hedging/financial centers of a nonfinancial group, and charitable entities.

Recalcitrant Account Holder:

A recalcitrant account holder is defined as any holder of an account maintained by a Participating FFI if the account holder is not an FFI and the account holder either (i) fails to comply with the Participating FFI’s request for documentation or information to establish whether the account is a U.S. account, (ii) fails to provide a valid Form W-9 upon the request of the Participating FFI, (iii) fails to provide a correct name and TIN upon request of the FFI after the Participating FFI receives notice from the IRS indicating a name/TIN mismatch or (iv) fails to provide a valid and effective waiver of foreign law if foreign law prevents reporting with respect to the account holder by the Participating FFI.

Pass thru Payments:

A pass thru payment is any withholdable payment and any foreign pass thru payment

Withholdable Payments to Non Financial Foreign Entities (NFFEs)

A withholding agent must withhold tax of 30 percent of any withholdable payment made to an NFFE, unless the beneficial owner is an NFFE that does not have any substantial U.S. owners or as an NFFE that has identified its substantial U.S. owners and the withholding agent reports the required information with respect to any substantial U.S. owners.

Substantial U.S. Owner:

Generally, the term substantial U.S. owner means any specified U.S. person that owns, directly or indirectly, more than ten percent of the stock of a corporation, or with respect to a partnership, more than ten percent of the profits interests or capital interests in such partnership. For trust, a substantial U.S. owner is any specified U.S. person that holds, directly or indirectly, more than ten percent by value of the beneficial interests in such trust, or with respect to a grantor trust, any specified U.S. person that is an owner of such grantor trust. There are attribution rules to determine indirect ownership of stock.

Specified U.S. Person:

There are several categories of U.S. payees whose payments are not subject to tax and therefore would not inure a withholding tax. This list includes a corporation the stock of which is regularly traded on an established securities market; corporations that are affiliates of such corporation; organization that are exempt from tax; individual retirement plans; real estate investment trust; regulated investment companies; common trust funds; regulated investment companies; common trust funds; dealers in securities; commodities or notional principal contracts; dealers in securities, commodities, or notional principal contracts and brokers. The United States and its wholly owned agencies or instrumentalities are also excluded, as are the States, the District of Columbia, the U.S. territories and any political subdivision or wholly owned agency or instrumentality of any of the foregoing.

Summary

The rules relating to the requirement to withhold U.S. tax on certain payments apply principally to U.S. and foreign financial institutions or withholding agents. The general rule is that with certain exceptions, a withholding agent must withhold on a withholdable payment made after December 31, 2013, to an FFI regardless of whether the FFI receives the withholdable payment as a beneficial owner or intermediary.

Under certain circumstances, a participating FFI will be permitted to make an election to be withheld upon rather than meet requirements to withhold on a pass thru payment.

As will be explored, the withholding requirement is met by an FFI Agreement. Furthermore, no withholding is required when the withholding agent lacks control, custody or knowledge of the payments.

The answer for the Foreign Financial Institutions on how to avoid the withholding tax is to do as the I.R.S. requires and (i) to collect all of the information necessary to determine the U.S. payees of the Institution’s accounts (ii) to report regularly in compliance with I.R.S. requirements on these U.S. accounts and (iii) withhold taxes on payment being made to a Nonparticipating FFI or a recalcitrant account.

The FFI Agreement:

An FFI is defined as any financial institution that is a foreign entity, other than a financial institution organized under the laws of a possession of the United States. A financial institution is defined generally as any entity that: (i) accepts deposits in the ordinary course of a banking or similar business: (ii) as a substantial portion of its business, holds financial assets for the account of others; or (iii) is engaged (or holding itself out to being engaged) primarily in the business of investing, reinvesting or trading in securities, partnership interests, commodities, or any interest in such securities, partnership interests, or commodities.

The FFI Agreement requires the FFI to identify its U.S. accounts and comply with verification and due diligence procedures prescribed by the Treasury. A “Participating FFI” is an FFI that has entered into an FFI Agreement.

A U.S. account is defined as any financial account held by one or more specified United States persons, or United States owned foreign entities (U.S. owned foreign entities) with certain exceptions. A financial account means generally any depository account, any custodial account and any equity or debt interest in an FFI, other than interests that are regularly traded on an established securities market. A U.S. owned foreign entity is any foreign entity that has one or more Substantial U.S. owners.

A Participating FFI that enters into the Agreement is required to report certain information on an annual basis to the IRS with respect to each U.S. account and to comply with requests for additional information with respect to any U.S. account. The information that must be reported with respect to each U.S. account includes: (i) the name, address and taxpayer identifying number (TIN) of each account holder who is a specified U.S. person (or, in the case of an account holder that is a U.S. owned foreign entity), the account number;(iii) the account balance or value; and (iv) the gross receipts and gross withdrawals or payments from the account (determined for such period and in such manner a the Secretary may provide).

Furthermore, if the foreign law of the country where the FFI is located prevents the FFI from reporting the required information, the U.S. account holder must agree to waive any provision of foreign law within a reasonable period of time. If the information is not provided, the FFI is required to close the account.

Even if the Participating FFI has complied with all reporting requirements, there are still withholding requirements on payments to the FFI and from the FFI on two occasions.

(1) A participating FFI must withhold 30 percent of any pass thru payment to a recalcitrant account holder or

(2) to an FFI that is not a Participating FFI. A pass thru payment is defined as any withholdable payment or other payment to the extent attributable to a withholdable payment.

The FFI Agreement applies to the U.S. accounts of the participating FFI and to the U.S. accounts of other FFI’s that are a member of the same affiliated group.

Excluded Payments

Exempt Payments to Certain beneficial Owners

There are certain foreign beneficial owners of U.S. payments that are exempt and no withholding is required. The classes of persons treated as exempt beneficial owners are: foreign governments, political subdivisions of a foreign government, and wholly owned instrumentalities and agencies of a foreign government, international organizations and wholly owned agencies or instrumentalities of an international organization; foreign central banks of issue; governments of U.S. territories; and certain foreign retirement plans.

Certain foreign retirement funds will qualify as exempt beneficial owners. Specifically, a fund that is eligible for the benefits of an income tax treaty with the United States with respect to income that the fund derives from U.S. sources and that is generally exempt from income tax in that country is an exempt beneficial owner if it operates principally to administer or provide pension or retirement benefits.

Withholding on a Non Financial Foreign Entity

In order to gain full disclosure to U.S. holdings in other types of assets, the New Law also makes payments to and from Non Foreign Financial Entities (NFFE) potentially subject to withholding.

However, the manner in which an NFFE can avoid the withholding obligation is much less stringent than that of a Foreign Financial Institution.

The New Law requires a withholding agent to withhold 30 percent of any withholdable payment to Non Financial Foreign Entities (“NFFE”), if the payment is owned by the NFFE or another NFFE. An NFFE is any foreign entity that is not a financial institution.

However, there is no withholding requirement if the NFFE is: (i) the beneficial owner or payee provides the withholding agent with either a certification that such beneficial owner does not have any substantial U.S. owners, or the name, address and TIN of each substantial U.S. owner; (ii) and the withholding agent does not know or have reason to know that any information provided by the beneficial owners or payee is incorrect; and (iii) the withholding agent reports the information provided to the Secretary.

 

As with all withholding taxes, there is the ultimate penalty if the party who is supposed to withhold taxes for the United States does not do so; the New Law provides that every person required to withhold and deduct any tax is made liable for such tax and is indemnified against the claims and demands of any person for the amount of any payments made in accordance with the New Law.

The Verification Process

The FFI Agreement must comply with the IRS’s verification process for determining whether a participating FFI’s compliance with its FFI Agreement. A participating FFI must meet the following standards: (i) adopt written policies and procedures governing the participating FFI’s compliance with its responsibilities under the FFI agreement; (ii) conduct periodic internal reviews of its compliance (rather than periodic external audits, as is presently required for many [intermediates]; and (iii) periodically provide the IRS with a certification and certain other information that will allow the IRS to determine whether the participating FFI has met its obligations under the FFI agreement. The Treasury Department and the IRS intend to include the requirements to conduct these periodic reviews and to provide their certifications in the FFI agreement or in other guidance.

Withholding Requirements under the FFI Agreement

Even when the requirements of the FFI Agreement are met. Participating FFIs are required to withhold on any pass thru payment that is a withholdable payment made to a Recalcitrant Account Holder or a Nonparticipating FFI.

There is also a special withholding rule for dormant accounts, under which a participating FFI that withholds on pass thru payments (including withholdable payments) made to a recalcitrant account holder of a dormant account, may, in lieu of depositing the tax withheld, set aside the amount withhold in escrow until the are that the account cease to be a dormant account.

Identification of Account Holders under the FFI Agreement

There are general requirements with respect to the procedures to identify account U.S. holders that determine the status of an account holder and to associate an account with valid documentation and establish the standards of knowledge for reliance on documentation.

A participating FFI is required to review all information collected under its existing account opening procedures to determine whether the account holder has U.S. Indicia.

There are special identification requirements for high value accounts. A participating FFI must perform an additional enhanced review of high value accounts. A high value account is any account with a balance or value that exceeds $1,000,000 at the end of the calendar year. As part of the enhanced review, the participating FFI must identify all high value accounts for which a relationship manager has actual knowledge that the account holder is a U.S. person.

This does not apply to cause enhanced reviews of any high-value accounts for which the participating FFI has obtained documentary evidence to establish that the account is not held by a U.S. person but instead establishes the foreign status of the account holder.

Furthermore, the law requires a responsible officer of a participating FFI to make certain certifications to confirm that with respect to its preexisting accounts that are high value accounts, within one year of the effective date of the FFI agreement the participating FFI has completed the required review and to the best of the responsible officer’s knowledge, after conducting a reasonable inquiry.

Reporting Requirements of Participating FFIs

Under the FFI Agreement there are reporting responsibilities of Participating FFIs with respect to U.S. accounts and accounts held by recalcitrant account holders.

The participating FFI that maintains the account is generally responsible for reporting the account for each calendar year.

A participating FFI that maintains an account held by a financial institution that it has identified as an owner-documented FFI must report information with respect to each owner of the owner documented FFI that is a specified U.S. person.

Accounts held by specified U.S. persons and accounts held by U.S. owned foreign entities must be reported. These rules prescribe the information to be reported with respect to accounts required to be treated as U.S. accounts, the time and manner of filing the required form and procedures for requesting an extension to file such forms. There is guidance on the information required to be included in the U.S. account for determining the account balance or value

Accounts held by recalcitrant account holders are reported in aggregate but in separate categories. The separate categories of accounts held by recalcitrant account holders are accounts with U.S. indicia, or other recalcitrant account holders, and dormant accounts.

Expanded Affiliated Group Requirements

Today’s Foreign Financial Institutions can be found to have branches and subsidiaries all over the world; all of which may be opening U.S. accounts or accounts for foreign entities owned by U.S. shareholders.

The FFI Agreement makes provisions for this by allowing for “Affiliated Groups” to be covered by the FFI Agreement. The general rule is that, for any member of an expanded affiliated group to be a Participating FFI that is compliant with the Agreement, each FFI that is a member of the group must be either a Participating FFI or Registered Deemed Compliant FFI.

Each FFI that is a member of an expanded affiliated group must complete a registration form with the IRS and agree to all the requirements for the status for which it applies with respect to all of the accounts it maintains.

An FFI that is a member of an expanded affiliated group can obtain status as a Participating FFI notwithstanding that one or more members of the group cannot satisfy the requirements of the Agreement.

The Treasury Department and the IRS intend to require all Qualified Intermediaries that are FFIS to become Participating FFIs.

Adjustments for Over withholding and Under Withholding of Tax

There are certainly going to be situations in which there is over withholding as a result of the New Law requirements. Some U.S. Taxpayers are going to be claiming refunds.

The New Law provides for the potential that amounts may be over withheld by a withholding agent and if this is the case, tax refunds and credits should be available. This can result from a U.S. taxpayer whose tax rate is lower than the 30% withholding tax for many reasons. For example, a dividend from a U.S. company to a U.S. person’s foreign account that would normally be taxed at 15% may be withheld at 30%.

The New Law provides the procedures for adjustments for over withholding and under withholding of tax. If an overpayment of tax results from the withholding of tax under the New Law, the beneficial owner of an amount subject to withholding may claim a refund or credit for the overpayment of tax subject to certain requirements and limitations.

In order to obtain a reimbursement and/or set off for any over withheld amount, the withholding agent must obtain valid documentation from the beneficial owner or payee to identify its status and determine that withholding was not required.

The beneficial owner of the income or payment to which the withheld tax is attributable is allowed a credit against such beneficial owner’s income tax liability in the amount of tax actually withheld. If the tax required to be withheld is paid by the beneficial owner, payee, or withholding agent, the IRS may not collect from any other, regardless of the original liability for the tax.

To the extent the overpayment of tax was paid by a withholding agent out of its own funds, such amount may be credited or refunded to the withholding agent.

IF YOU HAVE QUESTIONS REGARDING FOREIGN FINANCIAL INSTITUTIONS - PLEASE CONTACT RICHARD LEHMAN

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IC-DISC and U.S. Exporting of Computer Software, Internet Sales and Licenses

May 7th, 2012 | Author:

The Export Disc Corporation Computer Software And Internet Sales And Licenses

By Richard S. Lehman, Esq

The IC-DISC has been approved as an acceptable tax planning entity for the export of American produced computer software and programs as early as 1985. In 1998, a very detailed set of Treasury Regulations were issued that have added certainty to this area of the law.

Before the issuance of the Software Regulations, there was uncertainty about the taxation of computer program transactions. Computer programs did not fit traditional tax principles. Computer programs are usually sold pursuant to “license” or “user agreements”. A computer program transaction is unlike a sale of a physical object since the value of the program copy far exceeds the value of the physical medium on which it is transferred. Computer programs, in fact are transferred electronically. Often, there is no physical medium at all.

For purposes of determining the applicability of the DISC to computer software exports, two key analyses are often required. First, (1) is the software “export property” for DISC purposes and (2) is the software product’s source of income “from without the U.S.”? Is the product for use, consumption or sale without the U.S.?

In a technical advice memorandum in 1985, the I.R.S. issued guidance on the issue of whether certain computer software programs constituted “export property” for DISC purposes. That Technical Advice Memorandum reviewed the term “export property” for DISC purposes in depth and determined in its holding that computer software could indeed be “export property”. In doing so the Technical Advice not only reviewed the legislative history of the DISC rules it also pointed out the distinctively different treatment that “patents, inventions, models, decisions, formulas, or processes whether or not patented, copyrights, goodwill, trademarks, trade brands, franchise or other like property” receive under the DISC rules, as opposed to the treatment of “films, tapes, records or similar reproductions, for commercial or home use.”

Copyright law is the basis for the Software Regulations. The Regulations are based on the concept that it is possible to categorize a computer program transaction by analyzing the copyright rights transferred. Like many other tax laws, it is generally accepted that the taxation of payments made pursuant to a contract is determined based on an analysis of the contract’s substance, without regard to the labels.

The most important distinction created by the Software Regulations is the distinction between copyrighted articles and copyright rights. This basic distinction arises from copyright law. Copyright law distinguishes between the copyright itself, which grants the owner certain rights, and a copy of the copyrighted work. The Copyright Act grants to copyright owners the exclusive right to “reproduce the copyrighted work in copies”. The Copyright Act states that “Ownership of a copyright, or of any of the exclusive rights under a copyright, is distinct from ownership of any material object in which the work is embedded.”

The Copyright Rights are not “export property” for DISC purposes while the Copyright Articles are “export property”.

The “Export Property” analysis in the I.R.S. Technical Advice Memorandum is enlightening.

The computer software considered as an example to show the nature of “Computer Articles” was described in the Technical Advice Memorandum as follows:

Mr. X develops, markets and services standardized computer software on a worldwide basis. The software consists of computer programs on magnetic tape. Computer programs are coded instructions to operate the computer to process data in a specified manner.

Mr. X’s computer software products are manufactured in the following manner. Computer programmers develop a computer program, which is referred to as “source language software” (“source code”). The source code is highly confidential and kept under strictly controlled security at all times. The modifications to the computer programs that are required to keep the software up to date with changing technology and user requirements are made to the source code. The source code is processed by a computer into a master recording, which contains the magnetic impulses a customer will receive. Unlike the source code, the master recording cannot be used to modify a software program. The products that Mr. X markets are tapes made from the master recordings.

The Export Property Analysis

Export property is defined to mean, in general, property that is:

  1. Manufactured, produced, grown or extracted in the United States by a person other than a DISC,
  2. Held primarily for sale, lease, or rental, in the ordinary course of trade or business, by, or to, a DISC, for direct use, consumption, or disposition outside the United States and
  3. Not more than 50 percent of the fair market value of which is attributable to articles imported into the United States.

Export property does not include “patents, inventions, models, designs, formulas, or processes, whether or not patented, copyrights (other than films, tapes, records, or similar reproductions, for commercial or home use), good will, trademarks, trade brands, franchises, or other like property . . .

Although a copyright such as a copyright on a book does not constitute export property, a copyrighted article (such as a book) if not accompanied by a right to reproduce it is export property. The legislative history of the DISC states the following: “Although generally the sale or license of a copyright does not produce qualified export receipts (since a copyright is generally not export property), the sale or lease of a copyrighted book, record, or to her articles does generally produce qualified export receipts”.

Computer software can be export property. Computer software tapes are akin to the copyrighted books, which qualify as export property. Computer programs are standardized programs that are manufactured in the United States by a person other than a DISC and then marketed outside the United States. This is not selling the source code or master recording. Those purchasing or leasing programs do not have the right to reproduce the software.

 

Copyright Rights

The regulations distinguish between transfers of copyright rights and transfers of copyrighted articles based on the type of rights transferred to the transferee. The transfer is classified as a transfer of a copyright if, as a result of a transaction, a person acquires any one or more of the following rights:

(1) the right to make copies of the computer program for purposes of distribution to the public by sale or other transfer of ownership, or by rental, lease or lending;

(2) the right to prepare derivative computer programs based on the copyrighted computer program;

(3) the right to make a public performance of the computer program; or

(4) the right to publicly display the computer program.

Transfers of Computer Programs

The regulations provide rules for classifying transactions involving the transfer of computer programs. A computer program includes any media, user manuals, documentation, database or similar item if the media user manuals, documentation, database or similar item is incidental to the operation of the computer program.

A copyrighted article is defined as a copy of a computer program from which the work can be perceived, reproduced, or otherwise communicated, either directly or with the aid of a machine or device. If a person acquires a copy of a computer program but does not acquire any of the four copyright rights, the transfer is classified as a transfer of a copyrighted article.

In general, a transfer of a computer program is classified in one of the following ways.

  1. A sale or exchange of the legal rights constituting a copyright (which generates income sourced according to the rules for sales of personal property);
  2. A license of a copyright (which generates royalty income);
  3. A sale or exchange of a copyright article produced under a copyright (which generates income sourced according to the rules for sales of personal property);
  4. A lease of a copyright article produced under a copyright (which generates rental income).1

1Additional rules allow for the classification of a transfer as partially a transfer of services or of know-how. The provision of know-how, in which the transferor retains continuing use of the know how transferred, is presumably most like a license of a copyright.

The following are four examples from the Treasury Regulations that describe the four types of transactions.

Example 1 – Sale of Copyright Article

A U.S. corporation, (the “U.S. corporation”) owns the copyright in a computer program, (the “Program”).

The U.S. corporation, (the “U.S. Corporation”), makes the Program available, for a fee, on a World Wide Web home page on the Internet. Mr. P, a resident of Country Z, in return for payment to the U.S. Corporation, downloads the Program X (via modem) onto the hard drive of his computer. As part of the electronic communications, P signifies his assent to a license agreement.

Mr. P receives the right to use the program on his own computers (for example, a laptop and a desktop). None of the copyright rights have been transferred in this transaction. P has received a copy of the Program. P has acquired solely a copyrighted article.

P is properly treated as the owner of a copyrighted article. There has been a sale of a copyrighted article rather than the grant of a lease.

Example 2

The facts are the same as those in Example 1, except that the U.S. Corporation only allows Mr. P, the right to use the Program for one week. If P wishes to use the Program for a further period he must enter into a new agreement to use the program for an additional charge.

P is not properly treated as the owner of a copyrighted article. There has been a lease of a copyrighted article rather than a sale.

Example 3

A U.S. Corporation, transfers a disk containing the Program to a Foreign Corporation (the “Foreign Corporation”) and grants the Foreign Corporation an exclusive license for the remaining term of the copyright to copy and distribute an unlimited number of copies of the Program in the geographic area of the Country in which the Foreign Corporation makes public performances of the Program and publicly displays the Program.

Applying the all substantial rights test, the U.S. Corporation will be treated as having sold copyright rights to the Foreign Corporation. The Foreign Corporation has acquired all of the copyright rights in the Program and has received the right to use them exclusively within the Foreign Country.

Example 4

A U.S. corporation, transfers a disk containing the Program to a Foreign Corporation in Country X and grants the Foreign Corporation the non exclusive right to reproduce (either directly or by contracting with another person to do so) and distribute for sale to the public an unlimited number of disks at its factory in return for a payment related to the number of disks copied and sold. The term of the agreement is two years, which is less than the remaining life of the copyright.

There is a lease of copyright rights since copyright right have been assigned but for a limited time period only.

 

The Source of Income Analysis

Once it is determined that a computer program is a copyright article and thus “export property” for DISC purposes; then the issue is to determine whether the Software Program is being sold for use, consumption of disposition outside of the U.S. This analysis depends upon the “source of income” rules.

Generally under the current rules, the source of income from sales of property depends to varying extents upon both the type of property and whether the property sold or leased is “inventory property”.

Income from the lease of a copyright article must also fit this definition of non U.S. source of income.

The user of the computer program is particularly important in the international context. Income earned from commerce between countries must be assigned a source under rules. This requires a determination of whether the transaction is a sale of inventory, a rental of property, a license or sale of intellectual property or the provision of services.

The regulations focus on (i) acknowledging the special circumstances of computer programs, (ii) distinguishing between transactions in copyright rights and in copyrighted articles, and (iii) focusing on the economic substance of the transaction over the labels applied, the form and the delivery mechanism.

The Software Regulations provide explicit guidance on how to source income arising from transactions categorized under the regulations by cross referencing existing source rules.

The regulations provide that income from transactions that are classified as sales or exchanges of copyrighted articles will be sourced under the sections of Internal Revenue Code that determine if income is earned in the United States for tax purposes or earned outside of the United States. Income from the leasing of a computer program will be sourced under different Internal Revenue Code sections.

Source of Income for Sales of Copyrighted Articles

A transfer of intangible property is a sale if the actual facts and circumstances support the fact that the transferor has transferred “all substantial rights” to the computer software property. A perpetual and exclusive license of intangible property is considered to be a transfer of “all substantial rights” is also treated as a sale, rather than as a license, for tax purposes. All the facts and circumstances are reviewed to determine whether the transaction transferred “all substantial rights” to the property in question.

A sale of a copyrighted article occurs if sufficient benefits and burdens of ownership have been transferred to the buyer, taking into account all facts and circumstances. This is the same test that generally is applied to determine whether transfers of tangible personal property are sales or leases.

The source of income generated by the sale or exchange of a copyrighted article often depends upon whether the sale took place within or without the United States. The Software Regulations provide that the place of sale is determined under the “title passage rule”.

The governing regulation state that “a sale of personal property is consummated at the time when and the place where, the rights, title and interest of the seller in the property are transferred to the buyer”. The sale shall be deemed to have occurred at the time and place of passage to the buyer of beneficial ownership and the risk of loss.

As to the issue of determining the place of sale under the title passage rule, the parties in many cases can agree on where title passes for sales of inventory property generally.

 

Application of the Title Passage Rule

As described above, the source of income generated by the sale or exchange of a copyrighted article often depends upon whether the sale took place within or without the United States. The place of sale is determined under the title passage rule. The Software Regulations recognizes that typical license agreements do not refer to a transfer of property and an electronic transfer is generally not accompanied by the usual indicia of the transfer of title.

Application of the Title Passage Rule

There are important categories of copyrighted article transfers for DISC purposes: (i) a transfer of tangible property, such as a tangible medium in which the copyrighted article is embodied, and/or a hard copy of user manuals and documentation; (ii) (e.g., electronically transmitted copyrighted articles without any hard copy of user manuals and documentation). Either one of these can be the subject of a sale.

To comply with the passage of title rules, a DISC may consider language such as: Title to this computer software program, shall pass outside the United States in its agreements when tangible property is being transferred. If non tangible property is delivered, the DISC taxpayers could consider documentation for foreign users (which could be a contract to sign or terms consented to electronically) that states that the vendor’s delivery obligation shall be complete and risk of loss with respect to the copyrighted article shall pass at the time the program is copied onto the recipient’s computer at the end user’s location.

Partial Transfer of a Copyright Article: A Lease

If less than all of the benefits and burdens associated with a copyrighted article have passed to the transferee, the Software Regulations treat the transaction as a lease. Copyright articles can be leased as well as sold. Computer programs do not involve the risk of physical deterioration or physical destruction but they do have the risk of technological obsolescence. If this risk is assumed by the transferee, generally through a transaction in which the transferee makes a single payment in return for the right to use the program copy in perpetuity, then the transferee has assumed the risk of obsolescence and should be treated as the owner of the program copy.

However, if the transferee instead makes periodic payment and can cease its use of the program when it chooses, then the transferee has not assumed the relevant benefits and burdens of ownership and the transaction should be considered a lease.

Lease and Rental Source of Income

Under the Software Regulations, income derived from the rental of a copyrighted article is sourced under Section 861(a)(4) and 862(a)(4). As a general rule, rents and royalties are sourced to the place where the leased or licensed property is located, or where the lessee or licensee uses, or is entitled to use the property.

Leased property is used where it is physically located at the time of its use by the lessee. Therefore a computer program copy that is “rented” under a limited duration license should be considered to be used at the place where the computer that hosts the program is physically located while the lessee uses the program. If the copy resides on the lessee’s computer, the lessor will need to know where that computer is located in order to source its rental income.

If you have additional questions, please contact us today. Value can be lost without good legal advice.

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The Foreign Account Tax Compliance Act (FATCA)

February 9th, 2012 | Author:

Americans now required to disclose all foreign financial assets

Background

A little known new law was enacted for the year 2011 that requires, that once certain minimum amounts are exceeded, any specified person that holds any interest in a specified foreign financial asset during the taxable year to attach a statement to that person’s U.S. tax return and report information that identifies the value of those specified foreign financial assets in which the individual holds an interest. Form 8938. 1/

Specified foreign financial assets include financial accounts maintained by foreign financial institutions, as well as certain other financial assets or instruments. An asset or instrument may be a specified foreign financial asset even if the asset or instrument does not have a positive value.

A specified foreign financial asset is (i) any financial account maintained by a foreign financial institution; (ii) any stock or security issued by any person other than a United States person; (iii) any financial instrument or contract held for investment that has an issuer or counterparty that is not a United States person; and (iv) any interest in a foreign entity.

A specified person is defined as a specified individual who is a U.S. citizen, a resident alien or a nonresident who elects to be taxed as a U.S. resident filing Form 1040; and U.S. entities required to file an annual tax returns such as a 1041 (Trust and Estate), 1120 (U.S. Corporation), 1120-S and 1065 (Partnership).

A specified person that is the owner of an entity disregarded as an entity separate from its owner is treated as having an interest in any specified foreign financial assets held by the disregarded entity. In addition, a specified person that is treated as the owner of a trust or estate or any portion of a trust under certain sections of the Internal Revenue Code is treated as if that person holds an interest in any specified foreign financial assets held by the trust or estate or by the portion of the trust or estate that the specified person owns.

Interest in a Specified Foreign Financial Asset

A specified person has an interest in a specified foreign financial asset if any income, gains, losses, deductions, credits, gross proceeds, or distributions attributable to the holding or disposition of the specified foreign financial asset are or would be required to be reported, included, or otherwise reflected by the specified person on an annual return. A specified person has an interest in a specified foreign financial asset even if no income, gains, losses, deductions, credits, gross proceeds, or distributions are attributable to the holding or disposition of the specified foreign financial asset for the taxable year.

A beneficial interest in a foreign trust or a foreign estate is not a specified foreign financial asset of a specified person unless the specified person knows or has reason to know of the interest based on readily accessible information of the interest. Receipt of a distribution from the foreign trust or foreign estate is deemed for this purpose to be actual knowledge of the interest.

The Minimum Reporting Requirements.

Unmarried Taxpayer Living in the United States.

Unmarried individuals living in the U.S. have a reporting threshold only if the total value of their specified foreign financial assets is more than $50,000 on the last day of the tax year or more than $75,000 at any time during the tax year.

Married Taxpayers Filing a Joint Income Tax Return and Living in the United States.

Married persons filing a joint income tax return that do not live abroad, satisfy the reporting threshold only if the total value of their joint specified foreign financial assets are more than $100,000 on the last day of the tax year or more than $150,000 at any time during the tax year.

Married Taxpayers Filing Separate Income Tax Returns and living in the United States.

Married persons filing a separate income tax return from their spouse, living in the U.S. satisfy the reporting threshold only if the total value of each person’s specified foreign financial assets are more than $50,000 on the last day of the tax year or more than $75,000 at any time during the tax year.

Taxpayers Living Abroad.

Taxpayers whose tax home is in a foreign country that meets a presence test in that foreign country, satisfy the reporting threshold if they are not filing a joint return if the total value of their specified foreign financial assets is more than $200,000 on the last day of the tax year or more than $300,000 at any time during the tax year.

Married and file a joint income tax return satisfy the reporting threshold only if the total value of all specified foreign financial asset the couple owns is more than $400,000 on the last day of the tax year or more than $600,000 at any time during the tax year.

Penalties

There are penalties for the failure to disclose the information required to be reported. If the failure to comply continues for more than 90 days after the day on which the failure is reported to the individual, the individual must pay an additional penalty of $10,000 for each 30-day period (or fraction thereof) during which the failure to disclose continues after the expiration of the 90-day period, to a maximum of $50,000.

However, no penalty will be imposed for any failure to report that is shown to be due to reasonable cause and not due to willful neglect. But one cannot excuse the failure to disclose assets just because disclosing the information required could lead to violations of foreign laws. There also can be criminal penalties for the failure to file the report.

Helpful Definitions

Financial Account maintained by a Foreign Financial Institution

A financial account is defined as respect to any financial institutions –

  1. Any depository account maintained by such financial institution;
  2. Any custodial account maintained by such financial institution; and
  3. Any equity or debt interest in such financial institutions (other than interests which are regularly traded on an established securities market).

Any equity or debt interest which constitutes a financial account with respect to any financial institution shall be treated for purposes of this section as maintained by such financial institution.

A Foreign Financial Institution

A foreign financial institution is a financial institution that is a foreign entity that:

  1. Accepts deposits in the ordinary course of a banking or similar business;
  2. Holds financial assets for the account of others as a substantial portion of its business; or
  3. Is engaged, or holds itself out as being engaged, primarily in the business of investing, reinvesting, or trading in securities, or any other financial interest such as forward contracts or options on securities, partnership interests, or commodities

An asset held in a financial account maintained by a foreign financial institution is not required to be reported separately from the reported financial account in which the asset is held. The value of an asset held in a financial account maintained by a foreign financial institution is included in determining the maximum value of that account.

Other Financial Assets

Examples of other specified foreign financial assets include the following, if they are held for investment and not held in a financial account.

  • Stock issued by a foreign corporation.
  • A capital or profits interest in a corporation.
  • A note, bond, debenture, or other form of indebtedness issued by a foreign person.
  • An interest in a foreign trust of foreign estate.
  • An interest rate swap, currency swap, basis swap, interest rate cap, interest rate floor, commodity swap, equity swap, equity index swap, credit default swap, or similar agreement with a foreign counterparty.
  • An option or other derivative instrument with respect to any of these examples or with respect to any currency or commodity that is entered into with a foreign counterparty or issuer.

An asset is held for investment if that asset is not used in, or held for use in, the conduct of a trade or business of a specified person. Personnel who are actively involved in the conduct of the trade or business exercise significant management and control over the investment of such asset.

There are also certain Exclusions for Assets Not Subject to Reporting

These include:

  • (1) Assets such as those which specified persons, such as traders and others in the securities business use mark-to-market accounting method and
  • (2) Interests in a social security, social insurance, or other similar program of a foreign government. However, this generally does not include similar programs that are funded by the Taxpayer’s voluntary payments such as I.R.A.’s,
  • (3) Foreign assets used in a trade or business are not subject to the reportingrequirements. An asset is used in, or held for use in, the conduct of a trade or business and not held for investment if the asset is:
    • (A) Held for the principal purpose of promoting the present conduct of a trade or business.
    • (B) Acquired and held in the ordinary course of a trade or business, as, for example, in the case of an account or note receivable arising from that
    • (C) trade or business; or
    • (D) Otherwise held in a direct relationship to the trade or business.

In determining whether an asset is used in a trade or business, principal consideration will be given to whether the asset is needed in the trade or business of the specified person. An asset shall be considered needed in a trade or business, for this purpose, only if the asset is held to meet the present needs of that trade or business and not its anticipated future needs. An asset shall be considered as needed in the trade or business if, for example, the asset is held to meet the operating expenses of the trade or business.

However, stock is never considered used or held for use in a trade or business for purposes of applying this test

  • (4) Elimination of duplicate reporting of assets. . A specified person is not required to report a specified foreign financial asset if the specified person reports the asset on at least one of the following forms timely filed with the Internal Revenue Service for the taxable year. Form 3520, Form 5471, Form 8621, Form 8865, Form 8891.
  • (5) Residents of U.S. Possessions. There is also an exclusion for a specified person who is a bona fide resident of a U.S. possession. They are generally not required to report the specified foreign financial assets that are situated, sourced or reported in the Possession of which they are a bona fide resident.

Required Information

There are different disclosure requirements based upon the character of the asset.

Stocks and Securities

In the case of stock or a security, the name and address of the issuer must be supplied and information that identifies the class or issue of which the stock or security is a part.

Financial Instruments

In the case of a financial instrument or contract held for investment, information that identifies the financial instrument or contract, including the names and addresses of all issuers and counterparties

Foreign Entities

In the case of an interest in a foreign entity, information that identifies the interest, including the name and address of the entity;

The maximum value of the specified foreign financial asset during the portion of the taxable year in which the specified person has an interest in the asset will be determined by the asset class.

Depository/Custodial Accounts

In the case of a financial account that is a depository or custodial account, whether such financial account was opened or closed during the taxable year;

The date, if any, on which the specified foreign financial asset, other than a financial account that is a depository or custodial account was either acquired or disposed of (or both) during the taxable year;

Income

The amount of any income, gain, loss, deduction, or credit recognized for the taxable year with respect to the reported specified foreign financial asset, and the schedule, form, or return filed with the Internal Revenue Service on which the income, gain, loss deduction, or credit, if any, is reported or included by the specified person;

Valuation Guidelines

The value of a specified foreign financial asset must be determined (i) for purposes of determining if the aggregate value of the specified foreign financial assets in which a specified person holds an interest exceeds the minimum and (ii) whether minimum year end reporting requirements are exceeded. The value of a specified foreign financial asset for both of these purposes generally is the asset’s fair market value. The maximum value of a specified foreign financial asset generally is the asset’s highest fair market value during the taxable year.

Valuing financial accounts

The maximum value of a financial account means a reasonable estimate of the maximum value of the holdings of the financial account at any time during the taxable year. Periodic account statement provided at least annually may be relied upon for reporting a financial account’s maximum value absent actual knowledge or reason to know based on readily accessible information that the statement does not reflect a reasonable estimate of the maximum account value during the taxable year.

Valuing other specified foreign financial assets

For purposes of determining the maximum value of a specified foreign financial asset other than a financial account maintained with a foreign financial institution, a specified person may treat the asset’s fair market value on the last day during the taxable year on which the specified person has an interest in the asset as the maximum value of the asset.

Special Valuation Rules for Beneficial Interests in Foreign Trusts, Estates, Pension Plans, and Deferred Compensation Plans

The maximum value of a specified person’s interest in a foreign estate, foreign pension plan, or a foreign deferred compensation plan is the fair market value, determined as of the last day of the taxable year, of the specified person’s beneficial interest in the assets of the foreign estate, foreign pension plan or foreign deferred compensation plan.

Entities

For purposes of reporting an individual’s interest, generally a specified person is not treated as having an interest in any specified foreign financial assets held by a corporation, partnership, trust, or estate solely as a result of the specified person’s status as a shareholder, partner, or beneficiary of such entity. However, though the entity itself may be a specified person that is required to report its holdings and indirectly that of its U.S. partners, beneficiaries and shareholders.

Furthermore, a specified person that is treated as the owner of a trust or any portion of a trust under certain circumstances is treated as having an interest in any specified foreign financial assets held by the trust or the portion of the trust.

A Foreign Currency Conversion

For purposes of meeting the reporting requirements, all values denominated in a foreign currency for purposes of determining both the aggregate value of specified foreign financial assets in which a specified person holds an interest and the maximum value of the specified foreign financial asset must be converted into U.S. dollars at the taxable year-end spot rate for converting the foreign currency into U.S. dollars (that is, the rate to purchase U.S. dollars). The U.S. Treasury Department’s Financial Management Service foreign currency exchange rate is to be used to convert the value of a specified foreign financial asset into U.S. dollars.

ARTICLE REFERENCES:

1/ FATCA provides for even more financial reporting commencing in the year 2014 when all foreign financial institutions are going to be required to diligently search for and report annually to the U.S. on financial accounts held by U.S. taxpayers.

ABOUT THE AUTHOR:

Richard S. Lehman, Esq., is a graduate of Georgetown Law School and obtained his Master’s degree in taxation from New York University.

He has served as a law clerk to the Honorable William M. Fay, U.S. Tax Court and as Senior Attorney, Interpretative Division, Chief Counsel’s Office, Internal Revenue Service, Washington D.C.

Mr. Lehman has been practicing in South Florida for more than 38 years. During Mr. Lehman’s career his tax practice has caused him to be involved in an extremely wide array of commercial transactions involving an international and domestic client base. He has served clients from over 50 countries.

The video below is 1-hour in length, and very informative.

For additional assistance, please fill out the form below and Richard Lehman will contact you.

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The United States Tax Benefits Of Exporting

January 24th, 2012 | Author:

THE IC-DISC

By Richard S. Lehman, Esq
(PLEASE NOTE: The IC-DISC topic is available as a free online seminar presented by Mr. Lehman)

The business world is going to be a tough place for the American exporter in 2012. The dollar will remain strong, keeping U.S. goods high priced, trade to the Euro zone will weaken while the cheap euro makes the Euro Zone highly competitive as exporters. China will contract and desperate competitors and countries will be trying even harder to protect their own. With export profits hard to come by, U.S. taxpayers that sell, lease or license “export property” which is manufactured, produced or grown in the United States (not more than 50% of which attributable to U.S. imports), can take advantage of strong support for their export profits in the Internal Revenue Code.

Export profits can produce substantial tax benefits with little more than establishing a new corporation dedicated almost exclusively to export profits; a separate set of export books and records, and abiding by a relatively simple set of rules that govern Domestic International Sales Corporations (now known as “IC-DISC). Rather than being organized as a mere “paper” entity for receipt of commission income only, an IC-DISC can have more substance and engage in additional export-related activities such as promotional activities, thereby enhancing its income and the benefit of the advantageous tax rates to shareholders.1/

An IC-Disc is compensated by a U.S. taxpayer that manufactures, sells or licenses “export property”. Typically the U.S. taxpayer that establishes the IC-DISC will be related to the IC-DISC and even own the IC-DISC. The U.S. taxpayer agrees to pay the IC-DISC based on a Commission Agreement. A portion of the U.S. taxpayer’s export profits are paid to the IC-DISC and the payment is deducted from the profits of the U.S. manufacturer, seller or licensor. The portion of the U.S. taxpayer’s “export profits” that are paid to the IC DISC are measured under three profit scenarios. The deduction may exceed more than 50% of the U.S. Taxpayers’ export profits, depending upon gross income, profitability and costs.

In its simplest terms, the IC-DISC is a separate corporation. The income received by the DISC is not taxable to the DISC. The DISC is charged with accounting separately for a U.S. “taxpayer’s export profits” and receives more than 50% of the export profits free of any U.S. taxation.2/

The existence of the DISC will be transparent to the export company’s customers. The exporter will continue to operate its business in the same manner and its employees will continue to perform the company’s manufacturing, sales, billing, shipping and collection functions. The fact that there is a commission agreement between the exporter and the DISC will not have to be disclosed to the exporter’s customers and no documentation provided to the customers will need to indicate the existence of, or services deemed provided by the DISC.

Architects and engineers may also be surprised to learn that their services can also qualify of DISC benefits for construction projects located outside of the U.S. if professional services related to those projects can be performed in the United States.

What are the IC-DISC rules that need to be obeyed?

IC-DISC Rules

The IC-DISC must sell, lease, license or service “export property”

Export property means property:

Manufactured, produced, grown or extracted in the United States; held for sale, lease or rental, in the ordinary course of business, for use, consumption or disposition outside the United States; and Not more than 50% of the fair market value of which is attributed to articles imported into the United States.

Services Furnished by DISC

Services can also be provided by the I.C. DISC if such services are provided by the person who sold or leased the export property to which such services are related. The DISC acts as a commission agent with respect to the sale or lease of such property and with respect to such services that cannot exceed a certain amount of the value of the transaction. The service must be of the type of customarily and usually furnished with the type of transaction in the trade or business in which such sale or lease arose.

IC-DISC REQUIREMENTS

  1. A corporation taxable as a corporation, must be formed under the laws of any State or the District of Columbia to be the IC-DISC
  2. The corporation must have only one class of stock and minimum capital of $2,500. The IC-DISC shareholders may be related to the IC-DISC.
  3. The IC-DISC must take a tax election to be an IC-DISC that must be filed with the Internal Revenue Service within 90 days after the beginning of the tax year of the IC-DISC.
  4. The IC-DISC must maintain separate books and records.
  5. The IC-DISC must have at least 95% or more of its gross receipts considered to be Qualified Receipts resulting from the DISC’s export activities.Qualified export receipts of a DISC include gross receipts from the sale of export property by such DISC, or by any principal for whom the DISC acts as a commission agent. The transaction must be pursuant to the terms of a contract entered into with a purchaser by the DISC or by the principal at any time or by any other person and assigned to the DISC or the principal at any time prior to the shipment of such property to the purchaser. Any agreement, oral or written, which constitutes a contract at law, satisfies the contractual requirement of this paragraph.Qualified export receipts of a DISC include gross receipts from the lease of export property provided that the property is held by a DISC (or by a principal for whom the DISC acts as commission agent with respect to the lease) as an owner or lessee at the beginning of the term of such lease and entered into with the DISC for the DISC’S taxable year in which the term of such lease began.
  6. The IC-DISC must have at least 95% or more of its assets considered to be Qualified Export Receipts. For a corporation to qualify as a DISC, at the close if its taxable year it must have qualified export assets with an adjusted bases equal to at least 95 percent of the sum of the adjusted bases of all its assets. A qualified export asset held by a DISC is an export property that is a business asset used in the export business, export trade receivables, temporary export investments and several loans that can result from engaging in export financing techniques.

Essentially, as a practical matter, this means all IC-DISC gross receipts should be devoted almost totally to the IC-DISC operation. There is no reason to violate either of these formulas. However, there is no requirement that the IC-DISC be an actual operating company except the corporate form must be respected in all regards as with any other corporation.

“Thus the magic of the IC-DISC is to provide both tax deferral and to apply a 15% maximum dividend tax rate to profits that would otherwise be taxable in the U.S. taxpayer’s highest brackets that can range as high as 50% when city, state and federal income taxes are calculated.”

The Tax Benefits

The benefits of the IC-DISC come in two separate fashions. The IC-DISC shareholders may leave the IC-DISC profits in the IC-DISC and defer taxation until actual distribution of the profits or the IC-DISC may distribute profits to its shareholders like any other corporation. Since IC-DISC distributions are considered “qualified dividends” they are subject to a maximum tax of 15%. Thus the magic of the IC-DISC is to provide both tax deferral and to apply a 15% maximum dividend tax rate to profits that would otherwise be taxable in the U.S. taxpayer’s highest brackets that can range as high as 50% when city, state and federal income taxes are calculated.2/

Typically the IC-DISC is established, by a related company that is engaged in a United States business that includes gross revenues from both domestic and international sources. The related company’s principals will be the direct or indirect owners of the IC-DISC that may be owned directly or any transparent entity, that may be a partnership, or a disregarded entity, such as a one person limited liability company.

For the maximum tax advantage the IC-DISC shareholders should avoid double taxation by acting as individual shareholders or using disregarded entities and/or pass through entities. The IC-DISC corporation itself must be a c corporation and may not elect Sub chapter S status.

Tax Deferral

There is a cost to take advantage of the tax deferral tax benefit available using an IC-DISC. However, in today’s climate and for the foreseeable future, the cost is minimal. The IC-DISC rules provide that an “interest charge” must be calculated on IC-DISC distributions that are not paid as taxable dividends in the year earned. However, that interest charge is the same as the rates charged on one year Treasury bills that have been ranging at less than 1% per annum. Thus at this time a U.S. Taxpayer may defer the U.S. income tax on 50% or more of its export profits at a cost of less than 1% per year and then eventually distribute those export profits and their tax free earnings at the 15% U.S. dividend rate.

Major Savings

However, it is extremely important that U.S. taxpayers not be misled by the $10,000,000 annual cap on tax free income that is permitted by an IC-DISC. This $10. Million annual cap does not require the DISC pay taxes on its income of IC-DISC profits over $10.0 Million. The DISC remains tax exempt. This means that IC-DISC profits in excess of $10 Million annually will be immediately taxed to the shareholders as a DISC dividend.

Profits in excess of the $10.0 Million maximum are considered automatically annual dividends from the DISC with no deferral privileges. However, while the deferral privileges does not exist, most practitioners believe that the IC-DISC shareholders still will receive the 15% tax rate on the DISC dividends in excess of $10 Million.

The Commission Payments

The commission payments will depend upon the pricing methodology chosen by a DISC to record its share of commission income at the greater of any of the following three pricing arrangements:

Gross Receipts Method

Under the gross receipts method of pricing, the transfer price for a sale by the related supplier to the DISC is the price as a result of which the taxable income derived by the DISC from the sale will not exceed the sum of (i) 4 percent of the qualified export receipts of the DISC derived from the sale of the export property and (ii) 10 percent of the export promotion expenses of the DISC attributable to such qualified export receipts.

Taxable Income Method

Under the combined taxable income method of pricing, the transfer price for a sale by the related supplier to the DISC is the price as a result of which the taxable income derived by the DISC from the sale will not exceed the sum of (i) 50 percent of the combined taxable income of the DISC and its related supplier attributable to the qualified export receipts from such sale and (ii) 10 percent of the export promotion expenses of the DISC attributable to such qualified export receipts.

“Export promotion expenses” means those expenses incurred to advance the distribution or sale of export property for use, consumption, or distributions outside of the United States but does not include income taxes.

Arm’s Length Method

If the rules of the preceding paragraphs are inapplicable to a sale or a taxpayer does not choose to use them, the transfer price for a sale by the related supplier to the DISC is to be determined on the basis of the sale price actually charged but subject to the rules provided by the rules of sales between related parties.

Payment

The amount of a transfer price (or reasonable estimate thereof) actually charged by a related supplier to a DISC, or a sales commission (or reasonable estimate thereof) actually charged by a DISC to a related supplier, must be paid no later than 60 days following the close of the taxable year of the DISC during which the transaction occurred.

Examples

The following are examples of the 4% Percent Gross Receipts and “50-50″ Combined Taxable Income Methods of Pricing. Neither example includes any export promotion expenses.

ARTICLE REFERENCES:

  1. As will be explained later, the “IC” stands for an “interest charge”. This is a cost to be paid to the extent the Domestic International Sales Corporation does not distribute its profits to its shareholders.
  2. IC-DISC income is also typically exempt from individual state income taxes.

ABOUT THE AUTHOR:

Richard S. Lehman, Esq., is a graduate of Georgetown Law School and obtained his Master’s degree in taxation from New York University.

He has served as a law clerk to the Honorable William M. Fay, U.S. Tax Court and as Senior Attorney, Interpretative Division, Chief Counsel’s Office, Internal Revenue Service, Washington D.C.

Mr. Lehman has been practicing in South Florida for more than 37 years. During Mr. Lehman’s career his tax practice has caused him to be involved in an extremely wide array of commercial transactions involving an international and domestic client base. He has served clients from over 50 countries.

If you have additional questions - please fill out the form below.

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Just Announced - FREE U.S. TAX LAW Seminars

April 26th, 2011 | Author:

NEW U.S. TAX LAW Seminar Series: 5.5 hours FREE Continuing Education Course Credits

United States Tax Law Seminars

These seminars cover a complete range of topics dealing with legal and practical advice for foreign investors that invest in United States businesses, United States real estate and United States securities; and aliens that immigrate to the United States. This includes income, estate and gift tax planning for nonresident alien individuals and foreign entities such as foreign corporations, foreign trusts and foreign partnerships. Special sections are devoted to foreign investors in United States Real Estate, Tax Planning and Pre Immigration Tax Planning.

Also included in this group of seminars is a thorough study of the United States tax laws governing the tax deductions and tax refunds available for victims of Ponzi Schemes and other theft losses under the Internal Revenue Code Section 165. www.ustaxlawseminars.com

WATCH A SHORT OVERVIEW OF SEMINAR FORMAT:

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Taxation — Both Domestic and International

June 28th, 2010 | Author:

TAXATION both DOMESTIC AND INTERNATIONAL

Mr. Lehman’s general tax practice has consisted of a wide range of representation acting as counsel in both the criminal and civil tax areas. In the domestic tax area, he has represented clients in almost every type of commercial endeavor. This has resulted in a familiarity and use of every form of entity for tax planning purposes. This includes among others limited partnership, limited liability companies and domestic and foreign corporations and trusts.

In the criminal tax area Lehman works along side of criminal defense lawyers so that creative tax theories can be blending with the strongest defense of constitutional rights. This often results in potential criminal cases being dismissed at administrative levels.

South Florida is a major center of international trade and investment. Mr. Lehman’s international practice spans the globe. This has resulted in Lehman’s representation of foreign investors giving tax and practical advice in acquiring and selling a wide range of commercial businesses and other U.S. investment assets. This includes not only the acquisition and sale of active businesses in the U.S. but also investments in all fields of real estate including raw land, shopping centers, commercial office buildings, condominiums, residential apartments, residential homes and the like.

In addition, Mr. Lehman has provided legal advice to Americans expatriating from the U.S. and have extensively restructured many non-residents’ holdings in conjunction
with their immigration to the United States. A very unique set of tax laws applies to non-resident aliens and foreign corporations in both the income tax and estate tax areas that provides for both tax traps and successful tax planning opportunities.

He has also represented numerous Americans working and investing outside the United States taking full advantage of another unique set of tax laws. Americans investing and working outside of the United States may benefit from excluding certain income earned outside of the U.S. or deferring the taxation of such income until a later point in time. At the same time there are tax traps for American investors investing internationally that must be avoided.

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Business survival can depend on protected investments

May 27th, 2010 | Author:

By Richard S. Lehman, Esq., of Richard S. Lehman P. A.; Boca Raton, FL

In last week’s column, we established that today’s business climate is extremely treacherous for all sizes and types of business. Whether a suit is won or lost, frivolous or legitimate , there are major distractions. Time is spent defending actions, while revenue-generating activities are curtailed. Similarly, large sums of money can be spent on defense.

In the first article, we analyzed a variety of asset protection entities. In this final segment, we will look at protected forms of investment. Business owners, directors of public companies, management and individuals should consider making use of these various methods of investment as another protection against liabilities.

Exemption equals protection.

Not only can there be protection from creditors by choosing the proper entity in which to hold assets, many types of investment assets are also protected from creditors by virtue of state and federal exemptions.All states have “exemptions” to designate categories of property interests that are immune from forced sale or seizure. Florida law provides an assortment of such exemption:

  • Annuity and insurance contracts. Florida law protects the cash surrender values of life insurance policies and the proceeds of annuity contracts issued upon the lives of residents of the state. Creditors of the insured or the beneficiary cannot seize the assets unless the policies or contracts were for the benefit of the creditor.
  • Life insurance trusts. Consideration of the life insurance trust provides an asset protection opportunity that makes use of the trust concept, the exemption concept and also provides for major estate and gift tax benefits. This type of trust, formed to handle life insurance proceeds, is similar to the domestic trust described in the previous article. Asset protection may be afforded by providing limitations on the beneficiaries’ interest. Under Florida law is also protection from creditors due to the exemption, and it also provides for the estate tax-free payment of life insurance death benefits to beneficiaries.

By placing the policy in a separate irrevocable trust, rather than owning the policy, the insured retains no “incidence of ownership.” The death benefits payable from the policy will not be included in the insured’s estate. If the insured does not use a trust or another person as the owner of the policy and retains any incidence of ownership, all of the death benefits will be subject to estate taxes.

All states have exemptions to designate categories of property interests that are immune from forced sale or seizure. Florida law provides an assortment of such exemptions. Homestead and other exemptions.

  • Homestead protection. Florida provides unlimited protection for the homestead property and improvements. The limit on the size of protected property is up to one-half acre in a city or 16 acres in the country.
  • Earnings of a head of household. Florida protects compensation for personal services or labor whether denominated as wages, salary, commission or bonus. The first $500 a week of such earnings are absolutely exempt from attachment or garnishment and anything above that amount will not be subject to attachment or garnishment unless such person has agreed otherwise in writing. Wages may be protected for six months after receipt.
  • Disability insurance and disability insurance proceeds. Florida exempts disability payments from creditors, including lump sum proceeds resulting from settlement of a claim against a disability carrier.
  • Pension plans and IRA’s. These are generally protected, but bankruptcy courts have found that pensions will not be protected from creditors in the event of inappropriate compliance with tax or labor laws. Among common defects that may cause this qualification are a failure to cover all employees requiring such coverage, inappropriate investments and loans, and prohibited transactions.
  • Alimony rights. These rights are a protected asset.
  • Unemployment compensation benefit rights. As defined by Florida law, these rights are exempt from all claims and creditors.

Keep in mind that these are cursory explanations of several asset protection strategies. Business owners should realize that their assets are always at risk, so it’s worth considering these plans with a professional as a way to protect what you’ve built personally and through your business.

Originally Published: May 31, 2002 in South Florida Business Journal

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Estate Planning in a Low-Interest Environment

May 27th, 2010 | Author:

By Richard S. Lehman, Esq., of Richard S. Lehman P.A.; Boca Raton, FL

In times of low interest rates, special opportunities arise for estate planning. It is of the utmost importance that all people look at their portfolios and consider various strategies for maximizing their wealth for current and future family generations.

Most are aware of the more common tax-planning tools, such as various exclusions — for example, each person’s right to give $11,000 annually, free of gift tax, to each of any number of beneficiaries; and the right to transfer, during a lifetime, $1.5 million free of estate tax and $1 million free of gift taxes. Fewer people, however, are aware of the more sophisticated estate-planning tools that are used generally by the very wealthy in these economic times but have for years been available to all.

With that in mind, the following are several summarized tax-planning tactics that should be considered and discussed with your team of financial-planning experts.

Transfer with Retained Interests

The first estate-planning technique that accomplishes several tax purposes at the same time is known as a Transfer with Retained Interests, designed to transfer assets out of one’s estate that are likely to greatly appreciate in value in future years. Properly used, the technique should insure that the increase in value after the lifetime transfer of an asset is no longer included in one’s estate for estate tax purposes. The technique also can result in completing transfers of assets to one’s children, grandchildren and other beneficiaries at highly reduced gift tax costs.

Many of these transfers also generally insure some degree of continued control, permitting the transferor to retain a good deal of the economic benefits of assets he or she transfers. This technique is extremely valuable when interest rates are low, such as now.

Grantor Retained Annuity Trust

One of the most effective strategies in today’s low-interest-rate climate involves establishing a Grantor Retained Annuity Trust. The following are several features:

  • The original owner of the asset and creator of the trust, the Grantor, transfers an appreciating asset to an irrevocable trust and the Grantor continues to retain all or a portion of the trust’s income for his or her life or for a period of years (the “Term”).
  • At the end of the term of the annuity, the asset (the “Remainder Interest”) will pass to the Grantor’s beneficiaries. Assume that the asset will increase in value. By making a gift of the Remainder Interest, any increase in the value of the asset will pass to the beneficiary without being taxed in the Grantor’s estate. Equally as important, by making a gift only of the Remainder Interest and not of the entire ownership of the asset, the valuation of the gift, for gift tax purposes, is greatly reduced because there is a delay in the beneficiaries’ enjoyment of the gift during the Term.

To understand why the Grantor Retained Annuity Trust is beneficial at low interest rates, assume the following:

  • The Grantor establishes an Irrevocable Trust for his children and transfers an asset worth $1 million that will pay an income of 6 percent per year and will double in value in 10 years.
  • The Grantor retains an interest in all of the trust’s income for 10 years at $60,000 per year, consuming all the trust income annually.
  • At the end of the 10-year period, the Grantor’s beneficiaries own the asset.

To determine the value of the taxable gift of the Remainder Interest the IRS uses a fixed formula tied directly to the prevailing interest rates. This formula applies to all transactions and does not take into account the actual income produced by an asset in trust. Since the interest rates are so low today, the IRS uses a valuation formula that assumes the Irrevocable Trust will provide an annual return of only 4.2 percent, or $42,000 per year. However, the Irrevocable Trust earns $60,000 per year, to be paid to the Grantor.

The IRS rule assumes that the Trust will produce only $42,000 in income. The IRS formula to determine the value of the Remainder Interest also assumes that the balance of the $60,000 to be paid to the Grantor, equal to $18,000 per year, must be taken from the Irrevocable Trust’s $1,000,000 principal each year.

Even though the Irrevocable Trust provides $60,000 a year in income, under these IRS assumptions the value of the taxable gift of the Remainder Interest that the Grantor has given the children 10 years from now is reduced (1) to reflect that the gift will not be received for a period of 10 years, and (2) because of this presumed invasion of principal, equal to $18,000 annually.

Thus, for gift tax purposes, the Remainder Interest will pass to the children when the term of the annuity ends in 10 years and it will be valued as a small percent of the Trust’s value, subject to only a small gift tax at the time of the gift. When the term ends after 10 years, the asset may continue to be held in trust for the children’s benefit.

Assuming the facts above, the IRS formula says that the gift now of the Remainder Interest to the children of this $1 million asset is a taxable gift equal to only $518,158. The asset is transferred to an Irrevocable Trust at a value, for gift tax purposes, of $518,158. At the end of the Grantor’s annuity term, the appreciated asset, with a value of $2 million, will pass free of any additional gift or estate tax, since it was all given as a gift 10 years ago. At a 48 percent estate or gift tax rate, there has been a savings of $740,921 in taxes, calculated as follows:

  • Property Value at Termination of Annuity $2,000,000
  • Taxable Gift — Present Value of Remainder ( 518,158)
  • Tax-Free Portion of Gift to Children $1,481,842
  • Potential Estate Tax Savings @ 48% $711,284

There are, however, certain disadvantages of utilizing the Grantor Retained Annuity Trust. Most important of all, if you die during the term of the annuity, the value of the asset or some portion thereof will be included in your estate for estate tax purposes, and none or only a portion of the tax benefits sought by using a Grantor Retained Annuity Trust will result.

Several techniques have been developed that will ameliorate the consequences of dying during the term of the annuity.

Charitable Lead Trust

A Charitable Lead Trust can provide a long-term economic advantage to the Grantor of the Trust. It can accomplish these tax and economic benefits while permitting the Grantor to endow charitable causes. The Charitable Lead Trust is used generally to leave appreciating assets to one’s beneficiaries at significantly reduced estate and gift tax rates, the way the Grantor Retained Annuity Trust does. The Charitable Lead Trust also has special tax advantages in the current climate of low interest rates.

A Charitable Lead Trust is formed by contributing an asset to a trust that pays income to qualified charities for a number of years, after which time the charity’s rights to the income cease and the property is owned by the Grantor’s beneficiaries.

Like the Grantor Retained Annuity Trust, the principal advantage of a Charitable Lead Trust is that it permits a donor to give a Remainder Interest in property to a family member while paying little or no gift or estate tax. Generally, the Grantor does not receive an income tax charitable deduction. However, the income of the Charitable Lead Trust is not included in the donor’s income if it is paid to the charitable beneficiary. Furthermore, the donor will receive a gift tax deduction for the value of the charity’s interest.

The Charitable Lead Trust works best with an asset that will appreciate significantly, since the appreciation in value of the trust principal, which ultimately will belong to the beneficiaries as outright owners, will pass free of estate and gift tax.

Valuation Reductions

A tax-planning concept not necessarily related to low interest rates is the technique of assuring the lowest value for tax purposes of any asset transferred by you to a beneficiary, either as a sale, as a gift (gift tax) or at death (estate tax). The gift and estate taxes are both taxes on the transfer of wealth and are measured by the value of the transferred asset. An asset that can be transferred at a legally lower value rather than higher value can result in a substantial saving.

One example of this can be found in the dual ownership of an asset. A piece of real estate (the “Real Estate”) owned equally by two people as tenants in common might have a sale value of $1 million. However, because each owner owns only 50 percent of the Real Estate, the value of each owner’s separate interest is reduced (for estate and gift tax purposes) to a value that is less than one half of the Real Estate’s full appraised fair market value.

This is because each owner’s 50 percent interest has impediments that affect its value. A buyer for one owner’s share would have to deal with the second owner’s desires for the Real Estate that may be different from those of the potential buyer. The market for a buyer at the full value of the Real Estate is going to be reduced when the seller is selling only partial and not total ownership of an asset.

The Internal Revenue Code recognizes this practicality and for gift or estate tax purposes provides for a “valuation reduction” for the impediments of partial interests. For gift tax purposes, the value of a gift of the 50 percent ownership interest might be only $300,000

A more sophisticated version of obtaining a valuation deduction is the use of an entity known as the Family Limited Partnership (the “Partnership”). A family asset such as the Real Estate can be contributed to the Partnership that is owned and controlled by the contributor and/or the contributor’s family, with family members having differing voting and economic interests in the Partnership. Once the Real Estate is owned by the Partnership, each of the family members then owns a partial interest in the Partnership and will not directly own the Real Estate.

Therefore, a gift of 50 percent interest in a Partnership that owns a $1 million piece of Real Estate may be a gift valued at $300,000 and not $500,000.

The Partnership (or a Limited Liability Company) is often the preferred method of transferring partial ownership interests. This is because not only does it achieve the estate or gift tax valuation reduction but it also accomplishes many other aims. The Partnership provides the transferor with a method of continuing to control and benefit economically from the assets without assuming any personal liability.

In addition, the Partnership provides for significant asset protection for its partners, making it more difficult for creditors of the owner to gain control of the full value of Partnership assets. A discussion of the Partnership’s asset-protection qualities, however, is beyond the scope of this article.

Private Foundation

A completely different estate-planning tool is forming a Private Charitable Foundation (the “Foundation”).

This technique does not allow one to leave more property to heirs and beneficiaries at lower tax rates. It does, however, permit a person to create a lasting charitable legacy that the person and the person’s family continue to control and finance with funds that are deductible for income and estate tax purposes. In addition to accomplishing this charitable purpose, the Foundation can provide an income stream to beneficiaries in the form of board member compensation.

A charitable foundation is generally formed as a non-profit corporation that has a board of directors or trustees and officers. The Foundation can be established during a person’s life, and at the person’s death the Foundation is subject to a set of compliance rules to insure that its funds are being distributed and used for charitable purposes.

This article is intended to make high-net-worth individuals aware of a variety of strategies to preserve assets and limit tax liability. Keep in mind that these strategies are complex and should never be implemented without the assistance and guidance of an attorney.

Richard S. Lehman is a principal in the Boca Raton-based law firm of Richard S. Lehman and Associates, P.A. The firm specializes in tax law, estate and asset protection planning, and international law.

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