Insights Vol. 2 No. 2: Updates & Other Tidbits

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BUSINESSMAN PLEADS GUILTY TO CONCEALING $8.4 MILLION

A Connecticut business executive, George Landegger, pled guilty to willfully failing to report $8.4 million held in Swiss bank accounts to the I.R.S. During the early 2000’s until 2010, Landegger maintained undeclared accounts which reached a maximum value of over $8.4 million at an unidentified Swiss bank.

While Landegger’s defense attorney confirmed that Landegger has not been accepted to the Offshore Voluntary Disclosure Program (“O.V.D.P.”), Landegger, according to the prosecutors, repeatedly rejected the possibility of disclosing his undeclared accounts to the I.R.S. through the O.V.D.P. and instead proactively took steps to conceal his accounts. Landegger held his undeclared accounts in a sham entity formed by a Swiss lawyer under the laws of Liechtenstein. In August 2013, the Swiss lawyer pled guilty to tax fraud conspiracy charges and has been cooperating with prosecutors.

Landegger agreed to pay a civil penalty of over $4.2 million and more than $71,000 in back taxes as part of his plea, entered on January 15, 2015. Landegger’s sentencing will be held May 12. He faces a maximum sentence of five years in prison. In his statement, I.R.S. Acting Special Agent-in-Charge Thomas E. Bishop stressed that uncovering hidden offshore accounts and income is the Service’s top priority and that it will continue working with the Department of Justice to do so. This case illustrustrates the importance of a timely O.V.D.P. submission.

OBAMA PROPOSES INCREASE IN CAPITAL GAINS TAX, ELIMINATION OF STEPPED-UP BASIS ON INHERITED ASSETS

President Obama has proposed a 28% tax rate on capital gains for couples with $500,000 in annual income and eliminating the stepped-up basis on inherited investments. Obama believes that these tax increases will help to pay for expanded benefits for middle- and low-income households. Congressional Republicans have indicated that they would not support Obama’s proposal.

Insights Vol. 2 No. 2: F.A.T.C.A. 24/7

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GLOBAL TAX TRANSPARENCY IS RISING

The Foreign Account Tax Compliance Act (“F.A.T.C.A.”) enacted in 2010 has been the driving force and the primary impetus for global tax transparency across borders. It has led to a ginormous administrative challenge for banks and other financial institutions as well as withholding agents in 2015. The O.E.C.D.’s recent release of the common reporting standard has led Treasury Department officials to view it as “the multilateralization of F.A.T.C.A.”

The U.S. has negotiated more than 100 Intergovernmental Agreements (“I.G.A.’s”) with nations across the globe to implement F.A.T.C.A and allow tax information to be shared between governments, which has set the stage for discussion for the onset of global exchange of tax information. More than 50 I.G.A.’s had already been signed and the remainder are treated as in effect and should be signed soon.

I.G.A. Challenge

The I.G.A.’s represent a growing trend in global tax transparency, though implementation has posed a challenge to some nations. Implementing an I.G.A. may require changes to local legislation, such as approving actions that are required to be taken under the I.G.A. and thus essentially making F.A.T.C.A. a part of the law of that country. The Internal Revenue service (“I.R.S.”) said in December 2014 that jurisdictions with I.G.A.’s treated as agreed-in-substance will have more time to get the pacts signed if they can demonstrate “firm resolve” to finalize them, which is subject to a monthly review. Given the uncertainty of whether all agreed-in-substance I.G.A.’s will eventually be signed, and what the language of the signed I.G.A. will provide, 2015 will pose a growing concern for foreign financial institutions (“F.F.I.’s”), who are required to navigate multinational F.A.T.C.A. compliance, and for banks, who must put new procedures in place.

Corporate Matters: Limited Liability Company Agreements

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In a previous issue, we discussed shareholder agreements and set out items that one should look for in such an agreement. A related topic, but one with subtle differences – particularly on the tax side – concerns the agreements used to govern the management and operation of limited liability companies. In the Delaware Limited Liability Company Act, these agreements are referred to as “limited liability company agreements,” and in the New York Limited Liability Company Law, they are referred to as “operating agreements.” In practice, however, the terms are used interchangeably. For purposes of this article, we will use limited liability company agreement (“L.L.C. Agreement”), as Delaware is the state most frequently used for limited liability company formation.

STATE REQUIREMENTS

Although many states do not require a limited liability company to have an executed L.L.C. Agreement, it is prudent to outline the internal governance procedures of the entity in a legal document. There really is no reason why the members of a limited liability company should not have a functioning governing document. An L.L.C. Agreement does not necessarily have to be a long or complicated document; it will allow you to effectively structure your financial and working relationship with your co-owners in a way that is suited to the type of business you are engaged in. Furthermore, having an agreement will help protect your limited liability status, particularly for single-member limited liability companies, as well as prevent management disagreements and ensure that the business is governed by rules of your making, rather than as stipulated by a particular state statute.

Care should be taken in drafting the agreement, however, as although many statutes provide a lot of discretion for members of a limited liability company to define the terms of their relationship – state statutes contain fundamental governing provisions that members of a limited liability company can contract out of – courts have relied on the plain language contained in the contracts and have resisted creating ambiguities based on extrinsic evidence.

Tax 101: Understanding U.S. Taxation of Foreign Investment in Real Property – Part III

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INTRODUCTION

This is the final article in a three-part series that explains U.S. taxation under the Foreign Investment in Real Property Tax Act of 1980 (“F.I.R.P.T.A.”). This article looks at certain planning options available to taxpayers and the tax consequences of each.

These planning structures aim to mitigate taxation by addressing several different taxable areas of the transaction. They work to avoid gift and estate taxes, and double taxation of cross-border events and corporate earnings, while simultaneously striving for preferential treatment (e.g., long-term capital gains treatment), as well as limiting over-withholding, contact with the U.S. tax system, and liability. Often, such structures are helpful in facilitating inter-family transfers and preserving the confidentiality of the persons involved.

PRE-PLANNING

As with everything else, planning can go a long way when it comes to maximizing U.S. real estate investments. Here are a few questions to ask:

Investor Background

1. Where is the investor located?
2. Where is the investment located?
3. What kind of business is the investor engaged in?

Improving Dispute Resolution: The World of B.E.P.S.

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The Discussion Draft on Action plan 14 (the “Draft”) received an overwhelming response. On January 19, 2015, the O.E.C.D. published over 400 pages of comments on how to make dispute resolution mechanisms more effective.

Many believe that as a result of the B.E.P.S. program, the number of treaty-related tax disputes will increase. To accommodate this surge in tax cases, it is crucial to develop an effective dispute resolution mechanism that will enhance cross-border trade.

The Draft reflects a lack of consensus regarding the Mutual Agreement Procedure (“M.A.P.”). Most of the comments support creating a M.A.P. that facilitates final and binding decisions within a set timeframe. It is seen as a step towards improving the efficiency and effectiveness of the B.E.P.S. project as a whole. Creating an efficient M.A.P. will demonstrate the O.E.C.D.’s commitment to creating a mechanism that will provide progress.

Making the M.A.P. mandatory may not be enough, as other issues come into play. Here is a sampling of comments that appear in the 400 pages that were released:

• The fact that the initiative in solving the dispute remains with the Contracting States leaves the taxpayer with a limited role. As a result, the opportunity of having a smoothly functioning M.A.P. with taxpayer input bows to need protecting a States’ right to tax.
• The Draft pointed out that a taxpayer should not have an active role in the M.A.P. This is rooted in the belief that the involvement of the taxpayer will result in a lengthier process, which is more costly to the Contracting States. This observation may not be correct in all cases; the involvement of a taxpayer may motivate the Competent Authorities to promptly reach a good-faith agreement at an accelerated pace.
• Competent Authorities initiate M.A.P. with a belief in the validity of their position. Believing in the justification of their position will make it hard for a Competent Authority to concede. As a result, the Competent Authorities may have difficulty in preserving an atmosphere necessary to reach a solution through reconciliation.

Follow-Up Draft of Report on Action 6 (Treaty Abuse) and Public Comments Released

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Comments on the O.E.C.D.’s public discussion draft to the follow-up work on B.E.P.S. Action 6 (the “Follow-Up Draft”) were released on January 12, 2015. Action 6 of the B.E.P.S. Action Plan focuses on preventing treaty abuse and treaty shopping, which the O.E.C.D. has identified as being one of the most important sources of B.E.P.S. concerns.

The Follow-Up Draft modifies the “Report on Action 6 (Prevent the granting of treaty benefits in appropriate circumstances)” and identifies 20 issues on which interested parties may provide comments. It focuses on matters related to the application of the limitation on benefits (“L.O.B.”) rule and principal purpose test (“P.P.T.”) as well as the treaty entitlement of collective investment vehicles (“C.I.V.’s”) and non-C.I.V. funds. The 20 issues identified by the Follow-Up Draft and addressed in the comments are as follows:

Issues Related to the L.O.B. Provision

• C.I.V.’s: application of the L.O.B. and treaty entitlement,
• Non-C.I.V. funds: application of the L.O.B. and treaty entitlement,
• Commentary on the discretionary relief provision of the L.O.B. rule,
• Alternative L.O.B. provisions for E.U. countries,
• Requirement that each intermediate owner be a resident of either Contracting State,
• Issues related to the derivative benefit provision,
• Provisions dealing with “dual-listed company arrangements,”
• Timing issues related to the various provisions of the L.O.B. rule,
• Conditions for the application of the provision on publicly-listed entities, and
• Clarification of the “active business” provision.

U.S. Residency Certification: Pitfalls & Considerations

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INTRODUCTION

Income from sources within one country paid to residents of other countries often is subject to withholding tax in the source country at a rate that is set by the source country’s internal law. The withholding tax rate can be reduced or eliminated if (1) an income tax treaty exists between the source country and the residence country and (2) the taxpayer is a resident of that second country for purposes of the treaty. This article explains how a U.S. resident taxpayer demonstrates that residence classification in order to claim benefits under an income tax treaty.

FORM 6166

For U.S. residents with non-U.S. source income, proving residency in order to obtain an income tax treaty is accomplished by obtaining a Residency Certificate from the I.R.S. This document certifies that the taxpayer is a resident of the U.S. for Federal income tax purposes. The certification is provided on Form 6166, which certifies to the withholding agent that for a specific year, the taxpayer was a resident of the U.S. for U.S. tax purposes. In the case of a fiscally transparent entity, Form 6166 will certify that the entity, when required, filed an information return and its partners, members, owners, or beneficiaries filed income tax returns as residents of the U.S. As partnerships (including L.L.C.’s treated as partnerships) and disregarded entities are not considered U.S. residents within the meaning of the residence article of most U.S. income tax treaties. As a result, the Form 6166 that is issued by the I.R.S. to will include a list of U.S. resident partners, members or owners. Each person’s ownership percentage does not accompany the names on the list, as with limited exception, the I.R.S. does not have that information.

The Future of Ireland as a Place to Carry On Business in Light of Recent E.U. & O.E.C.D. Initiatives

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INTRODUCTION

Ireland has long been established as the onshore location of choice for the world’s leading multinational enterprises (“M.N.E.’s”). Although Ireland’s attractiveness as a location for foreign direct investment is based on a number of factors, the low corporate tax rate of 12.5% is crucial.

Ireland’s corporate tax regime has received persistent and pervasive scrutiny from international media in recent times, focusing on topics such as the “Double Irish,” the O.E.C.D. B.E.P.S. initiative, and the Apple investigation. What must not be forgotten in the midst of such coverage is that Ireland has nothing to hide and nothing to fear from any of the above issues. Ireland is a small jurisdiction, and as far back as the 1950’s, the cornerstone of the economy has been foreign direct investment (“F.D.I.”).

Ireland makes no secret of its wish to compete with other jurisdictions for F.D.I., and its highly competitive corporate tax regime, including the 12.5% tax rate, forms part of a broader strategy that allows Ireland to “play to win.”

This article will discuss some of the main O.E.C.D. and E.U. initiatives impacting Ireland and the effects such initiatives are likely to have on Ireland and the M.N.E.’s which are based here.

Deoffshorization in Russia: C.F.C. Legislation Comes into Effect

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Federal law No. 376 of November 24, 2014, On Amendments to Part One and Part Two of the Tax Code of the Russian Federation (concerning the taxation of controlled foreign companies and foreign organizations), and commonly referred to as the “C.F.C. Law,” came into force on January 1, 2015. It marks the beginning of deoffshorization of the Russian economy and introduces entirely new tax rules for Russian businesses having affiliates based outside Russia.

The C.F.C. Law introduces the following three new legal concepts, previously nonexistent in Russian tax legislation:

• Controlled foreign company (“C.F.C.”),
• Russian tax residence for foreign companies, and
• Beneficial owner of income.

The C.F.C. Law establishes the obligation of taxpayers to notify the tax authorities of their participation in foreign entities. It also establishes rules for computing and taxing C.F.C. profit and share transactions of companies that own real estate in Russia. It provides for recognition of foreign non-corporate structures (such as trusts, private foundations, partnerships, etc.) as separate taxpayers.

Following the O.E.C.D. lead in the B.E.P.S. proposals, these amendments have two broad goals: (i) they ensure business transparency and (ii) they combat the use of low-tax jurisdictions to obtain unjustified tax benefits.

CONTROLLED FOREIGN COMPANIES

A controlled foreign company is a foreign entity (or non-corporate structure) that is:

1. Not a tax resident of the Russian Federation and
2. Controlled by Russian tax residents, either legal entities or individuals (“Controlling Persons”).

Insights Vol. 2 No. 1: Updates & Other Tidbits

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TAX EVASION INDIAN STYLE: CRIMINAL OR CIVIL OFFENSE?

Judicial authorities in India are recommending that the country adopt a similar position as the United States with respect to offshore bank accounts. While investigating the “black money” held in undeclared Swiss bank accounts by 628 wealthy Indians, two of the judges recommended that tax evasion should constitute a criminal offense and not simply a civil one.

The scandal has been at the forefront of both political discussion and legal debate since there is a fine line that is being straddled between disclosing and punishing these tax evaders versus violating the confidentiality clause from the Indian-Swiss tax treaty. According to the treaty, these account names can only be revealed once charges identifying the specific individual have been filed.

In India, “black money” has always been an obstacle to tax collection. Black money constitutes undeclared income that has been “hidden,” profits from the undervaluation of exports, and earnings from fake invoices or unaccounted-for goods. Black money not only affects the national treasury, but has fueled corruption, too. According to the judges, classifying tax evasion as a criminal offense, and dealing with these lawbreakers more strictly should serve as a deterrent.

HAND IT OVER, MICROSOFT?

In conjunction with its audit of Microsoft’s cost-sharing transfer pricing methods for the 2004-2006 tax years, the I.R.S. has filed a petition for enforcement of an issued summons for 50 types of documents, including those relating to marketing, R&D, financial projections, revenue targets, employees, studies, and surveys.

Insights Vol. 2 No. 1: F.A.T.C.A. 24/7

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IN-SUBSTANCE I.G.A. JURISDICTION STATUS EXTENDED & AFFECTED F.F.I.’S MUST OBTAIN G.I.I.N.’S

Foreign financial institutions (“F.F.I.’s”) that are based in jurisdictions that have (or are treated as having) entered into a Model 1 Intergovernmental Agreement (“I.G.A.”) with the U.S. must register and obtain a Global Intermediary Identification Number (“G.I.I.N.”) as part of the process to properly certify its status as an F.F.I. that complies with F.A.T.C.A. Withholding for residents of Model 1 jurisdictions who do not comply with F.A.T.C.A. started on January 1, 2015.

Jurisdictions which are treated as having entered into a Model 1 I.G.A. include countries which have not yet signed, but have reached an agreement in principle to sign, a Model 1 I.G.A. Those countries are referred to as having an “in-substance I.G.A.” with the U.S. In early 2014, the I.R.S. announced that such in-substance I.G.A.’s can be treated as in effect and relied upon through the end of 2014. The I.R.S. F.A.T.C.A. webpage has a list of these in-substance I.G.A.’s. Announcement 2014- 38 provides that a jurisdiction that is treated as if it has an I.G.A. in effect (i.e., an in-substance I.G.A. country) but that has not yet signed an I.G.A. retains such status beyond December 31, 2014, provided that the jurisdiction continues to demonstrate firm resolve to sign the I.G.A. that was agreed in substance.

Announcement 2014-38 does not change the F.A.T.C.A. requirements relating to payments made on or after January 1, 2015. Therefore, F.F.I.’s subject to an in-substance I.G.A. will still need to meet the registration requirements and all due diligence and reporting requirements under F.A.T.C.A. to avoid withholding on payments received starting January 1, 2015.

F.A.T.C.A. INTERNATIONAL DATA EXCHANGE SERVICE WEB PAGES

The I.R.S. has added an additional web page to the F.A.T.C.A. International Data Exchange Service (“I.D.E.S.”). The I.D.E.S. system allows for the U.S. to securely exchange data with foreign tax authorities and F.F.I.’s. The I.D.E.S. enrollment process may be different based on the relevant I.G.A., but will generally entail the following steps:

1. Create a sender payload;
2. Encrypt an A.E.S. key;
3. Create a metadata file; and
4. Create a transmission archive.

Corporate Matters: Is Your Deal Safe? How the F.C.P.A. Affects Mergers & Acquisitions

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Foreign-based companies that do not do business in the United States might understandably ask how the Foreign Corrupt Practices Act (“F.C.P.A.”) can impact them. The answer is unexpectedly and profoundly – if the foreign company becomes an acquisition target of a U.S. company.

As 2015 begins, it is no longer news to anyone that a U.S. company doing business abroad must have a robust anti-corruption and anti-fraud compliance program. An effective compliance program can prevent F.C.P.A. problems from arising or, if such problems do arise, reduce a company’s penalties. It is equally important to remember that the F.C.P.A. can have as significant an impact on a company’s merger and acquisition transactions as it can on its everyday operations. For that reason, a foreign company looking to partner with, or be acquired by, a U.S.-based entity, must make sure that its conduct does not adversely affect or jeopardize such efforts. Recent developments in 2014, as well as past history, illustrate this point.

The F.C.P.A. plays a significant role in mergers and acquisitions. An acquiring company is expected to conduct due diligence to ascertain the acquired entity’s F.C.P.A. compliance. If in the course of that due diligence, the acquiring company uncovers violations by the entity to be acquired, it is expected to disclose them and remedy them. Otherwise, it risks F.C.P.A. liability of its own. In guidance issued in 2012, the D.O.J. warned:

[A] company that does not perform adequate FCPA due diligence prior to a merger or acquisition may face both legal and business risks. Perhaps most commonly, inadequate due diligence can allow a course of bribery to continue—with all the attendant harms to a business’s profitability and reputation, as well as potential civil and criminal liability.

B.E.P.S. Action 14: Make Dispute Resolution Mechanisms More Effective

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INTRODUCTION

The O.E.C.D. has continued to publish discussion drafts under its 15-part action plan (the “B.E.P.S. Action Plan”) for combatting base erosion and profit shifting (“B.E.P.S.”), with Action 14 being the most unique.

Action 14, entitled “Make Dispute Resolution Mechanisms More Effective,” provides as follows:

Develop solutions to address obstacles that prevent countries from solving treaty-related disputes under MAP, including the absence of arbitration provisions in most treaties and the fact that access to MAP and arbitration may be denied in certain cases.

While most components of the B.E.P.S. Action Plan address the problems caused by base erosion and profit shifting, the recently proposed discussion draft for Action 14 (“Discussion Draft” or “Draft”) addresses the mutual agreement procedures (“M.A.P.”) used to resolve treaty-related disputes. Action 14 addresses the current obstacles faced by taxpayers seeking M.A.P. relief to avoid economic double taxation and provides suggestions as to how to revise provisions in order to improve the integration of M.A.P. dispute resolution mechanisms. The O.E.C.D. describes it as a unique opportunity to overcome traditional obstacles and to provide effective relief through M.A.P. The Discussion Draft proposes complementary solutions that are intended to have a practical and measurable impact, rather than merely providing additional guidance which may not be followed.

B.E.P.S. Action 10 - Part II: The Transfer Pricing Aspects of Cross-Border Commodity Transactions

Read Publication The discussion draft on Action 10 (the “Discussion Draft”) deals with transfer pricing issues in relation to commodities transactions and the potential for Base Erosion and Profit Shifting (“B.E.P.S.”). The commodity sector constitutes major economic activity for developing countries and provides both employment and government revenue.

In seeking to create clear guidance on the application of transfer pricing rules to commodity transactions, the Discussion Draft identifies several problems and policy challenges and seeks to establish a transfer pricing outcome that is in line with value creation.

B.E.P.S Action 10 - Part I: Profit Split Method in the Context of Global Value Chains

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INTRODUCTION

There has been another release on Base Erosion and Profit Shifting (“B.E.P.S.”) deliverables. B.E.P.S. refers to the tax planning that moves profits to a low-tax jurisdiction or a jurisdiction that allows a taxpayer to exploit gaps in tax rules. These deliverables have been developed to ensure the coherence of taxation at the international level. The aim of these deliverables is to eliminate double non-taxation. The measures have been developed throughout 2014, and they will be combined with the work that will be released in 2015.

In the December 16th release on Action 10 (the “Discussion Draft” or “Draft”), Working Party No. 6 on the Taxation of Multinational Enterprises (“M.N.E.’s.”) released various factual scenarios, posed questions and invited affected persons to suggest answers. The goals of the Draft are to assure that transfer pricing outcomes are in line with value creation and to determine whether it is more appropriate to apply the profit split method in some circumstance instead of a one-sided transfer pricing method.

RELEVANT ISSUES

The Draft identifies relevant issues in the posed scenarios, asks questions, and invites commentary as follows.

Value Chains

The term “global value chain” describes a wide range of activity, from the consumption of the product to the end use and beyond. Therefore, one particular method of transfer pricing may not be appropriate.