United States

Tax Changes Affect Value Chain Structures

May 31, 2018
From the KPMG TaxWatch

April 26, 2018 | Recap of Bloomberg Tax hosted webinar sponsored by KPMG LLP

With the new U.S. tax law in place, companies have important decisions to make regarding the location of intellectual property (IP), such as whether to onshore IP and how onshoring may affect operating models.

The new tax laws are specific to the United States, but companies with international operations should continue to think in a global context. While the law attempts to attract new investment to the United States through a lower overall corporate rate and preferred regime for foreign-derived intangible income, the choice of whether to onshore IP is not as easy as it first seems.

“When tax reform was announced, many people had a knee-jerk reaction that said, ‘We need to bring everything onshore because the U.S. just significantly reduced its rate,’” said Steven Davis, Value Chain Management/International Tax principal at KPMG LLP (KPMG). “But there are certain situations where there may still be a benefit of keeping an offshore structure in place.”

One important consideration is how onshoring will affect operating models, particularly if an offshore structure yields cost savings and operational efficiencies. For example, onshoring could create incremental operational costs relating to, for example, unwinding business agreements, closing facilities, paying severance, and realigning the supply chain. This analysis is not always straightforward because while the U.S. tax law has changed, businesses have not.

There may also be incremental tax costs when onshoring, such as potential foreign and U.S. taxes on asset transfers, tax clawback provisions, and any penalties under foreign tax rulings and holidays.

From this viewpoint, foreign locations may remain beneficial to U.S. companies, from both tax and operational perspectives. One specific area where U.S. companies might still benefit from offshore structures relates to procurement.

At the same time, the new tax law makes the United States a more viable location for the IP of not only U.S. multinationals but also foreign companies.

“What is interesting about U.S. tax reform is that it altered the landscape for foreign-parented or inbound companies considering investments in the United States in addition to U.S.-based multinationals,” said John Karasek, Value Chain Management/International Tax director at KPMG. “It puts the United States on a more equal footing with other jurisdictions for foreign-parented investment.”

But there are many variables within the new tax rules themselves that U.S. multinationals and foreign-parented companies must also consider in determining whether to onshore IP. Limitations on interest deductibility are going to be a game-changer for U.S. multinationals and foreign-parented entities that invest in the United States. Two changes are particularly significant: a limitation on the deductibility of interest in excess of 30 percent of earnings before interest, taxes, depreciation, and amortization, and the disallowance of interest paid or accrued pursuant to a hybrid arrangement.

In addition, understanding the new base erosion and anti-abuse tax, global intangible low-taxed income, and foreign-derived intangible income rules—new concepts for businesses and tax advisers—will require diligent modeling. When analyzing structures and the possible impact of these new rules, it is important that U.S. multinationals also remember the legacy tax rules, such as the subpart F income rules and U.S. foreign tax credit rules, to name a few.

So how will all of these tax changes affect value chains?

Companies will be most successful if they simultaneously consider both the business and tax drivers in their operating model. Any strategy, or change in strategy, should easily integrate corporate strategy, operations, and tax. The decision to onshore will affect all.

“There is no clear winner,” Davis said. “The new law does not say ‘absolutely bring everything onshore.’ Analysis has to be undertaken to evaluate that.”

The bottom line is that changes businesses make in reaction to the new tax rules will have effects that may be difficult to predict without careful analysis.

“You do not want tax to break the business,” Davis said. “Any changes to the operating model arising from changes in the tax law will have business implications, and they should be thought through holistically and on an integrated basis.”

To view a replay of the webinar, click here

This article represents the views of the authors only, and does not necessarily represent the views or professional advice of KPMG LLP.
The following information is not intended to be “written advice concerning one or more Federal tax matters” subject to the requirements of section 10.37(a)(2) of Treasury Department Circular 230.
The information contained herein is of a general nature and based on authorities that are subject to change. Applicability of the information to specific situations should be determined through consultation with your tax adviser

Value Chain Management at KPMG

KPMG’s Value Chain Management services help companies enhance their value and secure competitive advantage by achieving supply chain and operating model efficiencies. Our Value Chain Management services are led by an integrated team of professionals from our Advisory and Tax practices with years of combined operations experience. Our Value Chain Management Center of Excellence combines these cross-functional teams, technology, and process accelerators to help companies execute on growth opportunities, reduce cost and risk, enhance return on investment, and drive efficiencies across operations.