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  • 09 Apr 2018 by Abdelhak Benkerroum

    It is said that in the West everything is easy, but nothing is possible. Whereas in China nothing is easy, but everything is possible. Those who have been doing business in or with China understand this maxim well. They also understand that in Chinese society, the personal, professional and political spheres overlap. Examples abound of businesses that have failed or succeeded in China depending on their level of understanding of this reality. Google’s attempts to make inroads in the Chinese market are a case in point. After years of struggles, its CEO Eric Schmidt stated “China is a nation with a five-thousand-year history. That could indicate the duration for our patience.” Given the non-confrontational nature of the Chinese culture, messages are never communicated bluntly, but through hints. Because I lived in China for years, I got into the habit of interpreting statements from different angles. While Mr. Schmidt’s statement could be interpreted differently depending on the circumstances, it is clear that it highlights the fact that there are some things that just take time to happen in China. One of those things is building a good relationship with the other party. It is a commonly held view among foreigners that building long lasting relationships with the Chinese party is a pre-requisite to getting anything done. In the Chinese culture, that process often takes place around a tea set or a dinner table.

    It is customary to be invited by a Chinese partner to drink tea. Chinese believe it’s better to be deprived of food for three days than tea for one. This emphasizes the tea drinking process as a ritual through which some aspects of the Chinese culture are articulated. Far from being a mundane ceremony, it is an occasion for the Chinese party to size up the other party. When drinking tea, the other party is often asked about their marital status, personal achievements, plans for the future, experience with China, culinary preferences…etc. That exchange is meant to establish where does the guest stand. Is he/she someone that could be trusted or not? Once answers to those questions are established, the Chinese party might start invoking business ideas. If you ask a Chinese businessman whether he would like to do business with someone who is competent or someone who can be trusted, he would choose the latter. The ideal match would be someone who can get the job done, and at the same time could be trusted. But with a population of 1.4 billion people, it might take some time to find that match. And time is a valuable commodity. Once the Chinese party starts transitioning towards the business talk, all topics will be addressed in broad strokes. At this stage, everything will seem opaque to the foreigner businessman who has his mental boxes and checklists. The Chinese party will not answer any key question with a straight yes or a straight no. Not yet, not at this stage. For now, a “basically no problem” means “big problem”, and a “yes” is not an indication of agreement. Things will change and start getting clearer as the exchange progresses, and as the relationship is being cemented. Think of the tea drinking ceremony as an interview to get accepted by the other. Go along with it, sit back, and enjoy it. It is said that patience is also a form of action.   

     

    Abdelhak Benkerroum is the author of the book We Have a Deal as well as the founder and director of Eastheimer Training and Consulting. He lives in Shanghai.

  • 03 Apr 2018 by Steve Suneson

    The new United States Tax Cuts and Jobs Act (officially known as "an Act to provide for reconciliation pursuant to Titles II and V of the concurrent resolution on the budget for fiscal year 2018") (the “Tax Act”) went into effect January 1, 2018.  This article posits that inbound investment into the US is poised to grow significantly as a result of the Tax Act and examines some related cross-border areas that should be carefully considered by a foreign companies operating in the US. This discussion is not intended as a detailed tax analysis of the Tax Act for which an experienced cross-border CPA should be consulted. 

    The US has long relied on its dominant economic power in the world to attract foreign investment.  However, its corporate tax rate has lagged behind other industrialized nations.  The maximum federal corporate income tax rate until this year (under a progressive tax system) was 35% (plus applicable state income tax).  The new Tax Act introduces a flat corporate tax rate of 21% which is not only competitive with, but in some cases lower than, other industrialized nations.  The corporate alternative minimum tax (AMT) was also eliminated. In most cases, these changes will result in tax savings on income earned by foreign-owned US businesses.  Given its dominant position in the world, and setting aside other fluctuating variables which may affect the US economy, it seems likely that foreign investment into the US will grow, perhaps substantially, as a result of the Tax Act. 

    Nevertheless, a foreign company operating in the US should take a nuanced view of the Tax Act.  The Tax Act contains both benefits and potential drawbacks and appropriate business and tax planning is important.

    A critical aspect of foreign-US related or affiliate company structure is transfer pricing planning. The Tax Act directly impacts such structuring. 

    It is common for foreign companies to form US subsidiaries and thereafter enter into transfer pricing agreements between the parent company and the US subsidiary for items such as intercompany administrative services, management services and/or intercompany IP licenses.  In the case of start-up US subsidiaries, these agreements are especially necessary because the US subsidiary often has limited expenses (few or no employees, less leasing costs, etc.).  Instead, all or most of the back-office services to support US operations are provided by the parent company in the home nation.  This results in US revenues which are not accompanied by associated US expenses but which instead are incurred in the home nation. Historically the US tax rate has been significantly higher than most home nation tax rates which generally has incentivized having lower taxable US profits. Transfer pricing agreements are intended to harmonize revenue and expense in the two jurisdictions and, often, reduce US profit in accordance with complicated transfer pricing regulations.

    At first blush, the reduction of the US corporate tax rate to 21% eliminates a common reason for transfer pricing planning.  Caution is advised, however, because the Tax Act expressly discourages strategies to exploit gaps in tax rules to artificially shift profits to low or no-tax locations (“base erosion”).   Not only will transfer pricing agreements remain important to comply with applicable transfer pricing regulations, but the Tax Act introduces a new US tax to discourage base erosion.   The base erosion anti-abuse tax (BEAT) generally applies to deductible payments to foreign affiliates (such as those made under transfer pricing agreements) and is in addition to the US corporate income tax.  Fortunately, the BEAT has a significant threshold that takes into account substantial annual gross receipts of a taxpayer which means that many lower to middle market companies should not be affected (i.e., gross receipts greater than $500 million).  Large companies that would be affected by BEAT may rely on exemptions.  A US subsidiary subject to BEAT can generally exempt payments made to foreign affiliates for services provided at cost.  Note, however, the foreign affiliate’s country of residence may not allow for pricing at cost under its own transfer pricing laws.  Transfer pricing agreements will be necessary to document such services (and perhaps to separate cost versus mark-up) with further analysis warranted.  Existing transfer pricing agreements should be reviewed and modified as appropriate to account for the changes made by the Tax Act.  

    As new reporting requirements for BEAT and penalties are introduced, an accounting firm familiar with the nuances of the Tax Act and BEAT should be consulted prior to the filing of corporate tax returns for 2018 and beyond. 

    Seemingly unaffected by the Tax Act should be the prevalent use of C-corporations by foreign owners in the US.  Unlike US owners of US businesses who prefer pass-through entities, such as US limited liability companies (“LLCs”), foreign owners often prefer to use C-corporations since it generally avoids the US branch profit tax (which does not affect US owners), allows the parent company to take maximum advantage of any income tax treaty benefits, and because many foreign nations do not recognize the pass-through tax treatment of LLCs.  The reduction of the corporate tax rate to 21 percent, coupled with the elimination of the corporate AMT, should further strengthen the C-corporation as the entity of choice for most foreign owners.

    In sum, while the Tax Act promises benefits to most foreign companies in the US, each foreign company should conduct a nuanced and customized analysis of the Tax Act.  The particular impact will vary depending on numerous factors, including size and industry.   Analysis by an experienced cross-border tax professional, in collaboration with a cross-border corporate attorney, is recommended.  Taking such action will ensure that US operations are compliant and conducted in the most optimal and cost-efficient manner.    

    About this author.

    Steve Suneson practices law at Coan, Payton, and Payne LLC, and specializes in the  business law and commercial transactions.

     

  • 03 Apr 2018 by Trevor Jones

    As a small business owner, I am the first to admit, that I don’t always think about geopolitics right when I get up in the morning or macroeconomics before I close my eyes at night. I’m thinking about my business’ bottom-line, the opportunities and risks moving forward, and how to augment or mitigate them.

    Increasingly, however, it is incumbent upon all business owners, of all business sizes, to track and make strategic plans around the global politics. We live in a globalized economy and businesses can sell to any corner of the globe on the internet. New political dynamics like protectionism and the tactics that follow, like tariffs and other non-tariff barriers, only serve as needless distractions.Pulling out of international trade agreements, only to watch the agreements go ahead without the United States’ influence and input, is damaging.Targeting immigrant populations, the same people that have invented and labored for America, is counterproductive.

    So why should we care about these macro-level factors that do not affect the bottom line on a daily basis? For too long, business strategy and management have existed outside the realm of politics. Here are just a couple reasons to incorporate a global risk or political risk component into your business strategy model.

    Political risk analysis shows where the opportunities are, too. When a country resolves a conflict, they begin a process of redevelopment that usually invites foreign businesspersons to learn about new opportunities. These opportunities, which fall in the “fat middle” between countires where business is not an option (North Korea) and places where business is too established to make new inroads (Germany). But for every North Korea, there are 10 or more countries like Colombia, Vietnam, Nigeria… places where investment is not only crucial for the economy but has outsized benefits for the human beings that live there!

    Perhaps the biggest reason to care about the global political context is understanding why American business has thrived over the years in the first place. In addition to a fiercely innovative and competitive culture, the US and its partner have done so well because the political security rendered by American military has in turn, perpetuated the dollar as the currency on which the world runs. It is not our aircraft carriers, but the free trade and passage of goods and services on the open oceans ensured by these ships that has made us prosperous.

    That's easy to forget. In a world thankfully devoid of large-scale, interstate conflict since WWII, we tend to forget that economies are only open for business when there is a security guarantee that customers, employees and property will not be in danger or damaged. Oftentimes we rely solely on strong economic ties to rule out war (see: China). This is not always a failsafe. It is worth remembering Great Britain and Germany had strong trading ties before WWII, before engaging in some of the bloodiest conflict known to history.

    By engaging in global commerce, being aware of risks and opportunities on micro and macro levels, we become de facto diplomats. Global commerce is perhaps the best form of international people-to-people communication we have. So before you go to bed tonight, please do consider your global opportunities: the politicians will thank you.

    About this Author 

    Trevor Jones is the Co-Founder of Lynx Global Intelligence