There is growing speculation that Donald Trump will support the “Better Way” Blueprint for tax reform in the United States. The Blueprint is a proposal for U.S. tax reform contained in a position paper entitled “A Better Way: Our Visions for a Confident America” published on June 24, 2016, by House Republicans. If enacted, this would represent a massive shift in the U.S. tax system by effectively replacing income tax with a “destination-based cash flow tax”. At the present time nothing firm has been presented but this has caused great concern in the international business community.
Destination-based Cash Flow Tax
There are two primary attributes to this tax.
1. Focus on “cash flow” as its taxing base instead of “net income”.
2. “Destination-based” as opposed to “origin-based.”
The “destination-based cash flow tax” would apply to corporate entities and individuals. It also appears that it would apply to “pass-through” entities at the entity level rather than the partner level. For instance, non-U.S. persons would not be subject to U.S. tax unless they sell to U.S. customers. U.S. people would not be subject to U.S. tax on sales to non-U.S. persons. Furthermore, Canadian parent companies with U.S. subsidiaries would apparently not be subject to U.S. taxes on dividends or interest paid by the U.S. subsidiary.
Lower Tax Rates on Corporations
The Blueprint would lower the tax rate on corporations to a flat rate of 20% (reduced from 35%). Flow-through entities would be subject to a 25% rate. Individual tax rates would be graduated at 12%, 25% and 33% (except in the case of income from capital, which would be subject to tax at 50% of those rates). The alternative minimum tax and Obama care tax on net investment income of individuals would be repealed.
The “border adjustment” ensures that the cash flow tax is “destination-based”. The border adjustment makes sure the tax is imposed on U.S. sales less the cost of U.S. inputs. Furthermore, sales to non-U.S. persons (for example, exports) are excluded from the tax base, and sales of inputs from non-U.S. persons to U.S. persons (for example, imports) are subject to the tax. Therefore, the only item that is relevant to determining U.S. tax liability is consumption activity that occurs within the United States.
The “border adjusted tax” will seem to provide economic incentives for companies that export their goods, but will likely be detrimental to companies that import goods. Critics of the “border adjusted tax” propose it will result in an increase in the prices of imported goods. Supporters of the “border adjusted tax” say it will result in increased foreign demand for products exported from the U.S. This in turn may increase the value of the U.S. dollar, which could increase the demand for imported goods and offset higher prices.
When looking at the “border adjusted tax” conceivably it will be very problematic for a company with extensive cross-border operations to easily determine what is and what is not taxable.
These proposed tax reforms will create numerous challenges for businesses navigating this ever changing landscape. It is important to consult a qualified cross border accountant for the best advice.
Article written by: Ryan Bouskill, CPA, CA