In an economy where corporations are
missing huge opportunities by not
expanding into foreign markets, most
businesses are in need of a little financial guidance as they venture out.
“Let’s face it, the current recession has
significantly impacted domestic growth
opportunities for United States companies,” says Robert Verzi, CPA, a tax partner at Habif, Arogeti & Wynne, LLP.
“With a relatively weak dollar, one bright
spot is the opportunity to tap into foreign markets where, only recently, U.S.
products may have been uncompetitive.”
Smart Business spoke to Verzi about
how to take advantage of tax savings
available to exporters.
How can my company grow in the foreign
markets?
Currently, exporters are doing quite
well. A January 2008 report from the
International Trade Administration
showed that U.S. exports increased by
12.3 percent to $1.48 trillion from 2006.
While we don’t look for robust selling
opportunities in the near future, we still
believe U.S. companies have the potential to increase cash flow and find some
new sales through exporting.
Are there programs to help if my company
is interested in exporting its products?
As a matter of fact, exporters can take
advantage of an often-overlooked
export tax incentive, which can reduce
federal and state income on exports and
help stimulate cash flow to produce
more goods for export. Many companies
may have heard of the Domestic
International Sales Corporation (DISC),
but few realize or understand its full
benefit.
Specifically, if your business has either
type of transaction listed below, you can
convert ordinary income (taxed at
about 34 or 35 percent) to capital gain
income taxed at 15 percent. The following types of income qualify for this
special tax benefit:
- Exported property that is manufactured in the United States
- Engineering or architectural services rendered for projects located (or proposed for location) outside the United
States.
How does this work?
You will have to form a U.S. corporation and elect to be treated as a DISC,
which is essentially a paper company
needing very little substance. Its taxable
income is computed using special pricing rules, but it does not pay U.S.
income tax. A DISC can earn income in
an amount equal to the greater of:
- 50 percent of the taxable income of
your export sales; or - 4 percent of the gross receipts on
the export sales.
The amount determined under the 4
percent method can’t exceed the total
amount of taxable income derived from
export sales. The income earned by the
DISC would be subject to the 15 percent
income tax when distributed to its
shareholders.
Can you give me a specific example?
Let’s suppose the following:
- Company XYZ forms a DISC.
Company XYZ has $3 million of export
sales. - Assume that the cost of goods sold
relating to these sales is $1.5 million and
other expenses $500,000, leaving a net
export profit of $1 million.
XYZ Corporation would use the 50 percent method (described above) since
this alternative would generate the most
tax benefit. So, $500,000 (50 percent of
$1 million) would be subject to tax at 15
percent instead of the corporate rate of
34 percent (if XYZ were a C corporation)
or 35 percent if XYZ were an S corporation (assuming the shareholder is in the
top marginal individual tax rate).
Assuming the latter, XYZ Corporation
and its shareholders would save $100,000
by the tax rate savings alone (20 percent
of $500,000) in federal income tax per
year. In addition, state income taxes can
be saved by using the DISC structure.
The savings is unlimited. The more your
business exports, the more the potential
tax savings.
Taxpayers can take advantage of these
substantial savings only after they form
a U.S. corporation and make an election
to treat the company as a DISC. If you
think a DISC may be right for your company, contact your tax adviser.
ROBERT VERZI, CPA, is a tax partner at Habif, Arogeti & Wynne, LLP with more than 20 years of experience specializing in international tax solutions for publicly and privately held corporations in a variety of industries including manufacturing, technology and retail.
Reach him at (404) 898-8486 or [email protected].
