Many businesses are interested in doing business internationally, but may not know where to begin. Ianni Palandjoglou, senior vice president, international, at Cadence Bank, says that regional banks can guide you through the process and mitigate risk while opening the door to global markets.
“Ultimately, engaging in international trade requires an accessible, informed and educated adviser capable of helping you navigate the embedded risks,” he says.
Smart Business spoke with Palandjoglou about how regional banks can help small to mid-sized businesses navigate the challenges of doing business on a global scale.
What is international banking?
From a regional bank’s perspective, international banking provides support to small and mid-sized businesses engaging in business globally in three primary segments: trade finance, trade services and foreign exchange.
Trade finance focuses on finding solutions for the needs of the exporter and the importer, with more emphasis on exports. Trade services facilitate various payment methods used in international trade, such as export/import letters of credit, documentary collections, standby letters of credit and open account shipment. Foreign exchange provides support in currency management risk using such tools as spots, forwards and swaps.
International banking differs from domestic banking in that it addresses the unique factors that can impact doing business abroad. These include political and economic risks, foreign legal systems and business practices, cultural and language barriers, infrastructure for distribution and other issues that could potentially hinder transactions. With more than three-fourths of total U.S. exports coming from small businesses, they can look to regional banks as an adviser that can address these needs and help improve operations.
What value does a bank bring to companies interested in engaging in international business?
Regional banks help their customers by serving as a counselor of sorts to understand their business while mitigating currency, country and payment risks. Also, by working through the Export-Import Bank of the U.S. (Ex-Im), regional banks can guide an exporter in obtaining insurance on foreign receivables or help it acquire working capital for pre-export on purchase orders with much higher advance levels on raw materials and inventory. What makes regional banks with an international department unique is they work with governmental agencies such as Ex-Im Bank and the Small Business Administration to provide different types of financing solutions to customers, which, in general, domestic institutions would not otherwise be able to offer.
What advice would you offer a company that is looking to import or export for the first time?
From an exporter viewpoint, the appeal to go global is attractive. It offers the potential to increase and diversify sales, spread risk by expanding into a variety of markets, extend your product life cycle, and ensure your global competitiveness and adaptability. However, there are things you need to address when working internationally, such as getting to know your buyer well, structuring your sales to protect your money and your assets, learning the various methods of payment in international trade, buying insurance on your receivables or selling only under a letter of credit, and getting to know the Department of Commerce.
The government, including the DOC and 19 other agencies, has undertaken a very strong initiative to increase exports. These agencies are working to promote U.S. exports and can provide information and grants that allow you to attend conventions and seminars held outside of the country that can facilitate meetings with potential buyers and partners.
What role do the Ex-Im and the SBA play for U.S. businesses looking to trade internationally?
They are critical. Without these agencies, regional banks in the U.S. would not be able to provide financing for domestic borrowers because banks would not be able to mitigate the risks involved. These agencies provide guarantees to U.S. banks so they can lend on export-related purchase orders under the working capital guarantee programs, which cover 90 percent of the export risk for performance and disputes, as well as political and commercial risk.
Some regional banks, like Cadence Bank, have delegated lender status with the SBA and Ex-Im, meaning they can approve export capital working loans up to a predetermined limit without prior approval from the agencies.
How can banks help mitigate risk in transactions involving foreign currencies?
There is an embedded currency risk in any transaction involving a foreign entity. Although paying or receiving U.S. dollars for your international transactions may seem like a prudent way to mitigate your foreign exchange risk, the opposite is true. In fact, when you conduct international trade in U.S. dollars rather than in the functional currency, you are exposed to the foreign exchange market.
If you have an international payable and the U.S. dollar weakens, your vendor could ask for additional funds to cover the shortage. Conversely, if you’re exporting and your customer’s currency weakens against the dollar, then it’s harder for your customer to pay you and it may default. Accordingly, the most conservative manner in which to conduct your international transactions is by dealing in the foreign currency to better manage the risk.
Say you’re exporting from the U.S. to Mexico, which has seen its currency depreciate 23 percent during the past year. As an exporter, the strengthening U.S. dollar against the peso makes you less competitive and potentially exposes you to nonpayment.
This risk can be offset and hedged using forward transactions with your bank’s foreign exchange team, locking in today’s exchange rate for future delivery. By doing so, you remove market volatility and exchange uncertainty, while minimizing your costs and maintaining your profit margins.
Ianni Palandjoglou is senior vice president, international, with Cadence Bank. Reach him at (713) 871-3908 or email@example.com.
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Exporting goods overseas can have a positive impact on your business. The Interest Charge Domestic International Sales Corporation, or IC-DISC, can offer a tremendous tax benefit and a permanent tax savings opportunity for your company.
Generally, if you are a tax-paying entity that exports more than $1 million in sales to locations outside the U.S., you should consider an IC-DISC, says Tim Schlotterer, CPA, director, tax and business advisory services with GBQ Partners LLC. An IC-DISC could reduce your federal effective tax rate on qualified export income by as much as 20 percent.
“IC-DISC has become more prevalent in recent years due to the favorable qualified dividend tax rate,” says Schlotterer. “In years past, companies have used other export incentives. However, those are no longer available as a result of the World Trade Organization potentially placing sanctions on the U.S. for offering those incentives.”
Smart Business spoke with Schlotterer about what you need to know about IC-DISC and how it can benefit your company.
What are key items businesses need to understand about an IC-DISC?
IC-DISC is not for everyone. It is really important to identify that you have qualified export income. Three requirements must be met in order for an IC-DISC to have qualified income from an export sale.
- The goods sold must be manufactured, produced, grown, or extracted in the U.S. by an entity other than the IC-DISC.
- The export property must be held primarily for sale, lease or rental use, consumption, or disposition outside the U.S.
- The export property must contain at least 50 percent of the fair market value attributable to U.S. produced content.
In addition to export sales, an IC-DISC can be used if you are providing engineering or architectural services for construction projects located outside of the U.S.
What is an IC-DISC?
An IC-DISC is a separate legal entity. Companies will need to coordinate with their tax adviser and attorney to incorporate the IC-DISC. An IC-DISC’s benefits are not retroactive. To qualify as an IC-DISC, a corporation must:
- Have a minimum capitalization of 2,500 authorized and issued shares.
- Have a single class of stock.
- Be incorporated in one of the 50 states or in the District of Columbia.
- Have qualified export sales.
- Ninety-five percent of the IC-DISC’s gross receipts and assets must be related to the export of property.
- File an election with the IRS to receive approval to be treated as an IC-DISC for federal income tax purposes.
- Maintain separate books and records.
How can an IC-DISC reduce taxes?
An entity that has qualified as an IC-DISC will need to set up a commission agreement with your company. The company then pays a commission (which is tax deductible) to the IC-DISC.
The qualified export sale commission income earned by an IC-DISC is tax-exempt as long as the IC-DISC distributes its income to its shareholders. This distribution is made in the form of a qualified dividend, which is currently taxed at a rate of 15 percent.
There are two methods by which the commission can be computed. Companies are able to compute this commission on a transaction by transaction basis. Therefore, companies are able to use the greater of the two methods in determining which commission to charge:
- 4 percent of qualified export receipts
- 50 percent of foreign source taxable income.
It is recommended that you work with your tax adviser to determine which commission method should be used. Companies with large gross margins will generally have a larger tax benefit using the 4 percent method in computing the IC-DISC commission.
What are the benefits and risks associated with IC-DISC?
The largest benefit an IC-DISC provides is a permanent tax savings to the company. In addition to this, an IC-DISC could be used as a way to incent key employees within your organization or as an estate planning tool.
There is no requirement that an IC-DISC’s shareholders be the same as those of the company. You can therefore offer ownership that differs from the operating company and distribute earnings to the shareholders in the form of a 15 percent qualified dividend.
The largest risk of IC-DISC is that the qualified dividend rate of 15 percent is only secured through the end of 2012. There is concern that if nothing is done with the current tax law, the qualified dividend rate would go away and it would return to the ordinary tax rate, so there would be no difference in the tax rates and no benefit.
To the extent that the qualified dividend rate stays at 15 percent, or lower than the ordinary tax rate, an IC-DISC will be a good option for companies to enhance their export sales in the future.
Tim Schlotterer, CPA, is director, tax and business advisory services, at GBQ Partners LLC. Reach him at (614) 947-5296 or firstname.lastname@example.org.
Insights Accounting & Consulting is brought to you by GBQ Partners LLC
As the world slowly moves out of the great recession, banks are starting to lend more, but they’re still cautious. The best way to ensure the financing your business needs is to work with your accountant to make your organization more attractive to lenders, which starts with good business planning.
“All organizations should have a business plan — their road map of what they’re going to be doing in the future, especially a new business or an immature business,” says Carol Scott, vice president of business, industry and government for the American Institute of Certified Public Accountants.
Having a plan is critical to convincing someone to loan you money, whether it’s a bank or a venture capitalist.
“If you’re looking for financing, you have to make the business case that, ‘I have a good plan for running this business, and I have a good plan for repaying you,’” Scott says.
Planning also makes you look more put-together. Steve Christian, the managing director of Kreischer Miller in Philadelphia, says lenders don’t like surprises.
“Know your needs in advance,” Christian says. “Don’t call your lender a week before you need something, because it’s just evidence that you’re not the greatest planner in the world.”
Christian says to also be upfront with your accountant and lender about both the good and bad in your business.
“A lot of owners aren’t engaged in communicating bad information to the lenders for fear of the unknown, but actually it increases your credibility with the lender,” Christian says.
In addition to planning, demonstrating control is critical for impressing lenders, according to Mike Dubin, Philadelphia office managing partner for McGladrey & Pullen LLP.
“The last thing a banker wants to see is that the stewards of the business — and that could be the president, owner, CFO or COO — don’t have control and don’t have understanding,” Dubin says. “The minute there is a suspicion that there is a lack of control or lack of understanding what’s going on or a lack of full knowledge to exactly what’s taking place in the business, that’s the first thing that will turn off the banker.”
Dubin suggests setting up Sarbanes-Oxley-type controls for your organization, even if you’re private. For example, having segregation of duties decreases the likelihood of fraud in the business, and lenders notice those things.
“What makes lenders feel good is making sure that the control environment works properly, and accountants certainly have the skill set to be able to help owners do that,” Dubin says.
Another way to increase your chances of getting funding approval is to have accurate, professional financial statements.
“What turns off a banker immediately is when there’s a company that has internal financial statements that appear to be not professionally produced or appear to not be correct or may not be complete,” Dubin says.
This is where a reputable accounting firm can help you look more attractive to lenders.
“Dealing with the right accounting firm adds credibility to the financial statements and to ‘the ask’ — whatever it is you’re asking for,” Christian says. “It’s incredibly important to engage a reputable, well-respected accounting firm because they can assist in better terms, better conditions, and it adds credibility.”
Donny Woods, president of the National Society of Accountants, agrees but says, like with approaching lenders, to give your accountant a few weeks’ notice to prepare financial statements.
“You can’t just walk in and say, ‘We need these financial statements tomorrow,’” he says. “We have clients who will do that and think all we have to do is push a button and print report, and it’s just not quite that easy. … When you are doing financial statements, you don’t need to be rushed. You need to be able to have time to consult with the client to make sure that the information you are including is correct and there’s some analysis that has to be done, and it can be time consuming.”
Beyond these things, your history is important when it comes to getting financing, as well.
“They need to watch their cash flow and make sure they pay their bills on time,” Woods says. “They need to have a good payment track record. Those are the things that lending institutions are looking at.”
Scott says you also have to demonstrate the strength of your customers to lenders if you want to get financing.
“You have to have strong customers to have a strong business,” she says. “You could sell product all day long, but if your customers that are buying the product are not in a good position, you’re not going to collect your money.”
How to reach: American Institute of Certified Public Accountants, (888) 777-7077 or www.aicpa.org; Kreischer Miller, (215) 441-4600 or www.kmco.com; McGladrey & Pullen LLP, (215) 641-8600 or www.mcgladrey.com; National Society of Accountants, (800) 966-6679 or www.nsacct.org
As you make your business stronger financially, you may start looking at growth opportunities abroad. In doing so, you may also see all the challenges that present themselves — differences in not just culture but business practices and financial regulations, as well — and decide it’s just too much work.
“It’s just those first three to six months that are often challenging, frustrating and frightening, to certain degrees, and sometimes people say it’s just not worth it, but in today’s world, it is worth it,” says Bob Celata, executive vice president of PNC Bank. “The amount of economic growth outside the United States is huge.”
The key is to reach out to resources that can help you successfully prepare for and navigate international territory.
“Clearly, they should, first and foremost, speak with their primary bank and determine whether or not their primary bank has the skill set to assist them on the global side,” Celata says.
Another great resource is the U.S. Department of Commerce, which has programs ranging from basic to highly sophisticated to help organizations with these initiatives. Additionally, Celata says it’s important to talk to your accounting firm, which can help you with a lot of the logistics, and often trade organizations can assist with these endeavors, as well. These different resources combined can help you recognize the challenges and differences you may encounter.
“You have to be aware that there are different cultures,” Celata says. “Many countries take a break in the afternoon for a couple of hours. You have to be aware of the time differences in the world and communication networks.”
You also have to recognize that some payment services may work differently. For example, here, you may be able to do a wire transfer until 6 p.m., but in some countries, if it’s not submitted by mid-afternoon, then that transfer will go the next day.
“As companies look to do business overseas and they start to expand in individual countries, they just have to be prepared to think about it a little bit differently than they would in the United States,” Celata says. … “Once they have two or three cycles of the same transactions, it actually becomes pretty standard and pretty methodical, and it’s just continuing to follow the rules.”
How to reach: PNC Bank, www.pnc.com
U.S. businesses whose goods are exported can significantly reduce their taxes through use of a long-standing U.S. tax incentive known as the “Interest Charge – Domestic International Sales Corporation” or “IC-DISC.”
“This frequently overlooked export tax incentive has been in the U.S. tax code since the 1970s and can reduce the U.S. tax cost of exporting companies by more than 50 percent,” says Douglas W. Wright, shareholder, International Tax and Transfer Pricing Services, Burr Pilger Mayer.
Smart Business spoke with Wright about how to take advantage of IC-DISC.
What products qualify for the IC-DISC tax incentive?
A company that manufactures, produces or grows products in the U.S. may qualify for IC-DISC benefits, provided that the products are destined for ultimate use or consumption outside the U.S. The primary requirements for the goods to qualify for IC-DISC benefits are that they must have been at least partly produced in the U.S. and consist of at least 50 percent U.S. content. This means that exported goods can qualify for IC-DISC even if they consist partly of imported components. You simply need to ensure that the customs duty value of the imported components is less than 50 percent of the ultimate sales price of the finished exported goods.
The U.S. company producing the goods does not need to be the actual exporter of the goods to qualify for IC-DISC benefits. In other words, a U.S. producer can sell its goods to a distributor or OEM in the U.S. that is the actual exporter and the U.S. producer can still qualify for IC-DISC benefits. Moreover, a company that exports U.S.-produced goods can qualify for IC-DISC benefits on its export sales even if it is merely a distributor and not the actual manufacturer of the goods.
Can services companies qualify for the IC-DISC tax incentive?
Companies providing architectural or engineering services related to non-U.S. construction projects can also qualify for IC-DISC benefits. These architectural and engineering services provisions are frequently overlooked, but are very broadly defined so that many companies and firms providing such services are likely to qualify. For this purpose, the qualifying services can be provided either within or outside the U.S., so long as they are provided with respect to a planned or existing construction project outside the U.S.
If a company qualifies, how does it establish an IC-DISC?
To take advantage of the IC-DISC provisions you must establish a separate IC-DISC company, but the IC-DISC company is a paper entity, without any actual operations, employees or tangible assets. It is virtually invisible to employees and customers, serving solely as a Congressionally mandated vehicle needed to qualify for IC-DISC tax benefits. The IC-DISC entity is required to be a C corporation and is generally newly formed to take advantage of the IC-DISC incentive. Once formed, the corporation makes an election to be treated as an IC-DISC within 90 days, effectively making it a nontaxable entity for federal tax purposes.
The ownership structure for the IC-DISC entity will be dependent upon the specific facts and circumstances of each client situation. An IC-DISC can be established either as a subsidiary owned by the client company or as a brother-sister corporation owned by the client company’s shareholders or owners. To ensure that IC-DISC benefits are obtained and maximized, we strongly recommend that companies interested in the IC-DISC opportunity obtain advice in structuring their IC-DISC arrangements from a qualified firm with IC-DISC expertise.
What are the tax benefits of the IC-DISC?
Significant and often permanent tax savings can be achieved through implementation of an IC-DISC. The tax code permits qualifying U.S. taxpayers to effectively exclude at least 50 percent, and often considerably more, of their export-related income from U.S. tax. For these purposes, since this is an export incentive regime, there are fairly generous rules for determining and maximizing the amount of export-related income eligible for IC-DISC benefits. In some cases we are able to completely eliminate current federal tax liability on qualifying export income.
We use a couple of primary vehicles for tax savings with the IC-DISC. One is the payment of a tax-deductible commission to the IC-DISC equal to 50 percent of the qualifying export income of the taxpayer. This effectively eliminates current federal tax on the commission income earned by the IC-DISC, which is a tax-exempt entity. It’s like moving export income into a tax-exempt IRA or 401(k).
A second vehicle we use to further increase tax benefits is IC-DISC factoring. The IRS recognizes use of an IC-DISC to ‘factor’ qualifying export receivables of its related company. With IC-DISC factoring, the IC-DISC purchases export receivables from its related operating company at an arm’s length discount, and then earns factoring income upon collection of the receivables. Similar to the commission vehicle, the factoring vehicle is virtually invisible to customers.
The commission and factoring income paid to the IC-DISC is accomplished entirely through bookkeeping entries and no cash is moved out of the operating company. We are careful to use the IC-DISC so as to not adversely impact working capital of our clients. In fact, we actually increase our clients’ operating capital by reducing the federal tax burden on their export-related income.
The implementation of an IC-DISC can result in both temporary and permanent tax benefits. Businesses can also use an IC-DISC as a way to provide incentives, naming management as shareholders, allowing them to benefit from the additional cash flow being created by an increase in global sales.
Douglas W. Wright is a shareholder, International Tax and Transfer Pricing Services at Burr Pilger Mayer Inc. He is a former “big four” international tax partner with more than 30 years of international tax consulting experience. As a leading expert on the IC-DISC U.S. tax incentive, his IC-DISC clients and related consulting activities cover the entire U.S. He can be contacted at email@example.com or (925) 296-1044.