The IRS’ List of Currently Active International Tax Campaigns

On April 21st, the Large Business & International (LB&I) published a list of its active tax campaigns to enhance the selection of returns for audit, more ardently identify risk issues associated with noncompliance and assist the IRS in deploying limited resources.

The IRS’ actions on these campaigns generally focus on one or more undertakings, including revising forms and instructions, providing additional guidance, and communicating with taxpayers, practitioners, and software companies. Lastly, the IRS regularly issues Soft Letters to taxpayers. A Soft Letter is essentially a reminder to the taxpayer that something about their prior-year tax return was incorrect or incomplete.
The following is a list of “Active International Tax Campaigns” that both taxpayers and their advisors should be aware of:

Cross-Border Activities:

• Foreign Tax Credit (IRC Sec. 901)
• Financial Service Entities Engaged in a U.S. Trade or Business
• Foreign Base Company Sales Income – Manufacturing Branch Rules
• Form 1120-F Delinquent Returns
• Form 1102-F Non-Filer and Protective Return U.S. Business Activity
• Treatment of Deferred Foreign Income Upon Transition to

Participation Exemption System (IRC Sec. 965)

Treaty and Transfer Pricing:

• Captive Services Provider

Withholding and International Individual Compliance:

• Expatriation of Individuals
• FATCA Filing Accuracy
• Financial Service Entities Engaged in a U.S. Trade or Business
• FIRPTA Reporting Compliance for Nonresident Aliens (NRAs)
• Foreign Earned Income Exclusion
• Forms 1042/1042-S Compliance
• Form 1120-F Chapters 3 and 4 Withholding
• Individuals Employed by Foreign Governments & International

Organizations

• Individual Foreign Tax Credit Phase II
• IRC Sec. 965 for Individuals
• Loose filed Forms 5471
• Nonresident Alien Individual Tax Credits
• Nonresident Alien Rental Income from U.S. Real Property
• Nonresident Alien Schedule A and Other Deductions
• Nonresident Alien Tax Treaty Exemptions
• Offshore Private Banking
• Offshore Service Providers
• Post Offshore Voluntary Disclosure Program Compliance
• Puerto Rico Act 22, Individual Investors Act
• Swiss Bank Program Campaign
• U.S. Territories – Erroneous Refundable Credits
• U.S. Territories Self-Employment Tax
• Verification of Form 1042-S Credit Claimed on Form 1040-NR
• Virtual Currency

Observation –Taxpayers can resolve the issues identified above by understanding the potential tax issues, adhering to the relevant tax laws, and accurately reporting transactions. I recommend reviewing this list with your tax advisor and taking the appropriate action.

Until next time,

James Dawson, CPA

• July 12, 2023

The Covid pandemic and subsequent cost of living crisis in the UK has seen a significant increase in individuals supplementing their income by selling items online. Some have built successful micro-businesses by buying and selling goods through online platforms.

HM Revenue and Customs (HMRC) is aware of this activity and has recently ramped up a campaign to collect taxes it believes have not been paid from individuals selling goods on online marketplaces such as eBay, Etsy, and Facebook Marketplace. HMRC is thought to have collected sales data from popular online marketplaces to support issuing a “nudge letter.”
The nudge letters come with individual case reference numbers and detailed information on sales activity. They ask individuals to respond within 30 days summarizing their tax position and make a voluntary disclosure of their undeclared income within 90 days.
The letters state that HMRC knows it has “information that shows you’ve earned money (income) from Online Marketplace sales” and that it “shows you have not told us (HMRC) about some or all of this income”. They request individuals to complete a “certificate of tax position” with the option to bring tax affairs up to date, that they have correctly declared all income, or that they have not declared their income. Individuals are given 30 days to respond with their certificate.

The letters seem to suggest that HMRC has accessed sales data from these online platforms, and while it is not clear which third party has provided this information to HMRC, these platforms often include detailed sales history of its sellers in the public domain. The letters have been specifically sent out to individuals in which HMRC holds information that it can use to open an investigation if individuals do not respond.
Anyone can sell goods up to the value of £1,000 a year without having to pay tax. However, when a UK individual has reached that £1,000 a year threshold HMRC wants to collect tax on the activity. They have access to technology that allows for the tracking of unpaid taxes. In addition, if an individual has set up a business, HMRC will expect all compliance and tax obligations to be timely met.

Observation –Technology has enhanced HMRC’s ability to collect sales data and pursue individuals who have not disclosed and paid taxes on online marketing platform activities. Taking a proactive approach by contacting a UK tax advisor to advise on the best approach for addressing any unreported income or taxes due can avoid much consternation and financial penalties.

• June 8, 2023

The Brazilian tax system is largely considered one of the most cumbersome and complex systems in the world.  While there have been rumors of reforming the system over the years it appears the latest effort may have some momentum.  On July 21^st, Paulo Guedes, Brazilian Minister of Economy, presented a draft bill (Bill No. 3,8877/220) encompassing the unification of federal taxes by creating a federal VAT, known as “Social Contribution on Goods and Services – CBS.  CBS will effectively eliminate both PIS and COFINS, which are Social Security Contribution assessed on gross revenues.  The proposed bill will be discussed and voted on by both legislative houses and if approved will be effective within six months of approval.

This bill is the first, in a phased approach to introducing wider tax reforms.  Other bill under consideration by the federal government include income tax reform, adjustments to the Excise Tax (IPI), reduction of social security taxes due on payroll and introduction of a new tax on digital payments. 

This article will take a brief look at CBS. 

What is CBS?

CBS is levied on imports and local sales of both goods and services, while export transactions would be exempt.  The bill proposes to treat the assignment and licensing of rights, including intangibles, as falling within the definition of imported services, thus subject to CBS.  As opposed to PIS and COFINS, which applies to non-operating revenue, CBS will only apply to revenues from operations.

It is intended to simplify tax on consumption and eliminate the different taxes and special tax regimes for various sectors of the economy, while promoting tax equity and savings to taxpayers.  The biggest benefit may be a reduction in the time companies spend on tax compliance and reduce never ending legal discussions currently taking place regarding the PIS/COFINS system.

Under the proposed bill, some notable special tax regimes will remain in place, including SIMPLES NACIONAL (for micro and small businesses), the Manaus Free Trade Zone exemption, and the exemption for basic food items.

What Is the CBS Tax Rate?

The Brazilian tax rate under the Tax Reform Bill will increase to 12% from the current regular tax rates for PIS and COFINS of 9.25%.  The calculation of the tax base is computed as follows: Gross Revenues excluding amount of ICMS (State VAT), ISS (Municipal Tax) and unconditional discounts.  The gross-up calculation would no longer be available.

Are Tax Credits Available in Calculating CBS?

In calculating CBS taxpayers will be allowed credits, comparable to the noncumulative system of PIS and COFINS, however without the restrictions currently applicable in the PIS/COFINS law.  Under the proposed methodology of calculating CBS, each part of the supply chain may consider credits over the amount paid by the supplier and detailed on an invoice, thus CBS effectively applies to the value added to a product or service provided by the taxpayer.

Other credits such as depreciation and rent expense, among other expense items are not permitted.  Any depreciation of assets placed in service prior to CBS coming into force will be allowed.

The Tax Reform Bill will permit taxpayers to accumulate credits during the quarter in an effort to compensate them with other federal taxes at the end of the quarter.  The five year Statute of Limitations would remain in effect and the value of the credits will not be subject to monetary restatement.

Credits made available by product purchases from companies subject to SIMPLES NACIONAL and from the Manaus Free Trade Zone will be available for use.  However, some products subject to a single level of taxation would not be creditable.  Items such as fuel, natural gas and cigarettes would be required to follow specific CBS calculation methods.

Relief for Tax Professionals?

In what can only be considered good news for tax professionals, the bill aims to significantly reduce the complexity currently involved in preparing tax returns.

What is the Impact on Digital Platforms?

Those digital platforms, acting as intermediaries will be responsible for the collection of CBS levied on the transactions completed through them in the event the seller does not issue an electronic invoice.

The impact will be felt by both digital platforms located abroad and the importer of the goods and services performed by individuals into Brazil.  The parties to the import transaction will be responsible for the payment of CBS.  In addition, the owner of the digital platform will need to register with the Brazilian federal tax administration to fulfill the related tax obligations.

Closing Thoughts

is this effort of tax reform in Brazil real?  The answer will become clearer over the next couple of months.  For U.S. companies with operations in Brazil, it is prudent to closely monitor these developments and plan accordingly.

• August 21, 2020

USMCA and the Automobile Parts Industry

In a recent study of census data, WorldCity reported trade between the U.S. and Mexico totaled $615 billion during 2019, and $612 billion between the U.S. and Canada.  Two-way trade between Canada and Mexico totaled $44 billion in 2019. 

For the period January to April, Mexico ranked No. 1 in total trade value with the U.S. at $176.13 billion. Mexico had exports of $72.81 billion and imports $103.33 billion in imports.  Canada ranked No. 2, with a total trade value of $173.84 billion.  Canada had exports of $84.01 billion and imports of $89.83 billion

This trend is expected to grow as Canada, Mexico, and the U.S. recently enacted USMCA.  The USMCA significantly rewrites the rules for trade in agriculture, manufacturing and services amongst Canada, Mexico, and the U.S.

The USMCA will directly benefit the automotive industry as one of the key components is a requirement 75% of a vehicle’s components are to be made in Canada, Mexico, and the U.S., to receive tariff free access to the three countries.  Another significant rule change is requiring that 40-45% of an automobile’s content must be made by workers earning at least $16 per hour.

USMCA is having a direct influence on discussions automobile parts manufacturers are having regarding nearshoring operations back to North America.  As mentioned in our article titled, “Repositioning of Auto Parts Operations from China to Mexico,” there are many reasons to nearshore the manufacturing from China.  Many companies point to being closer to their customer base, reduce tariff liabilities and security requirements.  It is not surprising to see Canadian, American, and other foreign companies look to take advantage of operating in Mexico and benefitting from the USMCA.

The Mexican benefactors to the repositioning of auto parts operations includes those regions along the U.S.- Mexico border, such as Tamaulipas, Nuevo Leon, Coahuila, Chihuahua, Baja California Norte.  These regions are home to hundreds of maquiladoras owned by U.S., foreign, and Mexican companies.  Maquiladoras provide jobs to thousands of workers and vital supplies to automobile assemblers.  On the U.S. side of the border, Texas, New Mexico, Arizona. and California benefit from increased maquiladora activity as these states are closely tied to Mexico and its economy.

In normal times, Mexican, Canadian, and American companies could expect a huge boost in business activity from the positive impact of the USMCA.   The COVID-19 pandemic is a major disruptor to business operations in all industries.  However, the combination of the pandemic and the USMCA may greatly enhance the prospect of more automobile part manufacturers looking to nearshore back to the North America.  Mexico, through the maquiladora program is open for business!

• July 23, 2020

Covid-19 has impacted global business in an unprecedented fashion.  There are virtually few industries immune to the impact, especially when you consider their position in the global supply chain.  As with any disruption of normal business operating processes, Covid-19 has created both winners and losers.  In pondering who the winners and losers are it becomes clearer when we consider an example, the automotive parts industry.      

The Chinese business model of producing quality products at a reduced cost has been very seductive to a countless number of industries, resulting in manufacturing jobs leaving the U.S. and relocating to China.  The automotive parts industry embraced this business model, however Covid-19 and the resulting disruption to their supply chains is likely resulting in a reevaluation of this position.  So, while it is likely China will experience a reduction in its manufacturing base over time, the question is who will benefit from the repositioning of manufacturing assets.  While there are several candidates to consider, we need to look no further than our neighbor to the south, Mexico.

Mexico has been a direct competitor to China in the auto parts industry for several decades.  The attractiveness of Mexico, as a center to place manufacturing and assembly activities is based on factors including lower wages and logistics costs, infrastructure and the favorable trade agreement with the U.S. and Canada (USMCA).

To appreciate the size of the auto parts industry in Mexico, we can look at recent data provided by the National Auto Parts Industry Association.  In a pre Covid-19 forecast, the value of auto parts manufactured in Mexico during 2020 was expected to exceed USD100 billion.  What will the actual results show once the full impact of the repositioning of manufacturing assets from China to Mexico becomes clearer? 

There are over 30,000 parts in a typical automobile.  Many of those parts including wire harnesses, seats and their parts, motors, gearboxes, die-cut parts, axles, braking mechanisms, lighting appliances, airbags, seat belts and many other components are manufactured or assembled in Mexico.  It is important to note that 80 percent of this production will be consumed in the U.S. marketplace.  Thus, it is a natural extension for Mexico to gain more auto parts manufacturing and assembly operations as the result of Covid-19 and the repositioning of manufacturing or assembly assets from China.

For U.S. auto parts manufacturers with current facilities in China, the repositioning of these assets to Mexico is typically undertaken by utilizing the Mexican maquiladora or IMMEX program. It is important to understand both the benefits and operations of a maquiladora.

Benefits of Utilizing a Maquiladora

1. Ability to better compete in world markets by combining advanced U.S. technology with a qualified and cost competitive Mexican labor force and technical staff;
   
   
2. Ability to continue to employ U.S. personnel in U.S. facilities in administration, warehousing, product finishing, etc.;
   
   
3. Ability to own 100% of and efficiently control and administer a Mexican entity and operations;
   
   
4. Ability to utilize U.S. technical and administrative personnel in Mexico operations (up to 10% may be non-Mexican and may obtain the required working visas), while providing U.S. personnel the ability to live in the U.S.;
   
   
5. Ability to acquire, through a Mexican entity, fee simple ownership of land and buildings for industrial operations typically along Mexico’s border with the U.S.  Typical sites include Empaime, Guaymas, Hermosillo, Guanajuat, Monterrey, Queretaro, Saltillo, and Tijuana;
   
   
6. Ability to import NAFTA origin raw materials, components, machinery, and equipment on a duty-free or NAFTA duty-rate basis;
   
   
7. Ability to defer duties on imported raw materials until after the exportation of finished or semi-finished products, and the ability to take advantage of preferential duty rates under applicable Mexican Sectorial Programs;
   
   
8. Ability to avoid non-tariff barriers;
   
   
9. Ability to take advantage of preferential U.S. Customs and Border Protection programs which allow U.S. companies to import finished products and semi-finished products duty free or based on the value added in Mexico;
   
   
10. State of the art infrastructure for the efficient cross-border transfer of goods, and simplified U.S. and Mexican customs clearance procedures;
    
    
11. Ability to sell products in the Mexican market;
    
    
12. Proximity to the U.S. market; and
    
    
13. Access to Mexican and other Latin American markets.

The Maquiladora (IMMEX) Program

A maquiladora is an import/export program granted by the Department of Economy under the Decree for the Promotion of the Manufacturing, Maquiladora and Export Services Industries (IMMEX Decree) to a Mexican company that allows it to import, on a temporary basis, assets generally owned by its foreign maquila principal (FMP) to be manufactured and returned/exported. Raw materials temporarily imported under such regime are exempted of paying duties (IGI) upon its importation. In addition, the company must obtain a VAT Certification granted by the Service Tax Administration (SAT) in Mexico to avoid the payment of value added tax (16%) upon the temporary importation of machinery, equipment, and raw materials. Some IMMEX also obtain a PROSEC program which allows for the temporary importation of certain raw materials under preferential duties for the manufacturing of a specific sectorial product.

 The IMMEX Decree provides that companies may file for one program authorization (an “IMMEX Program”) to carry out export-related operations under one of several different IMMEX Programs.  The five programs include 1) Holding (Controladora de empresas); 2) Industrial; 3) Services; 4) Shelter; and 5) Third party company (Terciarización).  These programs are intended to allow Mexican companies greater flexibility to be more innovative and competitive in a globalized economy.

 Under the IMMEX degree, a U.S. company will qualify to operate under maquiladora status only if it has a corporate presence in Mexico.  The typical structure utilized by a U.S. parent company in the establishment of a maquiladora company is to form an S.A. de C.V. or an S. de R.L. de C.V.  The U.S. parent company can own 100% of the maquiladora. 

From an operations perspective, the U.S. parent company furnishes the machinery, equipment, raw materials, components, and supplies in consignment, pursuant to the terms of a bailment contract, for assembly or manufacture by the maquiladora. The U.S. parent company retains the title to all said materials, supplies, and equipment, as well as the semi-finished or finished products.  The maquiladora charges the parent company and invoices the parent company periodically a service fee for these assembly or manufacturing services based on its costs, plus a markup on an “arms-length” basis, in compliance with Mexican transfer pricing rules.  The U.S parent company funds the maquiladora operations by advancing funds for capital and operating expenses to the maquiladora on an as needed basis, in addition to funds paid for the service fees from time to time.  An inter-company payable in favor of the parent company usually accumulates; however, this may need to be capitalized periodically to avoid a potential phantom Mexican income tax on inflationary gains.

Next Steps

Before embarking on relocating auto parts manufacturing or assembly from China or the U.S. to Mexico, it is important to spend up-front time understanding the cost-benefit of utilizing the maquiladora program.  The best path forward is to engage a team of seasoned professionals to assist you from a legal, tax and supply chain perspective.  The team at Global Tax Focus LLC and our Global Collaboration Partners are available to assist you in evaluating the possibilities of doing business in Mexico.  Please reach out to us to schedule a time to speak to our team.

• June 24, 2020