The essence of this corporate structure planning is to combine the concept of ownership structure that subjects a foreign corporation to a controlled status and activities of the corporate entity. The two concepts of controlled foreign corporate status and Foreign Based Company Income are intertwined in the implementation of Subpart F Income tax consequences.
The importance stems from the concept that Foreign Base Company Income and a controlled foreign corporation’s characterization subjecting it to Subpart F Income taxation are two separate considerations. One is whether a foreign corporation is a controlled foreign corporation. The second is whether the controlled foreign corporation has Foreign Based Company Income.
If a foreign corporate entity has Subpart F Income because it has Foreign Base Company Income, but it is not deemed a controlled foreign corporation by virtue of ownership, it is not subject to Subpart F Income treatment. Those are two distinct planning features.
Conversely if the aspect of control or the characterization of corporate activity of Subpart F Income is averted by virtue of it not being deemed Foreign Base Company Income, it achieves the same planning result. The elimination of either enables the corporate taxpayer to remove itself from the application of Subpart F Income treatment.
Foreign Base Company Income
So what is Foreign Base Company Income? The concept of Foreign Base Company Income involves for this general explanation text, the categories of types of foreign corporate entities engaged in specific activities in a corporate offshore structure. The entities that shall be used to illustrate Foreign Base Company Income characterization are Foreign Base Company Sales Income, Foreign Base Company Service Income, and Foreign Base Company Holding Company Income.
The first type of Foreign Base Company Income, Foreign Base Company Sales Income consists of gross income derived in connection with statutorily defined transaction sequences. These corporate arrangements or structures inter-relate four transactional activities that give rise to Foreign Base Company Income that translates to Subpart F Income treatment. These activities of a sales company being structured in an offshore setting shall be elaborated upon in a subsequent segment. The activities and their functions revolve around and are coupled with manufacturing, production, growing, extraction, use, consumption, and disposition in specific combinations that taint it with Subpart F Income characterization. Understanding the structuring of those activities pertaining to a sales company in a corporate structure can enable a foreign corporate entity to avoid Subpart F Income treatment.
Foreign Base Company Sales Income is the type of Subpart F Income designed to tax sale or trading companies. In the simplest of terms, a sale or trading company is designed in the corporate structure to alleviate high tax burdens of a manufacturing, foreign subsidiary, utilizing an offshore trading company.
In concept, a Financial Center’s sales or trading company bulk purchases various components from related or non-related suppliers and sells them to the domestic parent’s foreign manufacturing subsidiary. Theoretically the pricing of the goods sold to the foreign subsidiary would be substantial enough to allow the offshore sale or trading company to profit from its activities. That profit can then be taxed at the Financial Center Offshore preferable rate.
The foreign subsidiary would benefit by having its cost of goods increased and therefore its taxable profit decreased. There are a myriad of designs and method to achieve various tax savings using a sales or trade company in the structure. The sales or trade company may or may not be subject to Subpart F Income treatment of its Foreign Base Sales Income based on its internal transactional activity sequence offshore.