A one-year tax holiday for the more than $2 trillion parked overseas is clearly in the offing, either as a stand-alone measure or, more likely, as part of a comprehensive tax reform.

And a strengthening U.S. dollar makes the prospects of a repatriation holiday even more attractive.

A stronger dollar produces a lower aggregate dollar repatriation amount relative to years with a weaker exchange rate, making the tax imposed on the repatriation itself smaller, and making the relative value of the associated foreign tax credits higher, according to Ian Boccaccio and Michael Minihan, principals at tax firm Ryan LLC.

“The legislation will come to pass in some form, with record profits sitting offshore,” said Boccaccio. “The current exchange rate environment also makes repatriation to the U.S. interesting, perhaps advantageous. The dollar has strengthened over the past year. When you make repatriation you compute it in U.S. dollars and translate the distribution at the spot rate on the day you make it. There is a corresponding foreign tax credit that will get to offset the U.S. tax, and you’re paying non-U.S. taxes in non-U.S. currency. The method required to compute the foreign tax credit is not the spot rate, it’s the average rate for the year.”

“What all this means is that it is cheaper to pay a dividend now with repatriated funds than it was a year ago,” Minihan said. “You could argue that even without repatriation it’s the right time to take a look at a repatriation strategy. The only way to do that is through a quantitative analysis of non-U.S. attributes.”

Bringing dollars back

“When you look at tax policy and the easing of the burden on job creators, one step removed is the idea of repatriating dollars that U.S. companies have abroad,” said Steve Klein, a tax partner at accounting firm Gerson Preston. “By reducing the tax burden you release dollars into the economy which will enhance its overall performance.”

Klein is advising his clients to avoid any major moves until the details of reform – and repatriation – become clearer.

“I’m anticipating they’ll do something pretty substantial, because in all candor, they have to,” said Jay Darby, a tax partner at law firm Sullivan & Worcester LLP. “The U.S. corporate tax rate at its present level of 35 percent makes us uncompetitive, with companies paying more tax here than if they were located elsewhere. The solution is not legislation and regulations to prevent U.S. companies from leaving the U.S. That’s the tax equivalent of the Berlin Wall – ‘You have to stay here and pay your taxes.’”

“The better approach is to become more competitive and attractive,” he said. “Ireland created an economy out of nothing just by having favorable tax policies. The result was they created too much competition to get out of the U.S. and the U.K. The U.K. responded by lowering their tax rate to around 20 percent, and stopped taxing the earnings of foreign controlled subsidiaries.”

“The Treasury estimates that the amount of funds trapped offshore at $2 trillion, while Trump estimates it to be $4-5 trillion,” he said. “If the money is brought back it would currently be taxed at 35 percent.”

“There’s a tremendous logic to not taxing offshore funds,” Darby said. “The money just sits there and we don’t get any tax revenue from it. A company that inverts has access to this cash – it’s like the mountain going to Muhammed.”

Spending dreams

Companies with non-U.S. earnings stashed overseas should start contemplating what they will do with the money once repatriation is passed, according to Minihan and Boccaccio.

“In 2004, the American Jobs Creation Act created a one-time repatriation holiday under Code Section 965 when they reduced the rate to incentivize companies to repatriate non-U.S. earnings,” said Boccaccio. The idea was to take the cash and create jobs. The point is the same today – let’s get the cash back into the U.S.”

What happened the last time, with the 2004 Act, came as a pleasant surprise for most companies, according to Boccaccio. “There was a very short window between the time the legislation was enacted and the time when the repatriation had to occur.”

“Taxpayers could elect to either enjoy the reduced rate on dividends during the tax year before the legislation was enacted, or in the first tax year after the enactment date,” said Minihan. “Either way, the calculations required to make a repatriation are pretty substantial, and companies were really scrambling to do the analysis.”

The House Blueprint released last June and the Trump proposals are similar, Minihan noted. “Both have a one-time repatriation rate. The House Blueprint specifies an 8.75 percent one-time tax on unrepatriated earnings, while Trump was talking about a 10 percent rate during the campaign.”

“The House plan would tax unremitted earnings to the extent of available cash or cash equivalent if a company had unremitted earnings but invested them,” he continued. “Under the Blueprint, it would be taxed at 3.5 percent, rather than 8.75 percent, so that would incentivize companies to invest overseas the way it is currently written.”

Minihan cited the tax-free repatriation of $1.5 billion from Canada over two years by Costco as an example of how the benefits can add up quickly as the U.S. dollar strengthens. “There’s a fair amount of complexity in calculating how much foreign tax credit you can take on a U.S. tax return,” he said. “Because companies will be working with non-U.S. earnings that were not intended to be repatriated, the analysis can be complicated and voluminous, spanning the full earnings and taxation history of the entity remitting the funds to its U.S. parent. The difference between doing a thorough calculation and doing a back-of-the-envelope calculation can be material. Getting it right and being thorough is extremely important.”

The House Republican proposal is much like a VAT tax, according to Darby: “Sales in the U.S. would be subject to tax and outside the U.S. they would not be subject to tax. So it would have the benefits of leveling the playing fields. The result is we would encourage exports, while somewhat discouraging imports. It would strengthen the dollar and would make the U.S. a place where companies would want to be headquartered.”

Roger Russell

Roger Russell is senior editor for tax with Accounting Today, and a tax attorney and a legal and accounting journalist.