Moving into foreign markets can be costly, but expansion can be very profitable and necessary. With astute planning your business can avoid pitfalls that will undermine the overall economy brought by the structure. Be prepared to examine all possibilities. Think long term, how will the business grow over time, what markets will be the most profitable, then make informed and considered decisions.
1. Tax Havens vs. High-Tax Jurisdictions
While it might seem logical that inclusion of corporate entities, in your overall structure, in countries that impose no income tax can achieve the greatest tax economy, it is not necessarily true. Using high tax jurisdictions with a network of treaties can often achieve better results. The use of tax-effective structures in, for example, European countries and effective use of tax optimization principles, including correct transfer-pricing, group taxation regimes and hybrid structures, all of which are not deemed as tax avoidance or abuse of treaty rules in their host countries can provide for an overall more efficient structure. This is true even considering the costs of creating such a structure.
2. Anti-Avoidance Rules
Avoidance and/or minimization of taxation is of growing importance to many jurisdictions. To address this concern many countries have enacted anti-avoidance rules, designed to prevent taxpayers from creating business structures with no purpose other than obtaining tax benefits. Anti-avoidance rules generally deny tax benefits, including expensed deductions, tax credits, exemptions, and lower tax rates, if the transfers are made through a network of companies with no connection to the business activity of the taxpayer. The underlying transaction being deemed artificial with no commercial goal or purpose. Carefully consider implementation of a business structure from the standpoint of its connection with the business activity of the taxpayer and the existence of a commercial purpose.
3. Transfer Pricing
The transfer price is the price at which related companies transact business with each other, including the supply of services, supplies, product or labor. Transfer pricing is a valuable tool for cross-border tax planning. Tax authorities worldwide carefully scrutinize transfer prices between related companies more than any other pricing arrangements. Many countries allow related companies to set prices for transactions between them in any manner, but to the extent those prices are not equivalent to an amount an unrelated third party would charge for the same or similar services, the tax authorities adjust the transfer price and may impose penalties.
Value-Added Tax (VAT) and any other sales and/or use tax is complex and challenging and can result in significant, and often, unrecoverable costs. In planning a business structure in addition to the general scope of VAT aspects, take into account VAT treatment of supply of goods and services in both the supplier and customer’s country. Avoid structures which result in VAT payable both in supplier’s and customer’s country of residence, and whether there is any VAT credit. The VAT liability for online transactions is still in flux, changes in legislation regarding whether the delivery of services or intangible property delivered over the Internet is VAT-able in countries where the vendor has no Permanent Establishment much be watched closely.
5. Permanent Establishment
Once a business has created a physical presence (“Permanent Establishment”) in a particular jurisdiction it is subject to income tax in that jurisdiction. A Permanent Establishment will be found where there is a fixed place of business. A number of countries have determined that a single server owned by a company and located that jurisdiction creates that taxable presence. Thus, if having a server in that country is desirable, consider leasing a server or using a local service provider. The risks of recognition of PE have significantly increased since the introduction of new rules regarding agency and service PEs. Such rules have not yet been tested and create uncertainty.