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View Diary: 'Fix the Debt' operates as a front for corporate tax breaks and cuts in government social programs (127 comments)

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  •  Sorry, it's sorta complicated. (7+ / 0-)

    Here's the set-up:

    US parent company ("Parent") owns 100% of a foreign subsidiary ("Sub").  Let's say Sub makes $100 of profit in a foreign country this year.  If it pays Parent the $100 this year in the form of a dividend, Parent will pay the IRS $35 in tax and keep the remaining $65.  For accounting purposes, Parent and Sub are "consolidated," meaning they're treated as the same entity.  So on the financial statements that Parent releases to its investors, it'll report $100 of profit, $35 of income tax expense.

    But let's say Sub doesn't pay a dividend back to Parent, and just keeps the dividend.  Maybe it'll pay the dividend next year, maybe the year after.  The IRS doesn't tax Sub's earnings*, since it's a foreign corporation; instead, it only taxes profits when they're sent back to Parent from Sub. But, on the financial statements, Parent will report $100 of profit and will still report $35 of tax expense.  The reason for that is that Sub will probably pay a dividend in the future, so Parent will probably wind up paying that $35 in tax, even if they do so in the next few years. In the jargon, this is an "accrued expense."

    So let's say Sub has a good business, and decides to plow the $100 of profit back into its business, and probably will never pay the $100 back to Parent.  That means that Parent will probably never pay the $35 to the IRS, and, under GAAP accounting rules, that means that it doesn't need to report $35 of tax expense. IOW, the Sub is telling us that the profits are indefinitely reinvested abroad, so the IRS will probably never have the chance to tax it, so they don't have to report a tax expense.

    So, for tax, the only thing that matters is when the dividend is paid from Sub to Parent.  Whether that profit is indefinitely reinvested abroad or only temporarily reinvested abroad doesn't matter a lick for tax purposes.  However, whether the profit is indefinitely reinvested abroad does matter very much for how the company reports its accrued tax expense to its investors.

    * Putting aside CFC and subpart F rules.

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