This Strategy Cuts the Tax Bill of American Entrepreneurs in Half
This Strategy Cuts the Tax Bill of American Entrepreneurs in Half
October 18, 2023 Notes From The Field By Simon Black
One of the many Orwellian habits of politicians is give cute acronyms to their idiotic legislation.
The CARES Act from 2020, for example, stood for “Coronavirus Aid, Relief, and Economic Security”.
The CARES Act was one of the most destructive pieces of legislation in US history; it paid people to stay home and NOT work, which decimated the US labor market. And it also cost tax payers hundreds of billions of dollars in fraud from the “Paycheck Protection Program”.
But, hey, at least the CARES act shows that they care.
Another ridiculous acronym is the GILTI tax, which stands for Global Intangible Low-Taxed Income. It’s supposed to be pronounced “GUILTY”, which is completely absurd.
First, let me give you some background.
Most countries around the world impose RESIDENCY-based taxation, i.e. you generally only pay taxes if you live in that country. If you move away, you don’t have to pay tax there anymore.
Even high-tax countries like France don’t tax their citizens who leave France. So if a French citizen moves to Singapore or Costa Rica, he/she no longer pays most French income taxes.
The United States is almost unique in the world in that it imposes citizenship-based taxation, requiring US citizens to file and pay federal taxes… even if they move overseas.
Until recently, however, this same rule did NOT apply to US companies; for decades, US companies could ‘move’ overseas, i.e. establish foreign entities in low-tax jurisdictions around the world. And those low- or no-tax foreign entities would not owe any tax in the US.
Enormous companies like Apple, Google, and Facebook famously all took advantage of this benefit by planting their tax flags in low-tax jurisdictions like Ireland or British Virgin Islands.
Doing so saved these companies tens of billions of dollars in taxes, much to the ire of politicians who think they know how to spend everyone’s money better than we do.
So, in 2017, politicians finally changed the law. And US companies who own foreign companies in low-tax jurisdictions became subject to this new GILTI tax… because that’s precisely how the government wants you to feel about reducing your tax bill: guilty.
Of course this is ludicrous. No one should feel guilty for following the government’s own rules to legally reduce their tax bills.
After all, politicians don’t exactly spend your money responsibly, wisely, or oftentimes even ethically.
We’re always told that we should voice our discontent with government in the voting booth. But if we’re being intellectually honest, elections have rarely made things better.
If you really have a problem with the way that incompetent politicians spend your money, then a far better approach is to use their own rules to minimize the amount of money you have to pay them. Simple.
And, ironically, the “GILTI” tax actually presents an interesting strategy to reduce taxes, especially for entrepreneurs and business owners in the Land of the Free.
That’s because, instead of actually punishing or forbidding the ownership of low-tax foreign companies, GILTI inadvertently ENCOURAGED it.
In the past, a US business could set up a new company, along with a tiny office, in a place like the British Virgin Islands where the tax rate is 0%.
All of the employees were still in the US and employed by the US company. All of the work was being done in the US. But all of the revenue, and all of the profit, was being booked by the British Virgin Islands company.
The net result was that the US business, through its BVI company, paid 0% tax.
The one catch was that all the money essentially had to stay in the BVI. If the BVI company paid any of its profits back to the US business, there would be substantial tax to pay.
GILTI changed all of that.
The new rules still allow US businesses to own foreign companies. But now, whenever the foreign companies generate a profit, those foreign profits are immediately taxable in the United States.
Bizarrely, though, the foreign companies’ profits are entitled to a 50% tax discount. Since the current corporate tax rate in the US is presently 21%, this means that foreign profits are taxed at 10.5%.
Now, 10.5% is obviously a lot more than 0%.
But the key benefit of the GILTI rules is that a US business can bring in ALL of its foreign profits, immediately, at the discounted tax rate.
Once that money is in the US, it can be plowed back into the business, or invested in a variety of other asset classes, including stocks, real estate, etc.
Clearly there are a multitude of additional rules and details to understand-- I’ve only provided a very high-level overview; and anyone considering this approach should seek professional tax advice.
For example, this structure is more difficult to implement for brick-and-mortar businesses… though it is especially compelling for online-based businesses, including drop-shippers.
The larger point is to show that there are so many completely legitimate ways to save a lot of money in your annual tax bill. And that’s nothing to feel gilti about.
Simon Black, Founder Sovereign Man