US tax reform is here and it is going to have a big impact on corporates operating in Asia. What then should treasury teams be thinking about?
At the end of 2017 the US Senate approved what is arguably the biggest overhaul of the US tax system in a generation.
The Republican tax bill, which became law on 1st January this year, has brought in sweeping tax cuts for corporations (corporate taxes are set at 21%, instead of the previous rate of 35%), amongst other measures. For US President Donald Trump, the reform was a critical pillar of his economic package to “make America great again”.
The ramifications of US tax reform spread far beyond its borders, however. Companies around the world with moderate or significant operations in the US will also be impacted.
Indeed, various levels of disruption have already been experienced in cash management, funding platform, FX trading plays and liquidity planning. As such, modelling the impact of US Tax Reform is pivotal for Asian multinationals in order to rewrite the rules of treasury departments to rebalance toward an optimal state of cash planning, FX/hedging risk management and meeting funding and liquidity needs.
Here, Allison Cheung, International Tax Partner and Nikki Mullins, Senior Manager at PwC Singapore highlight four key areas that Asian corporates should be focusing on.
Cash management and planning
The improved cash tax position arising from the reduced corporate tax rate from 35% to 21%, accelerated cost recovery of capital expenditures, and other cash tax improvement items under the new law will need to be rebalanced with the additional tax costs attributable to the less cash tax-friendly provisions.
“These provisions include the toll tax on mandatory deemed repatriation of foreign untaxed earnings, expanded limitation of net business interest expense deduction and potential additional tax burden from base erosion payments, GILTI,” says Cheung.
FX/hedging risk management
As additional cash needs become apparent for US arms of Asian-based MNCs to meet their toll tax obligation (albeit over an eight-year payment period), these US companies may be required to bring back offshore cash which could be in various non-US currencies. “This is likely to disrupt standing FX hedging programmes,” says Mullins. “Because of this, treasury departments will need to revisit FX hedging and trades to ensure adequate levels of US currencies are maintained in meeting the additional US cash tax needs.”
One common practice for multinationals is separate cash pool structures for US and non-US cash. An influx of cash to the US, combined with lower tax costs associated with the dividend participation exemption, may trigger increasing interest in exploring one global cash pool, or cash pool arrangements with multi-currencies notional cash pooling features.
“It is expected that some of these enhanced cash management solutions, structured financing or investment products may become more attractive to MNC treasury departments in meeting certain cash management needs in conjunction with liquidity planning and hedging risk management,” she adds.
Capital market and cost of funding
The expanded limitation on net business interest deduction is expected to increase the cost of capital in the US. Depending upon companies’ access and ability to borrow locally, this may hamper attractiveness to borrow in the US for funding the investment needs of the group’s global operations.
“However, in countries such as Hong Kong and Singapore, where interest expense incurred for the acquisition of investment that generates non-taxable income, is not deductible, the US interest deduction regime becomes more attractive when MNCs borrow in the US for the group’s financing needs in and outside of the US (where the deduction limit is not breached),” says Cheung.
Careful consideration should be given to any intercompany lending between Asia and the US where the US is the borrowing entity, as interest expense could attract three levels of potential tax burden. “First, limitation on business interest deduction may apply,” she says. “Second, watch out for BEAT implications. Third, in the absence of a Double Tax Treaty (eg Singapore, Hong Kong), interest payment from the US will attract 30% withholding tax.”
Liberation of repatriation increasing collective liquidity/investments
The participation exemption essentially liberalises the means to bring back non-US earnings to the US arm of Asian based MNCs. “MNCs now have freedom to implement repatriation plans without the legacy US tax burden,” says Mullins. “As part of cash management planning, MNCs will need to consider how to redeploy the cash efficiently including pay down existing high interest debt, increase capital expenditures spend, fund M&A activities and declare dividends.”