Washington DC – The National Foreign Trade Council today released the results of a study on the potential U.S. adoption of a territorial tax regime as a method of reforming the U.S. international tax system. The concept of reforming the U.S. international tax system by shifting to a territorial tax regime has arisen recently in the context of the unfavorable World Trade Organization (“WTO”) decisions regarding the U.S. Foreign Sales Corporation (“FSC”) and the Extra-Territorial Income (“ETI”) regimes.
In its examination of the issue, the NFTC and 32 member companies formed a study group to review the basic features of traditional territorial systems, as well as the features of possible alternative tax systems. The study concluded that improving the competitiveness of any substantial group of U.S. companies through the use of a traditional territorial tax system would require favorably resolving many of the same issues that make current U.S. rules anti-competitive, including:
• the overly broad scope of subpart F with respect to active business income;
• the over allocation of expenses to foreign income; and
• the restrictive aspects of the foreign tax credit.
Alternatively, a territorial exemption proposal that retains many of the current U.S. tax rules for determining foreign source income and provides equitable allocation of expenses would improve the competitiveness of most U.S. companies but present other obstacles. Under such a regime, foreign source income would be exempt from U.S. taxation and foreign expenses would be disallowed, making the foreign tax credit system and subpart F regime largely irrelevant. The proposal, however, would probably be cost prohibitive, and would fail to resolve the United States’ current WTO issues as it would likely be viewed as WTO non-compliant.
“The United States should concentrate legislative efforts on improving the current international tax rules. Rather than adopting a territorial exemption system, we need to reform our current deferral and foreign tax credit system, as well as find a WTO-compatible replacement for FSC and ETI,” said Judy Scarabello, NFTC’s Vice President for Tax Policy.
A copy of the NFTC Territorial Tax Exemption Study is available at www.nftc.org.