Not so, however, with regard to your foreign biodiesel customers. Receiving fees from them, and repatriating those fees to the United States, can present some rather thorny legal and financial issues. This article will highlight the problems that you might face in attempting to bring in and repatriate those funds. By its very nature, it cannot provide solutions to all of the problems that you might encounter in various countries around the world. The issues apply to different foreign jurisdictions differently.
Foreign Government Approvals and Licenses
In some countries, customers may not send currency out of the country without the approval of the appropriate agency or institution in their national government. In others, customers may send local currency out of the country without governmental approval, but may not send foreign currency (such as U.S. dollars) out of the country without approval. Such approval often must come from the main financial and/or banking institution in the customer’s country.
Obtaining that approval can be a frustrating experience. Usually, your customer will be required to file a copy of the contract that you have entered into and application forms that require information about your company and your customer. More often than not, these documents must be translated, sometimes by an official government translator, into the language spoken in your customer’s country before they may be submitted to the foreign institution for approval. In some cases, some or all of these documents must be submitted for approval each time your customer desires to send funds to the U.S. In other cases, a one-time “blanket” approval may be sought, which would allow your customer to remit payments to the U.S. as often as it wished for a certain period of time.
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In many countries, the application process for remitting funds overseas can take weeks. Sometimes, government officials meet only once or twice a month to approve or deny such types of applications. Therefore, your customer must take an active role in preparing, translating, and submitting to the appropriate governmental institution the application to remit fees to you in connection with your customer’s business operations. The customer must be responsible for monitoring the application process at the appropriate institution and providing the government with any additional information that it may require to reach a favorable decision regarding the application to remit funds to you.
Foreign Government Taxes
After your customer receives approval from the main financial and/or banking institution in their country, they may send payments to you for fees owed to you in connection with their business operations. However, simply because the customer is permitted to send these payments overseas does not mean that the payments can be sent tax-free. Many foreign governments impose a withholding tax on the payment of funds overseas, if such payments take the form of fees or royalties paid in connection with license grants. Since payments from your customer might be remuneration for license grants by you to your customer for the use of your biodiesel technology, these fees are usually categorized by the taxing authorities in the customer’s country as license fees subject to withholding tax.
The amount of tax that must be withheld from the funds remitted overseas is often quite substantial, ranging from 10 percent to 25 percent of the amount of the payment itself; and it is you, not the customer, who is ultimately responsible for the payment of the tax. The customer simply acts as the agent of their government in deducting the amount of tax withheld from the payment remitted overseas, and sends the proper amount of withholding tax to the taxing authority in their country on your behalf. In practice, the customer is often prohibited from making any payment overseas until they can demonstrate they have deducted the appropriate amount of withholding tax from the payment, and have remitted such amount to their government.
Let’s say, for example, that you have a customer in the Philippines that has the right to use your technology in the Philippines in connection with the operation of their biodiesel plant. Let’s also say that the fee that you charged your customer was $100 per month. Since, under the current tax regulations in the Philippines, the payment is subject to a withholding tax of 25 percent, your customer would send you a payment of $75 per month and would remit $25 per month to the Philippine tax authorities on your behalf.
In an effort to reduce the foreign tax burden on American companies that find themselves paying foreign withholding taxes on the repatriation of funds to the U.S., the government has entered into bilateral tax treaties with many of our trading partners, which lowers the amount of tax withheld from such payments from 10 percent to 25 percent, to zero percent to 20 percent, depending upon the foreign country and type of payment involved. In Poland, for example, payment of typical license fees is subject to a maximum withholding tax of 10 percent. Absent a bilateral tax treaty between the U.S. and Poland on this matter, the payment of license fees destined for the U.S. would be subject to a withholding tax of 25 percent.
One way to eliminate the effect of a foreign country’s withholding tax on the amount of funds you receive from your foreign customers is to “gross up” the payments that they make to you. In essence, “grossing up” means increasing the amount of your usual fees that are subject to withholding tax in a foreign country so that you receive the amount of fees to which you are accustomed after the withholding tax is deducted from the payments made by your foreign customers. Let’s say, for example, that your usual license fee is $100 per month. Let’s also say that your customer in India has informed you that any license fee they pay to you is subject to a withholding tax of 20 percent in India. If you simply increase your usual license fee from $100 per month to $125 per month, you will receive from your Indian customer your usual monthly payment of $100, after your customer deducts 20 percent of the $125 license fee, or $25, and remits that amount monthly to the Indian tax authorities on your behalf.
If, despite your best efforts, your foreign customers will not agree to “gross up” your usual license fee, your foreign tax may be credited against the amount of income tax which your company owes in the U.S. In order for American companies to obtain a certain degree of tax relief from the payment of taxes to foreign governments, the U.S. government has entered into bilateral tax treaties with many countries, permitting American companies to take a credit on their U.S. corporate income tax for a portion of the amount of tax that they pay to a foreign government. However, this tax credit does not apply to every situation or to the payment of tax to every foreign government; nor is the credit for 100 percent of the amount of the tax paid to a foreign government. Each tax credit situation must be analyzed on a case-by-case basis.
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