After campaign promises and a seemingly unlikely journey through the House of Representatives and Senate, the proposed overhaul of the US tax system was finally signed into law on 22 December 2017 by President Trump.
What we were promised was comprehensive tax reform. While I am not convinced that is what we got, it still represents the most significant overhaul of the US tax code in more than 30 years.
Perhaps the most significant change is the reduction of the US federal corporate tax rate from 35% to 21%, coupled with a move from the current ‘worldwide’ tax system to a territorial tax system. The move to a territorial tax system is introduced in conjunction with a one-time mandatory ‘toll’ tax on overseas earnings. There are also various anti-deferral provisions, including a new minimum tax on foreign payments to related parties (the base erosion and anti-abuse tax, or BEAT).
So what does all this mean for the financial services industry in Ireland?
While it is too soon to answer this question definitively, what is clear is that the impact is not just confined to the US – it has far reaching global implications.
While the reduced U.S. corporate tax rate and territorial tax system should create a more favourable financial environment in the U.S., there are trade-offs – particularly for financial services companies.
The new corporate tax rate of 21% appears favourable, however the reduction in the tax rate will have a major impact on companies’ financial statements and deferred tax balances, with a large number of banks already announcing significant write offs of their deferred tax assets which are negatively impacting effective tax rates.
For many financial services organisations the BEAT may diminish the benefit of the rate cut and could, in many cases, result in a significant increase in US tax paid. The BEAT effectively applies a minimum tax if companies are making significant base eroding payments to related foreign parties. Given that both related party interest and reinsurance premiums would be treated as base erosion payments, banks and insurers are likely to be most impacted and may need to restructure global revenue models and supply chains in response to the new rules.
Asset managers will have to reassess long standing structures for investing into the US or attracting US capital with US tax reform bridging the gap between taxation of corporate entities/blockers and flow-through structures.
From an FDI perspective, while there is a substantial reduction in the US federal corporate tax rate, once US state taxes are taken into account, the Irish corporate tax rate of 12.5% is still half of the US combined rate of approximately 26% and should still be competitive in terms of a location for investment. Additionally, Ireland’s 12.5% tax rate is often no longer the determining factor as to where companies locate operations.
This is more often driven by the availability of talent, cost of doing business and access to markets, so Ireland as a location of choice for FDI remains competitive.
Equally, the reduction in the U.S. corporate tax rate will encourage U.S. organisations to look at their overseas tax rates more closely as they manage their overall tax positions. This could in fact create additional FDI opportunities for Ireland as global financial services players look to locate their R&D/FinTech solutions in attractive locations with a proven track record of success.
While US tax reform will have broad and far reaching implications at a global level, the exact impact on the financial services industry in Ireland will only become clear in the months and years ahead.