On March 2, 2009, Senator Carl Levin (D-Mich.) introduced the “Stop Tax Haven Abuse Act” (S. 506) (the “Levin Bill”). A companion bill (H.R. 1265) was introduced by Representative Lloyd Doggett (D-Tex.) in the House. If enacted, the Levin Bill would significantly change the taxation of foreign shipping companies which operate in the United States.
Section 103 of the Levin Bill (“Section 103”) would tax foreign corporations as though they were United States domestic corporations if:
(1) either (a) they have aggregate gross assets of $50 million or more at any time during the taxable year or any preceding taxable year, or (b) are regularly traded on an established securities market; and
(2) the “management and control” of the corporation occurs, directly or indirectly, primarily within the United States.
The legislation provides that the “management and control” of a corporation shall be treated as occurring primarily within the United States if substantially all of the executive officers and senior management of the corporation who exercise day-to-day responsibility for making decisions involving strategic, financial, and operational policies of the corporation are located primarily within the United States. This proposal would have an effective date for taxable years beginning on or after two years from the date of enactment.
On March 11, 2009, the Senate Finance Committee circulated a draft proposal containing provisions designed to improve tax compliance with respect to offshore transactions. The draft proposal does not contain a provision similar to Section 103. The Senate Finance Committee is scheduled to hold a hearing on March 17, 2009 that will be partially devoted to tax havens.
If enacted, Section 103 would represent a dramatic change in United States taxation of foreign shipping companies. Under current law, a foreign corporation engaged in the international operation of ships is not subject to United States federal income tax under Section 883 of the United States Internal Revenue Code of 1986, as amended (the “Code”), provided that it (i) is organized in a “qualified foreign country,” and (ii) meets one of three specified ownership tests. In addition, there are analogous shipping exemption provisions contained in substantially all existing United States income tax treaties (“Treaty Exemption Provisions”). In each case, qualification for exemption applies without regard to whether the foreign corporation is wholly managed and controlled from the United States or conducts all or a portion of its shipping operations through a permanent establishment in the United States.
If the Levin Bill were enacted in its present form, a foreign shipping company which is managed and controlled from the United States would be subject to United States federal income tax at a rate of 35% on its worldwide income if it was either publicly traded or had gross assets of $50 million or more. Dividends paid by the foreign shipping company (and certain interest paid to foreign lenders) to non-U.S. persons would be subject to a 30% United States withholding tax or at such lesser withholding rate as provided by an applicable United States income tax treaty. Dividends paid to U.S persons would be eligible for the 15% tax rate applicable to “qualified dividend income.”
Section 103 is plainly inconsistent with the historical purpose and intent of Code Section 883 as well as all Treaty Exemption Provisions. Section 103 is also plainly inconsistent with the 4% gross tax regime of Code Section 887 that is applicable to all foreign shipping companies other than those with a fixed place of business in the United States whose vessels trade to the United States on a “regularly scheduled” basis (e.g., liner or cruise companies). Finally, it is plainly inconsistent with the recent American Jobs Creation Act of 2004 (the “Jobs Act”) modifications to the tax rules applicable to United States-controlled foreign shipping corporations (“CFCs”) aimed at allowing the international shipping profits of CFCs, which are by their very nature typically managed and controlled from the United States, to be deferred from tax until remitted as dividends to the CFC shareholders. A narrow exception to Section 103 is available for foreign corporations which are at least 80% owned by a domestic corporation which has substantial assets (other than cash and stock of foreign subsidiaries) held for use in the active conduct of a trade or business in the United States.
According to Senator Levin’s introductory statement, the Levin Bill is intended to address perceived problems regarding offshore hedge funds. However, it appears to have been drafted without giving any thought to the wide-ranging impact on businesses in almost every other industry.
Given that the enactment of Section 103 would (i) roll back the underlying policy goals and objectives of Code Section 883 (and its statutory predecessors) that have been part of the Code for nearly nine decades, (ii) clearly contradict existing Treaty Exemption Provisions, (iii) undermine the clear policy objectives of the Jobs Act, and (iv) potentially subject dividend and interest payments made by foreign corporations to United States withholding tax, we believe that the chances of Section 103 being enacted into law in present form, without exempting from its scope the current rules of United States taxation applicable to foreign shipping companies (inclusive of CFCs), are low.
Nonetheless, we will continue to monitor the progress of the Levin Bill and any other proposals that may impact United States taxation of the international shipping industry.
If you have any questions regarding this Memorandum, please contact one of the attorneys listed below.
