What do I mean by Intellectual Property?
topics covered in video
- Offshore is ALMOST always best
- Typical Structure
- Getting your IP Offshore and Taxation
- CFC’s – non-CFC’s and Insurance
When do I mean by intellectual property? That is debated. I am talking about things like software or something special that you have invented. What is almost always the case is the intellectual property that allows something to be done can also be separated from the business that profits from the intellectual property. Why is that important? The intellectual property can almost always be located offshore and licensed to the company.
Let us say you invented software that allowed you to copy DVDs. Soon it caught on, and orders became huge and the motion picture industry started selling. Well, what should have happened is
that the intellectual property the software that enabled the DVDs to be easily copied it should
have been both developed and owned offshore. This allows it to be protected from the many
predators in the United States that will always try to take it away; and it should be owned and
licensed abroad, because in many cases these intellectual property assets have a worldwide value
not just in the United States.
There could be a bigger market in China, Germany, Japan or South Africa than even the United States. It is almost always better for an asset protection and tax perspective to have your intellectual property owned offshore.
What is a typical structure to own it? A straight ahead asset protection trust. It is very
common for people to put their intellectual property, their code, their URLs, offshore. There
should always be proxy registered so they do not directly lead to you; and they need to be proxy
registered with companies who do not share information with US judges and lawyers, that is
pretty easy to do.
Sometimes the trust will actually own the entities that own the software. Sometimes the
entities will actually be insurance companies that hold subsidiaries that hold the intellectual
property. There is 100 different ways to set up the ownership, but as long as it is offshore
and off your balance sheet, it will be much more protected than if it is held in the United
Now I am going to talk about some of the major issues. The first one is, getting your
intellectual property offshore. Let us go back to the example of the guys who invented the DVD
copying software. If they put the property offshore before it has any value, before it is
protected, before it is developed- even better.
The act of transferring an offshore should not create a major tax problem in the US, but if your client waits until the asset has real value there is a potentially disastrous tax consequence. Why? Well see section 367? If you look at it 367 taxes the person or the entity that transfers intellectual property or any business asset abroad as if it were a sale or exchange. There is a big tax to pay if you transfer your assets offshore in the intellectual property is fully developed.
The IRS has perfect 20/20 vision in hindsight, and can wait up to three years after the asset is transferred and say the software was worth 82 million, you have been making XYZ dollars every month for the last two years, and we are going to treat it as if you sold an $82 million asset. Basically they are going to tax you out of existence.
You always need to be aware of when and how to put your money offshore. One way around that issue is sometimes using an insurance structure, and there are ways to potentially mitigate against section 367.
I mention 482 because this is a provision that would catch you if you are not careful. It deals with transfer pricing. 482 deals with pricing, and it means that you have to have fair pricing, arm's-length pricing. Oftentimes people will try to structure royalty arrangements in such a way as to maximize the profits offshore and eliminate profits onshore, but you cannot get too aggressive on that because 482 is really big for the IRS. If you are ever doing this, never do it by yourself. Get a really well-trained tax lawyer or tax accountant first.
CFC means, controlled Foreign Corporation. If you put your assets offshore into a CFC or in non-CFC, it's going to have very different tax consequences. Normally with a non-CFC you can isolate your offshore income almost forever offshore. You will not have to pay taxes in the US until you to get out in the form of a dividend, or if you take it out in the form of salary. What is a CFC? Again this is a huge topic, but CFC's are when a US shareholder owns 10% or US shareholders own 50% or more of the company; and if US shareholders together own more than 50% than the income of the CFC, it's taxed directly to the US shareholders as it turned whether or not it is distributed.
FDAP is just shorthand for the offshore company being taxed on US income as if it was just a royalty income. It is a 30% tax on the gross and is no deduction for business expenses. An ECI is effective connected income, and if you have that, it's taxable; but you can take off your normal deductions. All of this alphabet soup is awfully confusing you enough so that you become highly convinced that you need to get expert help if you go down this direction.
Treaties are extremely valuable if you know you are going to be selling this asset through a company associated with the Netherlands. You might want to form or put your offshore IP in the Netherlands, because there is some really good tax treaties that allow you to reduce your taxes.
There is nothing sadder than seeing somebody make an awful lot of money, but find that they are going to be paying taxes on their worldwide income to Uncle Sam- a pretty high rate, when they could have cut that tax in half or less by moving abroad, at the same time fully disclosing all the information to Uncle Sam and the IRS.