Most attribute the start of the Industrial Revolution in the United States (U.S.) to the opening of Slater Mill in Pawtucket, Rhode Island, in 1793. The success of this textile mill, replete with technological innovations of the time, marked the beginning of enormous change in the United States and the world at large. What followed included, among other things, rapid and unprecedented technological innovation, social and demographic change, the development of complex supply chains, the reduction of prices through mass production of goods, the development of robust fiscal policy and capital markets, and global economic competition. The year was 1793, but this could just as easily describe 2023.
In the recent past, however, the word revolutionary may not have been closely associated with the United States manufacturing industry. Instead, the term “globalization” – the pursuit of the lowest cost of manufacturing through the use of offshore manufacturing operations – would likely have come to mind. However, it has become clear that there are significant hidden costs – and risks – connected to the globalization trend that has been the bedrock of the manufacturing industry for decades. Many of these costs have been exposed by the COVID pandemic, as well as recent geopolitical instability.
As a result, manufacturers’ approaches to globalization strategies are now undergoing a true “revolution.” Consider recent trends and advancements in the manufacturing industry, such as:
- Smart manufacturing
- AI and predictive data analytics
- Security of reliable access to raw materials and components
- Shifts from B2B to B2C
- Cybersecurity and IP protection
These trends and advancements give life to the term “Industry 4.0.” This is a transformation of the manufacturing industry of merely a decade ago. Tax authorities around the world have taken note, resulting in rapid and widespread changes to countries’ fiscal policies and tax regulatory environments. Some of these changes have occurred with a high level of international coordination, while others have not.
As a result, U.S.-parented manufacturing and distribution businesses are busy evaluating and implementing changes that require careful analysis, planning, coordination, and execution in order to be effective. Manufacturers are typically quite good at handling these endeavors and involve the personnel and advisors necessary to address matters of strategy, operations, finance, regulations, and project management. However, international tax advisors are often excluded until the process is nearly complete, at which point they are only able to work with what has been implemented, rather than offering their strategic insights throughout the process. This mistake can result in significant, unanticipated costs, including those from lost opportunities and resulting inefficiencies that can directly affect the organization’s return on investment.
What does this mean to manufacturers in the middle market? Many expected difficulties, from changes to cross-border operations to evolving supply chains, are the same for small, medium, and large companies. Businesses in the middle market typically lack the internal resources to address and manage all of the challenges and decision points that will be encountered. As a result, the inherent risk of design and implementation failure may often be greater for a business in the middle market than that of its larger peers. Therefore, involving a qualified international tax professional in the early stages of the change process brings value and can help mitigate risks.
In the context of a U.S.-parented group, certain fundamentals of U.S. international tax can have material effects on financial outcomes, so business leaders should work with an international tax specialist to consider such things as:
- Whether it is possible to obtain U.S. tax benefits through the Foreign-Derived Intangible Income (FDII) deduction by performing certain activities from the U.S. that benefit foreign customers or group members.
- Whether U.S. tax outcomes can be optimized when a company engages in strategic inorganic overseas expansion through acquisition activity.
- How the anticipated changes may affect intercompany relationships and the transfer pricing for the resulting economic charges.
- The extent to which there may be annual income inclusions that artificially increase U.S. taxable income because of subpart F, Global Intangible Low-Taxed Income (GILTI) or other anti-deferral provisions.
- Whether the foreign tax credit mechanism applies and the extent of the benefit.
- Whether a U.S. tax treaty is available to provide a tax benefit or the limitations thereto.
- How costly it will be to maintain and operate a new global structure.
- The state and local tax considerations of anticipated changes.
- The financial statement and reporting implications that will result from the intended changes.
The potential list of questions that should be asked is extensive, and every business will have a unique set of facts and circumstances to evaluate because no two businesses are the same. Unforeseen business obstacles routinely arise that have to be managed or mitigated, often with corollary U.S. tax considerations. Identifying an experienced and knowledgeable international tax advisor and involving them early in the discovery and concept development process can not only help to avoid costs, but also provide valuable thoughts and ideas to increase success.
Citrin Cooperman’s Manufacturing and Distribution Industry Practice is equipped with a team of professionals who work collaboratively with our International Tax Services Practice to deliver customized, effective solutions to help businesses achieve their short-term goals and long-term objectives. For more information, please reach out to Fred Corso at firstname.lastname@example.org or your Citrin Cooperman advisor.
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