How Tax Reform May Impact Corporates Self-Funding Early Pay programs

The tax overhaul approved by Congress could have significant consequences for early pay and supply chain finance programs. It is projected there is over 1.25 trillion in cash held overseas by U.S. firms (source: Moody’s Financial Metrics)

The three main changes are:

  1. Cash held by US companies with overseas subsidiaries will attract a one-of tax deduction form 35% to 15.5%
  2. The corporate tax rate will come down to 21% from 35%
  3. As the US migrates to a territorial tax regime from worldwide tax, dividends form foreign countries will be tax free

Will companies bring back cash?  And if they do, how does it get deployed?

The first thing to note is that this cash repatriation business is entirely a balance sheet event. Right now, there is no obligation to deploy the cash. Today it sits on Apple’s or HP’s balance sheet in Dublin, or Luxemburg (tax havens) or China.  So now what?  It’s an accounting event to bring back the cash and pay a one-time tax to use in a different jurisdiction.  In Applies case, if they choose to bring some or all of their $252bn in cash held outside of the USA, it creates a tax liability of $39.1bn.  That is money that has to be paid to the U.S. Government.  If the money continues to sit in Dublin or Luxemburg can’t be invested, it’s a different issue then if they are to deploy it to pay down debt, put in a Supplier Finance program, borrow less, pay one-time dividends, etc.

If you look at Apple today, whether cash is in Ireland or Luxemburg (or China) and you want to bring it home and you earned it offshore, it’s a taxable event. If a company booked the tax liability on their balance sheet, the entry would show gross cash amount and an unrealized tax liability, regardless of how they will deploy.  Unless they have any intention to bring it back to the US, they dont have to book a liability and can show gross cash.  The reason a company would invest that cash in U.S. is either to get a higher rate of return on investment or deploy it on a project with a higher return in whatever it is deployed in.

Many large companies have operating companies in local jurisdictions to optimize taxes. All the U.S. is doing is changing the rate, it doesn’t mean a company will now change their legal entity operating structure.  Companies compare not just tax rates but what you can and cannot deduct (eg. interest).    Even with US tax rates at 21%, perhaps Apple still thinks it makes sense to keep cash where it is taxed at 10%.  No one knows for sure how much they will bring back.  Perhaps they will bring a portion of the $252bn as a one-time event, but not ongoing profits.

This is much more complicated than assuming companies will flock to bring cash back because of the new tax law.  The idea that 1.25 trillion is going to flock back to the States is naive.   I am not sure how much will come back, but certainly some will. The question is will it be parked in higher yielding cash investments or go to higher yielding return projects?

China is a special situation.  No one wants to have cash in China because it’s not safe to have cash there.  You are trying to match inbound cash with flow from outbound.

This will certainly be an important event to watch in 2018.

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