Assignment 3: International Taxation and Foreign Tax Credits - Research Paper Example

This will in effect be a form of double taxation (Hines & Rice, 1994). A strategy for a US-Based taxpayer to repatriate earnings from the foreign markets and avoid or mitigate the U.S. tax impact on repatriation Lots of profits that most taxpayers in the U.S attribute to mitigate or avoid taxes should be taxed up to about 35% when they are repatriated. In this context, the client can repatriate his earnings from the business abroad and at the same time avoid taxes using the “Cash Hoards” strategy.

The fact that U.S has cash hoards indicate that investment is not being hindered by lack of cash. The tax payer can thus bring money back home by shifting income through transfer pricing, a strategy that will allow him to assign costs to subsidiaries in high-tax nations and profits to tax heavens. The technique can work effectively putting in mind an example set by Google, a company that reduced its taxes by about$3.1 billion in the last three years by shifting most of its earnings attributed abroad eventually to Bermuda.

The tax gains from such profit shifting can result in a greater effect on share price compared to boosting sales or reducing other expenses, as the cutting rate goes directly to the bottom line. The tax system that creates such an incentive is an issue of focus. A territorial tax structure with better policing of shift pricing is a good option. A global consolidation system with no deferral is the best. Evaluation of Foreign tax credits An individual may claim the foreign tax credit for the entire taxes paid in a foreign nation.

However, he cannot claim a tax credit for those taxes paid on any earnings which have been excluded from the taxation in US using the attributed foreign housing exclusion or the income exclusion Scholes, (1992) and his fellow scholars argue that a tax credit reduces one’s tax liability based on a dollar-for-dollar term, and thus is generally more valuable compared to a deduction which cuts his or her taxable income. Further, foreign tax credit cannot go beyond one’s tax liability multiplied by a given percentage, which is his total foreign-source earnings divided by his total global income.

He must figure out the permitted amount by different categories of earnings. Examples of earning categories include wages and investment income. Any foreign tax credit amount beyond the greatest limit may be shifted back to a preceding tax year or can be carried forward to the following tax year. Credits that the client could use and the impacts on taxes Refundable tax credits If the amount of income tax that the client owe is less than that of tax credits of which he is eligible, he will not only avoid paying tax, but he will actually be refunded for the difference.

Thus, for example, if he owes $800 in tax but has $1,200 in refundable credits, the client will receive a $400 refund. Additional Child Tax Credit and Earned Income Credit for low-income workers are some of the most common refundable credits to use (De Mooij & Ederveen, 2003). Non-refundable Tax Credits If the client uses this tax credit, it will mean that he would not reduce the amount of tax he owes for less than zero. In simpler terms, he cannot generate a refund if the amount of credit is higher than the taxes