An FSC and a parent with an NOL form a powerful tax-reducing team.

• Author: Reynolds, Bruce W.
• Position: Foreign sales corporation, net operating loss

An increasing number of foreign-owned U.S. companies have exporting operations. This is particularly common in recently acquired groups and groups bought to supply a foreign parent.

It would not normally be recommended that a foreign parent own a foreign sales corporation (FSC), since foreign shareholders do not get the FSC dividends received deduction allowed to U.S. corporate FSC shareholders. The tax rate on distributed earnings from exports through a foreign-owned FSC is therefore higher than if the FSC were owned by a foreign company's U.S. subsidiary.

This general rule does not apply if the foreign company has a net operating loss (NOL) carryover. Foreign parents acquire NOL carryovers that they otherwise cannot use from a number of possible sources:

[] Losses under the Foreign Investment in Real Property Tax Act - common in the last two years.

[] Accumulated operating losses, from real estate that did not generate enough gain to eliminate the losses.

[] Discontinued branch operations resulting from post-1986 incorporation to avoid the branch profits tax.

[] Discontinued branch operations after a U.S. group was acquired.

[] U.S. research and development operations that have been conducted through a branch.

Foreign clients that may benefit from the idea described below can be identified through these sources.

Consider the structure on page 174. The FSC commission is a deduction for the exporter. The FSC's tax on the commission is only one-third of what the exporter would pay. A dividend from that FSC is fully taxable to the foreign parent, but the NOL carryover can be used against it. The FSC dividend does not create effectively connected earnings and profits for branch profits tax purposes, so the foreign parent's tax is not increased beyond the normal corporate regular tax or alternative minimum tax (which it will pay because the NOL can use up only 90% of income).

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