IC-DISC offers tax advantages for closely held export companies.

• Author: Thomas, Mary K.
• Position: Interest charge domestic international sales corporation

For a closely held U.S. company engaged in export sales, an interest charge domestic international sales corporation (IC-DISC) offers opportunities to both reduce the amount of revenue subject to the ordinary income tax rate and provide financial compensation to employees, shareholders, or other stakeholders.

An IC-DISC exists as a separate entity apart from the parent company, and it is not required to have the same shareholders as the parent company. Export sales from the parent company flow through the IC-DISC, and the IC-DISC receives a commission based on either 4% of gross receipts or 50% of net foreign sales income (plus 10% of export promotion expenses) (Sec. 994).

Tax can be deferred on commissions on up to $10 million per year in export sales conducted by the IC-DISC. The commissions are then passed on as dividends to IC-DISC shareholders. A minimum capitalization of $2,500 is required to establish an IC-DISC.

The IC-DISC, then known as the domestic international sales corporation (DISC), was created by Congress in 1971 to help U.S. businesses combat a growing U.S. trade deficit. The DISC was eliminated in 1984 and restructured by Congress as the IC-DISC. The IC-DISC's income is treated as if it were distributed to its shareholders, and shareholders pay interest on any deferred tax liability from this passthrough income (hence, the "interest charge" nomenclature) (Sec. 995(f)). The IC-DISC today is the lone export incentive available to U.S. companies.

Operating Company Tax Benefits

A company that establishes an IC-DISC reduces the amount of ordinary income subject to a 35% tax rate.

Example: A Co. has $1 million in annual foreign sales and $500,000 in annual taxable income attributable to those export sales. If A Co., its shareholders, or executives form an IC-DISC, the commissions owed to the IC-DISC by the company can then be deducted.The amount of the deductible commissions is the greater of the amount calculated using the gross receipts method, or the combined taxable income (CTI) method.

Based on the gross receipts method, a 4% commission ($40,000) on annual foreign sales would be paid to the IC-DISC.Assuming the company's or its shareholders' (in the case of a passthrough entity) ordinary income is taxed at the maximum 35% tax rate, the commission payment would reduce the amount of tax owed by $14,000. The commission paid to the IC-DISC would then be distributed to its shareholders as dividends. Assuming those shareholders...