Bringing Profits Home

CFOs are moving quickly to repatriate foreign earnings under a lucrative new tax break.

Multinational companies based in the United States have a one-time opportunity to repatriate their foreign earnings at a much lower tax rate in fiscal year 2005. Repatriated earnings will be taxed at an effective rate of 5.25 percent rather than the usual rate of 35 percent, provided that companies comply with requirements for reinvesting the funds in the United States. The rules for reinvestment are so broad, however, that there is virtually no downside to repatriation. As billions of dollars are brought back to U.S. shores, CFOs will have a new pool of money to draw from for capital investment, debt reduction, acquisitions, funding benefit obligations, adding new R&D and marketing programs, or simply fueling cash flow.

The tax break was enacted in Internal Revenue Code Section 965, part of the American Jobs Creation Act of 2004, which passed through the U.S. Congress in a bipartisan vote and was signed into law by President Bush on October 22. Although the legislation was promoted as a measure to boost investment in the United States and spur job growth, it is unlikely to generate substantial employment gains. It will, however, encourage U.S.-based multinational companies to repatriate an estimated $200 billion to $600 billion in foreign earnings within the next year, and it may help support the dollar. The tax break applies to the first taxable year beginning after the law's enactment date.

"The tax provision is almost all upside," says Philip R. West, tax partner and international tax specialist at law firm Steptoe & Johnson LLP in Washington, D.C. "The only downside is the current payment of a 5.25 percent tax and the financial statement hit for that tax. But in exchange, U.S. multi-nationals get to repatriate cash that they thought was effectively locked up abroad because repatriation would have cost up to 35 percent in tax. Technically, the cash has to be used here in the United States, but there's a lot of flexibility in the permitted domestic uses. Also, money is fungible, so as long as the repatriated cash is used domestically, other cash that was being set aside by the multinational for domestic use now can be freed up for foreign investment."

"Companies are taking advantage of the act whenever they can," says Matthew Annenberg, managing director of the financial markets advisory at ABN AMRO Inc. in New York City. "They are now deciding which earnings are in the right jurisdictions and whether the funds can be put to better use in the United States or abroad. The 5.25 percent tax rate is still a significant tax bill, however, so U.S. companies that are expanding abroad will be less likely to repatriate earnings."