If you are an American company exporting products without an IC-DISC, you are probably overpaying on your US taxes. It’s that simple. The Interest Charge Domestic Sales Corporation (“DISC”) is a tax incentive that U.S. exporting companies should be using to reduce their overall U.S. tax liability. But very few do.
IC-DISC Background. The United States originally enacted the legislation for the DISC back in 1971 to provide export subsidies to domestic companies. A DISC is a qualifying US corporation which elects to be taxed under special tax rules. Under those rules, the domestic corporation that makes the “DISC Election” is NOT taxable.
How it Works. DISC allows exporters to transform what would typically be ordinary income, taxable at approximately 40%, to qualified dividend income, taxable at approximately 20%.
To obtain the tax benefit, a DISC Company is incorporated as a domestic corporation. The legislation provides a mechanism whereby the operating company may pay a commission to the DISC Company. The commission paid is a fully deductible expense for the operating company. The commission received by the DISC Company is NOT taxable to the DISC. When the DISC pays a dividend to its shareholders, the payment is taxable at the lower dividend tax rates.
Not Operational Changes. The tax benefits provided by the DISC do not require any operational changes for the exporting company. There is no requirement for employees to track time or to make any other changes in how they currently transact business. The Treasury Regulations specifically provide that the DISC is not required to have any substance, including employees, risk of loss, etc.; and that the DISC may be a “paper company.” This is one of the few areas of tax law where the “substance” requirement is specifically exempted.
In sum, companies that are exporting products for use outside the U.S. can benefit from the DISC. The DISC does not require operational changes and it can provide significant tax savings.
This post is a guest post by Mehrdad Ghassemieh, an international tax lawyer and an adjunct professor at the University of Washington School of Law, where he teaches international tax planning.