Cash Management Considerations In Implementing an HIA Strategy
The American Jobs Creation Act of 2004 incorporates Internal Revenue Code Section 965, otherwise known as the Homeland Investment Act (HIA). The HIA provides a temporary tax incentive in the form of a one-time dividend-received deduction to encourage US corporate taxpayers, holding profits and earnings in offshore entities, to bring some of those earnings home in the form of cash dividend. Dividends must then be domestically reinvested per an approved plan.
Implementing a Homeland Investment Act strategy could be one of the most vexing activities corporate treasuries will manage in 2005. The interplay of the complex corporate finance analysis and the delicate balancing of tax benefits against global investment opportunity is complicated. And the execution of the strategy can involve numerous logistical issues that could impact success. Transaction banking and cash management specialists should form part of the HIA project team to ensure smooth implementation and optimal results.
It is important to consider the cash logistics of repatriation in conjunction with the financial and tax strategy because country-level constraints, such as local taxes and monetary regulations, may limit flexibility and require alternative approaches. Additionally, local liquidity profiles play a role in timing and allocation of payments across the corporate global network.
The Act contains a number of provisions that are key to planning your transactional strategy. At a summary level, these facts are important to emphasize:
Of course, these are generalizations. Actual interpretation and application of IRS Code 965 will be formulated by internal tax, accounting, legal, and treasury departments based on company-specific facts and circumstances.
There are essentially four steps to realizing your HIA strategy. In order to take advantage of the benefits and avoid negative surprises, a disciplined approach is necessary and becomes increasingly important as the number of jurisdictions increases.
The first step is to review location of companies identified as potential sources of repatriated earnings. The initial review should, of course, include the financial implications of local withholding and potential value of foreign tax credits. This analysis is a critical element of the decision phase. But there are also logistical issues to be considered. In some situations, profits may not be held in the form of cash, but rather in the form of cash equivalent investments or capital assets. If there is a mismatch between local currency and target currencies, conversion could potentially impact overall corporate currency exposures and hedges.
The cross-border movement of funds out of certain regulated jurisdictions often requires a series of disclosures to and approvals from local monetary authorities and central banks. Generally, countries with strict monetary and foreign exchange controls, e.g. China and India, will require submission of supporting documentation for the dividend payment. The amount repatriated may also be subject to limits.
Countries have differing requirements relating to cross-border payment flows that may be subject to change with little or no notice. Even large enterprises may find they do not have enough local expertise to navigate the issues. In these circumstances, it makes sense to engage a bank with on-the-ground presence and working knowledge of local regulations. Irrespective of US legislation, companies must adhere to local regulations and these restrictions can impact the optimal execution of your repatriation plan.
Once the participating CFCs have been identified, treasury staff and operations must develop a detailed execution plan. Whether the plan consolidates positions in a regional treasury center or in-house bank, or envisions payments made directly from the CFC to the parent, regulations and restrictions pertaining to cross-border liquidity management structures and payments must be met. Moving cash out of local banks and into a global overlay network bank can simplify the process, providing consistent end-to-end service. Multi-currency payment capabilities can also incorporate FX conversion, if necessary.
Working within a network bank helps avoid the risks associated with moving funds through multiple bank channels. It provides the potential for automation resulting in reduced costs while retaining the value of funds, and will produce a complete and logical audit trail. The end of the road is an account of the US tax entity claiming the deduction. This account may, in fact, be located offshore and denominated in a currency other than USD. This may help the company more efficiently stage the cash and manage currency exposures.
The planning for execution should include a review of these essential ingredients:
HIA provides a good deal of flexibility with respect to temporary cash investments, and an appropriate investment strategy can result in increased returns. There are two places in the logistical chain where liquidity can pool up – during the cash accumulation phase prior to repatriation and over the post-dividend reinvestment period.
As funds accumulate in local accounts, multi-bank and in-network cross-border target balancing can be used to siphon excess liquidity to concentration accounts where the pooled balance may earn a higher return. Excess liquidity can be skimmed over time or as local investments mature. Alternatively, the target amount may be moved in a single transaction directly to the parent or into a regional treasury center, a process many global multinationals employ in the normal course of their business. Since the company can accumulate foreign currency, as well as USD, there is flexibility in the choice of when, or if, to convert.
Once repatriated, dividends that have received the HIA one-time deduction must be deployed in permitted investments, per the approved reinvestment plan, within a reasonable period of time. While these investments must be in the US, the dividends can be invested temporarily in any currency or asset as long as the US parent owns the account.
Some plans may require a number of years to implement. This presents a need for longer-term or laddered investments to optimize returns and preserve liquidity. While the legislation does not require it, segregating dividends earmarked for reinvestment in a separate portfolio may be a ‘positive factor’ in demonstrating the nexus between the dividend and the reinvestment plan. In addition, separate portfolios and accounts can be tailored to specific maturity and liquidity requirements in line with expected spending patterns to enhance return by extending duration.
Given the numerous moving parts involved in execution, much can go awry. Therefore, it is important to gather data at every point in the process and view it in real time in order to track strategy execution. Transaction flows within a single global banking network reduces the risk of fragmented reporting as funds are handed from one platform, or financial service provider, to another.
A global electronic banking platform with robust transaction and balance reporting capabilities can be invaluable in this regard. Once repatriated, a segregated portfolio or account, as well as use of an electronic investment platform, can provide a single point of contact for information reporting and tracking of inflows and outflows.
This four-step approach integrates the logistics of moving and investing cash within the overall corporate strategy. Once the decision is made to repatriate, plan carefully and include cash management logistics in your plan to fully optimize benefits.