Export Tax Incentives - Interest-Charge Domestic International Sales Corporation (IC-DISC)

Companies that manufacture products within the United States and export abroad may derive tax benefits from the use of an Interest-Charge Domestic International Sales Corporation (IC-DISC).  The IC-DISC may be particularly beneficial for small to midsize privately held businesses and their owners. 

The IC-DISC is a separate legal corporation that is able to defer taxation on up to $10 million of export revenues each year, providing certain requirements are met.  The IC-DISC, itself, is not subject to federal income taxes on export sales income, though a Form 1120-IC-DISC is required annually. 

The more commonly used form of an IC-DISC is a commission IC-DISC (with the other form being a buy/sell IC-DISC).  In the commission structure, the IC-DISC functions as a commission agent selling products (almost entirely) outside of the United States (one requirement of an IC-DISC is that at least 95% of its revenues are export receipts).  In this structure, the IC-DISC charges a sales commission to the U.S. manufacturer, which receives a deduction at ordinary tax rates. 

The annual IC-DISC income is calculated using one or a combination of three methods; 4% of qualified export receipts, 50% of the combined taxable income, or an arm’s-length amount based on transfer pricing principles.  To maximize the commission benefit, a transaction-by-transaction analysis is often performed to calculate the greatest commission amount allowed for each separate export sale. 

Because the IC-DISC is not a tax-paying entity, there is no tax on the commission income.  The shareholder(s) of an IC-DISC are taxed on either the actual or deemed distributions from the IC-DISC in the form of a dividend.  The deemed dividend to the U.S. shareholder(s) is calculated based on the IC-DISC’s taxable income on export revenues in excess of $10 million (the taxable income on the first $10 million of export receipts are tax-deferred until actually distributed to the shareholder(s)). The deferred tax liability on the undistributed earnings is subject to an interest charge (currently less than 1% annually).

For certain IC-DISC owners, the different tax characterization of the dividend and commission results in a federal tax rate spread of approximately 16% for taxpayers in the highest individual tax brackets.  The dividend to the shareholder(s) is taxed at approximately 24% (20% dividend rate + 3.8% net investment income tax rate), and the benefit of the commission deduction is at the ordinary rate of 39.6%. 

The implementation and use of an IC-DISC is a tax strategy that can result in both temporary and permanent tax benefits.  That’s right, tax deferral and tax savings.  Sounds too good to be true, but it is a legitimate tax structure.

The IC-DISC is not a viable option for everyone, but it should be considered for U.S. manufacturers with significant overseas sales.  If your company thinks that IC-DISC may be an option, contact the Schneider Downs International Tax Advisors.

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Material discussed is meant for informational purposes only, and it is not to be construed as investment, tax, or legal advice. Please note that individual situations can vary. Therefore, this information should be relied upon when coordinated with individual professional advice.

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