CHAPTER 18 Host-Country Regulation: Corporate Law, Taxation, and Currency Risk
Host- Country Corporate Law Affecting Foreign Investment • Host country corporate law can impact the “bottom line”: • What is the host country does not allow repatriation of money back to foreign investor’s country? • What if employment boards are run by a majority of host-country ‘insiders’? • Most countries now regulate investment to try to balance investment with local growth and control.
Minority Ownership: Passive • Investor limits herself to equity or debt financing. • Equity: • American Depository Receipts certificates held by U.S. trust institution representing stock held by bank in foreign country. • EU Prospectus Directive. • Legal issues: insider trading (different definitions), national legislation.
Minority Ownership: Active • Joint Venture forms: • Foreign corporation. • Foreign partnership. • U.S. corporation with foreign branch. • U.S. partnership with foreign parties. • National restrictions may exist on foreign participation. • Example: U.S. restriction on foreign nationals involved in defense contractors.
Majority Ownership and Subsidiaries • Reason: Foreign company can exercise greater control, but some countries either forbid 100% foreign ownership or impose high taxes. • Option: create a foreign branch subsidiary.
What Is the Difference Between a Subsidiary and a Branch? • Control. • Tax. • Liability. • When might you consider a branch first?
Tax Issues: Bank of America v. U.S. • Foreign tax credits - in the U.S. you get credit on U.S. income tax on foreign taxes paid. See the Bank of America Nat’l Trust & Savings Assn. v. United States case. Holding: BOA petition dismissed tax credits appeal.
Tax Issues: E-Commerce • Should the internet be a “tax free” zone? • Great variation among regions: • All EU purchases subject to a VAT tax, from 15-25%. • EU treats downloadable music as a “service.” • Transfer pricing - to prevent tax evasion require intercompany transactions at arms length prices.
Tax Issues • Foreign sales corporation - legal mechanism to reduce taxes. See the Compaq Computer case. • U.S. Enforcement of Foreign Tax Laws. • David B. Pasquantino v. United States: Supreme Court held that Department of Justice has the power to prosecute Americans for the evasion of foreign tax laws.
Foreign Control Issues • Virtually every country prohibits foreign entities in sensitive sectors. • US outlaws foreign investment in “national security” fields such as telecommunications, air transportation, and military procurement. • Mexico has now changed its laws to allow up to 100% foreign investment. • Investor reaction to limits has always been negative.
Controlling Currency Risk • Inconvertibility: make agreement with government regarding currency exchange results & import substitution rights. • Minimizing Fluctuation Risks: Currency Swaps. • Arrangements with the Soft-Currency Country. • Payment and Price Adjustment Approaches.
Controlling Currency Risk • Structuring of Hard-Currency Obligations and Revenues. • Countertrade. • Counterpurchase. • Barter. • Offsets. • Buy-Back. • Consortia or parallel exchange.