US Operation of A Foreign Corporation - Subsidiary vs Branch

U.S. business activities of foreign persons generally are conducted either through a US subsidiary or a US branch.  There are vast differences in the US tax treatment and legal ramifications of these two forms, as briefly summarized below:

US Subsidiary

A US subsidiary of a foreign corporation is taxed as any other domestic corporation, that is, as a separate taxable entity apart from its foreign parent.  A US subsidiary determines its taxable income by including income and expenses it earns and incurs.  In determining a US subsidiary’s taxable income, transactions between the subsidiary and its foreign parent are recognized for tax purposes, subject to arm’s-length pricing rules provided under IRC section 482 and regulations thereunder.  In summary, by maintaining separate books and records, income and expenses earned and incurred by the US subsidiary will be subject to US taxation, generally.

Additionally, in general, by incorporating a separate and distinct legal entity, the foreign corporation has the protection of the “Corporate Veil.”  In other words, the subsidiary is solely liable for its own debts and obligations and its owners (the foreign parent corporation) are sheltered from them, generally.

US Branch

In contrast, a US branch of a foreign corporation is not treated as a separate taxable entity, and thus transactions involving the US branch with the foreign corporation, including other branches of the foreign corporation, generally are not recognized for tax purposes.  Instead, the Code and regulations under IRC sections 864 and 882 employ a special set of rules that allocate and apportion to the US branch a portion of the foreign corporation’s worldwide income in order to determine the net income subject to US tax.

IRC section 864(c) sets forth the rules that determine the gross income effectively connect to a foreign corporation’s US business.  As the name implies, these rules generally require that there be some connection to the foreign corporation’s US business activities for the income in question to be treated as effectively connected.   In other words, based on the level of US branch’s participation in the transaction, the gross income of the foreign corporation is allocated to the US branch.  Because of this subjective nature of determining US source income for the branch, it is one of most frequently questioned and challenged tax issue during an income tax audit of a US branch of a foreign corporation.

Deductions generally are apportioned to the US branch under complex regulatory formulae set forth under IRC section 882 and regulations thereunder, not necessary tailored to the specific facts relating to a particular US branch.  Further discussion is omitted since it is beyond the scope this email communication.  Additionally, a US branch of a foreign corporation is subject to “branch profits tax” which approximates the taxes on dividend.

Contrary to the above mentioned income and deduction allocation and apportionment rules set forth for a US branch of a foreign corporation under the current US tax laws, some foreign corporations with branch operation in US determine its US taxable income under so-called the “Separate Entity Method.”  Under this unauthorized method, like a US subsidiary, a US branch would determine its taxable income by including income that it receives or accrues and deducting expenses that it pays or incurs.  Again, this approach is in contrary to the current tax laws, and exposes the foreign corporation for substantial tax risks.

Additionally, because a branch is not a separate legal entity, branch offices do not offer the same projection to their owners as they are simply a legal extension of the head office.  Hence any legal claim against the branch can be directly passed on to the foreign corporation located overseas.

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<한국어버전>

미국으로 진출하는 회사들은 보통 지사 (Subsidiary) 또는 지점 (Branch) 을 설립하여 운영한다. 두 방침은 아주 다른 US tax consequences와 legal ramification이 있으며 아래에 두 방침의 차이점을 간략하게 설명한다.

지사 (Subsidiary)

외국회사의 미국지사는 독립적인 기업으로 간주되며 US tax 또한 지사 자체의 손익손실에 따라 적용된다. 단, 특정관계거래에 대한 이전 가격 연구 (Transfer Pricing) 가 필요하다. 또한 독립적인 법인으로써 지사의 법적문제는 외국 본사에게 영향이 없다고 볼 수 있다.

지점 (Branch)

외국회사의 미국지점은 독립적인 기업으로 간주되지 않으며 지점에대한 US tax는 미국세입법 조항 864와 조항 882에 의해 손익손실이 결정된다. 우선 지점의 US income 은 조항 864에 의해 외국법인의 world-wide income을 미국내에 level of operation에 따라 분배 (allocate and apportion) 한다. 분배 방식은 매우 주관적이며 감사시 빈번히 발생하는 tax risk 이기도 하다. 다시 말해서 지점의 수입은 본사의 world-wide income을 주관적인 절차에 따라 배분하는 것이 현 미국 세법이다. 마찬가지로 미국 지점 지출 또한 미국세입법 조항 882에 의해 본사의 world-wide expense를 지정된 formula에 의해 배분한다.

위에 설명했었던 것과 반대로 지점이지만 독립된 기업처럼 보고하는 “Separate Entity Method”을 이용하는 회사들도 종종 볼 수 있다. 이 방법은 세법상 허용되지 않은 방법이기 때문에 모회사에 매우 큰 위험 요소 이다.

지사와는 달리 지점은 독립적인 법인이 아니기 때문에 미국에서 발생된 법적문제나 채무는 외국 본사에게 직접적인 영향을 미친다.