Facing the Sharks of Overseas Company Formation
I have a client that I just picked up in the cryptocurrency market. I have worked with at least eight companies that have brought coin to market who usually start as LLC’s, with one general partner, and the rest of the members are limited partners.
Each partner contributes either coin, which needs to be converted to US dollars to establish their basis in the partnership, and in the coin that is going to be released, cash, a combination of the two, or real property. The expenses that are incurred in the LLC, are then added to the basis of the coin that is being produced.
When the coin is brought to market, the investors can either sell their coin for the going US rate, however most people convert their percentage of coin to a more stable cryptocurrency like Bitcoin. However, if done incorrectly, this can be a taxable event.
The tax bill coming out of the Ways and Means Committee would stop this practice, but until such a time as that section of the new tax bill becomes law, cryptocurrency can be traded under Section 1031, just like any other property. In 2014, the IRS issued Notice 2014-21, deeming that cryptocurrency was to be treated like property. That being said, unless specifically excluded, property can be exchanged for other property under IRC § 1031. You can do this for the assets of one business for another, real estate, and any other likes kind property, unless it is excluded.
Cryptocurrency isn’t excluded right now. However, if the tax bill that just came out of the Ways and Means Committee were passed, in its current form, IRC § 1031, would be specifically used for real property only. However, right at this very moment, you can do a 1031 exchange with cryptocurrency.
Now, there will be some people that will debate me. However, how is Bitcoin, and Ethereum, any different, except that they are exchanged for different US dollars? Bitcoin and Ethereum are still cryptocurrency, so what difference does it make?
The client that I picked up was the majority owner of this cryptocurrency company. He was from the US, and the rest of the partners are foreign. He came to me saying that he had made the decision to incorporate in Singapore. He engaged me and then sent me the company’s tax strategy, as well as the costs associated with incorporating in Singapore.
The tax strategy made no sense, and the company that was going to form the corporation, and other things in Singapore (i.e. pad the bill), were going to cost him $15,000 a year. Once I saw that, I sent him an email explaining that this company was charging more in yearly fees than what him or his company, would save in taxes.
First of all, the corporation would be domiciled in Singapore, have a bank account there, and a company address, all of which fall under the FATCA regulations for the majority US partner that would have to disclose this to US Government.
Not to mention Subpart F Income that would occur when the monies would be repatriated. Subpart F Income can be taxed as much as 30 percent. Then the foreign company couldn’t do a 1031 of the newly created coin for an older, more stable one.
In short, the money that was paid to this company that is handling all of the forming of the company, and domiciling the company in Singapore, is making a killing. Not to mention that the money that they are saving, paying 7 percent in taxes in Singapore, do them no good with a US Citizen as the majority partner.
The two partners had no idea, and were appreciative that I got to work on this matter as soon as I was engaged; and on a weekend, no less.
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Craig W. Smalley, MST, EA, has been in practice since 1994. He has been admitted to practice before the IRS as an enrolled agent and has a master's in taxation. He is well-versed in US tax law and US Tax Court cases. He specializes in taxation, entity structuring and restructuring, corporations, partnerships, and individual taxation, as well as...