New IRS Publication on Foreign Derived Intangible Income (FDII)
Treasury just issued some new authority on "Foreign Derived Intangible Income" ("FDII") that I think is very interesting.
Generally, FDII is taxed at more favorable rates than regular income (13.125% rather than 21%), so the more income that qualifies as FDII, the lower the tax rate paid by the company. Moreover, because the cash income from such sale can be used to fund domestic expenses, the taxpayer may be able to create a situation where some of it's income is taxed at 13.125%, but its deductions generate a benefit at 21%.
That means that if a Protocol Sponsor sells tokens for cash, and generates taxable income that is FDII, and then uses that cash to pay deductible expenses that are not allocated to FDII, that Sponsor may effectively shelter 37.5% of other income (e.g., gain on distributions of tokens to shareholders). So for example, if a Sponsor sold tokens for $100 that qualified as FDII, it would owe $13.13 in tax. If it then distributed another $100 of Tokens to its shareholders as a dividend, it would owe another $21 of tax, but that tax might be reduced to zero when the $100 sales proceeds are used to pay US employees -- so the tax on the distribution is now effectively only $13.3 (21% of 62.5% of the distribution).
Before this publication, it was hard to know when token proceeds might be FDII. Under the law, proceeds from from the sale of property are only FDII if the sale is both (a) to any person who is not a United States person and (b) for foreign use.
It has never been clear to me how a Protocol Sponsor would know if a foreign buyer of tokens was going to use the tokens outside the US, or what kind of use was required (simply holding it in a wallet accessed from outside the US? using the tokens to acquire services or goods that are located outside the US? pledging the tokens to secure loans to be used in a foreign business? selling the tokens to other non-US people?)
On June 28, 2021, a unit in the Dept. of the Treasury called the "LB&I Concept Unit" published a document titled, "IRC 250 Deduction: Foreign-Derived Intangible Income (FDII) and Global Intangible Low-Taxed Income (GILTI)"
In that document, the authors say, "Foreign use means any use, consumption, or disposition which is
not within the U.S." From that, I take it that the foreign use doesn't have to be primary or continuous or even significant. It says "any use", and that should mean that any sale of a Token to a genuine non-US person (other than a foreign entity formed by a US person in order to purchase tokens only purchasable by non-US people) should constitute "use" and should therefore cause the income from the sale of the Tokens to be FDII.
Of course this particular publication is not authority, it can't be sited in a court, and it may well change, but I thought the statement was interesting and potentially very helpful.