David Sayers, partner at international accounting and advisory firm Mazars, offers advice on global expansion.
Opportunities and challenges: spotting a gap in the market:
A UK business with a sound product or service would be neglecting its true potential if it did not look abroad for different markets. However selling goods and services overseas can open a business up to increased credit risk, duties, tariffs and issues such as adherence to local laws. Compliance to local laws alone can easily add on 30 per cent to overseas tax bills for owner managed businesses.
So when making a decision to grow overseas, it is necessary to consider the following:
- The differences between trading with and trading in a country
- The right corporate structure
- Understanding local legislation
- Financing the expansion
- Property issues
The differences between trading with and trading in a country:
In tax terms it’s important to draw a line between dealing with a company based abroad and having an office abroad. In direct tax terms, trading in a country will normally create a taxable presence.
However, for VAT purposes, it is often the case that an obligation to register will come about well in advance of direct tax reporting. Failure to register at the correct time can lead to significant indirect tax penalties in certain countries.
The right corporate structure:
Once a decision has been made to set up a permanent presence abroad, a business will then need to decide what form it takes. In most countries, including the UK, customers feel more comfortable dealing with a locally-established, familiar company rather than a nebulous branch of a foreign firm.
Even choosing a company can create unexpected tax and commercial consequences. Companies can be scrutinised to determine tax and legal status, both locally and in the home country as mismatches often arise.
Understanding local legislation:
One of the biggest differences for UK businesses looking to set up abroad are contradictory local codes. Much of continental Europe is founded on a civil law system based on written legal codes. The UK’s common law system is based more on precedents created gradually by judicial decisions.
Whilst the impact of EU legislation has diluted these differences to an extent, certain entities such as trusts or bonds are often alien concepts to our continental colleagues. Many UK businesses will be unprepared for the accounting and legal complexities they may face.
Financing the expansion:
Starting a business in a new market is likely to have a significant impact on working capital. Local banks are often wary of foreign start-ups asking for credit facilities. Even with a parent company guarantee, they can be less flexible than UK banks.
If a loan is to exist for any length of time, the UK tax authorities will usually ask for interest to be charged or make an adjustment to the parent company’s tax calculation. If the subsidiary is inadequately capitalised, the local tax authority may seek to re-characterise some of the loan as equity and thereby deny a tax deduction for part of the interest.
Businesses will often find that they need to inject a significant proportion of equity to create a third party lending scenario. Unlike a loan, this equity can be difficult to recover if funds are needed in the UK.
The same third party test applies to inter-company pricing. Most tax authorities around the world will insist that prices charged between parents and subsidiaries are demonstrably arm’s length, with often onerous documentation requirements and draconian penalty regimes.
Leasing and buying commercial property overseas can be subject to higher taxes than in the UK. A comparative analysis of stamp duty rates across Europe makes the UK rate of 4% seem relatively modest.
Most countries, unlike the UK, impose a capital gains tax on non-resident landlords holding investment property. Other countries will impose a penal tax rate on property held in a tax haven. Some even tax the sale of shares in foreign real estate companies rather than the sale of the asset.
Investing time in planning and research are vital to facilitating your expansion overseas and, if successful, the repatriation of cash. The golden rules are:
– Establish how you will operate overseas in advance, before the local authorities do it for you
– Don’t just accept the first corporate form that is offered to you. Make sure it meets your requirements both in the UK and the local jurisdiction
– Plan for culture changes and carefully calculate the costs of both setting up and closing down if it all goes awry
– Beware of onerous lease commitments and a higher overall tax burden on commercial property
– Think about your outward investment structure at the earliest possible stage