By Zee Makhani and Jim Foster
What is an IC-DISC?
An Interest Charge—Domestic International Sales Corporation (IC-DISC) is a little known, but increasingly popular, export incentive for U.S. companies. The IC-DISC incentive has been in existence in its current form since 1984.
It provides tax savings to qualifying domestic exporters to encourage more U.S. companies to compete in the progressively competitive global market. By taking advantage of this tax incentive and the reduced tax rates from the Bush Era Tax Cuts, companies can strengthen their economic position by effectively reducing what they would owe on foreign sales income under the ordinary income tax rate (typically 35%) to the qualified dividend rate of 15%.
Do I qualify?
To take advantage of the IC-DISC, domestic exporters do NOT need to be selling products that are "100% American" or even "100% new". In fact, a domestic exporter's products only need to meet three specific criteria to qualify as export property for purposes of the IC-DISC. The products must:
1. Be manufactured, produced, grown, or extracted in the United States;
2. Be held primarily for sale, lease, or rental for direct use or consumption outside the United States; and
3. Have 50% or more of its fair market value attributable to content direct from the United States.
While the IC-DISC is primarily for the export of tangible goods, including software, the rules for the IC-DISC do allow for gross receipts generated by certain services to qualify as well. This means that companies engaged in engineering or architectural services for the design of permanent structures (buildings, roads, bridges, etc.) to be built outside the United States can qualify.
How does it work?
Essentially, an IC-DISC is a separate entity incorporated under the laws of a chosen, tax friendly state that acts as a silent partner with a domestic exporter. The IC-DISC itself does not require the working capital of a traditional brick-and-mortar company—it can exist on paper alone without an office, employees, or supplies.
It primarily requires the legal formation of the entity and an election by that entity to be treated as an IC-DISC within 90 days of the beginning of the
taxable year.
Once the IC-DISC has been correctly setup, the domestic exporter makes commission payments to the IC-DISC on all foreign sales and deducts this commission from the domestic exporter's ordinary income. The commission is calculated as 10% of the export promotion expenses by the IC-DISC attributable to the qualified export receipts plus the greater of:
1. 4% of qualified export receipts; or
2. 50% of exporter's taxable income.
Further savings can be generated by computing commission payments on a transaction by transaction basis. A transaction by transaction analysis allows exporters to use the more advantageous commission calculation based upon the margin of each of the transactions rather than applying the calculation to the entirety of the foreign sales. The IC-DISC is federally tax exempt, and thus the only time tax is paid is when distributions of the commissions are made
to the shareholders.
Should I do it?
While many companies are eligible to take advantage of the IC-DISC tax incentive, few do because they're either unaware of the benefit, they believe setting up the IC-DISC seems too daunting or confusing, or they feel the task of calculating the commissions is burdensome and not worth the benefit. However, by partnering with experienced professionals who understand the process, companies can reduce the time and expense associated with capturing the tax incentives to which they are entitled.
Zee Makhani, Director, and Jim Foster, J.D., National Tax Manager, both of Paradigm Partners, a national tax consulting firm specializing in niche tax services.
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