An overlooked tax break for international profits
With overseas sales growing, some savvy business owners are profiting from an often overlooked tax break.
(Fortune Small Business) -- The U.S. economy may be stalling, but opportunities for small-business owners still abound in hot overseas markets such as China, India, and Brazil.
Not only will the weak dollar make your overseas pricing more competitive, but a little-known tax break can also make your international profits more lucrative. It's called the IC-DISC, which stands for a mouthful of accounting lingo (interest charge - domestic international sales corporation) and offers a bushel of tax savings.
"It's not just the most popular incentive - it's really the only incentive left for exports now," says Jim Jacobsen, a CPA who is CEO of Centerprise Group, a Houston accounting firm.
Here's how the IC-DISC works: Basically you set up a legal shell company through which you can funnel your company's export-derived earnings. The money is then paid out to the IC-DISC owners - usually the company shareholders - as a dividend and is taxed at a benign 15% rate just as if it were a dividend from a stock.
"It's a very good deal for small businesses," says Irina Gasanov, operations manager and co-owner of InDrill International, a Houston company that exports drilling and mining equipment to Eastern Europe. InDrill set up an IC-DISC last October and is now happily shunting earnings from its $6 million to $8 million in annual export sales into the vehicle.
Once the IC-DISC is set up, your firm pays a commission to it based on your export sales. Even though you will get that commission money back later from the IC-DISC in the form of a dividend, your firm can deduct the commission it paid from its reported profits. (The commission can be the greater of either 4% of gross export income or 50% of net export income, with a limit of $10 million.) At year-end the IC-DISC pays no taxes.
Technically earnings that qualify for the IC-DISC are those generated from exports that have at least 50% of their fair market value coming from U.S. sources. Even if your charges from abroad are more than 50% of a product's total cost, it still qualifies as an export for tax purposes if you add most of the product's market value here (importing raw eggs from Mexico to make frozen soufflés, for example).
In addition, earnings from manufactured goods, sales of architectural services, entertainment products, and software also qualify, though consulting services do not. Notes Jacobsen: "The main area where the IRS challenges the DISCs is whether you followed the rules in terms of what you can put in." It pays to be careful on this front, because improper IC-DISC contributions can lead to the entire DISC's being disallowed by the IRS.
The cost of setting up an IC-DISC is typically about 30% of the first year's savings. Jacobsen says this tax break can make economic sense even for companies with annual export sales of only $1 million or so. So start your export engines. 
Who in the world is entrepreneurial?: We scan the globe to uncover which countries are the most - and least - friendly to small business.
Small and Global: Small businesses with big footprints.
Track 17 major currencies
-
Detroit's churches are plowing millions into redeveloping local housing and businesses. More -
Winepod attracted a wait list of eager buyers and millions from investors. Then came the recession. More -
As other major banks withdrew, Wells Fargo stepped up its small business lending. More -
Designer Chuck Comeau set up his manufacturing in Plainville -- 240 miles away from a major airport. More -
As staffs shrink, business owners are taking on support duties they haven't had to handle in years. More
How does a florist sell more in this economy? We changed our business to designing weddings and events only, as the everyday flowers are not selling. We had to throw out too much product at the end of the week -- flowers are perishable! More
These 7 new homeowners stepped up their house-hunting to take advantage of the first-time buyer tax credit. More
Charlotte Street in New York City's South Bronx was once world famous for its blight. Now it's a slice of suburbia in the inner city - complete with Beemers and boats. More
Critics thought homeownership would never work in the South Bronx. They were wrong. Tour the one house currently for sale on Charlotte Street. More
More Small Business
