Practical Considerations for Expanding into the U.S.
The U.S. is well-positioned to attract FDI, but comprehensive due diligence and planning is still necessary for a business to make an optimal investment decision.
Location USA 2019
The Global Economy: A Complex Landscape
Global economic and geopolitical uncertainty is affecting the day-to-day capital investment decisions of companies in virtually every industry and region of the world, whether they are middle-market German firms or Global 100 South Korean organizations. An annual survey conducted in 2018 by The Conference Board, a global business think tank, revealed that CEOs viewed a recession as the single largest concern for 2019. Looking back at the same survey one year prior, the fear of recession barely made the list of the CEOs’ top 20 concerns, ranking 19th.
These global economic vitality concerns also need to be balanced by geopolitical considerations such as the Trump Administration’s “America first” policy, Brexit and European Union negotiations, and China-U.S. trade relations. Over the last two years, there has been an increase in protectionist trade measures and ensuing responses such as the U.S. Section 301 tariffs on US$250 billion of Chinese goods and China’s tariffs on over 800 U.S. food and agricultural exports.
Despite these complexities, many global companies continue to analyze whether to expand existing U.S. operations, acquire U.S.-based companies, or enter the U.S. market. U.S. tax reform, a significant consumer market, reduced business regulations, the relative ease of doing business, and plentiful resources are some of the various factors that make the U.S. an attractive market in which to invest. According to the United Nations Conference on Trade and Development’s World Investment Report 2018, the U.S. was the largest beneficiary of FDI, as compared with other countries (it ranked first with approximately US$275 billion). We would expect the U.S. to remain in the top ranking because of the country’s tax reform and potential insulation from an impending recession.
In terms of a recession, the U.S. seemingly is in a stronger position than most other developed or emerging economies. National unemployment remains at historic lows, approaching 3.8 percent in March 2019. A shortage in labor availability is leading to increased employee wages, with year-over-year growth of 3.2 percent. The Commerce Department currently projects that the U.S. gross domestic product (GDP) grew at an annual rate of 3.2 percent in the first quarter of 2019. On a cumulative basis, businesses that make up the S&P 500 and Nasdaq continue to regularly surpass all-time stock price records.
Taxes, Incentives & Trade
On December 22, 2018, President Donald J. Trump signed into law the Tax Cuts and Jobs Act (TCJA), significantly reducing the corporate and individual tax rates. With a stroke of a pen, the U.S. increased its competitiveness with other Organization for Economic Cooperation and Development countries by reducing the corporate tax rate from 35 percent to 21 percent, as well as permitting companies to immediately expense 100 percent of qualified property with a phase-down not starting until 2023.
Global economic and geopolitical uncertainty is affecting the day-to-day capital investment decisions of companies in virtually every industry and region of the world. This monumental corporate tax overhaul — in addition to fostering a more favorable business regulatory environment — has reduced the current and future economic burden of companies contemplating FDI into the U.S. As global companies contemplate potential U.S. investment, they should have a comprehensive due diligence process in place to appropriately analyze operational, tax, financial, and trade considerations while identifying opportunities to reduce costs through a proactive economic development strategy.
Even though U.S. tax reform has been implemented, the multilayer U.S. tax structure at the federal, state, and local levels is typically more complex than that of other foreign jurisdictions. Because of this complexity, a company should create a thorough tax and financial model to take into consideration the various taxes that may affect their current and future investments in the U.S. Taxes typically overlooked by foreign companies because of the differences between their home country and U.S. taxing regimes include local property taxes, state and local sales taxes, utility taxes, local income and withholding taxes, and various local fees associated with operating a business, such as development, connection, impact or permitting fees. Further, the creation of a tax and financial model allows a company to understand its potential cost outlays and determine where to prioritize potential economic development discussions with state and local jurisdictions to assist in mitigating the various taxes and costs of doing business.
Additionally, the subsidy and incentives opportunities in the U.S. are very different as compared with those in a significant number of other countries. Within the U.S., incentives can come in a variety of forms, whether they be statutory (i.e., “as-of-right”) credits provided to companies if they meet various requirements or discretionary incentives that typically are negotiated with state and local economic development agencies. Companies should also review federal incentives opportunities such as the New Markets Tax Credit, Work Opportunity Tax Credit, and Research and Development (R&D) credit.
Under the TCJA, Congress created a new opportunity with the Opportunity Zone program, which gives companies the ability to defer certain capital gains and potentially eliminate future capital gains. It is important to note that state and local incentives usually provide the most lucrative assistance to companies, but they may require a “but-for” argument demonstrating that an alternative jurisdiction is being considered. This “but-for” concept and states’ proactive competition against one another are different than State Aid restrictions in the European Union, for example. Once a company receives preliminary offers from the affected jurisdictions, it can then build out its tax and financial model to take into consideration reductions to the overall costs of doing business in one jurisdiction versus another.
With a stroke of a pen, the U.S. increased its competitiveness with other Organization for Economic Cooperation and Development countries by reducing the corporate tax rate from 35 percent to 21 percent, as well as permitting companies to immediately expense 100 percent of qualified property with a phase-down not starting until 2023. Upon reviewing the preliminary incentives offers, the company should closely examine whether the proposed incentives package is realizable through the offsetting of a current or future tax, above-the-line benefit (e.g., indirect tax offset or refundable credit) or operational offset (e.g., infrastructure assistance). For instance, many states offer companies income tax credits that are limited in benefit to a company’s state corporate income tax liability. In many cases, manufacturers have very little or no state corporate income tax due — so this incentive would be of little to no value. States that target manufacturers often have statutory sales tax exemptions that apply to a business’s purchases of manufacturing machinery and equipment. While it may seem as if an economic development agency is offering your company a great incentive deal by providing a big exemption, your company may already be entitled to this benefit.
Additionally, to properly articulate the proposed project to relevant governmental agencies, an economic impact report should be considered. In addition to the direct jobs and investment the project would bring, your investment will also have indirect and induced economic impacts on the community. The hiring of construction workers, the purchase of local services and products, and the impact your business’s suppliers will have at the state and local levels should all be considered for incentives purposes. If the economic impact report sheds a positive light on the proposed project’s impact to the community, economic development and government officials can utilize the report to explain to their constituents why the level of incentives offered makes sense and benefits the community.
Finally, a company should also consider the constantly evolving trade agreements and policies that affect the business. A sensitivity analysis, whereby different tariff rates are applied to various inputs, can help you understand the what-ifs related to a trade war that is either escalated or resolved. Strategies focusing on duty deferral and elimination can also be modeled out, as many planning opportunities are dependent on the geographic location of the site.
There is no end to what can be modeled and analyzed, but the greatest amount of resources should be focused on the most significant variable costs. In addition to incentives, taxes, and trade, there are other financial and operational factors, often deemed more important to the long-term success of a project.
Even though U.S. tax reform has been implemented, the multilayer U.S. tax structure at the federal, state, and local levels is typically more complex than that of other foreign jurisdictions. While U.S. unemployment remains below 4 percent at the national level, every local labor market is unique. Certain regions of the country have higher unemployment, accompanied with higher-than-ideal crime rates and varying minimum wage and labor laws. In certain towns, employees may be willing to drive up to one hour to their principal place of business, while in other cities, a commute longer than 20 minutes could be practically unheard of. Where labor availability of certain job positions is extremely tight or nonexistent, without proper planning, the cost of employing the needed workforce may make a project unsustainable.
Transportation costs of moving in raw materials and shipping out finished products can vary tremendously depending on the chosen site. Proximity to infrastructure, customers, suppliers, and ports of entry should all be taken into consideration and included in your cost model. Utility cost, reliability and utility infrastructure make up some additional key considerations, and the list goes on and on.
Whatever factors are important to a company’s U.S. investment decision, through comprehensive due diligence and planning, a business can make optimal investment decisions while achieving the highest return on investment.
The views expressed are those of the authors and do not necessarily represent the views of Ernst & Young LLP or any other member firm of the global EY organization.