Question

Check Echo Inc., which has a 21 percent U.S. tax rate, plans to expand its business into Country J. It could open a branch office, or it could create a foreign subsidiary in Country J. The branch office would generate $5,000,000 income in year 0. The foreign subsidiary would incur incremental legal costs and, as a result, would generate only $4,750,000 income in year 0. This income would be taxed at Country J's 15 percent corporate rate. Any repatriation of the subsidiary's earnings would qualify for the 100 percent dividends- received deduction. a. Assume none the subsidiary's earnings would be considered GILTI or subpart F income, calculate the NPV of the Year 0 after-tax foreign source income from opening a branch office or forming a foreign subsidiary. b. Should Echo open the branch office or form the subsidiary to maximize year 0 after-tax foreign earnings? Complete this question by entering your answers in the tabs below. Required A Required B Assume none the subsidiary's earnings would be considered GILTI or subpart F income, calculate the NPV of the Year 0 after- tax foreign source income from opening a branch office or forming a foreign subsidiary. After-Tax Foreign Source Income Opening a branch office Forming a subsidiary < Required A Required >

Answer 1

Part A

	After-tax foreign source income
Opening branch office	$3950000
Forming a subsidiary	$3883600

Income from branch office	5000000
Country J tax ($5,000,000 ´15%)	(750000)
U.S. tax ([$5,000,000 ´21%] -$750,000 foreign tax credit)	(300000)
After-tax foreign source income	$3950000

Income from foreign subsidiary		4750000
Country J tax ($4,750,000 ´15%)		(712500)
U.S. tax cost of repatriation in Year 8: ([$4,750,000 ´21%] -$712500 deemed paid credit)	285000
Discount factor at 8%	0.540
Present value of U.S. tax cost		(153900)
After-tax foreign source income		$3883600

Part B

Echo should open the branch office to maximize year 0 after-tax foreign earnings