Accounting Taxation Related Problems

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  1. Cholati is a foreign corporation that produces
    fi ne chocolates for sale worldwide. Cholati markets it chocolates in
    the United States through a branch sales offi ce located in New York City.
    During the current year, Cholati’s effectively connected earnings and profi ts
    are $3 million, and its U.S. net equity is $6 million at the beginning
    of the year, and $4 million at the end of the year. In addition, a
    review of Cholati’s interest expense account indicates that it paid
    $440,000 of portfolio interest to an unrelated foreign corporation, $200,000
    of interest to a foreign corporation which owns 15% of the combined voting
    power of Cholati’s stock, and $160,000 of interest to a domestic
    corporation.
    Compute Cholati’s branch profi ts tax, and
    determine its branch interest withholding tax
    obligations. Assume that
    Cholati does not reside in a treaty country.

2. A foreign corporation can structure its U.S. operations
as either a branch or a subsidiary. What are the tax advantages of
operating in the United States through a separately incorporated
subsidiary? What are the tax advantages of operating in the United States
through an unincorporated branch? What general business factors should be
considered when choosing between the branch and subsidiary forms of
doing business in the United States?

  1. Wheelco, a foreign corporation, manufactures
    motorcycles for sale worldwide. Wheelco
    markets its motorcycles in the United States through Wheely, a
    wholly-owned U.S. marketing subsidiary that derives all of its income
    from U.S. business operations. Wheelco also has a creditor interest in
    Wheely, such that Wheely’s debt to equity ratio is 3 to 1, and Wheely
    makes annual interest payments of $60 million to Wheelco. The results from
    Wheely’s fi rst year of operations are as follows:
    Sales $180 million

    Interest income $6 million

    Interest expense (paid to Wheelco) ($60 million)

    Depreciation expense ($30 million)

    Other operating expenses ($81 million)

    Pre-tax income $15 million

    Assume the U.S. corporate tax rate is 35%, and
    that the applicable tax treaty exempts
    Wheelco’s interest income from
    U.S. withholding tax. Compute Wheely’s interest expense deduction.

  2. Hans, a citizen and resident of Argentina, is a
    retired bank executive. Hans does not hold a green card. At the start of
    Year 1, Hans paid $2.5 million for a 20-unit apartment complex located
    in the suburbs of Washington, D.C. Hans does not actively manage the building,
    but rather leases it to an unrelated property management company that
    subleases the building to the tenants. During Year 1, Hans had rental
    income of $300,000 and operating expenses (depreciation, interest,
    insurance, etc.) of $220,000. On the advice of his accountant, Hans made
    a Code Sec. 871(d) election in Year 1. At the start of Year 2, Hans sold
    the building for $350,000. Hans’ adjusted basis in the building at that
    time was $290,000. What are the U.S. tax consequences of Hans’ U.S. activities?

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