date | theme

27. January 2021 | Taxation of corporations in the USA: dividends from subsidiaries

February 2, 2021 | DBA USA

4. March 2021 | Founding a company in the USA – you should know these rules as an investor!

5 March 2021 | Taxes in the USA for natural persons: Tax liability & taxation

20. October 2021 | Starting companies in the USA: these 5 mistakes you should know! (this post)

If you want to start a company in the USA, then there are a whole series of rules that you should observe in advance, at least from a tax point of view. If you do not do this, it can happen that you make mistakes that you try to correct later on. Five of the biggest mistakes here concern the place of management, the different tax treatment of profits in the USA and Germany, the role of the federal states with their respective tax laws in local taxation, the establishment of permanent establishments or subsidiaries in the USA and, fifthly, the neglect of tax obligations and the associated consequences.

There are many good reasons to start a business in the USA. This includes, in particular, the internal market with its enormous potential, which is one of the largest and thus potentially most profitable in the world. After all, the US is regarded as the world’s leading economic power for good reason. Moreover, many still view the US as the land of unlimited opportunities from an entrepreneurial point of view. Here you find an investment-friendly climate, relatively few bureaucratic constraints, authorities that work relatively quickly and a civil society that is generally open to innovation. As an entrepreneur, you can also make quick decisions. For example, it requires little effort to start a company in the USA.

And yet this carries many risks. Especially if you want to start a company in the USA from Germany, there can be some hurdles that you may have hardly thought of when starting up or before. These errors may also have significant consequences. These can only be corrected conditionally afterwards. In any event, it is likely that their removal will entail considerable effort.

Therefore, we want to dedicate this article to five key mistakes that can occur if you want to start a business in the USA from Germany. May this publication help our readers to be aware of the many opportunities and risks associated with starting companies in the USA. Because in the end, an in-depth consultation in advance, which helps to avoid errors, is usually cheaper than trying to correct errors afterwards.

Before going into the five serious errors in turn, let us determine the framework within which we begin these considerations. This is mainly about the view of German entrepreneurs, who dealt with the question of whether they should start a company in the USA. We therefore focus on those areas which often receive little attention in these considerations and thus can lead to the five mistakes we have now presented.

Basically, the title of this subsection should be rather the disregard of the influence of the form of company on taxation in Germany and the USA. Finally, this is a little more precise. For reasons of space, however, we have chosen an abbreviated variant, but at the same time also referred to the core of the topic.

For example, for some types of companies in the USA, it is possible to make the type of taxation dependent on the decision of their shareholders. Probably the most famous example of this is the US-LLC, in which one can decide by the so-called check-the-box procedure every five years whether the taxation at the federal level should correspond to that of a partnership or a corporation. The influence of the chosen option can be considerable, since the former option leads to a transparent taxation at the level of shareholders, while the latter initially only causes a corporate tax.

But it is precisely this admittedly tempting freedom of choice that can have considerable effects on taxation in the USA and Germany. Assuming that as a German GmbH & Co. KG we would like to set up a company in the USA in which you can apply this check-the-box voting right and you choose taxation there as a corporation, while in Germany as a partnership you are a transparent tax entity, then this leads to double taxation in both countries despite double taxation agreements. This is due to the fact that both countries tax the US company inconsistently and therefore no crediting of the taxes already paid in the USA is possible in Germany. So instead of paying less taxes, as actually hoped, now comes a double taxation in both the USA and Germany.

It is similar to the importance of the place of management. If you start a company in the USA from Germany, this process already carries the germ of the error to be explained here, because usually the management takes place de facto in Germany. Even if you hire a managing director in the USA, this usually remains directly dependent on the will of the German shareholders. This is irrelevant for taxation in the USA, because they determine their right to taxation according to the place of establishment of the company. Rather, the German view on the question of whether taxation should take place in Germany is relevant. Because the German financial authorities will investigate where the place of management actually lies, instead of following their US colleagues and using the place of establishment for taxation.

In this respect, taxation takes place once after the place of establishment (in the USA) and once after the place of management (in Germany). However, anyone who wants to avoid such double taxation must absolutely take this point into account.

Therefore, if the establishment of a company in the USA should possibly lead to a situation in which double taxation could occur in the USA and Germany, then the establishment of a branch in the form of a permanent establishment in the USA may be considered. There are risks here too.

First of all, you have to take into account that the US tax authorities have to make an assessment of the German company for their own tax purposes. For example, a German Einheits-GmbH & Co. KG is asked to explain what type of company it represents. To be more precise, it is also a question of distinguishing between a partnership and a corporation, in particular on the basis of its characteristics under company law. These explanations are therefore important right at the beginning, but often also cost considerable effort.

If the results of such a type comparison of the US authorities are then available and they come to an assessment that deviates from that in Germany, it follows that the same situation is also present here as when choosing the wrong taxation right of a company founded in the USA according to the check-the-box procedure. Accordingly, there can also be double taxation in the USA and Germany.

Similarly, tax law in different states can be a source of errors that you may hardly think about when you plan to start a business in the US. This is because, for example, in some states there is a kind of nexus approach to taxation. If you sell goods in California, for example, then sales tax can be omitted, even though you founded the company in a completely different state in the USA.

Equally important may also be a company or management within the USA independent of the place of establishment. Because there are states that also consider such institutions as tax relevant for their purposes. Here, too, taxes can arise in addition to those in the state where the company was founded in the USA.

Without comprehensive knowledge of the tax rights in the individual states, it can therefore happen that one unintentionally neglects the obligation to submit a tax return in individual states. What consequences this can have, we discuss in the next subsection.

In addition, there is no intergovernmental agreement within the US to avoid double taxation, as there is at international level. So you have to expect double taxation here too, although this is usually rather low.

Incidentally, the sales tax mentioned here, as well as all other taxes incurred at local or US federal level, are not taken into account when applying US taxes in Germany. Only the US federal taxes are taken into account in Germany.

There is a duty to file tax returns in the USA. You are obliged to calculate the taxes yourself. A reminder or other general request is therefore unknown there. If you now fail to submit a tax return and this is noticed by a competent authority, then you have to make up for it. The same applies to regulations concerning, for example, accounting or wage accounting.

But often this is accompanied by a fine or other penalties, which in contrast to Germany can be very sensitive. The interest also accruing on the tax amount owed, whose interest rate is based on market interest rates, unlike previously in Germany, is hardly significant.

So ignorance about tax circumstances and obligations can be a significant mistake you make when starting a taxable company in the US. The consequence of this is that you may have to hire specialist tax consultants in several states in order to meet all tax obligations. This, in turn, entails a significant cost, but it should still be lower than if you have to pay fines.

So, as you can see, there may be significant risks if you want to start a business in the US. This involves potential errors, some of which can have serious consequences. Even if this is only a selection of potential wrong decisions that can cause undesirable consequences even when setting up companies in the USA, we would like to emphasize in general that there are solutions for this as well.

The best solution, however, is to avoid such errors. Entering the US market may seem economically beneficial to many entrepreneurs, especially emerging startups. But this article should have made it clear that when starting a business in the US, there is much more to consider than just the possible profit. Therefore, before such a step, we recommend consulting a tax advisor skilled in this matter. Maybe you should also consider consulting a tax consultant in the USA. If you are then sure that the undertaking also takes into account all tax aspects, you have regulated at least one of many important points, on which success ultimately also essentially depends.