Will my customers know of the existence of an IC-DISC?
It is important to note that nothing changes for the exporting entity on a day-to-day basis. The best way to describe the existence of an IC-DISC is to think of it as if it were an internal sales agent that works entirely on commissions. When a sales agent sells a product, the exporting entity remains responsible to fulfill, invoice, and ship the order to its customers. Consequently, the exporter continues to operate its business in the same manner as if the IC-DISC were nonexistent.
If my customers find out about the IC-DISC, will they want some of the tax savings to be passed on through reduced prices?
The only individuals that will ever know about the existence of the IC-DISC is the IRS, their CPA firm, and the LBMC/McGuire Sponsel team. As mentioned above, nothing changes from the company’s operating standpoint and at no point would the supplier/commission agreement between the exporting company and the IC-DISC need to be disclosed to customers.
How much federal tax can it save?
To illustrate, let’s suppose Widgets, Inc. (a fictional S corporation) ships $2 million internationally and pays $80,000 in commissions to its IC-DISC. Assuming the owners qualify for the highest capital gains tax rate of 23.8%, they’ll owe federal tax of $19,040 on qualified distributions from the IC-DISC.
However, the owners also owe less tax on their S corporation earnings. Widgets can deduct $80,000 in commissions paid to the IC-DISC, resulting in a tax savings of $31,680, assuming that the owners are in the highest federal tax bracket of 39.6%.
The net savings is $12,640 ($31,680 – $19,040), or 15.8% of the commission charge. It’s often possible to pay a higher commission using the 50% of net export income calculation, however.
What steps are required to properly execute the IC-DISC strategy?
- Form the new IC-DISC entity under state law.
- Make the IC-DISC election within 90 days of formation.
- Offer only one class of stock with par or stated value of stock of at least $2,500.
- Maintain a separate set of books and records for the IC-DISC.
Taxpayers also can establish the IC-DISC in a domicile without state income tax to eliminate the need to file state income tax returns.
The IC-DISC essentially exists for the sole purpose of running a commission calculation at the end of the year, which is returned as a qualified dividend to the shareholder. Above all, it is completely invisible to any and all customers and the exporter reaps all the tax benefits.