Interest Charge Domestic International Sales Corporation

The Interest Charge Domestic International Sales Corporation (“IC-DISC”) presents substantial Federal income tax advantages to business manufacturers or distributors that either sell directly to foreign buyers, or indirectly to distributors or wholesalers who resell for use, consumption or disposition outside of the U.S.  Architectural and engineering services related to foreign projects are also qualified.  Initially established by Congress in 1971 to promote export sales, the IC-DISC enables businesses to defer income, subject to interest charge on the deferred tax.  Today, the IC-DISC offers significant permanent tax savings for manufacturers, distributors, and wholesalers of U.S.-made goods used, consumed, sold, or disposed of overseas.

What is an IC-DISC?

An IC-DISC, is a tax-exempt domestic corporation, that elects to be treated as an IC-DISC. An IC-DISC generally has no employees, principal office, or tangible assets such as property, plant and equipment.  Mostly acting as a commission agent, an IC-DISC enters into a commission agreement with the business manufacturer or distributor, in which an IC-DISC earns commission on the export taxable income of the U.S. exporter.  An IC-DISC distributes that commission income to its owner as a qualified dividend, which is taxed at long-term capital gains rates.

Example: How an IC-DISC Works

If you’re a U.S.-based wholesale distributor (also referred to as the “related supplier”) selling U.S.-made goods to foreign markets, by setting up an IC-DISC you can optimize your tax strategy.  Here’s how it works:

  1. Formation: Related Supplier creates an IC-DISC, a domestic corporation, which is treated as a tax-exempt separate entity upon timely filing a special election for tax purposes.
  2. Qualification: To qualify as an IC-DISC, a U.S. domestic corporation must be formed under state law; have a single class of stock; file an election within 90 days, maintain a minimum capitalization of $2,500; and meet annual qualified export receipts and qualified export assets tests. The corporation must also maintain a separate bank account and books and records, file separate tax return.
  3. Commission Payment: Related Supplier pays commissions to the IC-DISC based on a calculated safe-harbor amount of the export taxable income of the related supplier.
  4. Tax Deferral:  The IC-DISC is not subject to federal income tax on commission income earned from the related supplier’s export receipts.  The IC-DISC is exempt from federal income tax on its qualifying export-related income, allowing it to accumulate earnings tax-deferred, subject to a small interest charge.
  5. Dividend Distribution: The IC-DISC can distribute its accumulated earnings to its shareholders as qualified dividends.
  6. Taxation: Shareholders receiving dividends from the IC-DISC are taxed at the qualified dividend tax rate (same as long-term capital gains), which is lower than ordinary income tax rates.

IC-DISC Ownership Structures

Parent-Sub:  Parent Co. (e.g. S Corp, LLC, LLP, Sole Prop.) owning 100% of the shares of the IC-DISC as a subsidiary.

Subsidiary graphic

Benefit: This structure enables your company to lower its overall tax liability, ability to defer income, and increase cash flow for working capital needs.

Brother-Sister:  Owners of U.S. Exporter (e.g., C- Corp, S Corp, LLC, LLP) owning 100% of the shares of the IC-DISC.

Benefit: This structure enables tax advantage strategies for succession and estate planning.

Case Study

An S-corporation parts and components distributor (“related supplier”) for construction, earthmoving, agricultural, and mining equipment has domestic gross receipts of $3.5 million and foreign gross receipts of $5.5 million for a total of $9 million.  The cost of direct labor, transporting, stocking, and purchasing the components—which will be sold both domestically and abroad—leaves the gross margin at $4 million.  After selling, general & administrative expenses, the related supplier’s net taxable income is $1.05 million domestically and $1.65 million internationally.

To determine the permanent federal tax savings using an IC-DISC, start by calculating its commission, which in this case can be either of the following:

  • 50% of export net income
  • 4% of export gross receipts, limited to export net income

In this example, the first method provides a commission of $825,000—50% of $1.65 million, the related supplier’s net taxable export income.  The second gives us a commission of $220,000—4% of $5.5 million.  In general, you’ll want to choose the larger of the two amounts for the greatest tax benefit.  In this case, you’d choose the first, which results in a $825,000 commission paid by the related supplier to the IC-DISC.  As a result of this tax-deductible commission, the related supplier’s taxable income is reduced by $825,000, leaving it with export taxable income of $825,000.

The $825,000 commission paid to the IC-DISC is taxed to the IC-DISC’s owners as a qualified dividend.  A total tax of 23.8%, which is the top long-term capital gains tax rate of 20% plus the 3.8% Net Investment Income Tax (“NIIT”) rate, is paid on these dividends resulting in a $501,600 total tax bill on the $1.65 million export-related income.  In this case, without the use of an IC-DISC, the shareholders would have had to pay $610,500 on the export-related income (assuming shareholders are taxed at the maximum rate).  Therefore, by using an IC-DISC, the shareholders were able to save $108,900 in taxes.

The complexities make it difficult for many CPA’s or consulting firms to provide IC-DISC tax services to taxpayers. The IC-DISC was placed into the IRC provisions to promote exports by both parties in Congress, but it is the taxpayer’s responsibility to take advantage of the export tax incentives available to them.

My extensive experience, providing excellent tax services to over 500 IC-DISC’s over the past 12 years, demonstrates my understanding of the IC-DISC rules and will maximize your tax benefits.  The IC-DISC provisions are subject to very complex limitations and grouping rules set forth in the Treasury Regulations, IRS revenue rulings, and court cases.  However, with complex limitations there may also be tremendous advantages that I can help you attain. My advanced-level knowledge and capabilities, as well as the demand for my services, gives me pleasure working with many different taxpayers, lawyers, and CPA’s.