Setup for an US LLC + Romanian PFA

[radup]

Hello everyone,


I am interested in creating a business setup for an IT consulting company which will target clients mostly from US.
I currently live in Romania and I pay taxes there.

My idea for this business setup:
- Open a passthrough / single owned US LLC. No taxes payed in US as a non-resident.
- Establish a consulting contract between my US clients and my US LLC.
- Sub-contract myself or other people on the US LLC to do the actual work in Romania.
- Client pays the US LLC -> US LLC pays me to do the actual work.
- US LLC makes no real profit. I pay taxes in Romania as a freelancer.

Advantages I see:
- Having an US LLC can be good advertisement for your business.
- The US LLC offers some legal protection. The Romanian PFA(Sole Proprietorship) does not offer any legal protection. Essentially the government can freeze all your personal assets at any time if you forgot to pay some tax. Also the same can happen if your clients are suing you and you need to return money..
- Access to US banking services.
- Us clients can make domestic wires and they don't need to worry about international wires.
- Less bureaucracy than I have with my Romanian micro company. The Romanian IRS is changing the rules even year. The Romanian micro is not an option anymore since they changed the rules again last year.
- Since I sub-contract myself or others in Romania to do the actual work, the US LLC is not making any real profit and I pay zero CIT in Romania under CFC rules.
- Freedom to move in case I want to move to another country.

Questions:
1. Would such setup be legal?
2. Are there any concerns about profits shifting under BEPS?
3. Anything else I am not aware of?

Thanks

 

[Marzio]

I pay taxes in Romania as a freelancer

Nope, you pay 16% CIT in Romania because by running your LLC from Romania you are creating a permanent establishment.

 

[radup]

@Marzio yes, but the US LLC is not making profit. The balance at the end of year will be zero. It will be 16% out of nothing. Am I mistaken?

 

[JustAnotherNomad]

1. The US LLC will have to pay US taxes on "US-source income", so-called effectively-connected income (ECI). This would be work done physically in the US, I think.

2. For the US LLC, you there is a risk that your clients will send form 1099, which tells the IRS "Hey, we paid this US company some money". The IRS could then assume there was ECI and they will come looking for the taxes, and you would have to explain to them that the work really was not done in the US. This could potentially become a big thing - I spoke to a US tax lawyer about this and he said he would strongly recommend billing US clients from a foreign company, not a US LLC, to avoid this issue. That said, I have also spoken to a (non-US) advisor who sets up such companies for foreigners and he said he has dozens of clients and never experienced such an issue. I'm wondering if you could send a W-8-BEN or W-8-BEN-E to your US clients to avoid the 1099 issue.

3. You'll want to make sure that the US LLC is taxed as a pass-through entity. Otherwise, there would be transfer pricing restrictions (you can't just invoice all of the profits from Romania). I believe that transfer pricing restrictions don't apply if it's a pass-through entity. However, I know that many foreign software companies (like IT consulting companies from Eastern Europe) do use corporations, so you'll want to double check this.

3. You'll probably want to make sure that the US LLC is owned by you personally and not your Romanian company. Because if it's owned by a company, if there is ECI, there would be branch profit tax.

4. You probably have to declare your US LLC to the Romanian tax authorities. There is a risk that they would classify it as a Romanian company, not a partnership, so it would be taxed like a Romanian corporation (LLC). This is what Marzio is referring to. But I don't think this would be an issue if there is no profit (see above). But you'll really want to check this with a Romanian tax lawyer who has experience with US tax law and the US-Romanian tax treaty. I'm also not sure if this could trigger exit tax (when you leave Romania) or wealth tax or anything like that in Romania. There is probably also some risk that if you work as a freelancer with your US LLC as your only client, that the Romanian tax authorities will say you're an employee of your US LLC and not a freelancer, so your company should register in Romania as a Romanian company and that it would have to pay social security in Romania. In that case, there is also a risk that you can't take 100% of the profits as a salary - there may be a limit on the salary (because of Romanian transfer pricing restrictions), and then you would have to take the remaining profits as a dividend, which would mean that there would be Romanian corporate income tax (for the company) and capital gains tax (for yourself).
In other countries, this risk can be avoided/reduced by using a well-designed operating agreement, so that the US LLC can be classified as a local partnership, not a corporation.

This is just off the top of my head as someone who is not an expert. In general, I think this could work well, but you really have to work with very experienced advisors in both countries.
Please keep us posted what you find out.

 

[Onassis]

In other countries

Such as?

 

[JustAnotherNomad]

I believe I have heard about this for... not sure, could have been Germany. But you really have to speak to an experienced advisor.

 

[European]

Nope, you pay 16% CIT in Romania because by running your LLC from Romania you are creating a permanent establishment.

But the premise is that the US LLC will make no profit, so even if it were considered a tax resident in Romania, 16% of $0

 

[JustAnotherNomad]

1. The US LLC will have to pay US taxes on "US-source income", so-called effectively-connected income (ECI). This would be work done physically in the US, I think.

I just confirmed again with both a US tax lawyer and a CPA that if you bill US clients from your US company, there is a risk that the IRS will claim that there is US source income, so US tax applies.
Even if you work outside the US. I suspect that is why foreigners with US clients set up corporations - then there definitely is US tax, but you may be able to reduce it quite a bit by taking our profits via invoices, like you suggested. Like I said, you really need to talk to experienced advisors before setting up such a structure.

 

[radup]

I just confirmed again with both a US tax lawyer and a CPA that if you bill US clients from your US company, there is a risk that the IRS will claim that there is US source income, so US tax applies.
Even if you work outside the US. I suspect that is why foreigners with US clients set up corporations - then there definitely is US tax, but you may be able to reduce it quite a bit by taking our profits via invoices, like you suggested. Like I said, you really need to talk to experienced advisors before setting up such a structure.

Yes, probably setting up the LLC to be taxed as a C Corp is a viable option. It will be taxed on profit, which won't really exist

 

[JustAnotherNomad]

If it is taxed as a corporation, you will have to check transfer pricing restrictions. Which means you probably can't just invoice 100% of the profits, you have to pay the "market price".
Also, this would increase the risk that Romania will also want to tax the company as if it was a Romanian company, and your whole freelancer idea could become extremely difficult if not impossible.
Then again, there may be no or less US tax under the tax treaty. But then again, there may be more Romanian tax for the company.
Please do check all this with good advisors. If not set up correctly, you could even end up in a situation where you will pay more taxes than if you had simply used a Romanian company.
Banking would probably become easier with the company being taxed as a corporation at least.

 

[Marzio]

Romanian tax authorities will say you're an employee of your US LLC and not a freelancer, so your company should register in Romania as a Romanian company and that it would have to pay social security in Romania. In that case, there is also a risk that you can't take 100% of the profits as a salary - there may be a limit on the salary (because of Romanian transfer pricing restrictions), and then you would have to take the remaining profits as a dividend, which would mean that there would be Romanian corporate income tax (for the company) and capital gains tax (for yourself).

Very possible scenario.

 

[radup]

If it is taxed as a corporation, you will have to check transfer pricing restrictions. Which means you probably can't just invoice 100% of the profits, you have to pay the "market price".
Also, this would increase the risk that Romania will also want to tax the company as if it was a Romanian company, and your whole freelancer idea could become extremely difficult if not impossible.
Then again, there may be no or less US tax under the tax treaty. But then again, there may be more Romanian tax for the company.
Please do check all this with good advisors. If not set up correctly, you could even end up in a situation where you will pay more taxes than if you had simply used a Romanian company.
Banking would probably become easier with the company being taxed as a corporation at least.

There are no transfer prices in this case. This is not a multinational company. It's an US agency sub-contracting someone to do the work. As for the price, it will be the market price.

Very possible scenario.

This is true. The Romanian authorities might consider at some point that the US agency should hire me directly or via some local branch and then I will pay 40% on salary and the company will pay CIT on profit if there is any.

As for the local IT salaries in Romania, I don't think there is any limit right now. In some cases the gross salary is almost at US level.

 

[Marzio]

I forgot to ask one thing: do you know if Romania sees US LLC as opaque or transparent?

 

[JustAnotherNomad]

There are no transfer prices in this case. This is not a multinational company. It's an US agency sub-contracting someone to do the work.

It's not subcontracting to "someone" - it's subcontracting to a related party, reducing US taxes. This is exactly what transfer pricing restrictions are about. I don't know the exact US rules though.

As for the price, it will be the market price.

Doubtful if there is no profit. ;-)
Anyway, I think the US side should be simple enough, I would be more worried about the Romanian side.

 

[radup]

I forgot to ask one thing: do you know if Romania sees US LLC as opaque or transparent?

We don't have the hybrid structure in Romania. It's either a corporation SRL or pass through PFA without legal protection.

I am not sure 100%, but most likely any foreign entity will be treated as opaque in Romania.

It's not subcontracting to "someone" - it's subcontracting to a related party, reducing US taxes. This is exactly what transfer pricing restrictions are about. I don't know the exact US rules though.



Doubtful if there is no profit. ;-)
Anyway, I think the US side should be simple enough, I would be more worried about the Romanian side.

I am more worried about the new BEPS MLI international treaty https://www.oecd.org/tax/treaties/m...x-treaty-related-measures-to-prevent-beps.htm

 

[Marzio]

I am not sure 100%, but most likely any foreign entity will be treated as opaque in Romania.

If that's the case, everything we said to this point is valid.

A possible solution could be to interpose a legit third party between your US LLC and you.

I'm talking about something like a third party platform like UpWork where basically on one end there's your US LLC that's looking for freelancers and on the other end you acting as a freelancer rendering the job for the US LLC through that platform.

The very important part is that you have to find a platform that invoices the LLC on your behalf so that when you are getting paid, you are getting paid by the platform, not the LLC.

From RO perspective you are a bonafide freelancer that's rendering work through that platform.

Technically you are working from the platform, not the US LLC

 

[radup]

If that's the case, everything we said to this point is valid.

A possible solution could be to interpose a legit third party between your US LLC and you.

I'm talking about something like a third party platform like UpWork where basically on one end there's your US LLC that's looking for freelancers and on the other end you acting as a freelancer rendering the job for the US LLC through that platform.

The very important part is that you have to find a platform that invoices the LLC on your behalf so that when you are getting paid, you are getting paid by the platform, not the LLC.

From RO perspective you are a bonafide freelancer that's rendering work through that platform.

Technically you are working from the platform, not the US LLC

In that case it will be easier to ask a friend to be the owner of the LLC and eliminate the agency

or even better:

the LLC will be owned by two people or more. In that case the CFC rules won't apply in Romania according to PWC Romania - Corporate - Group taxation
You need to own more than 50% of that company to be taxed as CFC and also to pay less CIT in US than the standard CIT in Romania.

 

[Marzio]

In that case it will be easier to ask a friend to be the owner of the LLC and eliminate the agency

I remind you that your friend will the beneficiary owner of the US LLC bank account, it must be a veeery trusted friend.

I would think thrice before giving to somebody such responsability.

 

[JustAnotherNomad]

CFC probably rules probably aren't relevant, it's about permanent establishment. You can have permanent establishment in many places at the same time.
You may find yourself in a situation where both the US and Romania will demand CIT for your company.

 

[Marzio]

Yes, it's not a super compliant solution but how high are the chances that RO will find out about that?

First and foremost he is paying taxes in Romania, he is not keeping profits in the US LLC to save on taxes once he will move to Dubai to finally drive his Lambo.

He is using a proxy to mask his invoices so even under investigation he will be covered by showing third party platform's invoices.

I highgly doubt RO tax agency will have time and resources to ask the third party platform to show who he worked for, they don't have any reason to ask for that.

The only one who know that he is behind the US LLC is the IRS and US isn't part of CRS but obviously we don't know how form 5472 informations will be used by the IRS.