from fees for its use, must initially purchase the IP from the prior owner. For work that is offshored, the new workers do not contribute prior proprietary knowledge, only IP subsequently. But setting a fair price for the initial IP received is difficult and risky. If it is overvalued the company selling it to the CFH will have gained too much income, on which it must pay taxes. If it is undervalued, excessive profits will accrue to the CFH.

How does the company document the value of its transferred IP? The annual reports to shareholders and the 10-K reports submitted annually to the U.S. Securities and Exchange Commission rarely include estimates of the value of a company’s intangible property. Only when one company acquires another high-tech company are due-diligence assessments of the IP obtained made. Various method types help assess the value of the transferred IP from a parent to its CFCs or CFH are available, including these five (with many variations):

Future income. Predict the future income ceded to the CFH, subtract all expected costs, and reduce the remainder to account for routine profits. Compute the IP’s net present value (NPV) over its lifetime to obtain the amount due to the IP2;

Shareholder expectations. Use shareholder expectations embodied in the company’s total market capitalization, subtract the value of its tangibles, and split the remainder among the CFH and the parent3;

Expected value. Search for similar public transactions where the IP transfer was among truly independent organizations, then adjust for differences and calculate a median value19;

Diminishing maintenance. Aggregate the NPV of the specific incomes expected from the products sold over their lifetimes as their initial IP contribution due to maintenance dimin-ishes31;

Expected R&D margin. Extrapolate the past margin obtained from ongoing R&D investment as it delivers benefits over successive years. 15

All valuation methods depend on
data. The availability of trustworthy
data determines applicability and the
trustworthiness of their results. Using
more than one method helps increase
confidence in the resulting valuation
of the IP. If existing trademarks are
being transferred or kept after an ac-
quisition their contribution to income
requires adjustments as well. The ben-
efits of marketing expenses tend to be
short-lived. Technological IP is a mix-
ture, some created through product
improvement that drives revenue with
little delay and some resulting from
the fundamental R&D that takes a long
time to get to market.

taxhavens

Offshoring is greatly motivated by being able to avoid or reduce taxes on income by moving rights to the IP into low-tax jurisdictions, or taxhavens, categorized as semi-taxhavens, or countries looking to attract jobs through active external investments, and primary taxhavens. Semi-taxhavens tend to provide temporary tax benefits. Countries intent on growth like Israel and Ireland have offered tax holidays to enterprises setting up activities there, while India provides incentives for companies that export. Many Eastern European countries have set up or are considering similar initiatives. Setting up a subsidiary CFC in a semi-taxhaven requires financial capital and significant corporate IP, helping workers be productive quickly. These resources are best provided via primary taxhavens.

Primary taxhavens are countries
with small populations that focus on
attracting companies that will not use
actual resources there, and with no
local personnel hired. Although their
role is crucial in offshoring, the jobs
issue is not raised, and the services
needed for remote holding compa-
nies (such as registration with local
government, mail forwarding, and ar-
ranging boards-of-directors meetings)
are offered by branches of global ac-
counting firms. For example, a single
well-known five-floor building in the
Cayman Islands is the address for
18,000 holding companies, and the
entire country, with fewer than 50,000
inhabitants, hosts more than 90,000
registered companies and banks. The
income from the $3,000 annual regis-
tration fees for that many companies
allows the Cayman Islands to not im-
pose any taxes on anybody. Even the
beach resorts, available for board of
directors meetings, are not taxed.

 

assets in a taxhaven Following an IP transfer to a primary taxhaven, the taxhaven CFH will have two types of assets: more-auditable fi-