SUMMARY

The U.S. Virgin Islands legislature has approved a bill that replaces its foreign sales corporation (FSC) law at year-end. It was the first jurisdiction to enact local FSC legislation when that program was created by the federal U.S. legislature in 1984, and over the years more than 4,000 FSCs have been created in the territory.

The new USVI program creates a new form of entities called V.I. foreign sales corporations (VIFSCs) and offers substantial tax savings to the companies that keep their FSC status. New companies may also be formed as VIFSCs. Under the program, VIFSCs will be exempt from all Virgin Islands income and gross receipts taxes on export sales; they will be subject only to an annual license fee of US $100 and an annual franchise tax of US $300, regardless of the volume of their sales.

The U.S. Virgin Islands has approved a bill that replaces its foreign sales corporation (FSC) law at year-end. When the U.S. Congress last year passed the FSC Repeal and Extraterritorial Income Exclusion Act of 2000, it spelled the end for the federal foreign sales corporation program as of 31 December 2001. However, the U.S. Virgin Islands -- the first jurisdiction to enact local FSC legislation when that program was created in 1984, and where more than 4,000 FSCs have been created over the years -- has now responded with a new program designed to encourage FSCs to continue working as FSCs in the jurisdiction even after the end of the federal program.

The USVI program creates a new form of entities called V.I. foreign sales corporations (VIFSCs) and offers substantial tax savings to the companies that keep their FSC status. Under the program, VIFSCs will be exempt from all Virgin Islands income and gross receipts taxes on export sales; they will be subject only to an annual license fee of US $100 and an annual franchise tax of US $300, regardless of the volume of their sales. Simply by filing an amendment to its articles of incorporation, a company that is an FSC under existing law may convert to become a VIFSC. Under the VIFSC program, conversion will be effective from 1 January 2002, so long as the amendment is filed by 31 December 2002.

New companies may also be formed as VIFSCs as soon as the bill becomes law. The U.S. Virgin Islands has inbound redomiciliation laws that would permit companies that have FSCs in other jurisdictions to move their subsidiaries to the U.S. Virgin Islands, where they could elect VIFSC status. The same results can be achieved by merger.

U.S. exporters can use the VIFSC program in several ways. One way is to take advantage of a provision in the federal Extraterritorial Income Exclusion Act (section 943(e) of the code), which permits foreign corporations to elect to be treated as domestic corporations for the purpose of enjoying the income tax reduction on export profits. Because under U.S. law a VIFSC is considered a foreign corporation, if it makes the election and is a subsidiary of a U.S. exporter, there will be no U.S. tax on dividends it pays to its parent.

In essence, that technique puts a U.S. exporter with a VIFSC subsidiary in the same position as if it took the extraterritorial income exclusion directly, but with several nontax advantages. By converting its FSC into a VIFSC, the exporter can keep all of its export-related transactions in a separate existing entity. It can be a great convenience for accounting and audit purposes, and it allows existing legal relationships with third parties to remain in place. For example, if exports are already billed through an FSC, or supply contracts are already in place with an FSC, the conversion of the FSC to a VIFSC involves no changes in billing procedures and no contractual changes. Likewise, if an FSC has an arrangement with an offshore service provider to provide "foreign economic processes" (a requirement for some exporters under both the expiring federal FSC program and the new extraterritorial income program), the provider can continue to provide those services in the same manner for the same entity.

The VIFSC legislation was sponsored by Virgin Islands Senator Alicia "Chucky" Hansen, who is chair of the V.I. Legislature's finance committee. That committee approved the proposed legislation in November, and the full Legislature approved it on 11 December 2001 by a vote of 12 to 1.

In his testimony before the finance committee last month, Joseph Englert, president of Export Assist, the Virgin Islands' largest FSC management company, said that Hansen's bill:

will create an incentive for exporters to maintain their USVI foreign sales corporations. It accomplishes this by keeping local taxes on FSCs low. This gives our clients a reason to stay [in the Virgin Islands] because they can continue to operate as they always have at a reasonable cost and still get federal benefits.

The bill will now be sent to Virgin Islands Governor Charles Turnbull for his signature.

*William L. Blum, Solomon Blum Heymann & Stich LLP, St. Thomas, USVI and New York. E-mail: wblum@solblum.com