Don’t forget tax considerations when making international manufacturing site selection choices
Don’t be remiss and forget to factor in the bottom-line impact of taxes, when considering international manufacturing site selection options.
Of the numerous considerations that impact international manufacturing site selection choices, one that is the often given short shrift is a consideration any of Foreign Enterprise Income Tax (FEIT) laws and rules that may be imposed by potential FDI host countries. Depending on the type of manufacturer, or the industry and the size of any profit margins in question, a tax consideration of this class may prove to be significantly impacting on companies’ bottom-lines.
Foreign Enterprise Income Taxes
For instance, China is among the large manufacturing foreign direct investment (FDI) recipient countries in which producers are subject to certain foreign enterprise income taxes (FEITs). Such taxes are collected at the federal, provincial/state, and/or local government levels. While the Foreign Enterprise Income Tax, and the Foreign Invested Enterprise and Foreign Enterprise Income Taxes, are those that broadly effect non-domestic manufacturers in China, manufacturing companies with operations in Mexico are most affected by the Mexican corporate income tax, and Mexico’s value-added tax. While the countries fiscal policymakers have made foreign investment in the nation an attractive option for most manufacturers by tempering its taxation on a corporate level, and creating a workable certification process by which foreign manufacturers can gain exemption from Mexico’s value-added tax, it is prudent for companies that are going through the international manufacturing site selection process to run alternate financial scenarios to find out where, from a tax perspective, they will most likely stand.
Weighing Cost Features
The effects of operating-cost inputs on the company’s financial performance – such as labor, transportation, logistics, utility costs, taxes, etc. – must be carefully weighed to determine what trade-offs may be permissible or desirable, once the international manufacturing site selection exercise has been completed. Transportation and logistics are the usual geographically determined variable features that weigh most heavily in the financial evaluations of most manufacturers, but taxes – particularly foreign enterprise income taxes and other levies – can in many cases impact the bottom line just as much, and, therefore, should not be overlooked.
In weighing these cost features, it is important to frame such trade-offs within a firm specific, proper scope of priorities. Several models may be ideal, depending on the manufacturer, three of which include:
Labor Optimization: operations tending to be labor-intensive, with low levels of automation, that ship high volume tend to favor this model, as labor is their most significant geographically influenced variable.
Logistics Optimization: operations specializing in bulky goods, highly automated production processes, and a need for production to be near the target market tend to favor this model, as logistics is their most significant geographically influenced decision making variable. Mexico is typically a prime destination for companies that fill into this category, due to the country’s nearshore proximity to the large US domestic consumer market.
Tax Optimization: operations with a highly automated manufacturing process producing high-margin, regulated products – such as manufacturing medical devices in Mexico or aircraft, for example – tend to favor this model, as taxes on foreign investment income are often those that factor most heavily in the international manufacturing site selection equation.
The best way to properly understand the full effect of corporate income tax, and other taxes, on a location decision is to develop a financial model that makes both before-tax and after-tax implications crystal clear. Manufacturers with high-margin production must figure taxes into the cost of doing business in a foreign country like China or Mexico, but even low-margin manufacturers should consider this issue, as many countries offer incentives that potentially reduce tax liabilities for an extended period.