10.4 “Recharge Payments” Made by Foreign Subsidiaries
Generally, a U.S. parent company is not entitled to a share-based compensation tax
deduction (in the United States) for awards granted by the parent to employees of a
foreign subsidiary. Likewise, in most jurisdictions, the foreign subsidiary that
does not bear the cost of the compensation (i.e., because the foreign parent who
issued the award to the foreign subsidiary’s employees is bearing the cost) will not
be able to deduct the award in the foreign jurisdiction. Accordingly, some
arrangements may specify that a foreign subsidiary will make a “recharge payment” to
the U.S. parent company that is equal to the intrinsic value of the stock option
upon its exercise so that the foreign subsidiary is entitled to take a local tax
deduction equal to the amount of the recharge payment. Under such an arrangement,
the U.S. parent company is not taxed on the payment made by the foreign subsidiary
with respect to the parent company’s stock.
At its July 21, 2005, meeting, the FASB Statement 123(R) Resource
Group agreed that in this case, the direct tax effects of share-based compensation
awards should be accounted for under the ASC 718 income tax accounting model.
Because the U.S. parent company does not receive a tax deduction on its U.S. tax
return for awards granted to employees of the foreign subsidiary, the foreign
subsidiary’s applicable tax rate is used to measure (1) DTAs and (2) excess tax
benefits and tax deficiencies recorded by the foreign subsidiary in accordance with
ASC 718. Any indirect effects of the recharge payment are not accounted for under
ASC 718. For example, if payment of the recharge results in an increase in an
outside basis deductible temporary difference or a reduction in an outside basis
taxable temporary difference, the corresponding deferred tax benefit will be
recognized in the income statement at the time the recharge payment is made and the
tax deduction actually occurs for income tax reporting purposes.