The Write Off Diaries Part 6 - Internal Lending; Borrow From Yourself, Deduct Everything

We’ve reached the part of the series where we stop pretending tax law is grounded in economic reality and acknowledge what it really is: a choose-your-own-adventure novel for corporations with subsidiaries and legal pads.

Today’s subject is internal lending — a scheme so boring-sounding that most people glaze over when it’s mentioned, which is perfect, because that’s how it’s been allowed to extract billions in tax savings without setting off alarms.

The Premise: Be Your Own Lender

Imagine if you could take out a mortgage from yourself, pay yourself interest, and then tell the IRS,

“Sorry, I didn’t make much money this year. My payments are killing me.”

That’s basically what multinational corporations do with internal loans. They shift profits across borders by:

1. Creating debt between entities they own
   
   
2. Deducting the interest in high-tax countries like the U.S.
   
   
3. Collecting the interest in low-tax countries like Ireland, Luxembourg, or the Cayman Islands
   
   

And the best part? It’s all legal, as long as the paperwork looks “reasonable.”

Anatomy of the Scheme

Let’s say you run:

• BigCorp USA, the operational hub
  
  
• BigCorp Ireland, the paper-thin subsidiary holding intellectual property
  
  
• BigCorp Holdings Ltd, somewhere warm and postbox-heavy
  
  

Step 1: Issue an Internal Loan

BigCorp Ireland loans $1 billion to BigCorp USA. Terms? Whatever your tax lawyers think won’t trigger an audit.

Step 2: Pay “Market Rate” Interest

BigCorp USA pays 8% annual interest = $80 million.

Step 3: Deduct the Interest

BigCorp USA deducts the $80M from its taxable income, reducing U.S. taxes by $16.8M (at 21% rate).

Step 4: Enjoy Foreign Income

BigCorp Ireland receives the $80M and pays… well, almost nothing. Maybe 2%, maybe 0%, maybe a handshake and a Guinness.

But Wait — This Isn’t Just for the Tech Titans

This structure is especially beloved by:

• Pharmaceutical companies (R&D happens in New Jersey, profits happen in Dublin)
  
  
• Private equity firms (more on that in a moment)
  
  
• Multinationals with lots of IP and branding (where it’s easy to shift “value” offshore)
  
  

And it doesn’t just lower taxes. It flattens them.

Private Equity’s Favorite Game: Load and Strip

If there’s a Hall of Fame for internal lending abuse, private equity firms get their own wing.

The Playbook:

1. Buy a company using debt.
   
   
2. Move the debt onto the company’s books (not the PE firm’s).
   
   
3. Have the company make massive interest payments to the PE firm’s own holding companies.
   
   
4. Deduct the interest.
   
   
5. Pay little to no corporate tax.
   
   

This is called earnings stripping, and it’s not even a euphemism — it’s in the Treasury Regulations. Really.

Result:

• The acquired company looks like it's barely staying afloat.
  
  
• But money is gushing up the ownership chain — where it’s taxed at far lower rates or not at all.
  
  

This strategy helped slowly implode:

• Toys “R” Us
  
  
• Sears
  
  
• Payless Shoes
  
  
• …and other brands that were technically profitable but financially suffocated under internal debt.
  
  

Didn’t Congress Try to Fix This?

Yes. Kinda. They gave it a stern look.

Key provisions:

• IRC §163(j): Caps net business interest deductions to 30% of EBIT (previously EBITDA). Meant to slow the bleeding.
  
  
• BEAT (Base Erosion and Anti-Abuse Tax): Penalizes certain payments (like interest) to foreign affiliates.
  
  
• Transfer Pricing Rules: Require internal interest rates to be “arm’s length.”
  
  

But enforcement is tricky. Interest rates are just low enough to avoid scrutiny. And these corporations have more economists on staff than the IRS.

The Real-World Impact

Internal lending:

• Reduces taxable income in high-tax countries
  
  
• Generates deductible expenses with no real economic activity
  
  
• Keeps profits “mobile” (a polite word for “untaxed”)
  
  

And it helps companies say with a straight face:

“We’re doing great — just not in the United States. Please lower our tax rate.”

What Counts as a “Real” Loan?

For tax purposes, internal loans must:

• Be documented (congrats, you bought a binder)
  
  
• Have a repayment schedule (even if no one follows it)
  
  
• Charge a market rate of interest (where “market rate” is... generously interpreted)
  
  

In practice, if the IRS wants to challenge one, they can.
But the audit backlog, legal complexity, and lobbying pressure mean most of these pass through untouched.

Coming Up in Part 7…

Next, we dive into real estate and 1031 exchanges, or:

“How to sell a building, make millions, and tell the IRS you’re just swapping spaces.”

Spoiler: It ends with stepped-up basis and your grandkids never paying taxes either.

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