Bidder, Beware: Winning Kuwaiti Deal May Mean Loss : Reconstruction: Tax experts say lack of commercial treaties between war-torn country and most other nations could severely cut into profits from work there.

Businesses trying to cash in on the rebuilding of Kuwait face tax traps that could severely erode their profits, tax experts warn.

The problems stem from the absence of tax treaties between Kuwait and most industrial nations, said Edward Kostin, a specialist in the area for the international firm of Coopers & Lybrand.

These pacts, he explained, usually spell out where citizens and corporations of one country doing business in the other will be taxed. The purpose is to prevent both tax avoidance and double taxation.

Since this protection is lacking in Kuwait, Kostin said, firms that do not structure their contracts properly could face double taxation with rates topping 70%, fines and loss of tax preferences.

Only firms based in France and Germany are safe since those countries have tax treaties with Kuwait.

But for American and British firms, which reportedly have the inside track on Kuwait’s estimated $20-billion rebuilding bonanza, there is no such protection.

Kostin said that small and medium-size firms, especially those with little experience in doing business in the Middle East, should be particularly careful. This would particularly apply to small firms that are hired as subcontractors and might not realize just what they were getting into.

Kostin gave as an example an architectural firm hired to design a building complex to replace one leveled in the war. Members of the firm may visit the site once or twice, but all the design work is done in the home office in the United States or Britain. The firms will, of course, have to pay taxes on their profits in their home countries because the work was done there.

However, according to Kostin, they will probably also owe taxes to Kuwait. For a U.S company, the total tax could be over 70%. Adding insult to injury, the Kuwaiti taxes may not even be eligible for use as foreign tax credits.

The simplest way for a subcontractor to avoid this double taxation, Kostin said, is to include in its contract with the primary contractor language to the effect that “we’ll take care of the home country taxes, but any Kuwaiti taxes are your problem.”

A firm also might try to negotiate a “tax holiday” with Kuwait (before the war these were usually granted, Kostin said), or find ways to reduce taxes in both Kuwait and the home country.

These problems are not impossible to deal with, Kostin said, as long as businesses know they exist and can plan for them in advance.

Businesses setting up shop in Kuwait face a different set of problems stemming from Kuwaiti law.

The Kuwaiti commercial code, Kostin said, generally prohibits the establishment of foreign-owned subsidiaries. Kuwaiti businesses, with the exception of joint ventures, are required to have at least 51% Kuwaiti participation.

The are ways to set up an operation that complies with Kuwait law and still allows the foreign firm to retain control, but these again require advance planning, Kostin said.

Kostin cautioned that these assessments were based on past practices in the area and the post-war period “may well bring changes in methods of doing business as well as the tax aspects of doing business there.”

He noted that before the war the Kuwaiti economy floated on a sea of oil, and the profits from the oil industry made it unnecessary to stringently enforce business and tax laws. But now, with its oil industry in ruins, the Kuwaiti government could find it necessary to tighten the reins. In addition, he said, rules that are relaxed during the current emergency period may well change to “a more restrictive regime” which may begin “before the end of 1991.”