Build Back Better and the Corporate Income Tax Provision with the Howard Telson insights
Matthew DeMello:
So let’s start with what exactly does this legislation represent and what is the process for getting such a bill approved from here.
Howard Telson:
Yeah. So let’s take a step back actually, and go back in time to the beginning of the year where the Biden administration laid out their high-level legislative agenda for the year to come.
So their agenda basically had two components: the first is rescue and the second was recovery. So ‘Rescue,’ or the American Rescue Act has already become law and that was signed in March 2021. That was the $1.9 trillion bill with some minor kind of tax increases, but it was mostly deficit financed. And recall, this is the act that included the direct stimulus payments to folks – $1,400 payments – and then additional PPP loans and other small business stimulus, and relief, and things like that.
So that was the first piece of the puzzle: Rescue. And now if we shift over to the kind of the second piece of the Biden administration’s plan: the ‘Recovery’ agenda. This piece is still very much under kind of negotiation.
So under this ‘Recover’ umbrella, we originally had two broad proposals that were up for consideration. So first was the American Jobs Plan focused on hard infrastructure, things like roads and bridges, etc. And then second was the American Families Plan, which kind of targeted “human infrastructure” or investing in people.
And as we moved along throughout the year, these two plans sort of have morphed a bit. And while originally there was a thought that these two plans could end up being actually one bill just altogether, this is now sort of morphed into one bipartisan bill.
So one bill that has kind of support from some Republicans and then, and then the Democrats, and that kind of includes the core infrastructure items and not as much, really from a tax perspective. And that’s about $1.2 trillion in spending.
So that’s one bill, and then the other bill is really a Democratic bill, which focuses on the key Democratic spending priorities and includes quite a bit on the tax side. This bill totals about $3.5 trillion in spending, and it’s really a much bigger scope.
And let’s just think about a bill’s path to passage. So there’s essentially two paths and each of these bills could potentially take a path. So first is the bipartisan path. And this is of course, when we’re talking about this bipartisan infrastructure bill.
So this would require 60 votes in the Senate on behalf of the bill. And as the Senate is evenly split 50/50 between Democrats and Republicans. The Democrats would need some Republican votes to pass the bill this way. And this is really just how the bipartisan bill was actually passed the Senate and it had a total tally of 69 votes. So this bill has yet to be considered in the House, so we’ll have to kind of wait and see if the bill gets through the house and ultimately onto the president’s desk to sign into law.
But this infrastructure bill isn’t really much of a tax bill. So we’ll kind of table that for the time being, and focus on the quote unquote Democratic bill which really has all, all the good tax stuff in it.
So, you know, if we hone in on the Democratic bill, really the tax bill, let’s consider kind of the second path to getting a bill passed in the Senate. And this is by using what’s known as budget reconciliation, which for purposes of, of a budget pill, there’s a special rule in the Senate where you could have a simple majority vote to basically pass the bill through.
As noted, we have a 50/50 split in the Senate. So the Democrats will need all of their senators to be on board, and then the vice president would essentially get the tie-breaking vote. And let’s remember the path, this particular path on getting a bill through isn’t new, the 2017 tax reform bill, you know, the Trump tax reform bill was actually passed using this kind of budget reconciliation methodology with just a simple majority.
So, you know, it’s happened in the past and it very well could happen again, but we’re just kind of understanding, you know, those two paths, the passage, you know, we mentioned the bipartisan bill already passed in the Senate and now up for consideration in the house, but the question becomes, you know, where’s the Democratic reconciliation bill in this process, right? And that’s kind of really what we’ll focus on today.
So just for some more background: On September 15th, the House Ways and Means Committee approved the $3.5 trillion of spending and tax relief provisions, which are offset in part by corporate and individual tax increases by a 24 to 19 vote. And this bill is known as the Build Back Better bill. It’s been in the news quite a bit and folks have probably heard about it, but this is kind of what the focus of today’s discussion.
Now, just kind of stepping back and thinking about the process overall, in terms of the next steps in the process, from where we are today which could change pretty rapidly. What would basically have to happen is differences between the House Ways and Means proposal and the Senate tax proposals would need to be resolved.
And then this bill could essentially be put up for a vote in both chambers, but in addition, the Democrats kind of need to ensure they have the requisite support to pass the bill through both chambers as well, which currently doesn’t seem quite guaranteed.
So this is kind of all up in the air right now, in terms of how this boat gets through it’s possible scope. That could change certainly from here probably won’t increase in scope, but it could definitely decrease in scope… A lot of this is kind of up in the air, and well, we’ll just kind of have to monitor that progress going forward.
Matthew DeMello:
As you noted, the bill includes both individual and corporate tax changes for the purpose of this podcast. We’re focusing on the corporate side of things. Why does this bill matter in terms of calculating your corporate tax provision?
Howard Telson:
I think we’ll get into the tax components of the bill shortly. But just holistically: when we think about the tax provision, we need to think of the two key pieces that make up a tax provision. So we have the current piece, which is essentially an estimate of current year tax liability. And then we have the deferred piece which really serves to accrue a benefit or expense for the future impact of items on a company’s tax liability.
The deferred side is really driven by things like temporary book-to-tax differences, net operating loss and credits… things that impact your tax liability in the future. For a kind of a full refresher on those concepts, we do have previous episodes that go into detail on both the current and the different sides of the house.
Given these two components at hand, we need to understand how any changes kind of proposed in this bill would impact the company’s current year tax liability and then also their deferred tax profile. And there really are two kind of buckets of changes to consider: So one is a change to the tax rate, which we’ll talk about; and then the other is changes to the tax base.
The rate is obviously kind of self-explanatory, but the base would be kind of the income or expenses mix that’s changing and what actually the rate is being applied to.
Changes to a tax rate are fairly simple on the current provision, basically in the period where the tax rate is effective, a company would apply that rate to their taxable income and calculate their applicable federal tax expense for – we’ll just focus on federal since we’re talking about right now, federal us tax reform.
So for if a rate changes, you would apply that net new rate in the year it’s effective to a company’s taxable income and calculate their applicable federal tax expense. That’s very similar to how you would do a tax return because that’s kind of what the current provision is.
But the changes to the tax rate on the deferred side of the house are a lot more complex. So for purposes of the deferred tax calculation, which as I said, it looks at the future impact of items on a company’s tax liability companies need to consider how these are impacted even before a new rate is effective. So rather, a company’s deferred tax assets and liabilities must be revalued as soon as a new tax rate is enacted. So not effective, but enacted. And by enacted, I mean that essentially it’s signed into law.
And you know, we do have a very detailed discussion on enactment versus effective and what those terms mean and how exactly a deferred rate change works, iIf you tune into our Biden tax plan podcast episode…
Matthew DeMello:
Right.
Howard Telson:
But just at a high level, let’s just say this Build Back Better plan is signed into law within 2021 – of course, a very real possibility – but it’s rate change isn’t effective until 2022.
Once again, that’s kind of the most likely scenario. Well in this case, folks are still going to have to reckon with a rate change on their deferred tax assets and liabilities, since this rate change would be enacted in 2021. So on folks is 2021 provision, they’re still going to have to deal with this, even though this tax rate change isn’t effective until 2022.
So for purposes of kind of the deferred re-evaluation, it doesn’t matter if it’s effective, but instead it’s just a matter of, is it enacted or is it signed into law. And if so, companies need to consider the impact and revalue their deferred tax assets and liabilities in the year it’s enacted. So in this case it would be in 2021. So this could impact companies very, very soon on their provision. And now of course, just shifting gears slightly: any change to the rate overall also impacts the effect of tax rate.
So as the statutory rate potentially increases, this are generally of course, increased company’s effective tax rates, and that would be in the year it’s effective. So that, that would be most likely, you know, 2022, when that rate, when that rate change is actually effective, but the defer tax reevaluation, but also impact ETR as well. And as mentioned, this would be in the year of enactment.
So potentially, that would be 2021 for companies. So you would potentially have to revaluate your diverts in 2021, and then you would have that ETR impact in 2021 as well. So things could be potentially coming for in terms of provision very, very soon in terms of this tax reform bill.
And quite importantly when we think about all this: there’s tax planning considerations companies could do to, to potentially soften the blow of an increased rate. And this could involve kind of engaging in accounting method changes to potentially accelerate income into 2021 and delay deductions from 2021 to future years, which is a little bit counterintuitive. But this would essentially cause companies income to be taxed at a lower rate today rather than potentially the higher rate next year.
And it would push a valuable deduction this year into a higher rate period next year, where it’s worth even more. We did cover some of these tax planning strategies as well in that Biden plan episode, for folks are interested for more of a deep dive in those strategies.
But, you know, it’s a bit kind of counter-intuitive, it’s the opposite of what folks were looking to do when Trump Tax Reform happened in 2017, when the rate decreased and folks were looking to kind of delay income and then accelerate deductions into that higher tax year. So a bit of the opposite here, but that’s just a few considerations, you know, for the provision. And then,
Matthew DeMello:
So a quick question for our listeners may who might be so a quick question for our listeners who might confusing this by now, but if the law isn’t enacted until 2022, why is it effecting taxpayers now? And when you say it would effect taxpayers in 2021, does that mean that they’d have to go back and revisit all the quarter statements and revisions they did in 2021 or just the annual?
Howard Telson:
Basically if a law is enacted in the year, that means you need to account for it for accounting purposes in the year it’s enacted. It doesn’t matter if it’s effective. It’ll be effective in 2022, but it’s enacted.
So you need to account for it and the way it works on the tax provision is you would account for it through your deferred taxes. So that’s one piece of it. But then the second piece, you know, to your point is you already do all these quarterly provisions in 2021. Do you need to go back? And the answer is no, because it wasn’t enacted at that point.
Matthew DeMello:
And how much is this bill expected to raise in tax revenue to offset spending initiatives?
Howard Telson:
It’s looking at estimates to increase federal revenues by about $2.1 trillion over the next decade. And that’d be minus $1 trillion unexpanded kind of tax credits for individuals and businesses. So it’d be a net revenue increase of about $1.06 trillion. So fairly big numbers here.
And that includes about 200 billion as a result of additional funds being poured into the IRS for additional enforcement. Excluding tax revenue kind of expected from this increased tax compliance from IRS enforcement, the proposals would raise it at $862 billion over the next 10 years.
At least according to congressional estimates, which are a bit far from scientific, but that’s kind of what they’re looking at in terms of the actual numbers surrounding this.
Matthew DeMello:
The bill itself will require $3.5 trillion in spending over a 10 year period. Of course, spending has to be offset by tax increases in this case on the wealthy, more than $400,000 in income, and on corporations. What kinds of changes to the current tax regime does the current bill entail in terms of the corporate tax rate?
Howard Telson:
First it’s worth noting that this changed the rate and in general, the other changes we’re discussing today are prospective. So effective January 1st, 2022. But of course, as mentioned, even despite this effective date of 2022, they’re still may very well be significant tax provision considerations, even on the 2021 provision, and we just covered that.
But when we think about our defer reds, it’s all about the enactment date.So we really need to think about when this is enacted, what impact does this have on our provision. It’s really on the deferred side, as opposed to the current side, which would be more impacted in 2022 when the law is actually “effective” as opposed to enacted.
Now, if we think about kind of the rate itself what’s being proposed is essentially a graduated federal income tax structure for most corporations. So corporations with taxable income under $400,000 would be subject to a new rate of 18 percent companies with taxable income above $400,000 but under 5 million would be at a 21 percent rate.
And then if you’re over 5 million, you’d be subject to a 26.5 percent rate. And then taxpayers with income over 10 million would be an assessed and additional tax to phase out the benefit of lower rates and essentially be taxed at a flat 26.5 percent rate. So when you hear folks to kind of talk about the rate today under this Build Back Better plan, usually they’ll say the corporate tax rate is jumping from the 21 percent.
It’s that now to the 26.5 percent, which would apply to kind of the higher income corporate taxpayers. So with this bill, the US would have about the third highest corporate tax rate in the OECD.
And it’s also worth noting that this House Ways and Means rate of 26.5 percent came in below the Biden plan rate of 28 percent. And it would essentially represent a 5.5 percent hike from our current 21 percent rate and further, you know, one thing to note, just swap we’re focused on the rate is this Ways and Means bill doesn’t include a minimum tax on book income as the bottom plant did with their 15 percent rate on minimum tax for the largest companies book income.
So it doesn’t include this sort of alternative minimum tax regime of this 15 percent. It’s focused just on this poor 26.5 percent rate. And this whole discussion when it comes to rate change and the provision would of course apply here.
So we would have a rate going up. So, you know what I just mentioned about folks trying to potentially accelerate income into 2021 at the lower rate of 21 percent and then delayed deductions from 2021 months to future years, you know let’s just say 2022 and beyond, to get the deduction at a higher rate still definitely applies. And then of course the impact of a deferred rate change would definitely be felt on this 5.5 percent rate change, which could be very significant for many companies.
Matthew DeMello:
One of the Biden administration’s original goals in Build Back America was to bring overseas companies home. His proposals were very focused on bringing back manufacturing jobs back to the US and giving companies incentives to invest here.
So let’s talk about the international tax components for companies. What does this reconciliation bill look like from an international tax perspective specifically? Let’s start with GILTI.
Howard Telson:
Yes. I think just in general, it’s important to know, outside of the rate change, there are several other tax changes kind of proposed in this bill, but the bulk of the tax changes and really the most significant ones for corporations do revolve around these international tax measures. So I think GILTI is a great place to start.
So just to refresh on what GILTI is: it’s Global Intangible Low Taxed Income, and this was introduced in the 2017 Tax Reform Act. So this is a US income inclusion on earnings of foreign subsidiaries, which under current law is taxed at the normal 21 percent corporate tax rate. But companies roll out a 50 percent reduction in this inclusion through what’s known as the Section 250 deduction, which brings GILTI tax rate to 10.5 percent.
So half of 21 percent, and that reduced income is also allowed to be offset by foreign tax credits, which are subject to expense allocation rules, which we get into and then a 20 percent haircut as well.
So generally due to the application of these rules and the limitations on foreign tax credits, most companies with positive foreign earnings end up having some portion of incremental GILTI tax today. Okay.
So with that background kind of in hand, the first challenge to mention to the GILTI regime is the rate. So of course, that 21 percent corporate tax rate, which we mentioned is jumping to 26.5 percent. That’s one factor that’s going to play into this, but then we have a change to the Section 250 deduction being proposed, which would reduce it from 50 percent to 37.5 percent.
So this would essentially bring the GILTI tax rate from the 10.5 percent it’s at currently – or 50 percent of 21 percent – to 16.56 percent, or essentially getting that 37.5 percent deduction off of 26.5 percent of the tax rates. It brings it to 16.5 percent essentially under this proposal. So you have a raise in the GILTI rate there. That would be kind of a negative for taxpayers in general.
Then the question is what happens to the calculation of the GILTI inclusion itself? So, before I mentioned you have changes to the tax rate and then you have changes to the base. So we’ve just kind of covered the rate, but then the question is: what does that rate apply to? What’s the base? So currently within the GILTI calculation, companies can offset income of one foreign country with a loss of another.
However, in this Build Back Better proposal, it contemplates calculating GILTI with a country-by-country approach where the inclusion is computed for each individual jurisdiction, a company operates in. So this proposed approach would result in kind of difficulty offsetting losses against income across countries. So if a company has income in one country, but a loss in another currently, you know, under today’s law currently that loss could offset the income and then result in less overall GILTI tax.
But under this proposal, the Build Back Better proposal, the loss would sit there unused and the income inclusion would come through. So definitely not a favorable result there for taxpayers either. However, kind of one area of relief here is a generator of loss for a jurisdiction could be carried forward on an unlimited basis to offset GILTI income in future years for that same country.
So currently losses are kind of use it or lose it for GILTI — in other words, they just expire if you generate a loss that you can’t use. So in this case, since you carry it forward, it would be kind of a helpful change. But overall, this country-by-country approach is generally going to be a negative for many taxpayers. One other element of GILTI is something known as QBAI, qualified business asset investment. And this essentially allows for an offset against GILTI for a portion of what is known as “routine return” on tangible assets in foreign countries.
So under current law it’s currently situated at 10 percent and this plan would reduce it to 5 percent. You alluded previously to kind of bringing jobs back to the US and this is one provision that was controversial following its 2017 passage, since it provided a benefit to companies with assets like manufacturing equipment and things like that, which were situated abroad and not in the US. So it’s sort of incentivizing behavior that many of US folks would not like. So that’s a change there.
And then the last kind of key change to GILTI under this proposal are the changes to the foreign tax credit rules. So as mentioned before, any residual GILTI tax after that Section 250 deduction is allowed to be offset by a foreign tax credit.
But this is currently subject to a 20 percent haircut, and then things known as expense allocation rules. So this often results in companies essentially having some residual GILTI tax.
Well, this proposal would reduce the haircut on the FTC from 20 percent to 5 percent. And also – and this is really key – will limit only the Section 250 deduction as the only expense allocated to the GILTI basket. Between the reduced haircut and the reduction in expenses allocated, this should help kind of lessen the burden on GILTI on many companies. However, as mentioned before, not having the ability to apply loss offsets across countries could negate some of these benefits.
It really comes down to kind of some good and some bad when it comes to GILTI for taxpayers. Each corporation is gonna need to model this out and see how it impacts them, but just kind of taking a step back and kind of comparing this to the Biden tax plan, there’s some similarities and some differences.
So the rate in Biden’s plan was 21 percent for GILTI after the 250 deduction. It had a higher rate than this proposal from that perspective. And the Biden plan also actually contemplated completely removing the QBAI benefit. So that was a bit harsher too there.
The plan does however, stick with a country-by-country approach as proposed and the Biden plan. And it even provides a few more details as to how exactly it works and how the foreign tax credit rules work as well. You know, just kind of taking all that into account. When we think about the tax provision of course, GILTI for most companies is a permanent adjustment.
And now some companies could have treated GILTI as a deferred item, as an accounting policy that companies could have made. However, this was extremely rare and very few companies actually ended up tracking deferreds on GILTI. So in general treat as a period cost or a permanent adjustment, and it’s a driver of the effective tax rate.
So as noted, the GILTI rates going up and this country by country rules to meet increased GILTI from any company use. So if that’s the case, a higher GILTI would mean in a higher effective tax rate, a higher tax bill income overall as well. But for some companies, things like carrying a loss forward and getting rid of some of these expense allocation rules could actually help them and it could actually drive their GILTI rate down. So it could actually mean a potentially a lower effective tax rate and lower taxable income as well.
So, it just kind of depends. Each company is going to need to model out the facts and how it impacts the provision in general, assuming you didn’t make that deferred policy election for GILTI in general, this change to GILTI would be effective in 2022. And most companies won’t have to worry about this until their 2022 provision, for the most part.
Matthew DeMello:
So Howard GILTI – and even just the way it’s spelled out, no pun intended – was set up to penalize companies for having overseas profits, as opposed to booking them in the United States. But do these changes actually make GILTI more of a penalty? There was criticism when GILTI came out that its capacity as a penalty was softened by deductions and benefits.
Howard Telson:
I think it depends on the company. I mean, there’s like a couple of things like the country-by-country approach, definitely – and then the rate goes up.. so those things are both pretty much bad for companies. But then you can carry losses forward – so that’s a benefit.
Like let’s just say you were a loss company this year, and you would just lose that GILTI loss in the current law. But next year, if you’re a loss company, you carry that loss forward, if you generate a GILTI loss… And then if you generate a GILTI income in the next year, you could offset it. So that would be good.
But like, let’s just say that this country-by-country approach, you could have a huge loss in one country and then income in another, and you would end up paying GILTI tax will last this year. You wouldn’t because you could offset it.
But then these expense allocation rules are also poor. And because originally when they were talking about GILTI, they said that basically, if you didn’t have a rate above like 13 percent or so – so like if your income is taxed above 13 percent or so in other countries – you won’t be subject to penalty. That was the initial proposal.
So it was really targeting low tax countries and moving, shifting, and going to low tax places. But then with the foreign tax credit rules and the expense allocation rules, what ended up happening is companies even that operate in high tax jurisdictions abroad would end up having a GILTI because of the way the foreign tax credit rules worked. So this sort of helps with that because now they’re only having this one expense allocated to this GILTI bucket, the Section 250 deduction.
And before you had to allocate other expenses to that bucket, and basically when you allocate an expense to this foreign tax credit bucket, it just reduces your foreign tax credit essentially – it’s a bad thing. So that’s actually a benefit.
So I would say overall, it really just depends if they’re talking about it like it’s going to raise revenue, which I think is mostly because of that country by country change and then also the rate going up. But I think for some companies it’s going to help them a lot too.
Matthew DeMello:
Interesting. So it definitely puts an emphasis on strategic tax planning.
Howard Telson:
Yeah. And modeling it out and seeing how it impacts you. But we’ll see. If it passes exactly in this form, we’ll see what happens. But I think some companies will probably be happy and other companies will really be hit.
Matthew DeMello:
Some messages in the place regarding foreign derived intangible income. How have these rules affected the FDII benefits so-called
Howard Telson:
As a refresher, FDII is a deduction relating to a portion of a domestic companies and tangible income that’s derived from serving foreign markets, right? So the calculation’s both and sort of mechanical. We won’t get into all the details here, but essentially it represents excess income over a fixed return on the depreciable tangible property used in a trader business of a corporation. So it’s all about kind of this excess return over this tangible property that you get from serving foreign markets. So things like foreign sales and services and things like that.
So the Build Back Better proposal would take the FDII deduction, which is currently 37.5 percent of eligible income, and it would reduce that benefit 21.875 percent. So that’s actually less harsh than the Biden plan, which proposed to completely eliminate the FDII benefit – which some see as kind of promoting sales to foreign countries and sort of outbound activities as opposed to sales and operations in the US. So that’s important.
But one other wrinkle here is the proposal would also get rid of the taxable income limitation on the Section 250 deduction, where if companies didn’t have enough income previously, their benefit would be limited. So there is some relief here, which could be really important for companies in net operating losses positions or low-income positions that were previously limited in their FDII benefit by taxable income limitation, where they may not have that limitation anymore.
And then if we just think holistically about FDII and GILTI, kind of the common denominator here is they’re both under Section 250 of the internal revenue code in terms of the Section 250 deduction under GILTI and then the FDII deduction as a whole.
GILTI we mentioned that Section 250 deduction being scaled back right now, it’s 50 percent under current law and it’d be scaled back to 37.5 percent. So that’s under Section 250, reducing that benefit or relief that companies get on GILTI. And likewise FDII under Section 250 right now is that 37.5 percent benefit. And this is going to be scaled back to that 21.875 percent. So Section 250, both those elements of it GILTI and FDII are being scaled back.
So less relief for taxpayers overall with this Section 250, but this relief in terms of removing this taxable income limitation is very important, particularly like I mentioned for companies in NOL positions or low-income positions.
So if we take a step back and think about the provision and FDII as a whole, FDII is a permanent adjustment – so period cost – and it’s a driver of the effective tax rate. Essentially this is Build Back Better plan can result in less FDII for most companies, potentially they could get the benefit of that tax blink and limitation so it could go up for potentially for some companies, but for others, it will be less. And that would generally mean a higher effective tax rate because you would removing part of that benefit.
If you did benefit from the taxable income limitation, maybe it’s possible your FDII goes up. And that would actually mean a lower, effective tax rate as well – but in general is looking at less FDII for most companies and then a higher effective tax rate. Since this is a permanent adjustment, we’re really looking at an impact to the 2022 provision, most likely. And we’re not as concerned about the 21 provisions because it doesn’t really impact your deferreds here.
Matthew DeMello:
But there are other modifications to those laws to tell us about those. The new tell us about the new BEAT structure.
Howard Telson:
BEAT is essentially an alternative tax related to certain deductible, outbound payments made to foreign countries, which road the US tax base. So currently it’s at a 10 percent rate.
Under the Biden plan, this entire regime is actually changing to something called the SHIELD, which is much more broad than BEAT. However in this proposal, the BEAT in its historical structure sort of remains intact, but the 10 percent rate would essentially be retained through 2023 – and then the rate jumps gradually it’s 12.5 percent. And then ultimately 15 percent after 2025, a major change here is who may qualify for the BEAT.
So under current law, it’s reserved for companies with over 500 million in receipts and something called a base erosion percentage over 3 percent, meaning there was some amount of significant kind of deductible, outbound payments to foreign countries essentially. Well, this proposal retains kind of the 500 million receipt threshold, but it gets rid of the 3 percent base erosion role, essentially making the application’s role much, much, much more broad.
That’s kind of the bad, but a benefit here is all credits would be able to reduce the BEAT, which isn’t the case right now. Name a credit, things like R&D and such, you’d be able to use those to offset the BEAT, which you can’t do right now. So if we take a step back and think about the provision in BEAT, BEAT is essentially a period cost or generally accounted for as a permanent difference on the provision in general. If a company currently is subject to BEAT, it’s going to drive your effective tax rate, would drive it up.
Now with the expansion of the BEAT here, it’s mostly bad news on the front, besides that one kind of quirk with being able to offset it with tax credits. But with the expansion to BEAT here, likely this would be a driver of effective tax rates, bringing them up for companies that would be effective, especially given the much broader scope of it, removing that base erosion percentage threshold.
So likely a negative, a company’s effective tax rates. Since this is a period cost or a permanent. This would be something we’re looking at accounting for once again on the 2022 year when it’s effective, as opposed to 2021. So it’s, it’s not really impacting your efforts.
Matthew DeMello:
Research and development tax credits are known to help companies lower their effective tax rates. TCJA legislation has a provision whereby countries would have to amortize their expenses over five years starting in the tax year 2021. I know we’ve been watching this for a while. How does this tax bill address that amortization provision?
Howard Telson:
Yeah, so essentially it delays that requirement to amortize, to begin after 2025 instead of for tax year 2021. So taxpayers with R&D expenses, but continue to have the options of they could deduct them in the year paid or incurred. They could capitalize and amortize them, you know, generally over five years under Section 174, where they could capitalize and amortize them over 10 years under Section 59E. So, you know, a benefit here of kind of being able to delay this amortization requirement, which didn’t actually exist in the Biden plan.
Matthew DeMello:
What kinds of issues could this new tax plan present for US companies?
Howard Telson:
You know I think at a high level, results really will vary depending on the company, but in general, the Bill’s intention is to raise corporate tax bills. Right? That’s what it set out to do. And that’s what, when it comes to tax, it’s looking at being a revenue raiser.
So when we think about these provisions, the rate increase is, you know, that that’s generally going to negatively impact pretty much all corporations for the most part. And that’s kind of a key driver of this plan.
You know, when we think about GILTI that change could kind of go either way for taxpayers in general, given the higher rate and the country-by-country calculation the house, once again, budget this as a revenue raiser. So overall, but increased tax liabilities on corporations as well. Although some could potentially benefit from some of the new expense allocation rules and lock carry forward rules, et cetera, 50 would be a reduced benefit.
They’re just basically reducing the rate there. So that’s definitely gonna be a reduced benefit and then BEAT but kind of a broader application, even though there may be some potential offset with using credits. When we think about FDII and BEAT, we’re looking at raising tax bills there overall, and then, you know, I think about just overall, particularly on the GILTI side. But all of this really there’s likely going to be additional compliance burdens for multinational companies.
If we think about GILTI specifically, they’re going to have to calculate that GILTI liability on a country-by-country or jurisdiction-by-jurisdiction basis, which currently companies will generally go on an entity-by-entity basis and then sort of bump things together. But some may take some shortcuts here and there, but these new rules are going to force companies to look at it on a jurisdictional basis and evaluate the facts from there.
And then also track loss carry forwards as well, which you didn’t have to do before. So that’s another, well, maybe a good thing for some companies. But that’s another compliance burden as well. And then just overall when we think about rate changing changes to international tax structure, of course we have to consider kind of tax planning strategies that will be top of mind for most companies. Obviously it’s getting late in the year.
There could be companies that want to execute accounting method changes in 2021 to accelerate income at the 2021 or slow down deductions to get more valuable deduction when the rate goes up and think companies will be thinking about that in addition to how do they plan around these international tax changes? And then your, you know, companies are also going to need to consider how these rules are actually going to shake out in their final form, if at all, and how they coordinate with kind of the OECD pillar one pillar, two initiatives as well. So there’s a lot of kind of moving pieces here. And as companies are thinking about this and modeling it out, it’s not the easiest task to do.
Matthew DeMello:
And just even in that vein, what could still change regarding this package before it’s passed?… That’s assuming it is passed, right?
That’s assuming it is past, right.
Howard Telson:
I guess, where we’re at today is: the Ways and Means Committee has suggested that their package could definitely change before being considered before the full House. In terms of the tax rates side, there’s some Democrats that would have preferred to see higher rates. Obviously the Biden plan had a higher rate, specifically a higher rate applied to multinationals foreign earnings. So it’d be on the GILTI side. It is a scale back rate from the Biden plan as well. So that could be potentially a point of contention.
Also, some Democrats feel there’s an incentive to invest and create jobs overseas with things like the FDII and the QBAI kind of remaining intact as opposed to just being completely repealed, like under the Biden plan. So we’ll see if additional changes come and obviously this proposal doesn’t have Republican support, but they do need to get all the Democrats on board here. So it’ll be important to kind of appease some of them and, you know, we’ll see what changes resolve that because of that.
Matthew DeMello:
We’re heading into the weekend. So maybe it’s best to take this question with regard to next week, but what is next?
Howard Telson:
Of the budget reconciliation bill or this Build Back Better plan seems somewhat tied to the fate of the “bipartisan” infrastructure legislation that we discussed earlier. Particularly as you know, certain progressives seem to be viewing kind of a larger bill as a condition to support the bipartisan one. They really want this Build Back Better bill to get through. And, you know, they may use it as a condition to support this bipartisan infrastructure legislation.
So Democrats have pushed back voting in the house. So we’ll see when the vote actually takes place. It doesn’t seem like currently they have a coordinated effort and everyone on board to push this through. So that’s still kind of up in the air.
When we think about the breakdown of the Senate and the House, Senate Democrats can’t afford to lose a single vote – assuming no Republicans go on board, which doesn’t seem to be the case.
So they need every single Democrat to come on board, given the 50/50 split in the Senate. And that even House Democrats can’t really afford to lose many votes either given their slim majority. So the Democrats really need a very united front here. We’ll see if they could get there. I think we’ll have to stay tuned and it it’ll be exciting to see how it plays out.
