Treasury’s Green Book: Corporate & International Tax
On May 28, the Treasury Department released its general explanation of tax proposals included in the Biden administration’s fiscal year 2022 budget submission to Congress. Commonly known as the “Green Book”, the 114-page document outlines significant corporate and international tax proposals previously addressed in the American Jobs Plan.
A detailed look at the administration’s corporate and international tax measures follows:
The Internal Revenue Code imposes a tax on the taxable income of every C corporation at a single rate of 21%. The Tax Cuts and Jobs Act of 2017 (TCJA) imposed this rate, beginning in 2018, to replace a series of graduated tax rates ranging from 15% to 35%. Corporations did not become subject to the maximum 35% tax rate until their taxable income exceeded $10 million.
The administration proposes to increase the current rate to 28%, effective for taxable years beginning after December 31, 2021. For C corporations with a fiscal year that includes parts of the calendar years 2021 and 2022, the tax rate for that taxable year would be a blended rate between 21% and 28%, depending on the number of days in each calendar year.
If enacted, this increase would automatically apply to a number of other taxpayers whose tax rates are linked to the corporate tax rate, including insurance companies, foreign corporations, real estate investment trusts, regulated investment companies (mutual funds), publicly traded partnerships taxed as C corporations, and S corporations subject to certain corporate-level taxes.
Despite the proposal to reverse one-half of the corporate tax rate reduction of 2017, the administration does not propose to restore the graduated rates (or any version thereof) that were in effect before 2018.
The administration would also impose a 15 percent minimum tax on corporations with more than $2 billion in worldwide book income. This minimum tax would equal the excess of book tentative minimum tax over regular tax. This proposal would be effective for taxable years beginning after December 31, 2021.
The Green Book incorporates measures originally proposed in the American Jobs Plan and newly released details regarding proposed changes that, if enacted, would significantly modify key international tax legislation enacted in the TCJA, including the global intangible low-taxed income (GILTI), the base erosion and anti-abuse tax (BEAT) rules and the associated foreign tax credit (FTC) rules, while continuing to tighten the already onerous provisions associated with so-called corporate inversion transactions.
The GILTI regime would be modified as follows:
- The exemption for foreign oil and gas extraction income (FOGEI) from a controlled foreign corporation’s (CFC’s) gross tested income would be repealed.
- The high-tax exemption for GILTI and Subpart F would be repealed.
- The amount of GILTI income and the associated FTC would be determined on a country-by-country basis rather than on an aggregate basis, which is expected to cause significant incremental taxation from the GILTI provisions.
- The country-by-country FTC limitation is also expected to be extended to apply to the “branch” basket.
- In the context of a foreign-parented U.S. group, when that U.S. group itself has CFCs for which it will have an income inclusion, take into account any foreign taxes paid by the foreign parent, under an income inclusion rule (IIR) that is consistent with an OECD/Inclusive Framework Pillar Two agreement on global minimum taxation (if such consensus is reached), with respect to the CFC income that would otherwise be part of the domestic corporation’s global minimum tax inclusion. A country-by-country approach would also be applied.
- Section 904(b)(4) addressing the increase in the foreign tax credit limitation denominator for those expenses that are allocated and apportioned to exempt income under IRC Section 245A for foreign tax credit purposes would be repealed.
- The application of Section 265 would be expanded to disallow deductions allocable to a class of foreign gross income that is exempt from tax or taxed at a preferential rate through a deduction (e.g., a global minimum tax inclusion with respect to which a Section 250 deduction is allowed or dividends eligible for a Section 245A deduction). Rules would be provided for determining the amount of disallowed deductions when only a partial deduction is allowed under Section 245A with respect to a dividend or a partial Section 250 deduction with respect to a global minimum tax inclusion.
These provisions would be effective for tax years beginning after December 31, 2021.
The administration’s proposal would repeal the current BEAT provisions and replace them with a new regime referred to as Stopping Harmful Inversions and Ending Low-Taxed Developments (SHIELD). Under the proposed SHIELD rules, a deduction (whether related- or unrelated-party deductions) would be disallowed to a domestic corporation or branch, in whole or in part, by reference to all gross payments that are made (or deemed made) to “low-taxed members,” defined as members of a financial reporting group whose income is subject to an effective tax rate that is below a designated minimum tax rate. The designated minimum tax rate would be determined by reference to Pillar Two of the OECD/G20 Inclusive Framework on BEPS. However, if an agreement has not been reached on minimum taxation under that framework by the time of the enactment of SHIELD, the designated minimum tax rate would be 21%.
In a related development, on June 5, the Group of Seven finance ministers issued a statement in support of a 15% global minimum tax imposed on a country-by-country basis, and expressed a commitment to reaching “an equitable solution” on the allocation of taxing rights among jurisdictions.
The amount disallowed would be determined in a two-step process. First, those payments that are made directly to low-tax members would be disallowed. Second, amounts paid directly to members that are not low-taxed members would be disallowed to the extent of the ratio of low-tax income of all members to the total income of all members.
Many details on the application of these rules remain unknown. Moreover, unlike the BEAT rules, which applied solely to deductions and not to reductions of gross income (e.g., amounts included in cost of goods sold), the SHIELD rules also would apply to amounts paid for items included in cost of goods sold by the U.S. corporation of U.S. trade or business.
Foreign Tax Credit Implications for Sales of Hybrid Entities and Check-the-Box (CTB) Elections
The proposal would apply the principles of IRC Section 338(h)(16) to determine the source and character of income recognized in connection with a disposition of an interest in a specified hybrid entity and to CTB elections. For foreign tax credit purposes, the source and character of any item resulting from the disposition of the interest in the specified hybrid entity, or a change in U.S. entity classification as a result of a CTB election, would be determined based on the source and character of an item of gain or loss the seller would have taken into account upon the sale or exchange of stock (determined without regard to IRC Section 1248).
The impact of these provisions is to recharacterize low-taxed tested income for GILTI purposes that could be combined with higher-taxed income for GILTI purposes with the effect of minimizing the amount of GILTI tax on a disposition as income (GILTI or otherwise) in the passive basket that likely would give rise to Subpart F (foreign personal holding company income) taxed at the full federal corporate income tax rate and not the GILTI effective rate in addition to having a different character for purposes of determining any foreign tax credit offset.
This proposal would be effective for transactions that occur after the date of enactment.
IRC Section 7874 applies to inversion transactions whereby a U.S. corporation is acquired by a foreign corporation in a transaction where (1) substantially all the assets held directly or indirectly by the domestic corporation are acquired directly or indirectly by the foreign acquiring corporation; (2) the former shareholders of the domestic corporation hold at least a 60-percent ownership interest in the foreign acquiring corporation by reason of the acquisition; and (3) the foreign acquiring corporation, together with its expanded affiliated group, does not conduct substantial business activities in the country in which the foreign acquiring corporation is created or organized.
The administration’s proposals would remove the 60% inversion threshold altogether and expand the definition of an inversion transaction by incorporating a “greater than 50% test.” Moreover, it would expand the scope of the term “inversion,” regardless of shareholder continuity, by providing that an inversion occurs if:
- Immediately prior to the acquisition, the fair market value of the domestic entity is greater than the fair market value of the foreign acquiring corporation;
- After the acquisition the expanded affiliated group is primarily managed and controlled in the United States; and
- The expanded affiliated group does not conduct substantial business activities in the country in which the foreign acquiring corporation is created or organized.
The scope of an acquisition for purposes of Section 7874 would be expanded to include a direct or indirect acquisition of substantially all of the assets constituting a trade or business of a domestic corporation, substantially all of the assets of a domestic partnership, or substantially all of the U.S. trade or business assets of a foreign partnership.
A distribution of stock of a foreign corporation by a domestic corporation or a partnership that represents either substantially all of the assets or substantially all of the assets constituting a trade or business of the distributing corporation or partnership would be treated as a direct or indirect acquisition of substantially all of the assets or trade or business assets, respectively, of the distributing corporation or partnership.
These provisions would be effective for transactions occurring after the date of enactment.
Foreign-Derived Intangible Income (FDII)
Effective for tax years beginning after December 31, 2021, the administration’s proposal would repeal the FDII provisions, but would incorporate a new business credit for onshoring.
The onshoring tax incentives (effective for expenses paid or incurred after the date of enactment) would provide a new general business credit equal to 10% of the eligible expenses paid or incurred in connection with onshoring a U.S. trade or business, as well as disallow deductions for expenses paid or incurred in connection with offshoring a U.S. trade or business. Onshoring a U.S. trade or business is defined as reducing or eliminating a trade or business (or line of business) currently conducted outside the U.S. and starting up, expanding or otherwise moving the same trade or business to a location within the U.S., to the extent that this action results in an increase in U.S. jobs.
The administration’s Green Book provides important details regarding the anticipated changes to the U.S. international tax landscape. It remains to be seen whether these proposed changes will be enacted as outlined or if additional changes will be made. However, multinational companies can start modeling now the impact these changes may have on their operations and tentatively planning to mitigate any anticipated impact.
The Treasury Department’s Green Book also outlines tax proposals related to individual income taxes, capital gains and estate taxes. Click here to read more about these proposals.
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