Washington Tax Insight May 2015


This issue of Washington Tax Insight focuses on the budget issues and the draft tax reform proposals that are circulating on Capitol Hill. It has been prepared by True Partners Consulting, in conjunction with the Tax Policy firm of Beckham Advisors, LLC. Please let us know of any matters you would like to see addressed in future issues.

The Republican-controlled Congress has achieved success in the first big test of this year with approval of a Budget Resolution for Fiscal Year 2016. The work on appropriations legislation to establish spending priorities and budget reconciliation legislation which would incorporate tax and spending changes now begins in earnest. Although budget issues will continue to dominate the Congressional agenda for the rest of this year, the two tax-writing committees have ambitious agendas in the tax area.

The Senate Finance Committee continues to work to lay the groundwork for comprehensive tax reform proposals which are expected sometime this summer after the Working Groups complete their deliberations. The Ways & Means Committee continues to work behind the scenes on specific areas such as the international tax rules, while also advancing certain miscellaneous tax and trade issues, either because they demand attention (e.g., the highway bill) or because they advance certain principles of the Republican agenda this year (e.g., repeal of the estate tax).

Budget Issues

The House and Senate have approved a Budget Resolution Conference Report, which sets broad spending and revenue targets for Fiscal Year 2016 and beyond. The Conference Report would balance the budget within a decade by cutting at least $5 trillion without raising taxes. The Conference Report calls for repeal of the Affordable Care Act (ACA) and includes Budget Reconciliation instructions to 2 Senate Committees and 3 House Committees that have jurisdiction over the ACA.
The Conference Report also includes a policy statement from the House-passed budget plan that calls on Congress to pursue revenue-neutral tax reform that reduces rates for both individuals and corporations, and another that argues in favor of amending the Congressional Budget and Impoundment Control Act of 1974 to require that proposed permanent extensions of temporary tax provisions (called “extenders”) be measured against an alternative baseline that already assumes their extension and thus does not require budget offsets. This change would make it easier to make items such as the R&E credit permanent. The Conference Report also includes language directing the Joint Tax Committee and the Congressional Budget Office to produce estimates of the economic effects of legislation using “dynamic scoring” methods, which take into account the impact on the broader economy. The final Budget Resolution is not sent to the President for signature to become law. Instead it serves as a document that lays out the Congress’s broad tax and spending priorities and sets spending caps which must be utilized by the congressional appropriations committees. Budget Reconciliation instructions provide a fast-track procedure that limits debate in the Senate and allows for passage of legislation by a majority vote as opposed to the 60 votes normally required, which could be useful to the Senate Republicans who currently hold only 54 seats. Budget reconciliation legislation and appropriations bills are sent to the President for signature and can be vetoed.
There is continuing discussion of working on an agreement later in the year that would raise the spending caps. This would require a more comprehensive budget deal that would modify the legislation that established the spending caps and mandated “sequestration” or across-the-board budget cuts when no budget deal was reached in 2013. Increasing the debt limit is also likely to be an issue that must be addressed in the Fall and could become part of such a deal. Sequestration would only occur this year if Congress appropriated at spending levels above the cap (which is unlikely to happen).

Miscellaneous Tax Legislation Issues

The House approved legislation that would repeal the estate tax and a separate bill that would let taxpayers deduct taxes paid to state and local governments, but it is unlikely that either bill will advance any further this year because SFC Chair Hatch has stated a preference for focusing on comprehensive tax reform. The White House has stated that it would veto both of these bills.
W&M Chair Ryan announced that he is working on a limited tax bill that would address issues such as tax extenders, international taxation, and highway funding.
The so-called “Cadillac tax”, which is part of the Affordable Care Act, is now emerging as the next big fight over the President’s health care law, with a mix of business groups and unions hoping to kill it—although doing so would create a $87 billion gap in the budget. This provision of the law does not go into effect until 2018 but companies are dealing with it now as part of their future plans and negotiations for employee benefits.
It is a 40% excise tax on the health benefits companies provide their workers above a threshold of $10,200 for singles and $27,500 for families and would represent the first time a tax has been levied on health care benefits. The scope of benefits covered includes not only insurance premium payments but also health savings and flexible spending accounts and supplemental insurance plans.

Tax Reform Proposals

Even with the Republicans now in control of both Houses of Congress, and the President and the chairs of both taxwriting committees indicating serious interest in advancing comprehensive tax reform, significant challenges make it unlikely that comprehensive business tax legislation could be enacted this year. Neither W&M nor SFC has produced a comprehensive tax reform legislative draft, and there is no coalescence around drafts that have been considered in recent years. Should the Republicans in both chambers reach a consensus on how to proceed, they still lack the supermajority needed in the Senate to overcome a filibuster. Finally, they must deal with a Democratic President who has his own priorities on tax reform. There are nevertheless several reasons why taxpayers should be engaged in the ongoing debate now.
Widespread agreement within the government and the business community that the US tax system needs reform suggests that debate will continue. The issue is very likely to stay at the top of the Congressional agenda for the foreseeable future. The US system is one with high tax rates, a narrow base and outdated international tax rules that results in a tax system out of step with our key global trading partners.
In recent years, there has been an increased focus on the number of US-based companies engaged in or considering inversions, which consist of mergers with or acquisitions of foreign companies to move their place of tax residence. President Obama and Congressional Democrats accuse these companies of not paying their fair share of US tax while enjoying the benefits of operating in the US. Congressional Republicans have argued that inversions result from the weaknesses of the current tax code and that corporate tax reform will take care of these issues. There has been some speculation that a focus on inversions could spur action on corporate tax reform sooner rather than later, although recent activity from the Treasury on the regulatory side may have decreased the need for immediate legislative action.
Most importantly, the work that has come before and the work being done now will assuredly form the basis of what future tax reform will look like. Stakeholders who opt out of the debate now will not have an opportunity to contribute to the discussions and will likely find themselves at a disadvantage when legislation begins to advance in Congress. At a minimum, taxpayers should be spending time now analyzing and understanding current proposals and ideas so that they are prepared to engage directly with government officials and as part of business groups at the appropriate time.

Camp Discussion Drafts

Former W&M Committee Chair Camp, who retired at the end of 2014, started work on comprehensive tax reform in 2011. This work culminated in a Discussion Draft released in February 2014 after months of Committee hearings and meetings. The draft included a reduction in the corporate and individual tax rates to 25% and a move toward a territorial system for taxing domestic multinational corporations as well as a number of base-broadening provisions that would have had a major impact on corporations, pass-through entities, individuals, and tax-exempt organizations.

Baucus Discussion Drafts

Former SFC Chair Baucus (D-MT) resigned from the Senate in early 2014 to become the US Ambassador to China. Tax reform was always a priority for him, and he worked closely with Chair Camp on a number of initiatives. In late 2013, he released four staff-level discussion draft proposals for comprehensive reform of the rules related to multinational corporations, tax accounting and cost recovery, tax administration, and energy policy. These drafts did not constitute a complete tax reform package, however, since rate reductions were not included, but the proposals will certainly be considered as part of the debate going forward.

Senator Wyden’s Legislation

Senator Wyden (D-OR) took the gavel as Chair in 2014 but was forced to relinquish it when the Republicans took control of the Senate in January 2015. He now serves as the Committee’s Ranking Democrat, and he has established a history as an advocate for tax reform. He introduced comprehensive tax reform legislation in 2010 and again in 2011 (with Indiana Republican Senator Coats). He has played an active role with Chair Hatch in the formation and operation of the SFC Working Groups and is expected to continue to play a key role in the debate.

The White House and President Obama

President Obama has called for tax reform during his tenure in the White House but he has yet to produce a detailed plan. He released a brief “framework” for corporate tax reform in 2012 that includes “goals” but no details on how to achieve them. Recently, he has publicly advocated tackling business tax reform first without individual tax reform and has stated that he hopes that it is an issue he can work on with Congress before the end of his second term.

Corporate Tax Reform

Lowering the corporate statutory rate remains one of the key goals of tax reform. To pay for this, all the key reform proposals include significant changes to current tax expenditures, resulting in a major broadening of the tax base. Achieving a corporate tax rate between 25%-28% will likely require changes to a number of areas including amortization of intangibles, the section 199 domestic production activities deduction, the R&E credit, cost recovery/depreciation, advertising expense deductions, executive compensation, and interest deductibility. Significant changes could also come in the area of accounting methods, the taxation of financial institutions and products, and energy taxation.
The Working Group on Business, co-chaired by Senators Cardin and Thune, is reportedly giving consideration to a consumption tax. Senator Cardin has introduced legislation in the past to create a value added tax (VAT), and legislation recently introduced by Senators Marco Rubio and Mike Lee would also make several changes that would move the US tax system closer to a consumption-based system. These discussions are in the early stages and even though the chairs of both taxwriting committees have expressed interest, they have also acknowledged challenges.
A new coalition called “Cost Recovery Advances the Nation’s Economy” (CRANE) has forme d to protect accelerated depreciation in the context of the debate about tax reform and has released a study arguing that ending accelerated depreciation does not save money in the long term because companies would still write off the full value of their assets (although over a longer period of time). Accelerated depreciation is the largest singlededuction in the corporate tax code and has been targeted for elimination or significant change in various tax reform plans as a way of offsetting a decrease in the corporate tax rate.

International Tax Reform

The debate about changes to the US international tax rules has centered on whether the US should transition from its current system, which taxes a domestic company on its worldwide income, to a territorial system, which would generally exempt foreign-source income from domestic taxation. Most OECD members have adopted territorial systems, and most of the major current tax reform proposals move the US closer to a territorial system.
The Camp discussion draft included detailed proposals in this area, including changes to the taxation of foreignsource income and foreign intangible income as well as the treatment of interest expense. The Camp draft also included changes affecting inbound companies with respect to the earnings stripping rules and treaty benefits for certain payments. Congressman Boustany, who is a member of the W&M committee, is currently working on a new draft for the international provisions.
Baucus also released a discussion draft proposing changes to the international rules including two options for ending deferral and changes to the “check-the-box” rules. The Wyden legislation does not move to a territorial system but instead tightens the current rules with respect to deferral and includes a repatriation provision.
The President’s budget proposal for FY 2016 included proposals that represent a move toward the concept of a territorial system with protections against base erosion. There are some interesting similarities between the Camp draft and the Obama budget proposal’s imposition of a tax on earnings accumulated in CFCs—although the rate in the Obama proposal is significantly higher.

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Robert M. Gordon, Managing Director


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