Washington Tax Insight December 2019
Politics and Congressional Activity
The House and Senate both passed a continuing resolution (CR) that extends government spending authority at 2019 levels through December 20th, and the President signed the bill, thereby averting a government shutdown. Reportedly, budget negotiators have agreed to new budget levels for many government programs, but they have yet to agree on one of the key issues, which is funding for the President’s proposed border wall.
Speaker of the House Nancy Pelosi and Senate Majority Leader McConnell are considered to both be experienced dealmakers, but tensions between the two bodies have increased in the context of the House impeachment proceedings, with the government funding issue looming as a critical issue that the two leaders must resolve – either with approval of legislation for the new fiscal year or another short-term funding proposal that would take the issue into January. Both leaders would prefer a long-term bill covering all of FY 2020.
The CR does not include any permanent tax changes, e.g. tax extenders, although the chairs of the tax-writing committees are working on a miscellaneous tax bill that could be added to the FY 2020 spending package to be voted on in December. This package could include some provisions addressing extenders and technical corrections, retirement legislation, and green energy tax incentives. Some members feel that the best approach is to keep this package relatively narrow in order to ensure its inclusion in an omnibus end-of-the-year bill, but there is also some interest in the two committees in accepting policy trade-offs involving key technical corrections and the green energy incentive proposals.
Congress & The White House
House/Ways & Means Committee: Committee Democrats released draft legislation that includes more than 20 provisions to incentivize several renewable energy production sources and fuels, as well as green energy vehicles, buildings, and retrofits. The lead sponsor is the Select Revenue Measures Subcommittee Chair Mike Thompson (D-CA), with support from Committee Chair Neal (D-MA) and all Committee Democrats. The bill does not include a cost estimate or any proposed revenue raisers, but the press release states that they will be added in the future. The Subcommittee has requested public comment on the draft and has not yet scheduled a committee markup.
Senate/Senate Finance Committee: SFC Chair Grassley (R-IA) and Ranking Democrat Wyden (D-OR) have been investigating potential abuse of Code section 170, which provides tax deductions for conservation-oriented land donations since March of this year, and there are now several IRS divisions – the Small Business and Self-Employed, Large Business and International, and Tax-Exempt and Government Entities divisions – involved in a coordinated investigation into potential abuse. Commissioner Rettig stated that, “We will not stop in our pursuit of everyone involved in the creation, marketing, promotion and wrongful acquisition of artificial, highly inflated deductions based on these aggressive transactions.” Legislation introduced in March would set limits on the amount of certain qualified conservation contributions available for deduction.
Chair Grassley released a proposal to address the solvency crisis facing multiemployer pension plans and the Pension Benefit Guaranty Corporation’s (PBGC) program to insure those plans. Once public comments have been received, legislative language will be released. The House has passed legislation on this issue, but their bill is more narrowly focused on financial support rather than programmatic and administrative reforms.
The White House: Administration officials continue to comment publicly on issues that could be included in a Tax Cuts 2.0 package. The Ranking Republican on the Ways & Means Committee has said that a legislative version of Tax Cuts 2.0 won’t be released this year, but that there will be a “pro-growth agenda for the 2020 election that will include continued tax cuts.” Assistant Treasury Secretary for Tax Policy Kautter has said that a new tax cut proposal likely won’t be fully drafted and released until the middle of 2020.
Joint Tax Committee Bluebook: The Joint Tax Committee (JCT) issued its second report explaining tax legislation enacted in the last Congress (2017-1018). The first Blue Book which covered the TCJA was issued in mid-2018, while this second Blue Book covers all other legislation enacted during that period.
Budget Process Reforms: The Senate Budget Committee approved bipartisan legislation that is intended to reform the federal budget process by promoting long-term fiscal planning, eliminating “brinksmanship” around the nation’s debt limit, requiring lawmakers to include deficit-reduction targets in their budget resolutions, and creating a mandatory fast-track procedure for moving measures to lower the deficit if Congress appears to be unable to meet its deficit-reduction goals. A vote on the Senate Floor has not been scheduled, and it is unclear whether this legislation would find support in the House.
Retirement Security Legislation: The SECURE (Setting Every Community Up for Retirement Enhancement) Act is being considered for inclusion in a miscellaneous tax package for an omnibus spending bill. SFC Chair Grassley has commented that he thinks it is unlikely that this bill will move on its own in the Senate, where it has been stalled due to the objections of individual Senators, so attachment to the omnibus bill looks to be its best chance for approval this year.
Opportunity Zones: Proposed legislation that would expand reporting rules for the Opportunity Zone tax incentives enacted in the TCJA is also a possible inclusion for a miscellaneous tax bill at the end of 2019. Bills have been introduced in both the House and Senate including a recent bill introduced by Ranking SFC Democrat Wyden that would require annual, public information reporting from Qualified Opportunity Funds and annual statements to the IRS from fund investors while also eliminating perceived loopholes in the law. Treasury released a draft tax form, Form 8996, that requires Opportunity Zone funds to report the employer identification number of each business in which it is invested, the census tract location of any tangible property of the business, the value of the investment, and the value and location of any qualified business property the fund owns or leases. This proposed form would not go as far in requiring information reporting as the various bills that have been introduced.
State and Local Tax (SALT) deduction cap: Ways & Means Democrats are expected to release in the near future proposed legislation to provide temporary relief from the $10,000 cap for the SALT deduction, which was enacted as part of the TCJA. Reportedly, details such as the proposed length of a temporary suspension have not been finalized, although a 3-year suspension has been discussed. The revenue cost of the proposal is expected to be offset but no pay-for has been confirmed. Although Democrats would like to include this in a year-end tax package, this is probably unlikely since Republicans do not support this effort.
Technical Corrections & the International Tax Rules
It is unlikely that a comprehensive technical corrections bill will be enacted in 2019. The Joint Tax Committee continues to compile a list of changes needed with input from Treasury and the IRS as they have worked on guidance. The bill that was introduced by former Ways & Means Committee Chairman Brady did not advance once the Democrats took control of the Committee, but it is a useful source for ideas about possible technical corrections as is the JCT Blue Book on the TCJA.
These are some of the issues that have been highlighted: (1) base differences foreign tax credit baskets; (2) NOLs and Section 250; (3) Section 245A and the sale of CFC stock; (4) Section 958(b)(4), the downward attribution rule; (5) several changes to the GILTI calculation and the GILTI deemed paid credit; (6) dividends received deduction; (7) foreign-derived deduction-eligible income; (8) the indirect credit; and (9) the branch basket.
Treasury and the IRS
Tax Cuts & Jobs Act (TCJA) Guidance
Upcoming Guidance: The OMB has completed review of several international tax regulations, so their release is expected soon. These include the release of rules on the Base Erosion and Anti-Abuse Tax (BEAT) under Code section 59A, the foreign tax credit, the limit on interest expense deductions under Code section 163(j), and related party amounts paid or accrued in hybrid transactions or with hybrid entities under Code section 267A.
CFC Ownership Attribution Rules: The IRS issued final regulations on the attribution of ownership of stock or other interests to determine whether a person is a related person with respect to a controlled foreign corporation (CFC) under Code section 954(d)(3). The guidance also covers determining whether a CFC is considered to derive rents in the active conduct of a trade or business for purposes of computing foreign personal holding company income.
IRS Opens Compliance Initiative on Repatriation Tax: The Large Business and International (LB&I) Division has launched a new campaign to assess compliance with the transition tax on foreign earnings deemed repatriated under Code section 965. The IRS compliance campaigns, which were started in 2017, address issues that present noncompliance risks and require a response in the form of one or multiple treatment streams to achieve compliance objectives.
This compliance campaign will focus on 2017 and 2018 tax year returns, and the IRS has suggested that returns selected for review may be examined “for other material issues, especially issues related to TCJA planning.” The campaign will include “conducting examinations as well as providing technical assistance to teams on 965, with a focus on identifying and addressing taxpayer populations with potential material compliance risk.”
Consolidated Group Intercompany Transactions Regulations and the TCJA: The IRS has had to deal with several complexities created by some of the TCJA rules that affect the long-standing consolidated group intercompany transactions regulations in cases where the TCJA rules require computations on a group basis rather than on a member-by-member basis. Some of the TCJA provisions that are creating issues include the GILTI rules and the Code Section 163(j) business interest limitation related to the transfer of partnership interests.
Other Issues and Guidance
Inflation-Adjusted Tax Provisions for 2020: The IRS issued Revenue Procedure 2019-44, which provides the 2020 annual inflation-adjusted dollar amounts for several tax provisions including the alternative minimum tax, the foreign earned income exclusion, and the individual taxpayer rate brackets.
2020 Retirement Plan Limits: The IRS issued Notice 2019-59, which includes inflation-adjusted dollar limits for retirement plans for 2020. The annual addition limit for all contributions to an employee’s defined contribution plan account increases from $56,000 to $57,000, and the contribution limit for employees who participate in Section 401(k), 403(b), most 457 plans, and the federal Thrift Savings Plan is increased from $19,000 to $19,500. The catch-up contribution limit for employees aged 50 and over who participate in these plans increases from $6000 to $6500. For defined benefit plans, the annual benefit limit increases from $225,000 to $230,000, and the annual compensation limit increases from $280,000 to $285,000.
S Corporations that Convert to C Corporations: The IRS issued proposed regulations under Code sections 481, 1377, and 1371 for corporations (and their shareholders) that convert from being taxed as an S corporation to being taxed as a C corporation. The guidance provides information on the definition of post-termination transition period (PTTP). The IRS explains that the rules would also “extend the treatment of distributions of money during the PTTP to all shareholders of the corporation and to update and clarify the allocation of current earnings and profits to distributions of money and other property.”
Rates for Deducting Business, Charity, Medical, and Moving Expenses: The IRS issued Revenue Procedure 2019-46, which updates the optional standard mileage rates for deducting the costs of driving a vehicle for business, charitable, medical or moving expense purposes. The guidance includes rules to substantiate the amount of an employee’s ordinary and necessary travel expenses reimbursed by an employer using the optional standard mileage rates, but taxpayers are not required to use a method described in this revenue procedure if they choose instead to substantiate actual allowable expenses with adequate records.
Debt Equity Rules: As reported in the last issue, the IRS issued Notice 2019-58 informing taxpayers that its 2016 debt equity temporary regulations under Code section 385 would expire on October 13th. The 2016 regulations establish documentation requirements and rules that reclassify some related-party debt as equity for federal income tax purposes. In 2018, the IRS proposed a withdrawal of the documentation rules. This Notice informs taxpayers that with the expiration of the temporary rules, they can rely on the corresponding proposed distribution rules under sections 1.385-3 and 1.385-4 of the regulations.
Treasury has said that if the TCJA does not go far enough to prevent earnings stripping, it will reassess the regulations and consider more streamlined and targeted rules. The “pre-rule” that was sent by Treasury to the OMB has now been cleared by OMB but not released publicly.
Adoption of a Global Minimum Tax & Digital Taxation
The OECD continues to work on a plan to tax digital commerce as part of the BEPS initiative along with a general discussion of global tax rules. The G20 leaders endorsed the plan developed by the Inclusive Framework on BEPS with the goal of a final report by the end of 2020.
Program of Work
Pillar 1: The Public Consultation was held on November 21-22 on the Pillar One document with Pascal Saint-Amans saying that “the goal is to move as fast as possible — if we have political agreement.” There is a sense of urgency from the business community to see agreement reached on this issue in order to stop the spread of unilateral tax laws (including a new proposal from Canada), but there is also support for ensuring that the technical details are worked out. As currently drafted, there are exemptions to Pillar One only for extractives and commodities. At the Public Consultation, other industries made their case for exemptions, including manufacturers and financial services. Other comments included companies arguing for a simpler approach than is reflected in the OECD draft and concerns that the proposal won’t raise as much revenue as originally suggested.
Pillar 2: The OECD released its “Pillar Two” proposal on taxing digital commerce. The Global Anti-Base Erosion (GLOBE) Proposal is designed to ensure that companies pay a minimum rate somewhere, even if they are operating in low-tax jurisdictions. This proposal includes a set of FAQs, and comments are due by December 2nd with a public consultation scheduled for December 9th. The document includes details on 4 components of the new rules that would create an effective minimum tax rate and prevent base erosion, but the minimum tax rate has not been set.
The OECD asked for feedback on some key questions including whether a multinational’s effective tax rate should be calculated by “blending” the rates it pays across jurisdictions or by looking at the rate it pays in each jurisdiction, and if the rules should include carve-outs or thresholds that would exempt certain companies.
The 4 components are:
- An “income inclusion rule” would tax the income of a foreign branch or a controlled entity if that income were subject to tax at an effective rate that is below a minimum rate.
- An “undertaxed payment rule” would deny a deduction or impose a tax, such as a withholding tax, where an intra-group payment is made, if that payment is not subject to tax at or above a minimum rate.
- A “switch-over rule” in tax treaties would allow home jurisdictions to switch to a credit method from an exemption method where profits attributable to a source jurisdiction are taxed below the minimum rate. If a tax treaty requires an exemption method, for a company that has an entity that is resident in a tax treaty jurisdiction, the home jurisdiction must exempt this entity from tax. However, under the credit method, a company is subject to tax, but it is awarded credits for any tax paid in a tax treaty jurisdiction. The company can use these credits to offset any tax paid in the home jurisdiction.
- A “subject to tax rule” would subject certain tax treaty benefits to withholding taxes if the treaty provisions would lead to a payment being subject to tax below the minimum rate.
US Government & Business Reaction
On Pillar Two, some commentators noted that issues that were not addressed in the document the OECD released will be some of the most challenging from a political standpoint, including what the final minimum tax rate would be and whether a taxpayer’s effective tax rate would be calculated per country or globally. Other comments focused on the technical issues that would need to be resolved, such as how this system would be integrated with existing global and national tax rules.
In the US, it is likely that international tax rules would need to be changed to reflect both Pillars if global consensus is reached, but that is unlikely to happen until after the 2020 elections or beyond, possibly when Congress has to address the provisions of the TCJA that expire in 2025.
The UK & Brexit
Campaigning in advance of the election on December 12th is in full swing in the UK. If Prime Minister Boris Johnson does not get a majority in the upcoming election, it is unclear how he would proceed, with the possibilities ranging from calling for another general election to holding a second referendum on Brexit. The PM has made statements on tax issues including his promise that rates for the income tax, value-added tax, and national insurance won’t increase during his tenure, but he has also proposed pulling back on a planned corporate tax cut (from 19% to 17%). Labour Party Leader Jeremy Corbyn, on the other hand, has released an £83 billion set of tax increases aimed at the wealthy and the business community.
The OECD issued guidance on the spontaneous information exchange by low and no-tax jurisdictions. As part of the BEPS Action 5 to curb harmful tax practices, jurisdictions may only maintain preferential regimes if certain “substantial activities” requirements are met, which also must apply to jurisdictions with zero or only nominal tax rates. The new substantial activities standard for no or low-tax jurisdictions requires them to spontaneously exchange information on the activities of certain resident entities with the jurisdictions in which the immediate parent, the ultimate parent, and/or the beneficial owners are resident. This allows the tax authorities of these jurisdictions to assess the substance and the activities of the entities resident in no or low-taxed jurisdictions.
The OECD issued additional guidance for tax authorities and multinationals on Country-by-Country (CbC) reporting, which is part of the BEPS tax compliance framework. This guidance is intended to provide increased certainty regarding the implementation and operation of CbC reporting, and it consolidates the previous guidance on the topic. It includes questions and answers on several issues, including the treatment of dividends received and the operation of local filing. A summary of common errors made by MNE groups in preparing CbC reports has been posted on the OECD website.
The European Council has reached agreements on new EU-wide rules for the exchange of VAT payment data in e-commerce, on simplified VAT rules for small businesses, and on a modernized framework for the excise tax on goods. The EC also discussed the OECD project to reform the taxation of the digital economy.
The EU updated the list of noncooperative jurisdictions announcing that it had removed the Marshall Islands and the United Arab Emirates from Annex 1 (the blacklist) and Albania, Costa Rica, Mauritius, Serbia and Switzerland from Annex 2 (the grey list). Nine jurisdictions remain on the list of noncooperative jurisdictions including American Samoa, Belize, Fiji, Guam, Oman, Samoa, Trinidad and Tobago, the US Virgin Islands, and Vanuatu.