Washington Tax Insight January 2018
Happy New Year!
Politics and Congressional Activity
Congressional Agenda/Schedule for 2018
Congress returns in January to face several challenging issues with pressing deadlines, including funding the federal government for the rest of FY 2018, raising the debt limit, extensions of the Children’s Health Insurance Program (CHIP) and the Foreign Intelligence Surveillance Act (FISA), a disaster relief bill, bipartisan legislation to stabilize Obamacare, and a legislative solution for the Deferred Action for Childhood Arrivals (DACA) program. The 2018 mid-term elections will dominate political discussion and complicate any attempts at agreement between the two parties on these types of issues because of the possibility that control in either chamber could flip as a result of the elections. The White House and Republican leadership in Congress made passage of the tax reform bill their highest priority because of their belief that this key legislative achievement would be necessary for success in the November 2018 elections and retention of control of the House and Senate.
The President plans to meet with Senate Majority Leader McConnell and House Speaker Ryan at Camp David January 6-7th to discuss the 2018 agenda. Prior to adjournment, Senate Majority Leader McConnell suggested that bipartisanship on legislation would be his goal in 2018, perhaps reflecting the reality of the 51-49 split resulting from the seating of Senator Doug Jones from Alabama, which switches that seat from Republican to Democrat. Democrats may be reluctant to work with Republicans if the result is to give the White House legislative achievements before the elections, but they also won’t want to pass up the opportunity to advance their priorities should that be possible.
Majority Leader McConnell has said that the Senate would be “moving on” from efforts to repeal Obamacare, although other Senate Republicans may not be on board with that. He has differed with House Speaker Ryan about entitlement reform, including Social Security and Medicare, by expressing no interest in dealing with the topic before the elections, stating that bipartisanship would be needed to advance that legislation. The Speaker recently said that he would like to deal with Social Security and Medicare in 2018 – before he retires from the House – as part of an effort to rein in government spending. His focus on government spending comes in the wake of passage of the tax reform bill that cuts taxes by $1.5 trillion over 10 years and is expected to increase the annual deficit to $1 trillion in 2019. Most members of Congress of both parties are unlikely to be interested in dealing with entitlement reform in an election year. Senate Majority Leader McConnell did state that he would bring immigration legislation to the Senate Floor in January if lawmakers and the White House can reach a deal on issues including the DACA program.
The President has indicated that he will send an infrastructure package to Congress in January, and the Senate Majority Leader has expressed his willingness to tackle this issue should there be interest from the Democrats in making it a bipartisan initiative. The White House plan is expected to be in the $1 trillion range over 10 years and be comprised of $200 billion in government spending (offset by cuts elsewhere in the budget) with the rest of the spending from cities, states and private investment. Congressional Democrats are skeptical so far about this package until details are provided for a plan that was promised in the first 100 days of the Trump presidency, especially against the backdrop of a year of partisan disagreements over health care and tax reform.
The 2018 Mid-Term Elections
The November 2018 mid-term elections will be the key political event of the year and will have an overriding impact on the legislative agenda in Washington. Polls generally indicate that a majority of Americans would like the Democratic party to control Congress, but there are structural obstacles that will make that difficult for Democrats to achieve. As noted above, Congress comes back to Washington in January facing a challenging agenda, but the politics of these elections will be front and center in all debates on all issues because the last two years of the Trump presidency will be affected by the outcome of the elections and which party controls Congress. Democrats need to take over 24 seats in the House to gain control and 2 seats in the Senate. The challenge for Senate Democrats, however, is that they have 24 seats to defend in the election, while Republicans have only 8 seats to defend.
Predictions on how 2018 will unfold must take into account unknown events that are likely to occur and cannot be predicted or controlled, whether they are international, such as the ongoing tensions between the US and North Korea, or domestic, such as natural disasters or terrorist incidents
FY 2018 Budget and Debt Ceiling
On December 21st, both the House and Senate approved legislation that would continue funding the federal government through January 19th, thereby avoiding a government shutdown while Congress was away from Washington for the holidays. This continuing resolution included temporary extensions of CHIP (until March) and FISA, and it also provided for a waiver of the Pay As You Go Act that allowed the tax reform bill to become law in 2017 without triggering mandatory spending cuts in programs like Medicare.
House and Senate Democrats wanted the year-end legislation to fund CHIP permanently, reform the FISA program, cover opioid crisis funding, deal with the DACA program, and address private pensions, but these issues were left for Congress to address in the new year. An $81 billion disaster relief bill to provide relief for Texas, Louisiana, Florida, Puerto Rico and the US Virgin Islands was approved by the House, but the Senate failed to act on it. Congressional leadership said that one more continuing resolution is expected to be needed before Congress will be able to reach agreement on omnibus legislation to fund the remainder of FY 2018.
Part of the challenge of reaching agreement on these issues lies with the goal of some Republicans to lift the statutory spending caps on defense spending for the rest of FY 2018 while leaving the caps in place for domestic spending – a plan that is opposed by Congressional Democrats who want the spending caps left in place for both types of spending. Appropriations legislation cannot move under the budget reconciliation process, so Democratic support is necessary in the Senate in order to break a filibuster if it should occur. The President’s desire to include funding for a border wall will likely also complicate completion of the omnibus funding legislation.
Congress will once again have to consider the issue of raising the debt ceiling limit because the Treasury will run out of ways to avoid exceeding the limit in March 2018 according to the Bipartisan Policy Center. Typically, Democratic support is needed for debt ceiling limit increase legislation because many Republicans refuse to vote for the increase on principle. This would give leverage to Democratic leadership to insist that some of the issues important to their party are included.
Health Care Reform Legislation
A bipartisan bill sponsored by Senator Alexander (R-TN) and Senator Murray (D-WA) would temporarily fund the Cost Sharing Reduction (CSR) payments to health insurers that are designed to defray their costs of covering low-income individuals under the Affordable Care Act (ACA), since the President recently announced that the government would no longer fund these payments. Senator Susan Collins (R-ME) conditioned her support for the tax reform legislation on a promise from Senator Majority Leader McConnell that this bill would be considered on the Senate Floor. Senator Collins believes that the repeal of the individual mandate, which was included in the tax reform bill, may lead to premium increases.
Several Republican members of the House Ways & Means Committee introduced five bills intended to target the employer mandate and taxes imposed under the Affordable Care Act (ACA). The taxes included are the medical device tax, taxes on over-the-counter medication, and taxes on health insurance companies. The intention is not to advance these bills on their own, but rather to include them in other legislation that would make amendments to the ACA or legislation dealing with Medicare and other tax issues.
Senate Finance Committee Chair Hatch (R-UT) introduced a tax extenders bill (S. 2256) which would retroactively extend many of the tax credits and deductions that expired at the end of 2016 and make them available for the 2017 and 2018 tax years. Included in the bill are extensions for the deduction for mortgage insurance premiums and certain credits relating to renewable energy, alternative fuels, and nuclear energy. As part of key tax legislation approved in 2015, many of the provisions which had been part of the annual “extender” package were made permanent, but a small group of provisions were not included.
Treasury and the IRS
The IRS and Treasury issued Notice 2018-07 announcing forthcoming regulations for the repatriated earnings tax provision and “for determining amounts included in gross income by a United States shareholder under section 951(a)(1) by reason of section 965 of the Internal Revenue Code” as amended by the recently enacted Tax Act. The Notice lists the following issues with examples and analyses that will be covered in the forthcoming regulations:
- Determination of aggregate foreign cash position;
- Determination of accumulated post-1986 deferred foreign Income;
- Application of section 961 to amounts treated as subpart F income under section 965;
- Treatment of an affiliated group making a consolidated return for purposes of section 965;
- Determination of foreign currency gain or loss under section 986(c).
Treasury states that the forthcoming regulations are intended to be effective for the first taxable year in which Code section 965 becomes effective, which is the last taxable year of foreign corporations that begin before January 1, 2018, and for US shareholders the taxable years in which or with which such taxable years of the foreign corporations end. Taxpayers may rely on the rules described in the notice until the regulations are issued, and comments on the rules are requested.
On December 27th, the IRS released guidance regarding the deductibility of real property taxes saying that as a general matter, whether a taxpayer is allowed a deduction for the prepayment of state or local real property taxes in 2017 depends on whether the taxpayer makes the payment this year and whether the taxes are assessed prior to 2018. “A prepayment of anticipated real property taxes that have not been assessed prior to 2018 are not deductible in 2017,” the IRS stated. Some tax experts have suggested that there may be a good argument that an assessment isn’t necessary and have also warned taxpayers that they should consider whether prepayment of the taxes might force them into an alternative minimum tax liability.
Also in connection with the Tax Act, the IRS has announced that it is working to develop withholding guidance. They anticipate issuing the guidance in January, and employers and payroll service providers will be encouraged to implement the changes in February. The guidance will be designed to work with the existing Forms W-4 that employees have already filed. In the meantime, the IRS states that employers and payroll service providers should continue to use the existing 2017 withholding tables and systems.
The IRS issued Revenue Procedure 2018-08, which provides safe harbor methods that individual taxpayers may use in determining the amount of casualty and theft losses under Code section 165 for personal residences and personal belongings. The IRS also issued Revenue Procedure 2018-09, which provides cost indexes that can be used under a safe harbor method to determine the amount of loss to individuals’ homes as a result of Hurricane and Tropical Storm Harvey, Hurricane Irma, and Hurricane Maria.
The IRS issued Notice 2017-72, which contains the 2017 Required Amendments List for individually designed qualified retirement plans. The list identifies certain changes of qualification requirements that became effective in 2017 that may require a retirement plan to be amended in order to remain qualified, and establishes the date by which any necessary amendment must be made.
The IRS issued Notice 2018-3, which sets the standard rates for the deductible costs of operating a vehicle for business, charitable, medical, or moving expense purposes. In 2018, the standard mileage rate will increase by one cent to 54.5 cents for business use. For services to a charitable organization, the rate will be 14 cents per mile, and for medical care or moving expenses, the standard mileage rate will be 18 cents.
The IRS issued Notice 2017-75, which provides guidance on the application of Code section 409A and Code section 457A, and amounts that are includible in income. The guidance addresses “the transition provisions enacted as part of section 457A that generally provide that amounts deferred and attributable to services before January 1, 2009, that would otherwise have been subject to inclusion in income under section 457A, are includible in gross income in the later of the last taxable year beginning before 2018 or the date of vesting,” the IRS said. Accelerated distributions to pay tax on amounts includible in 2017 and after will not violate Code section 409A.
The IRS issued Notice 2017-71, which extends penalty abatement relief to a much broader class of filing, payment, and election actions that occurred in 2016 tax years tied to partnership return filing due dates, including real estate mortgage investment conduit (REMIC) elections, Code section 475 mark-to-market elections, common trust fund filings, qualified electing fund (QEF) elections, purging elections, employee benefit plan contributions by employers, excise tax payments regarding employer-provided group health care, and mixed straddle account elections. The IRS previously provided relief for abating failure-to-file penalties for partnerships and REMICs for 2016 tax years who otherwise met such requirements before the changes enacted in the 2015 Surface Transportation Act. That Act moved the due date for partnership tax returns up a month, from the 15th day of the 4th month to the 15th day of the 3rd month following the end of the taxable year.
The IRS issued proposed regulations related to how certain international rules operate in the context of the centralized partnership audit regime, including rules relating to the withholding of tax on foreign persons, withholding of tax to enforce reporting on certain foreign accounts, and the treatment of creditable foreign tax expenditures of a partnership.
The IRS and Treasury filed a notice of appeal indicating their intent to appeal the decision of the US District Court for the Western District of Texas in Chamber of Commerce of the U.S. v. IRS, W.D. Tex., No. 1:16-cv-00944, which invalidated the Treasury Department’s April 2016 regulations aimed at preventing corporate inversions.
The European Council adopted new rules designed to make it simpler for online businesses to comply with their value-added tax (VAT) obligations. The new rules expand access to online portals for registration and reporting and require that the VAT be paid in the member state of the consumer. The new regulations had been proposed in December 2016 and are intended to end the VAT exemption for certain online sales from outside the EU and to reduce compliance costs for businesses.
The OECD released additional country-by-country reporting guidance for multinational groups and tax administrators. The guidance addressed several specific issues, including how to report amounts taken from fair-value financial statements; how to treat mergers, acquisitions, and de-mergers; how to treat short accounting periods; and the definition of total consolidated group revenue.
The European Commission introduced a set of procedures intended to simplify the refund process for cross-border investors that are required to pay a withholding tax twice when the tax is withheld in the EU country where investment income (such as dividends, interest and royalties) is generated, but is then taxed again in the member state where the investor is based. Although investors can claim refunds, the procedures are difficult and expensive.
The OECD has released the first analysis of individual countries’ progress in exchanging information on tax rulings in accordance with Action 5 of the BEPS package of measures released in October 2015. The first annual report on the exchange of information on rulings evaluates how 44 countries, including all OECD members and all G20 countries, are implementing one of the four new minimum standards agreed in the OECD/G20 BEPS Project.
A European Union committee approved a legislative directive to create EU-wide penalties for money laundering, which must be approved by the European Parliament, after which member states will have one year to implement it. The directive is intended to increase cooperation and uniformity among member states and impose a minimum term of imprisonment for money laundering crimes with aggravating factors.
The OECD released a consultation document proposing model rules requiring disclosure by advisers and service providers who market schemes designed to circumvent the Common Reporting Standard (CRS) for automatic exchange of taxpayers’ financial account information. The proposed rules, which are non-binding recommendations for countries that follow the CRS, would require such intermediaries to disclose information on schemes and their users to their national tax authority. The rules provide that information on those schemes (including the identity of any user or beneficial owner) would then be made available to other tax authorities in accordance with the requirements of the applicable information exchange agreements. The United States has not yet adopted the CRS although the OECD based the standard on the US Foreign Account Tax Compliance Act (FATCA). Public comments on the draft are due by January 15, 2018.
Tax Reform Update
On December 22nd, the President signed into law HR 1 (P.L. 115-97) (the “Tax Act”). The legislation makes sweeping changes to the individual, corporate and international sections of the tax code. For a detailed summary of the HR 1 conference report, please see True Alert 2017-13 here.
As noted in the True Alert summary, the Tax Act is generally effective for tax years beginning on or after January 1, 2018, but because the President signed it in 2017, companies on a calendar-year schedule will have to reflect much of the effect of the Tax Act in their 4th-quarter financial statements, which many companies start to release in mid-late January. The tax effects of changes in tax law or rates need to be recognized in the period in which the legislation is enacted, and thus must be accounted for within the 2017 annual financial statements for calendar-year taxpayers. Consideration will need to be given to the treatment of deferred tax assets and deferred tax liabilities, and the use of deferred tax assets such as tax credits and net operating losses.
The House approved the HR 1 conference report on December 19th by a vote of 227-203 with all Democrats voting “no” along with 12 Republicans. When the bill reached the Senate, the parliamentarian determined that three provisions violated the Byrd rule and would have to be stripped from the bill because they either had no impact or only incidental impact on the federal budget. A vote to waive a point of order with respect to the three issues failed on a vote of 51-48 (with 60 votes needed). The three provisions included the short title (The “Tax Cuts and Jobs Act”), the requirement that colleges and universities have at least 500 tuition-paying students to be subject to the excise tax on endowment income, and the inclusion of homeschooling costs as qualified expenses under the proposal to expand Code section 529 accounts.
The Senate approved the amended version by a vote of 51-48 on December 20th. Senators Collins (R-ME), Flake (R-AZ) and Corker (R-TN) all voted for the bill after voting against the original bill when it was considered on the Senate Floor. Despite health issues, Senator Cochran (R-MS) was present for the vote, while Senator McCain was not. The amended bill was then sent back to the House for a vote to concur with the Senate changes, which passed 224-201.
The Joint Committee on Taxation released a revenue estimate on the HR 1 conference agreement stating that the overall cost of the bill for 2018-2027 would be $1.456 trillion, which was within the parameters set by the budget resolution of $1.5 trillion for the tax legislation. Changes to the individual section of the code cost $1.126 trillion with the business changes set at $653.8 billion and international tax changes raise $324.4 billion.
To comply with a Byrd Rule provision that prohibits reconciliation bills from increasing the deficit outside of the 10-year budget window, nearly all the individual tax changes will sunset at the end of 2025.
With the enactment of the tax reform legislation, Treasury and the IRS are tasked with the job of issuing taxpayer guidance to implement the broad changes to many sections of the Code. Taxpayers can expect the issuance of regulations, notices and other guidance in the months ahead.
Issues for Business to Consider as a Priority
The Tax Act results in a system that taxes corporations, pass-throughs, and individuals differently, so taxpayers and their advisors will need to assess their specific circumstances to determine whether to consider restructuring their businesses or their income flows. The operation of the treatment of pass-throughs has already produced questions about the application of the rules including the limitation that the deduction cannot exceed 50 percent of W2 wages and the addition of a new provision to that rule designed to help businesses that are heavy on equipment, investments and other assets but light on payroll.
The full expensing of certain business assets during the period between Sept. 27, 2017 and January 1, 2023 will be a planning tool that businesses will want to consider. The Tax Act includes significant limits on the deductibility of interest expense, but there are some exceptions and an election for real estate businesses to avoid the limitation.
The changes to the international area will create decisions about repatriated earnings and cross-border planning. The Tax Act’s tax on global intangible low-taxed income (“GILTI”) and the base erosion and anti-abuse tax (“BEAT”) along with interest limitations have already produced questions and cases of perceived unintended consequences.
Every major tax bill that is enacted is followed by a technical corrections bill. Due to the accelerated legislative process that was used to produce the Tax Act and the complexity resulting from the changes included, it is certain that there will be technical corrections legislation in 2018, and that it will be important legislation for taxpayers to monitor. It’s also possible that there will be problems with the Tax Act that will emerge that are too substantive to fix with technical corrections.
Typically, technical corrections legislation is non-controversial and bipartisan. But Democrats, who opposed the tax bill across the board, may not be inclined to fix problems with the bill – either large or small. Rather, they may be focused on the mid-term elections and regaining control of either or both chambers, so they can reverse changes in the law. The Tax Act was able to pass the Senate with only a simple majority vote because it moved under the budget reconciliation process, but any other tax legislation in 2018 will have to have 60 votes in order to prevent a filibuster.
What is a technical correction and what types of issues will be candidates for inclusion in this type of legislation? The Joint Tax Committee has defined a technical correction as: “A technical correction is legislation that is designed to correct errors in existing law in order to fully implement the intended policies of previously enacted legislation. The principal factor in determining whether a provision is technical is the original intent of the underlying legislation. Once it is determined that the existing statute does not properly implement legislative intent, and that the proposed change confirms to and does not alter the intent, the provision is deemed to be technical.” Consider the fact of the highly accelerated pace of the development of this legislation which means there is less legislative history and intent available than there normally is with a bill of this magnitude.
Thus, a technical correction does not change the substantive meaning of legislation, but rather it clarifies the existing statute; this means that the types of issues that can be addressed in a technical corrections bill are limited. Generally, technical corrections should have no revenue impact because they are enacted with the purpose of ensuring that a tax statute operates with the original intent of Congress. Any revenue gain or loss would have been included in the JCT revenue estimate of the original provision.
Also, typically a technical correction will take retroactive effect and be treated as if it were included in the original legislation. Historically, there have been limited instances in which a technical correction was applied prospectively, for example, if retroactive application of it would have been difficult to administer.
Technical corrections legislation will be an important tool for businesses to consider with respect to changes in the Tax Act which affect them either positively or negatively. Interpretation of the changes in the Tax Act will be provided by guidance which is issued by Treasury and the IRS, and that is the first resource to be used by taxpayers. There is no doubt, however, that there will be issues where the intent of Congress may not be clear or where the statute is silent on issues that cannot be dealt with through guidance from Treasury and the IRS. Those are the cases where a taxpayer will need to consider technical corrections both to keep an eye on what might be included with respect to changes that affect the taxpayer and also as a resource to request a technical correction in order to address an issue of interest to the taxpayer.
Technical corrections can be proposed by taxpayers, tax practitioners, and bar and trade associations as well as staff of the tax-writing committees, JCT and Treasury. Typically following a major tax bill, the JCT will issue what is called a “Blue Book” which is intended to provide one comprehensive source of legislative history for the tax bill, and it is possible that some technical corrections will be identified in the Blue Book. Once a technical correction is proposed, it is reviewed and assessed by the staffs of the tax-writing committees, both Republican and Democrat, and the staff of the Treasury Department and it is accepted only if all staffs agree to it.
It is also worth considering a discussing a technical correction with staff in order to ensure that they are aware of an issue and that it is addressed in some form of guidance. It may be able to be addressed through regulatory guidance, which is likely to be a quicker way to resolve the issue.
Whether and how a technical corrections bill to the Tax Act will advance is unpredictable. Committee staffs have already begun collecting possible issues, and at some point, there may be a decision to introduce the legislation. Even if the bill doesn’t advance quickly, inclusion of an issue in the introduced bill may give taxpayers some information about an issue that is unclear from the statute. There may also need to be multiple technical corrections bills related to the Tax Act in future years. The technical corrections to the 1986 Act took years – this bill is likely to surpass that.