Green Book proposal highlights

| 6/24/2021
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The recently released “General Explanations of the Administration’s Fiscal Year 2022 Revenue Proposals” (Green Book) includes several proposals that change the existing international tax landscape. Although these proposals might be modified or even scrapped during the legislative process, it is important for taxpayers to understand these potential changes so they are prepared to take steps to minimize any negative tax impact if the proposals are enacted. Based on the lessons learned when the Tax Cuts and Jobs Act of 2017 was enacted, major changes to U.S. international tax law will require multinational businesses to review, and perhaps revise, their global structure and operations, including supply chains and intangible property.

Following is a closer look at the international tax proposals included in the Green Book:

Revise the global minimum tax regime, disallow deductions attributable to exempt income, and limit inversions

This proposal would make several changes to the existing global intangible low-taxed income (GILTI) regime and recharacterize it as a global minimum tax regime. First, the proposal would eliminate the exemption under IRC Section 951A for 10% of a controlled foreign corporation’s qualified business asset investment. Additionally, the proposal would reduce to 25% the IRC Section 250 deduction for the global minimum tax. These changes, in conjunction with the proposal to increase the corporate tax rate to 28%, would increase the effective rate on GILTI income from 10.5% to 21%. The proposal would require calculating global minimum tax on a country-by-country basis and repeal existing relief for Subpart F income and tested income subject to high rates of tax.

The proposal also would extend the application of IRC Section 265 to disallow a deduction for expenses allocable to dividends exempt from income under IRC Section 245A and GILTI to the extent it is reduced by IRC Section 250. Finally, the proposal would decrease the continuity of ownership threshold for continuing to treat an inverted company as a U.S. company from 80% to 50% and expand the definition of a tainted inversion transaction to target certain transactions in which the acquirer is smaller than the target, regardless of continuity of ownership.

This proposal generally would be effective for taxable years beginning after Dec. 31, 2021, but the provisions with respect to inversions would be effective for transactions completed after the date of enactment.

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Reform taxation of foreign fossil fuel income

This proposal would expand the definition of tested income for GILTI to include previously excluded foreign oil and gas extraction income and foreign oil-related income and expand the definitions of each type of activity to include income derived from shale oil and tar sands activity for taxable years beginning after Dec. 31, 2021.

Repeal the deduction of foreign-derived intangible income (FDII)

This proposal would repeal the deduction under IRC Section 250 for FDII for taxable years beginning after Dec. 31, 2021.

Replace the base erosion anti-abuse tax (BEAT) with the stopping harmful inversions and ending low-tax developments (SHIELD) rule

This proposal would replace BEAT with a new rule called SHIELD. SHIELD would focus on disallowing deductions directly to related parties in low-tax jurisdictions and disallowing a portion of other related-party payments based on a ratio of all payments to low-taxed related parties. The provision would affect costs like cost of goods sold, which are not deductions. The low-taxed determination would be based on an anticipated minimum tax rate that the U.S. hopes will be agreed to under Pillar Two of the Organisation for Economic Co-operation and Development’s (OECD’s) base erosion and profit-sharing action plan. Along with many other base erosion and profit sharing subscribers, the Group of Seven has agreed to a 15% global minimum tax rate. The minimum tax rate would be 21% if the proposal is enacted before the OECD adopts a minimum tax rate. The proposal would be effective for taxable years beginning after Dec. 31, 2022.

Limit foreign tax credits from sales of hybrid entities

The proposal would apply the principles of IRC Section 338(h)(16) to determine the source and character of any item recognized in connection with direct or indirect disposition of an interest in a specified hybrid entity and to a change in the classification of an entity that is not recognized for foreign tax purposes. A specified hybrid entity is a corporation for foreign tax purposes that is treated as a partnership or disregarded entity for U.S. tax purposes. The proposal would not change the determination of taxable income. Rather, for U.S. tax purposes, the proposal would determine the source and character of the gain on the sale of a hybrid entity as if the entity was a corporation and the seller sold stock. Consequently, this provision would prevent the computation of ordinary income or capital gain based on the sale of assets when selling a hybrid entity and instead would treat the collective sale of assets as a sale of stock. Treating the collective sale of assets as a stock sale likely would result in reduced foreign tax credits for most taxpayers.

The proposal would be effective for transactions occurring after the date of enactment.

Restrict deductions of excessive interest of members of financial reporting groups for disproportionate borrowing in the U.S.

This proposal would limit the amount of a U.S. member’s net interest expense for U.S. tax purposes when a consolidated group member’s net interest expense per books (under U.S. GAAP) exceeds its proportionate share of the group’s net interest expense per its consolidated financial statements. This limitation would be in addition to limitations under existing IRC Section 163(j).

The proposal would be effective for taxable years beginning after Dec. 31, 2021.

Provide tax incentives for locating jobs and business activity in the U.S. and remove tax deductions for shipping jobs overseas

This proposal would create a general business credit of 10% of eligible expenses incurred to onshore a U.S. trade or business. The proposal also would disallow deductions for expenses incurred to move jobs offshore. Under the proposal, onshoring or offshoring would be dependent on reducing or eliminating a trade or business in one jurisdiction and starting it up or expanding it in another. Expenses disallowed or that serve as a base for the credit would be limited to relocation costs and exclude capital expenditures or severance.

The proposal would be effective for expenses paid or incurred after the date of enactment.

Looking ahead

The Biden administration’s Green Book includes international tax proposals that, if enacted, would significantly increase tax on U.S.-based multinationals. The proposed changes include targeting a minimum 21% tax rate on global income and disallowing U.S. expenses attributable to global income to the extent the income is reduced under IRC Section 250, which potentially would drive the effective rate on global income much higher. Additionally, the hidden costs of tax planning in an uncertain environment and the disproportionate increase in compliance costs to accommodate new rules like a country-by-country calculation of global minimum tax and foreign tax credits would place a much greater financial toll on taxpayers than the additional tax revenue raised for the U.S. Department of the Treasury.

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