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Tax Reform 12.1.2017 - Joe Cruz EY

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Tax Reform 12.1.2017 - Joe Cruz EY

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Tax Reform 12.1.2017 - Joe Cruz EY

  1. 1. Tax legislative and policy update Current as of November 22, 2017
  2. 2. Page 2 Tax legislative and policy update Disclaimer ► EY refers to the global organization, and may refer to one or more, of the member firms of Ernst & Young Global Limited, each of which is a separate legal entity. Ernst & Young LLP is a client-serving member firm of Ernst & Young Global Limited operating in the US. ► This presentation is © 2017 Ernst & Young LLP. All rights reserved. No part of this document may be reproduced, transmitted or otherwise distributed in any form or by any means, electronic or mechanical, including by photocopying, facsimile transmission, recording, rekeying, or using any information storage and retrieval system, without written permission from Ernst & Young LLP. Any reproduction, transmission or distribution of this form or any of the material herein is prohibited and is in violation of US and international law. Ernst & Young LLP expressly disclaims any liability in connection with use of this presentation or its contents by any third party. ► Views expressed in this presentation are those of the speakers and do not necessarily represent the views of Ernst & Young LLP. ► This presentation is provided solely for the purpose of enhancing knowledge on tax matters. It does not provide tax advice to any taxpayer because it does not take into account any specific taxpayer’s facts and circumstances ► These slides are for educational purposes only and are not intended, and should not be relied upon, as accounting advice.
  3. 3. Page 3 Tax legislative and policy update Legislative status update Health care ► Administration to stop making cost-sharing reduction (CSR) payments ► Alexander-Murray legislation would ensure CSR payments through 2019; provide states greater flexibility to meet ACA requirements; restore funding for ACA outreach, enrollment assistance ► Individual mandate “repeal” added to tax reform; other reform could be part of year-end discussions on government funding Budget ► October 26: House approved Senate-passed budget resolution 216-212 ► Approval by both chambers authorized reconciliation process, allowing tax bill to pass Senate with the votes of as few as 50 senators (with the Vice President breaking tie) ► Reconciliation instructions provide for $1.5 trillion tax cut; other tax cuts must be offset ► Government funding expires December 8: negotiations will be bipartisan, failure could mean government shutdown Tax reform ► House passed its Tax Cuts and Jobs Act November 16 ► Senate Finance Committee released summary text of its version of the Tax Cuts and Jobs Act November 9, and passed a modified Chairman’s Mark November 16 ► Full Senate floor action expected in late November, early December
  4. 4. Page 4 Tax legislative and policy update Business tax highlights of House and Senate tax reform plans* • 20% corporate rate, beginning 2018; AMT repealed • 25% tax rate generally applied to passive business activity income plus “capital percentage” (generally 30%) of active income • Limits interest deduction to 30% of earnings before interest, tax, depreciation and amortization (EBITDA) with additional limit based on global group income • Immediate expensing – five years • Expands definition of covered employee (§162m) • Establishes territorial exemption system for dividends received by US corporations from 10%-owned foreign corporations • One-time transition tax – 14% / 7% • New broad-based anti-deferral provision taxes “foreign high- return amount” on a current basis at 10% effective tax rate (some foreign tax credits (FTCs) available) • 20% excise tax on certain deductible payments to related foreign persons House • 20% corporate rate, beginning 2019; AMT repealed • 17.4% deduction for domestic qualified business income from a partnership, S corporation, or a sole proprietorship • Limits interest deduction to 30% of earnings before interest and tax (EBIT) with additional limit based on global debt to equity • Immediate expensing – five years • Expands definition of covered employee (§162m) • Establishes territorial exemption system for dividends received by US corporations from 10%-owned foreign corporations • One-time transition tax – 10% / 5% • New broad-based anti-deferral provision taxes “global intangible low-taxed income” on a current basis at 10% effective tax rate (some FTCs available) • New deduction available for “foreign-derived intangible income” • Anti-base erosion measures include minimum tax of 10%, applied on income determined after adding back deductible payments made to related foreign persons Senate Finance Committee Note: These provisions are detailed and highly complex. This chart, and the ones that follow, are intended to provide a high-level overview, and no inference is made that these provisions equate to one another. * “Plans” refer to the language as released and all amendments passed as of the date of these materials.
  5. 5. Page 5 Tax legislative and policy update Corporate and business provisions Provision House Senate Finance Corporate income tax rate 20% rate, beginning 2018; personal services corporations taxed at 25%; AMT repealed 20% rate, beginning in 2019; 35% rate for certain personal services corporations repealed; AMT repealed Expensing Immediate write-off of qualified property placed in service after September 27, 2017, and before January 1, 2023. Repeals “original use” requirement. Excludes from the definition of qualified property certain public utility property and property of real property trade or business Immediate write-off of qualified property placed in service after September 27, 2017, and before January 1, 2023, by increasing bonus depreciation percentage to 100%. Excludes from the definition of qualified property certain public utility property (real property excluded by requirement that recovery period be 20 years or less), but includes qualified film, television and live theatrical productions. Interest expense Limits deduction of net interest expense to 30% of the business’s adjusted taxable income not taking into account interest, depreciation, amortization, depletion, or net operating losses (NOLs), (disallowed amounts may be carried forward five tax years). Exclusion for taxpayers that meet a $25 million gross receipts test and certain regulated public utilities and real property trades or businesses (not eligible for full expensing). Limits deduction of net interest expense to 30% of the business’s adjusted taxable income not taking into account interest, pass- through deduction, or NOLs (disallowed amounts may be carried forward indefinitely). Exclusion for taxpayers that meet a $25 million gross receipts test, certain regulated public utilities and certain electric cooperatives. Farming businesses could elect to not be subject to the limitation, but would have to use alternative depreciation rules.
  6. 6. Page 6 Tax legislative and policy update Corporate and business provisions (cont’d) Provision House Senate Finance Rate for pass-through entities 25% tax rate generally applied to passive business activity income plus the “capital percentage” of active business activity income (generally 30%; 0% for certain personal services businesses; special rules for capital intensive business); 9% tax rate on first $75k for small businesses (benefit begins to phase out after $150k; 9% rate phased in over five tax years). 17.4% deduction for domestic qualified business income from a partnership, S corporation, or sole proprietorship. Deduction generally does not apply to specified service businesses but available to service providers with income under certain monetary thresholds. For taxpayers with qualified business income from a partnership or S corporation, deduction limited to 50% of W-2 wages (limit phased in for individuals with taxable income over $500k (married, filing jointly) Net operating losses (NOLs) Deduction limited to 90% of the taxpayer’s taxable income (determined without regard to the NOL deduction). NOLs may be carried forward indefinitely. Carrybacks repealed (limited small business/farm exception).Generally effective for losses arising in tax years beginning after 2017. Deduction limited to 80% of the taxpayer’s taxable income (determined without regard to the NOL deduction). NOLs may be carried forward indefinitely. Repeals the two-year carryback and the special carryback provisions, but provides a two-year carryback for certain farming losses. Preserves current law for NOLs of property and casualty insurance companies. Applies to tax years beginning after 2022
  7. 7. Page 7 Tax legislative and policy update Corporate and business provisions (cont’d) Provision House Senate Finance Research and development credit Retained but research and experimental expenditures must be capitalized and amortized over a 5-year period (15 years in the case of expenditures attributable to research conducted outside the United States) (applies to those paid or incurred during tax years beginning after 2023) Retained but research and experimental (R&E) expenditures must be capitalized and amortized over a 5-year period (15 years in the case of expenditures attributable to research conducted outside the United States) (applies to those paid or incurred during tax years beginning after 2025). Reporting requirement for R&E expenditures in tax years beginning after 2025 Section 199 deduction Repealed Repealed Work Opportunity Tax Credit (WOTC); New Markets Tax Credit (NMTC); Low-income housing tax credit (LIHTC) WOTC repealed. No new NMTC allocated after 2017. LIHTC retained. Retained; modifications made to LIHTC, including renaming it “Affordable Housing Tax Credit” Like-kind exchanges Limited to exchanges of real property Limited to exchanges of real property that is not held primarily for sale “Orphan drug credit” Repealed Limited. Rate set at 27.5%, certain limits for previously approved drugs removed
  8. 8. Page 8 Tax legislative and policy update Senate Finance plan – other key provisions affecting businesses and corporations • Requires taxpayers to recognize income no later than the tax year in which the income is taken into account on an applicable financial statement, with certain exceptions • Increases the maximum amount a taxpayer may expense under Section 179 to $1,000,000 for property placed in service after 2017; increases the phase-out threshold amount to $2,500,000 (more generous provision is in House W&M Committee bill) • Disallows deduction for entertainment, amusement, or recreation that is directly related to or associated with the active conduct of a trade or business; may still generally deduct 50% of food and beverage expenses associated with operating a trade or business (also in House W&M Committee bill). Disallows an employer’s deduction for expenses associated with meals provided for the convenience of the employer on the employer’s business premises or through an employer-operated facility • Modifies certain rules governing partnerships, life insurance companies, and tax- exempt organizations (see analogues in House W&M Committee bill)
  9. 9. Page 9 Tax legislative and policy update Senate Finance plan – other key provisions affecting businesses and corporations (cont’d) ► Finance Committee Chairman Hatch remains interested in corporate integration ► Senate tax reform bill would create a new Section 242 and would allow eligible corporations a “dividend paid deduction” with a 0% rate ► Permits corporations to deduct 0% of dividends in computing taxable income subject to tax under Section 11 ► Adds a new requirement for corporate taxpayers that pay dividends to shareholders ► Policy rationale for corporate integration ► Address debt/equity imbalance ► Unlock “trapped” offshore earnings ► Attack earnings stripping ► Close gap with pass-throughs
  10. 10. Page 10 Tax legislative and policy update Senate Finance plan – international provisions • Territorial System: ≥10% US corporate shareholders may deduct 100% of the foreign- source portion of dividends from foreign corporations (excluding certain “hybrid” dividends) • One-time transition tax: Accumulated deferred foreign earnings subject to a transition tax at two rates (payable over eight years): • 10% for earnings held in cash and cash-equivalents; 5% for the balance • Relevant foreign earnings are: • Those accumulated in years beginning after 1986, during periods in which the foreign corporation had a ≥10% US shareholder • Measured as of Nov 9, 2017, or other measurement date (“as appropriate”) • Mandatory inclusion year: Foreign corporation’s last year beginning before 2018 • No new limitation on use of foreign tax credit carryforwards or other attributes to reduce the tax; foreign taxes on earnings deemed repatriated partially available; may elect to preserve NOLs and opt out of utilizing them to offset the mandatory inclusion • Claw-back provision if a US shareholder inverts within 10 years; entire mandatory inclusion taxed at 35% without allowance for foreign tax credits
  11. 11. Page 11 Tax legislative and policy update Senate Finance plan – international provisions (cont’d) • Current anti-deferral regime: Most categories of “includible” income retained, with some important structural modifications (e.g., expanded definitions both of US shareholder and of controlled foreign corporation (CFC)) • New broad-based subpart F category: global intangible low-taxed income (GILTI) • GILTI (aggregated for the CFCs of a US shareholder) is the excess (if any) of (i) certain net items of income of the CFCs, over (ii) a deemed return on related tangible property • Credit to corporate US shareholders: 80% of attributable foreign income taxes • US shareholder entitled to a deduction equal to 50% of recognized GILTI (reduced to 37.5% after 2025), resulting in a 10% effective tax rate on GILTI (12.5% after 2025) • New export incentive in the form of a deduction for US corporations for “foreign- derived intangible income” (FDII) • FDII is the “foreign-derived” portion of the excess (if any) of (i) certain net items of income, over (ii) a deemed return on related tangible property • Foreign-derived: Generally, product sales and services by the taxpayer to non-US persons outside of the United States • Applicable to certain GILTI inclusions and income earned directly (but excluding foreign branch income) • Deduction equals 37.5% (for an ETR of 12.5%) of the lesser of (i) the sum of FDII and GILTI inclusion, and (ii) taxable income (as otherwise calculated); (reduced to 21.875% after 2025, for an ETR of 15.625%)
  12. 12. Page 12 Tax legislative and policy update Senate Finance plan – international provisions (cont’d) • New intangible “inbounding” provision: Tax-free repatriation of intangible property • New limitations on interest expense deduction • All taxpayers (including pass-throughs): Disallowance of deduction for net business interest expense exceeding 30% of adjusted taxable income for the year, which is generally analogous to EBIT (i.e., pre-tax, pre-interest earnings after the deduction for depreciation, depletion and amortization (DD&A)) • US corporate members of worldwide affiliated groups: Disallowance of deduction for a portion of net interest expense, calculated with reference to “excess indebtedness” (generally, the excess of US debt over 110% of proportionate worldwide group debt) • Transfers of intangible property (IP): Expands the definition of IP (e.g., to include goodwill) and authorizes the Commissioner to use certain methods to value IP (e.g., realistic alternative principle). • New hybrid mismatch rule: Deductions disallowed for certain related party interest and royalties paid or accrued (i) pursuant to a “hybrid transaction” or (ii) by/to a “hybrid entity” • Repeal of special rules for DISCs and IC-DISCS • New separate Section 904 “baskets” for both foreign branch income and GILTI
  13. 13. Page 13 Tax legislative and policy update Senate Finance plan – international provisions (cont’d) • New base erosion minimum tax • Tax imposed on an “applicable taxpayer” equal to the excess of 10% of modified taxable income over the regular tax liability for the year (increased to 12.5% after 2025). • Modified adjusted taxable income is taxable income determined without regard to any “base erosion tax benefit” from any “base erosion payment” for the year • Base erosion payment is generally any amount paid or accrued to a related foreign person with respect to which a deduction is allowable, but does not include amounts included in cost of goods sold • Base erosion tax benefit means any deduction allowed with respect to a base erosion payment • Applicable taxpayer is a corporation (other than a RIC, REIT, or S Corp): • Which has average annual gross receipts of at least $500 million for the three-year period ending with the preceding year; and • Which has a “base erosion percentage” of 4% or higher for the year • Base erosion percentage is the aggregate amount of base erosion tax benefits divided by aggregate amount of allowable deductions
  14. 14. Page 14 Tax legislative and policy update House Ways and Means plan – international provisions • Territorial system: 100% deductions for foreign source dividends received from foreign subsidiaries by a 10% or greater US corporate shareholder • One-time transition tax: Accumulated foreign earnings subject to a transition tax at two rates (payable over eight years): • 14% for earnings held in cash and cash-equivalents; and 7% for the balance • Mandatory inclusion equals the greater of foreign earnings accumulated in tax years beginning after December 31, 1986, determined as of: • November 2, 2017, or • December 31, 2017 • Mandatory inclusion for last year of a specified foreign corporation beginning before January 1, 2018 • Foreign tax credit carryforwards fully available, foreign tax credits triggered by deemed repatriation partially available • No overall foreign loss (OFL)/foreign oil and gas loss (FOGL) recapture
  15. 15. Page 15 Tax legislative and policy update House Ways and Means plan – international provisions (cont’d) • Current anti-deferral rules retained (other than foreign base company oil related income) • Structural modification to subpart F rules made to expand definition of CFC • New broad-based anti-deferral provision: A US shareholder must include in income 50% of any “foreign high-return amount” determined with respect to its CFCs • The foreign high-return amount equals the excess, if any, of: • The US shareholder’s CFCs’ “net tested income”, over • A return (7% plus short-term AFR) on the CFCs’ qualified business asset investment (“QBAI”) reduced by interest expense • QBAI is the aggregate of the U.S. shareholder’s pro rata shares of its CFCs’ bases in certain tangible property • Tested income is all income other than specifically excluded amounts • The US shareholder is entitled to a credit for 80% of the foreign taxes paid on that income
  16. 16. Page 16 Tax legislative and policy update House Ways and Means plan – international provisions (cont’d) • New excise tax: Nondeductible excise tax is imposed at a rate of 20% on specified amounts paid by domestic corporations after December 31, 2018, to foreign corporations that are members of the same international financial reporting group (“IFRG”) • Specified amount includes an amount that is deductible, or includible as cost of goods sold, inventory, or the basis of depreciable or amortizable asset • Excludes interest, amounts paid or incurred to acquire certain commodities, any amount taxed under Section 881(a) (effectively connected income, or “ECI”), and certain service fees • An IFRG is a group of entities that files consolidated financial statements and that contains at least one US member and one foreign member • Foreign corporation can make an irrevocable election to instead treat specified amounts as ECI and be subject to net-basis taxation • A deemed expense amount is allowed to offset the deemed ECI • Limited foreign tax credits can be used to offset the tax • US branch profits tax may also apply if ECI election is made • Limited to IFRGs with average annual aggregate outbound payments in excess of $100 million over 3-year period
  17. 17. Page 17 Tax legislative and policy update House Ways and Means plan – international provisions (cont’d) • Limitations on interest expense deduction • New 163(j) generally limits deduction for net business interest expense to 30 percent of adjusted taxable income for the year, which is generally analogous to EBITDA • New 163(n) limits deduction for net interest expense of a US corporation that is member of an IFRG (see above) to 110% of the corporation’s share of the group’s net interest expense, based on the ration of the US corporation’s EBITDA and the group’s EBITDA (as determined under GAAP / IFRS) • A US corporation subject to both provisions must apply the one that disallows the greater amount of interest deduction • Interest disallowed under either provision may be carried forward up to five years, usable on first-in, first-out basis • Limited to groups with average annual gross receipts in excess of $100 million over 3- year period • Applies to taxable years beginning after December 31, 2017
  18. 18. Page 18 Tax legislative and policy update Final US tax reform legislation – what’s anticipated Lower rates Final legislation is expected to reduce both the corporate and individual income tax rates. A new rate for flow-through entities may be included. Broader tax base To pay for the proposed lower rates, US tax reform proposals include a wide array of base-broadening provisions (e.g., limitations on deductions). The base-broadening proposals will likely extend to both business and individual taxation (and may come with a series of complex transition rules). A move to a territorial system of taxation is expected, and will likely include some type of “toll charge” on previously untaxed accumulated foreign earnings with the rate determined by whether the earnings are in cash or non-cash assets. New international tax system Timing While the timing is subject to change, Republicans are targeting: ► White House: Republican framework released September 27 ► House: Legislative language – November 2; passed November 16 ► Senate: Legislative description – November 9; legislative language November 21; passage November/December ► Reconcile bills/signing: December (though may push into early 2018)
  19. 19. Next steps in tax reform Page 19 Senate Finance Committee’s tax reform plan Preparing for change Preparing for US tax reform involves understanding the leading proposals and their potential effects, implementing strategies that account for these changes and educating policymakers on their real-world impact. Model tax reform proposals: See how proposals could affect your federal and state liabilities and business operations Undertake scenario planning: Use model output to run scenario planning Plan: Prepare for change and consider implementing planning strategies Influence: Engage lawmakers on provisions that could significantly affect your tax liability and business operations 1 2 3 4 Policy Perspectives | Ernst & Young LLP’s rapid response to the Senate Finance Committee’s tax reform plan Senate Finance Committee’s tax reform plan

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