How the new corporate minimum tax is reshaping business investment

WASHINGTON — At the center of a new climate and tax package that Democrats appear to be passing is one of the most significant changes to the U.S. tax code in decades: a new corporate minimum tax that could reshape the way the federal government is taxed and change how America’s most profitable companies pay their bills. The way the business is invested.

The proposal is one of the last remaining tax increases in a package Democrats intend to pass in the coming days. After months of party divisions over whether to raise taxes on the wealthy or scrap some of the 2017 Republican tax cuts to fund their agenda, they have settled on a longstanding political ambition to ensure that large and profitable corporations pay more than 0 U.S. federal tax.

To that end, Democrats have reimagined a policy last adopted in the 1980s: trying to collect taxes from companies that report profits to shareholders in their financial statements, while increasing deductions to reduce tax bills.

The re-emergence of the corporate minimum tax, which will apply to the so-called “book income” that companies report in their financial statements, has sparked confusion and fierce lobbying resistance since it was announced last month.

Some initially lumped the measure with the 15 percent global minimum tax rate that Treasury Secretary Janet L. Yellen has pushed as part of an international tax pact. However, this is a separate proposal, still stalled in the US Congress, that would apply to the overseas income of US multinationals.

Republicans are also misleadingly trying to use the tax increase as evidence that President Biden is prepared to renege on campaign promises and raise taxes on middle-class workers. Manufacturers have warned that this will bring new costs amid rapid inflation.

As a sign of the political power of lobbyists in Washington, the new tax had been watered down by Thursday night. At the urging of manufacturers, Sen. Kyrsten Sinema of Arizona persuaded her Democratic colleagues to keep a valuable deduction associated with the purchase of machinery and equipment, known as bonus depreciation.

The new 15% minimum tax rate will apply to companies that report annual revenue in excess of $1 billion to shareholders in their financial statements but use deductions, credits and other favorable tax treatments to reduce their effective tax rate to well below the statutory 21%. It was initially expected to raise $313 billion in taxes over a decade, but could end up with $258 billion once the revised bill is finalized.

The new tax could also introduce a greater degree of complexity into the tax code, which, if passed, would pose challenges to its enforcement.

“In terms of bandwidth to implement and deal with complexity, there’s no question that this system is complex,” said Peter Richman, senior counsel at the Tax Law Center at NYU Law School. “It’s a big change, revenue. The numbers are huge.”

Because of this complexity, the corporate minimum tax faces great skepticism. It’s less efficient than simply eliminating deductions or raising the corporate tax rate, and could open the door for companies to find new ways to lower their income to reduce their tax bill.

Mr. Biden and Sen. Elizabeth Warren, Democrat of Massachusetts, floated similar ideas during the presidential campaign. They are being promoted as a way to restore fairness to the tax system that allows large corporations to drastically lower their tax bills through deductions and other accounting measures.

According to an early estimate by the nonpartisan Joint Committee on Taxation, the tax is most likely to apply to approximately 150 companies per year, most of which will be manufacturers. That sparked an outcry from manufacturing companies and Republicans, who have been opposed to any policy that scales back the tax cuts they enacted five years ago.

While many Democrats admit that the corporate minimum tax isn’t their first choice for tax increases, they see it as a political winner. Sen. Ron Wyden of Oregon, chairman of the Senate Finance Committee, shared data from the Joint Tax Committee on Thursday showing that between 100 and 125 companies reported more than $1 billion in financial statement revenue in 2019, but Its effective tax rate is less than 5 percent. The average income reported to shareholders in financial statements is nearly $9 billion, but they pay an average effective tax rate of just 1.1%.

“Companies pay the lowest interest rates while reporting record profits to shareholders,” Mr Wyden said.

The Treasury Department last year had reservations about the idea of ​​a minimum tax because of its complexity. If enacted, the Treasury Department would be responsible for creating a host of new regulations and guidance for the new law and ensuring that the IRS can properly oversee it.

Michael J. Graetz, a professor of tax law at Columbia University, acknowledged that calculating the minimum tax amount is complex, and that introducing a new tax base would add new challenges from a tax administration perspective, but said he didn’t think the hurdles were ineligible. He noted that the current system creates opportunities for tax avoidance and allows companies to incur losses that are not shown in their financial statements for tax purposes.

“If the problem Congress is addressing is companies reporting high paper profits and low taxes, the only way to align the two is to be taxed to some extent on paper profits,” said Mr. Gretz, a former deputy assistant secretary of state. Treasury’s tax policy said.

A similar version of the tax was included in the 1986 tax reform and was allowed to expire after three years. Skeptics revisiting the measure warned it could create new problems and opportunities for companies to evade the minimum tax.

“Research evidence on the outcome of the Tax Reform Act of 1986 suggests that companies responded to this policy by changing how they reported their financial accounting income — companies deferring more income into future years,” said Michelle Hanlon, a professor of accounting at Sloan University. Provincial Institute of Technology School of Management, told the Senate Finance Committee last year“This behavioral response poses serious risks to financial accounting and capital markets.”

Other opponents of the new tax have expressed concern that it would hand more control over the U.S. tax base to the Financial Accounting Standards Board, an independent group that sets accounting rules.

“The potential politicization of the FASB could lead to lower quality financial accounting standards and lower quality financial accounting earnings,” Ms. Hanlon and UNC professor Jeffrey L. Hoopes wrote in a letter to members of Congress signed last year. Over 260 Accounting Scholars.

Business groups strongly opposed the proposal and forced Ms Sinema to block the tax altogether. A poll of manufacturing workers, managers and advocates in the state released Wednesday by the National Association of Manufacturers and the Arizona Chamber of Commerce and Industry found a majority oppose the new tax.

“It will make it harder to hire more workers, raise wages and invest in our communities,” said Chad Moutray. Chief Economist of the Manufacturing Association. “Arizona’s manufacturing voters are clear that this tax will hurt our economy.”

Ms. Sinema expressed opposition to higher rates and expressed reservations about proposals to reduce the special tax treatment that hedge fund managers and private equity executives receive for “carried interest”. At her urging, Democrats scrapped the proposal.

When an earlier version of the corporate minimum tax was proposed last October, Ms Sinema issued a statement of approval.

“This proposal represents a common-sense step to ensure that high-profit corporations — which can sometimes avoid current corporate tax rates — pay a reasonable minimum corporate tax on their profits, just like Arizonans and Arizona small businesses. daily practice,” she said. In announcing on Thursday that she would support revisions to the climate and tax bills, Ms Sinema noted it would “protect advanced manufacturing”.

That won plaudits from business groups on Friday.

Neil Bradley, chief policy officer at the U.S. Chamber of Commerce, said in a statement: “Taxing capital spending — investment in new buildings, plants, equipment, etc. — is one of the most damaging tax increases to the economy. One.” “While we look forward to reviewing the newly proposed bill, Senator Sinema deserves credit for recognizing this and fighting for change.”

Emily Cochran Contribution report.

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