Client Alert: Inflation Reduction Act Speeds through Senate – Key Takeaways
Date: August 10, 2022
What’s New and Included:
- Corporate Minimum Tax – IRA includes a 15% book alternative minimum tax (“AMT”), which is very similar to last year’s proposed Build Back Better legislation. How does it work? The tax would be imposed on “adjusted financial statement income” (“AFSI”) over a corporation’s “AMT foreign tax credit for the taxable year.” The tax applies to C corporations for any taxable year in which for the three taxable year period ending such tax year have an average annual AFSI greater than $1 billion (and at least $100 million for members of foreign-parented international financial reporting groups, i.e., two or more corporations, if at least one is a domestic corporation and another is a foreign corporation, and these are included in the same financial statement for the taxable year, and either the common parent of these is a foreign corporation or these are treated as having a common parent that is a foreign corporation). S Corporations, regulated investment companies, and REITs are not included in this grouping. The new tax would be effective for tax years beginning after December 31, 2022.
AFSI is net income or loss presented on a corporation’s financial statement with certain adjustments. The bill provides rules for calculating AFSI for certain entities and income, such as consolidated groups, foreign-parented groups, and effectively connected income. AFSI is reduceable by accelerated depreciation deductions.
This new tax leaves open many questions and complexity because financial statements have both a net income and a total comprehensive income concept. Another area of concern is what happens when groups of corporations come together in a sale or merger and applicable financial statement NOLs can carry over into the acquiring company to reduce its financial statement income. Will these changes prompt financial accounting rule-makers at FASB to enter into tax law?
Another question is how will the IRS be able to implement this new tax with an effective date coming up in the very near future? Will the stampede of regulations to come remind us of 2018?
From a global perspective, the new minimum tax would be calculated on a blended worldwide version of a company income which is distinct from the OECD’s global minimum tax (also known as “Pillar Two”) that is calculated on a country-by-country basis. Both systems also treat certain taxes differently. As such, the two systems are still not harmonized, but will be forced to interact.
- Excise Tax on Stock Buybacks – A 1% tax will be imposed on the fair market value (“FMV”) of stock repurchased by a publicly traded U.S. corporation (and certain publicly traded foreign corporations) during the tax year. To calculate the tax, the FMV of the repurchased stock is reduced by the FMV of any stock issued by the corporation during the tax year, including stock issued or granted to employees. There are exemptions for tax-free reorganizations under IRC §368 and situations where the total repurchased stock is $1 million or less for the taxable year. The effective date for this new tax will be on repurchases of stock made after December 31, 2022.
- Extension of Limitation on Excess Business Losses of Noncorporate Taxpayers – IRA extends the limitation on excess business loss of noncorporate taxpayers by two years. Excess losses (generally, amounts in excess of gross amount of business income or gain, plus a threshold amount) are disallowed for taxable years beginning in 2021 through 2028.
- Research Credit Against Payroll Tax for Small Businesses – The bill increases the amount of a small partnership, corporation, or business person’s permitted research credit to be taken against the employer portion of its FICA payroll tax liability from $250,000 to $500,000 for tax years beginning after December 31, 2022. This provision applies to businesses with gross receipts of less than $5 million for the current tax year and no gross receipt for any taxable year preceding the 5-taxable year period ending with the current one. The proposal applies the first $250,000 against the FICA liability and the second $250,000 against the employer portion of Medicare payroll tax liability. Tax-exempt organizations are not eligible for this credit.
- Superfund Excise Tax – Reinstates and increases the hazardous Superfund financing rate on crude oil and imported petroleum products, indexed to inflation, effective after January 1, 2023, and through December 31, 2032.
- Extension of Black Lung Disability Trust Tax Fund – The bill permanently extends the tax imposed on the sale of coal for sales in calendar years beginning after IRA’s date of enactment.
- Excise Tax on Certain Pharma Manufacturers – Pharmaceutical manufacturers are required to negotiate with the federal government to determine maximum prices for certain prescription drugs and insulin offered under Medicare. If these manufacturers do not participate then their sale of such prescription drugs and insulin during the noncompliance period or periods in which information due to the Department of Health and Human Services is overdue would be subject to a new “manufacturers excise tax” initially set at a rate of 65%, which would gradually increase to 95% for taxpayers failing to comply with certain benchmarks under IRA. This tax would be imposed on all sales by a manufacturer, producer, or importer of such products that are subject to a negotiated price cap. This would be effective for sales after IRA’s date of enactment.
- Clean-Energy Tax Incentives – IRA includes many tax and non-tax provisions intended to reduce consumer energy costs and reduce greenhouse emissions by approximately 40% by 2030. Tax credits under IRA include a direct-pay option, whereby certain tax-exempt entities and governmental and quasi-governmental authorities can elect to receive a direct payment in lieu of applicable credits, and transferability provisions allowing a taxpayer to transfer eligible credits to unrelated eligible taxpayers. IRA provisions also include extending tax credits designed to reduce the cost of residential energy-efficiency improvements, a $4,000 credit for certain middle-class taxpayers to purchase clean-energy vehicles and a credit of up to $7,500 available for the purchase of new clean-energy vehicles. Along these lines, IRA provides tax and non-tax provisions directed at improving the resilience of the U.S. energy grid and fomenting clean-energy manufacturing. Under a separate alert our WTP energy practice will provide a more detailed summary of these provisions.
- $80 Billion for the IRS – Some of the revenue raising for the legislation comes from a need to increase funding for the IRS. While the IRS certainly needs to modernize its technology, much of this money will go towards IRS enforcement by requiring the IRS to add auditors and improve customer service. $15 million of this allocation is set aside for the IRS to study the potential creation and maintenance of an IRS-run free e-file system. Critics of the IRS warn that this is likely to bring new burdens and intrusions for small businesses. Others point to the need to increase IRS staffing after a long period of a declining workforce.
What’s Not Included:
- The many sweeping provisions under last year’s Build Back Better legislation, such as changes to the U.S. Global Intangible Low-Taxed Income (“GILTI”) rules (the U.S.’s own minimum tax that targets foreign income of U.S. taxpayer’s foreign controlled subsidiaries) and U.S. foreign tax credit rules.
- The state and local tax (“SALT”) deduction limitation was not addressed.
- Also left untouched for now is the infamous “carried-interest” and its capital gains treatment.
- Lastly, no changes are made under IRA in the estate and trust area.
The new legislation mostly offers incentives, in the form of tax credits, to qualifying businesses and industries. While most of these incentives are targeted toward renewable energy, the small business research & development credit has wide application for startup and early stage companies. Businesses who may be subject to the new corporate minimum tax should plan now while there is time to take action prior to the end of the year.
The information contained here is not intended to provide legal advice or opinion and should not be acted upon without consulting an attorney. Counsel should not be selected based on advertising materials, and we recommend that you conduct further investigation when seeking legal representation.