The Obama administration, in its FY 2016 Budget, has proposed a minimum tax on US multinational corporation foreign income and a one-time 14 percent tax on previously untaxed foreign deferred profits.
Inversion transactions and earnings stripping were also among the targets of the $4 trillion budget released February 2. The budget proposals are not likely to be enacted; they are considered to be more like an opening bid in tax reform negotiations with Republicans.
The one-time 14 percent tax on multinational earnings accumulated overseas would apply irrespective of whether the funds are repatriated or not and would be used to replenish the Highway Trust Fund.
A credit would be allowed for the foreign taxes associated with the earnings multiplied by the ratio of the one-time tax rate to the maximum US. corporate tax rate for 2015. No additional tax would be imposed on an actual repatriation of foreign profits.
Up to $2 trillion in profits are believed to have been stockpiled overseas over the years, as corporations have avoided repatriating earnings to defer corporate income taxes.
The minimum tax on foreign earnings is designed to reduce current incentives to locate production overseas and shift and maintain profits in low tax jurisdictions.
Under the proposal, the foreign earnings of a multinational’s controlled foreign corporation (CFC), branch, or from the performance of services, that are not subject to tax under subpart F would be taxed currently at a rate equal to 19 percent minus 85 percent of the foreign-country effective tax rate. Foreign earnings can be repatriated to the US without further US tax, and subpart F would continue to apply at the full US tax rate.
The tax base for the minimum tax is reduced by an allowance for corporate equity (ACE). The ACE allowance provides a risk-free return on equity invested in active assets, which are generally assets that do not generate foreign personal holding company income. As such, the allowance exempts a return on actual activities undertaken in a foreign country.
Also, to avoid creating a tax incentive for US shareholders to sell or not sell CFC stock, any stock gain that is attributable to unrealized appreciation in a CFC’s assets would be subject to US tax in the same manner as would apply to the earnings from the assets.
The budget proposal would also broaden the definition of an inversion by reducing the 80-percent continuity of ownership threshold to a greater-than-50-percent threshold, and by eliminating the 60-percent threshold.
Additionally, the budget proposes that, regardless of the level of shareholder continuity, a transaction will be an inversion if the fair market value of the stock of the domestic entity is greater than the fair market value of the stock of the foreign acquiring corporation, and if the affiliated group is primarily managed and controlled in the US and does not have substantial business activities in the country in which the foreign acquiring corporation is created or organized.
The budget also proposes to:
- deny deductions for payments made to related parties pursuant to hybrid arrangements that result in income that is not subject to tax in any jurisdiction or in double deductions for the same payment;
- limit the availability of exceptions to subpart F for transactions that use reverse hybrids to create stateless income;
- Restrict deductions for excessive interest of members of financial reporting groups;
- limit interest deductions to prevent foreign-parented multinationals from over-leveraging operations of a US subgroup;
- Establish a general business credit against income tax equal to 20-percent of the eligible expenses paid or incurred in connection with insourcing a U.S. trade or business;
- limit income shifting by clarifying the definition of intangible property transfers to include transfers of workforce in place, goodwill, going concern value, and other items, and by clarifying that where multiple intangible properties and transferred, or where intangible property is transferred with other property or services, valuation on an aggregate basis is appropriate;
- disallow deductions for excess nontaxed reinsurance premiums paid to affiliates;
- allow companies to make the worldwide affiliated interest allocation deduction for tax years after December 31, 2015;
- tax gains from the sales of a partnership interests on a look through basis;
- modify sections 338(h)(16) and 902 to limit credits when non-deductible taxation exists;
- close loopholes under subpart F by creating a new category of subpart F income for transactions involving digital goods and services, by expanding foreign base company sales income to include manufacturing services arrangements, by amending ownership attribution rules of section 958(b), and by eliminating the 30 day grace period for a foreign corporation to be a CFC before a subpart F inclusion;
- modify rules on dual capacity shareholders; and
- make permanent the temporary active financing and the “look-through” exceptions to subpart F income.
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