- The Senate voted 51-50 on August 7 to pass the Inflation Reduction Act.
- The legislation is expected to pass the House this week without changes and to be signed by President Biden.
- The legislation raises more than $700 billion from numerous sources, including from novel corporate taxes on adjusted book income and on stock repurchases, through Medicare prescription drug pricing reforms and by strengthening the IRS with $80 billion in new funding.
- The legislation spends more than $400 billion on climate initiatives and healthcare.
The Senate yesterday passed tax, climate and healthcare legislation called the Inflation Reduction Act (IRA2022) along party lines, with Vice President Kamala Harris casting a tie-breaking vote. The House, which allows proxy voting, is expected to vote to approve IRA2022 on Friday and is not expected to make any changes. President Joe Biden is expected to sign the bill soon thereafter.
IRA2022 is part of President Biden’s previously announced economic agenda. It raises over $700 billion in revenue, including more than $300 billion from new types of corporate taxes and approximately $25 billion from reinstating long-expired Superfund taxes on crude oil and petroleum products, and it spends over $400 billion on climate initiatives and healthcare. IRA2022 includes billions in tax credits for climate and clean-energy initiatives, directs Medicare to negotiate certain drug prices, extends Affordable Care Act premium subsidies, caps Medicare Part D out-of-pocket expenses for seniors at $2,000, and caps insulin costs for Medicare beneficiaries.
IRA2022 includes a number of provisions of interest to BakerHostetler tax clients, including:
- A 15 percent corporate minimum tax on adjusted book income.
- A 1 percent excise tax on corporate stock repurchases.
- Increased IRS funding of approximately $80 billion over 10 years.
- A two-year extension of the Section 461(l) loss limitation rules for noncorporate taxpayers.
- Hundreds of billions of dollars of tax credits and federal support for solar and green energy industries.
- Superfund excise taxes on crude oil and certain imported petroleum products.
15 Percent Corporate Minimum Tax on Adjusted Book Income
A key provision of IRA2022 is the revival of an alternative U.S. corporate minimum tax (Corporate AMT), which generally is intended to subject certain targeted U.S. corporations to a minimum tax of 15 percent on “adjusted financial statement income” (as opposed to adjusted taxable income) for tax years beginning after Dec. 31, 2022. This is a major new development in US tax policy that is expected to significantly muddy the waters between financial statements, which are intended to clearly reflect corporate earnings for shareholders, and tax returns, which measure net taxable income.
As proposed, the Corporate AMT would apply to U.S. corporations – other than S corporations, regulated investment companies (RICs) or real estate investment trusts (REITs) – that have average annual adjusted financial statement income greater than $1 billion for any applicable three-year period. In addition, U.S. subsidiaries of a foreign multinational enterprise would be subject to Corporate AMT if the foreign-parented group has adjusted financial statement income greater than $1 billion and the U.S. corporate group has average annual adjusted financial statement income greater than $100 million. Last-minute changes made before Senate passage mitigate the likelihood that the Corporate AMT will apply to investment fund portfolio companies not otherwise within the purview of the tax on a stand-alone basis. When applicable, a corporation’s U.S. tax liability for a particular year would be the greater of the amounts computed under the regular U.S. corporate tax or the Corporate AMT. The tax does not apply to nonprofit organizations, even those with $1 billion of income, unless they have $1 billion of unrelated business taxable income.
Because the Corporate AMT effectively focuses on book income (subject to several adjustments) rather than taxable income, deductions that may otherwise be available in computing a corporation’s regular U.S. federal tax liability risk being neutralized, thereby potentially resulting in higher overall U.S. corporate federal tax liabilities. This is precisely what the Corporate AMT sponsors intended, since the provision as originally drafted sought to ensure that large corporations that report profits to the financial markets pay some level of U.S. federal income tax even if they act in ways that Congress has otherwise sought to incentivize through the tax code. Fortunately, the bill as passed by the Senate recognizes that rules that neutralize tax benefits may also thwart incentives Congress enacted to encourage capital investments in U.S. assets and manufacturing facilities. As a result, last-minute changes to the Corporate AMT effectively adjust the relevant definition of book income to account for investment-related tax incentives such as deductions for accelerated depreciation and amortization (which support investments in capital-intensive businesses such as manufacturing or deploying modern communications networks).
Opponents of the Corporate AMT point out that a tax based on book income will make the tax code more complicated and has been tried and repealed in the past. Observers have also noted that a minimum tax based on book income may in fact damage the quality of information that public companies report to shareholders by incentivizing companies to adjust their financial accounting to help mitigate U.S. tax liabilities. Indeed, in November 2021, the Congressional Research Service noted that empirical evidence shows that prior U.S. efforts to levy taxes based on book income drove taxpayers to manage their earnings and adjust book income to reduce taxes. See Congressional Research Service, Report 46887, Minimum Taxes on Business Income: Background and Policy Options (Nov. 16, 2021) at page 27.
One particularly interesting aspect of IRA2022 is what was left out. Notably absent from IRA2022 are provisions intended to bring the United States’ global intangible low-tax income (GILTI) and foreign tax credit (FTC) rules into alignment with the so-called Pillar Two approach championed by the Organization for Economic Cooperation and Development (OECD). Pillar Two seeks to encourage the global adoption of a minimum tax of 15 percent on the book earnings of corporations (as determined on a country-by-country basis), and the predecessor to IRA2022 (known as the Build Back Better Act) had proposed changes to the GILTI and FTC rules in an effort to qualify GILTI as an “income inclusion regime” (IIR) to avoid the possibility that other countries might adopt and apply an “undertaxed payments rule” (UTPR) in order to claim taxes on the U.S. and foreign income of a U.S. multinational enterprise that are not otherwise taxed by the U.S. at an effective rate of 15 percent or more. Although IRA2022’s Corporate AMT would result in certain corporations paying a minimum tax of 15 percent on book earnings, it does not otherwise cause GILTI to be an IIR within the meaning of Pillar Two.
The fact that IRA2022 includes the Corporate AMT but does not modify GILTI presents interesting questions regarding the fate of Pillar Two on a global level and the attendant consequences for multinational enterprises. On the one hand, the failure of IRA2022 to align GILTI and other U.S. federal income tax rules with Pillar Two standards (such as making tax determinations on a country-by-country basis) could mean U.S. multinationals may be disadvantaged or even subjected to double taxation if other countries in fact adopt and can defend Pillar Two rules such as a UTPR.
On the other hand, the failure of IRA2022 to engage on Pillar Two could serve as an ominous sign to other countries now contemplating adopting Pillar Two-type rules. Pillar Two has already experienced headwinds in the EU, and a recent study prepared for the European Parliament indicates that adoption of Pillar Two measures within the EU could place member states at a competitive disadvantage relative to countries like the U.S. and the United Kingdom. Given the U.S. legislative calendar and looming midterm elections, IRA2022 may signal to other countries that the U.S. will not adopt Pillar Two measures in the near term; that fact would be expected to further slow the momentum of Pillar Two adoption elsewhere.
IRA2022 may also signal to other countries contemplating Pillar Two measures that there may not be much left to tax under their Pillar Two rules. While the Corporate AMT technically does not appear to be a “qualified domestic minimum top-up tax” (QDMTT), in operation it may leave less U.S.-relevant book income to be taxed under Pillar Two rules implemented in other countries. One can imagine that another country’s attempt to apply its Pillar Two rules to U.S. book income of a U.S. multinational enterprise otherwise subject to the Corporate AMT may be met with diplomatic enmity (for instance, because Pillar Two standards do not honor Congressional incentives such as deductions for accelerated depreciation) or could rally bipartisan support for QDMTT adoption. Finally, the U.S. undoubtedly will continue to demand that any IIR or UTPR applied by another country respect GILTI as a controlled foreign corporation regime. As a result, IRA2022 could signal to other countries that there may be much less tax to collect under their new and highly complex Pillar Two rules.
One Percent Excise Tax on Certain Corporate Stock Repurchases
IRA2022 creates a new Chapter 37 and corresponding Section 4501 in the Internal Revenue Code that imposes a new excise tax on “Covered Corporations” repurchasing their shares themselves or through a “Specified Affiliate” after Dec. 31, 2022. The tax is equal to 1 percent of the fair market value of the stock repurchased by the Covered Corporation or the Specified Affiliate. The tax is not deductible for federal income tax purposes. The Covered Corporation (not the stockholder or the Specified Affiliate) pays the tax. A Covered Corporation is any U.S. corporation publicly traded on an established securities market. A Specified Affiliate is (a) any corporation whose stock, as determined by vote or value, is directly or indirectly owned more than 50 percent by the Covered Corporation or (b) a partnership whose partnership interest or profits interest is directly or indirectly owned more than 50 percent by the Covered Corporation.
The value of the repurchased stock subject to tax is reduced by the value of any stock issued by the Covered Corporation in the same taxable year, including stock issued to employees of the Covered Corporation or to employees of a Specified Affiliate. The tax does not apply (a) if the stock buy-back is part of a nontaxable corporate reorganization qualifying under Internal Revenue Code §368(a); (b) if the repurchased stock, or any amount equal to the repurchased stock, is contributed to an employer-sponsored retirement plan, employee stock ownership plan or similar plan; (c) if the total value of the repurchased stock in a taxable year does not exceed $1 million; (d) if the repurchase is by a securities dealer in its ordinary course of business; (e) if the repurchase is by a regulated investment company, i.e., a RIC or a REIT; or (f) if the repurchase qualifies as a dividend.
There are special rules for the acquisition of stock of an “Applicable Foreign Corporation” and a “Surrogate Foreign Corporation.” An Applicable Foreign Corporation is any foreign corporation whose stock is publicly traded on an established securities market. The 1 percent excise tax applies where a U.S.-organized Specified Affiliate acquires the stock of the Applicable Foreign Corporation. In this situation, the U.S.-organized Specified Affiliate is treated as a Covered Corporation and pays the 1 percent excise tax on the Applicable Foreign Corporation stock acquired by the U.S.-organized Specified Affiliate. The value of the stock acquired by the Specified Affiliate is reduced by the value of the stock issued by the Specified Affiliate or stock issued to the employees of the Specified Affiliate. The adjustment does not apply to stock issued by the Applicable Foreign Corporation. Similar rules apply to a Surrogate Foreign Corporation, which is any domestic corporation or partnership that was acquired by a foreign corporation after Sept. 20, 2021, subject to other special requirements set forth in Internal Revenue Code §7874(a)(2)(B).
Solar Credits and Support for Green Energy
IRA2022 includes hundreds of billions of dollars to boost the U.S. solar and green energy industries. The bill targets $30.6 billion in tax credits to accelerate U.S. manufacturing of solar panels in addition to batteries and critical minerals processing. Incentives aim to promote U.S. production of solar cells, photovoltaic wafers, solar grade polysilicon and polymeric backsheets.
Under IRA2022, the production tax credit (PTC) would be renewed for five years for facilities that begin construction before Jan. 1, 2025. The PTC expired at the end of 2021. To qualify for the full PTC, projects must comport with prevailing wage standards for workers in the area where the facility is located; if not, the PTC would drop to 20 percent of the full benefit.
For residential solar, IRA2022 extends for 10 years the investment tax credit (ITC), including for solar products such as rooftop panels. Until 2032, consumers could claim a tax credit of 30 percent of their solar costs, dropping to 26 percent in 2033 and 22 percent in 2034. Overall, the 30 percent tax credit could save homeowners, on average, $7,000 on a typical rooftop system. Home-use batteries connected to solar systems would see tax incentives effectively reducing their costs by 30 percent too.
Beginning in 2023, the ITC includes an enhanced incentive for “environment justice solar facilities” located in a low-income community, on Native American land, or if the facility is installed on a residential building that participates in a covered federal housing assistance program.
IRA2022 overturns the current-law phaseout for both the PTC and ITC, but the existing phaseout would continue to apply to renewable projects that entered service before 2022.
IRA2022 extends (and in certain cases expands) a number of existing tax incentives, including those relating to carbon capture facilities, energy-efficient commercial buildings, energy-efficiency improvements to residential property, and credits for biodiesel and renewable and alternative fuels.
Superfund Excise Taxes on Crude Oil and Certain Petroleum Products
IRA2022 raises approximately $25 billion of revenue over the 10-year budget window by reinstating Superfund excise taxes on crude oil received at a U.S. refinery and on petroleum products imported into the U.S. for consumption, use or warehousing. The excise tax on crude oil is 16.4 cents per barrel and is indexed for inflation. The new Superfund taxes will take effect Jan. 1, 2023. The previous Superfund tax on crude oil was 9.7 cents per barrel and expired in 1995.