"US Corporate Tax Reform: Stuck in Neutral"

by Skadden, Arps, Slate, Meagher & Flom LLP
Contact

Three significant international tax reform proposals in the United States have been released in the past three years: the International Tax Reform Discussion Draft released by House Ways & Means Committee Chairman Dave Camp (R-Mich.) in October 2011, President Obama’s Framework for Business Tax Reform released in February 2012 and the Staff Discussion Draft on International Business Tax Reform released by Sen. Max Baucus (D-Mont.), Chairman of the Senate Finance Committee, on November 19, 2013. Despite these efforts, the United States seems no closer to fundamental corporate tax reform. And although certain structural similarities in the proposals might suggest areas for compromise, gridlock in Washington, the ongoing debate over appropriate corporate taxation levels and expected personnel shifts in Congress, continue to dim the prospects for tax reform.

The Baucus Proposal. The most recent international tax reform proposal — Sen. Baucus’ Staff Discussion Draft — may be the most far-reaching. The discussion draft would eliminate the system of worldwide taxation and deferral for foreign subsidiary income, and replace it with a greatly expanded system of current taxation. This would include a limited exemption system for certain specified categories of foreign income, likely in the context of a reduced corporate tax rate (though no such rate reduction appears in the discussion draft itself).

In transitioning into this system, the proposal would impose a 20 percent tax on all accumulated, unrepatriated foreign subsidiary income; those earnings would not be subject to any further U.S. taxation upon repatriation. Given the magnitude of foreign earnings currently held by controlled foreign corporations (CFCs) and the relatively high tax rate imposed by the discussion draft (as compared to the 5.25 percent tax proposed under Chairman Camp’s proposal), this tax burden would likely be substantial.

Under the discussion draft, future CFC earnings would be subject to one of two expanded regimes — labeled Options Y and Z — both of which would impose full current U.S. taxation on CFC income from the sale of goods or the provision of services to persons located in the United States. In that sense, both resemble the base erosion Option C from Chairman Camp’s discussion draft, which likewise would tax CFC earnings from U.S.-destined sales and services. However, both Options Y and Z differ significantly from Option C in their taxation of CFC income from non-U.S. sales and services, including in the following ways:

  • Option Y would impose a minimum tax on foreign earnings at a rate equal to 80 percent of the U.S. statutory rate (24 percent, assuming a 30 percent U.S. statutory rate). Items of foreign income subject to a higher local rate of tax would be exempt from U.S. taxation; items of foreign income bearing a lower local tax rate would be subject to a current U.S. residual tax that effectively subjects such income to an overall tax rate equal to 80 percent of the U.S. statutory tax rate, with no further tax upon the repatriation of such earnings.
  • Option Z, in contrast, would provide a partial exemption for active income derived from non-U.S. markets, subjecting 60 percent of such income to full current U.S. taxation with a credit for any taxes paid on such income, and exempting the remaining 40 percent from U.S. taxation with no credit for the foreign taxes paid on such exempt income. Any income that does not qualify as active foreign market income would be subject to full current U.S. taxation.

The Baucus proposal also contains “anti-base erosion” provisions that would (i) deny an exemption in the United States for any CFC dividends that are treated as deductible payments in the CFC’s home jurisdiction and (ii) deny a deduction in the U.S. for related-party payments that are not subject to tax in the payee’s jurisdiction.

Status of the Camp Proposal. Since the release of Chairman Camp’s discussion draft in October 2011, its proposals have been at the center of the policy debate regarding international tax reform. Further developments on that front had been expected in late 2013, with Chairman Camp suggesting that a legislative mark-up was likely. However, any release of draft legislative language has been delayed, presumably due in part to the challenging policy compromises that such legislation would necessarily involve.

Whenever such legislation is released, it is anticipated that it will include a base erosion provision along the lines of Option C contained in Chairman Camp’s original discussion draft. The provision will include full taxation of profits from intangible property attributable to U.S.-destined sales or services, reduced taxation — likely at a 15 percent rate based on a statutory rate of 25 percent — of all other profit from intangible property, and a similarly reduced rate on intangible profits from exported property.

Common Themes in U.S. Tax Reform Proposals. Despite the substantial differences between the various reform proposals that have been released, some common themes suggest a potential path forward. These include (i) corporate tax rate reduction, (ii) base erosion protections that focus on increased taxation of foreign income earned with respect to the U.S. market and (iii) a narrowing of the U.S. worldwide taxation regime to reduce U.S. taxation on other foreign income and eliminate the disincentive under current law to repatriate foreign earnings.

Of course, substantial disagreements remain within those broad parameters, not the least of which is the political debate over whether any corporate tax reform should be revenue-neutral or revenue-raising over some relevant time horizon. Both the Camp and Baucus proposals claim revenue neutrality, but they adopt very different notions of the concept. While Camp’s proposal claims revenue neutrality over a 10-year horizon, the Baucus proposal claims revenue neutrality in a “steady-state,” excluding most importantly its one-time 20 percent tax on accumulated CFC earnings. Taking into account this one-time tax, the Baucus proposal likely is a substantial revenue raiser, which means substantial additional tax costs for many U.S. multinational corporations. If any progress is to be made on tax reform in the United States, policymakers will need to reach some agreement on the revenue goals of such reform.

Even if the issue of revenue neutrality were resolved in 2014, the prospects for reform have been dimmed by the announcement that Chairman Baucus will be nominated to become ambassador to China. His confirmation is likely to occur in early 2014, resulting in his resignation from the Senate. His successor is expected to be Sen. Ron Wyden (D-Ore.), who has been active on corporate tax reform but has sponsored a proposal that is not easily reconciled with Chairman Camp’s approach.

U.S. Tax Reform and the OECD BEPS Project. Despite the seeming tax reform inertia in the United States, the international community appears to be moving ahead with various of the tax reform items identified in the Organisation for Economic Co-operation and Development’s (OECD) project on base erosion and profit shifting (BEPS) (see “Base Erosion and Profit Shifting: Key UK Issues”).1 With the BEPS project moving forward and U.S. tax reform stuck in neutral, it becomes increasingly likely that the BEPS project’s goals and proposals will find their way into any future U.S. tax reform legislation, with potentially significant consequences for U.S.-based multinational corporations.

Indeed, that trend already is on display in the Baucus discussion draft. As noted above, the Baucus proposal would disallow deductions in the United States with respect to payments made to foreign affiliates in so-called “base erosion arrangements.” These arrangements include those involving hybrid instruments, hybrid entities and conduit financing arrangements. Likewise, the Baucus proposal would disallow an exemption in the United States for dividends that give rise to a deduction in the payor’s jurisdiction. Sen. Baucus’ focus on these types of hybrid arrangements that give rise to so-called double nontaxation is consistent with — and likely informed by — the BEPS project’s focus on similar arrangements.

This apparent interplay between U.S. tax reform and the broader BEPS project means that both the content and the timing of U.S. tax reform, as unpredictable and even unlikely as its prospects may be, could have substantial — and potentially adverse — consequences for both U.S. multinationals with non-U.S. operations and non-U.S. multinationals with operations in the United States.

1 See also “International Taxation – OECD Reboot for the 21st Century,” Skadden Client Alert (July 19, 2013), available at http://www.skadden.com/insights/international-taxation-oecd-reboot-21st-century.

*This article appeared in the firm's sixth annual edition of Insights on January 16, 2014.

Download PDF

 

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

© Skadden, Arps, Slate, Meagher & Flom LLP | Attorney Advertising

Written by:

Skadden, Arps, Slate, Meagher & Flom LLP
Contact
more
less

Skadden, Arps, Slate, Meagher & Flom LLP on:

Readers' Choice 2017
Reporters on Deadline

"My best business intelligence, in one easy email…"

Your first step to building a free, personalized, morning email brief covering pertinent authors and topics on JD Supra:
Sign up using*

Already signed up? Log in here

*By using the service, you signify your acceptance of JD Supra's Privacy Policy.
Custom Email Digest
Privacy Policy (Updated: October 8, 2015):
hide

JD Supra provides users with access to its legal industry publishing services (the "Service") through its website (the "Website") as well as through other sources. Our policies with regard to data collection and use of personal information of users of the Service, regardless of the manner in which users access the Service, and visitors to the Website are set forth in this statement ("Policy"). By using the Service, you signify your acceptance of this Policy.

Information Collection and Use by JD Supra

JD Supra collects users' names, companies, titles, e-mail address and industry. JD Supra also tracks the pages that users visit, logs IP addresses and aggregates non-personally identifiable user data and browser type. This data is gathered using cookies and other technologies.

The information and data collected is used to authenticate users and to send notifications relating to the Service, including email alerts to which users have subscribed; to manage the Service and Website, to improve the Service and to customize the user's experience. This information is also provided to the authors of the content to give them insight into their readership and help them to improve their content, so that it is most useful for our users.

JD Supra does not sell, rent or otherwise provide your details to third parties, other than to the authors of the content on JD Supra.

If you prefer not to enable cookies, you may change your browser settings to disable cookies; however, please note that rejecting cookies while visiting the Website may result in certain parts of the Website not operating correctly or as efficiently as if cookies were allowed.

Email Choice/Opt-out

Users who opt in to receive emails may choose to no longer receive e-mail updates and newsletters by selecting the "opt-out of future email" option in the email they receive from JD Supra or in their JD Supra account management screen.

Security

JD Supra takes reasonable precautions to insure that user information is kept private. We restrict access to user information to those individuals who reasonably need access to perform their job functions, such as our third party email service, customer service personnel and technical staff. However, please note that no method of transmitting or storing data is completely secure and we cannot guarantee the security of user information. Unauthorized entry or use, hardware or software failure, and other factors may compromise the security of user information at any time.

If you have reason to believe that your interaction with us is no longer secure, you must immediately notify us of the problem by contacting us at info@jdsupra.com. In the unlikely event that we believe that the security of your user information in our possession or control may have been compromised, we may seek to notify you of that development and, if so, will endeavor to do so as promptly as practicable under the circumstances.

Sharing and Disclosure of Information JD Supra Collects

Except as otherwise described in this privacy statement, JD Supra will not disclose personal information to any third party unless we believe that disclosure is necessary to: (1) comply with applicable laws; (2) respond to governmental inquiries or requests; (3) comply with valid legal process; (4) protect the rights, privacy, safety or property of JD Supra, users of the Service, Website visitors or the public; (5) permit us to pursue available remedies or limit the damages that we may sustain; and (6) enforce our Terms & Conditions of Use.

In the event there is a change in the corporate structure of JD Supra such as, but not limited to, merger, consolidation, sale, liquidation or transfer of substantial assets, JD Supra may, in its sole discretion, transfer, sell or assign information collected on and through the Service to one or more affiliated or unaffiliated third parties.

Links to Other Websites

This Website and the Service may contain links to other websites. The operator of such other websites may collect information about you, including through cookies or other technologies. If you are using the Service through the Website and link to another site, you will leave the Website and this Policy will not apply to your use of and activity on those other sites. We encourage you to read the legal notices posted on those sites, including their privacy policies. We shall have no responsibility or liability for your visitation to, and the data collection and use practices of, such other sites. This Policy applies solely to the information collected in connection with your use of this Website and does not apply to any practices conducted offline or in connection with any other websites.

Changes in Our Privacy Policy

We reserve the right to change this Policy at any time. Please refer to the date at the top of this page to determine when this Policy was last revised. Any changes to our privacy policy will become effective upon posting of the revised policy on the Website. By continuing to use the Service or Website following such changes, you will be deemed to have agreed to such changes. If you do not agree with the terms of this Policy, as it may be amended from time to time, in whole or part, please do not continue using the Service or the Website.

Contacting JD Supra

If you have any questions about this privacy statement, the practices of this site, your dealings with this Web site, or if you would like to change any of the information you have provided to us, please contact us at: info@jdsupra.com.

- hide
*With LinkedIn, you don't need to create a separate login to manage your free JD Supra account, and we can make suggestions based on your needs and interests. We will not post anything on LinkedIn in your name. Or, sign up using your email address.