Insight: Waiting for the Other Shoe to Drop: State and Local Tax Implications of Federal Tax Reform – International Tax Provisions

Daily Tax Report: State provides authoritative coverage of state and local tax developments across the 50 U.S. states and the District of Columbia, tracking legislative and regulatory updates,...

The state tax impact of recently enacted federal tax reform is still being assessed. In this article, Eversheds Sutherland (US) LLP’s Jeffrey A. Friedman, Todd G. Betor, and Michael S. Spencer discuss the impact of federal tax reform’s international tax provisions.

Jeff Friedman Todd G. Betor Michael S. Spencer

By Jeffrey A. Friedman, Todd G. Betor, and Michael S. Spencer

Jeffrey Friedman is a Partner and leader of Eversheds Sutherland’s Tax Practice Group, located in Washington DC. He provides sophisticated state and local tax (SALT) planning, strategic advice and advocacy to numerous Fortune 100 and industry-leading companies.

Todd Betor is an Associate in Eversheds Sutherland’s State and Local Tax practice, located in Washington DC, and focuses on SALT implications of business transactions, including mergers, acquisitions and corporate reorganizations.

Michael Spencer is an Staff Attorney in Eversheds Sutherland’s State and Local Tax practice, located in Washington DC, and counsels corporate taxpayers and multinational companies on an array of SALT matters.

What may very well be the single most significant change in the last 30 years to state and local tax (“SALT”) across the United States was signed into law on December 22, 2017. It was not passed by any state legislature or signed by any state governor. Rather, President Trump’s signing of H.R. 1, popularly known as the Tax Cuts and Jobs Act (the “Act”) (The Act was formerly titled the “Tax Cuts and Jobs Act,” but the Senate parliamentarian ruled that the name violated Senate rules, forcing the name to be changed to the less catchy “An Act to provide for reconciliation pursuant to titles II and V of the concurrent resolution on the budget for fiscal year 2018.), potentially sets in motion the most substantial overhaul of state tax codes in recent history. (Pub. L. 115-97, 131 Stat. 2054 (Dec. 22, 2017)). The Act proposes numerous changes to the Internal Revenue Code (“IRC”) (Unless otherwise stated, all references to the IRC shall mean the IRC as amended by the Act.) that likely will ultimately result in corresponding and collateral changes to most states’ tax codes.

Because of states’ broad conformity to the federal income tax laws ( See, e.g., Jerome Hellerstein and Walter Hellerstein, State Taxation section 7.02 (3rd ed. 2001, with updates through December 2017).), many of these changes will have an impact on taxpayers’ SALT liabilities. This article focuses on the SALT consequences stemming from the following provisions of the Act:

(i) a one-time “transition tax” on untaxed accumulated earnings and profits (“E&P”) of controlled foreign corporations (“CFC”) and certain other foreign corporations (the “Transition Tax”);

(ii) 100% dividends received deduction (“DRD”) for certain foreign source dividends;

(iii) current taxation of certain US taxpayer’s global intangible low-taxed income (“GILTI”); (iv) deduction allowed to certain US taxpayers for foreign derived intangible income (“FDII”); and

(v) a base erosion and anti-abuse tax (“BEAT”) imposed on certain US taxpayers.

Federal Tax Reform Cheat Sheet

Transition Tax(IRC § 965)

  •  One-time transition tax on untaxed foreign earnings of certain foreign subsidiaries of US companies by deeming those earnings to be repatriated.
  •  Amounts are included in a taxpayer’s gross income as subpart F income.
  •  The amount taxed is determined based on foreign subsidiaries’ E&P, the greater amount measured on one of two testing dates.
  •  The tax rate on amounts attributable to cash and cash equivalents is 15.5%, and any remaining E&P is taxed at an 8% rate. These effective rates are achieved through a partial deemed DRD.
  •  Tax may be paid in installments over an 8-year period.
Foreign DRD(IRC § 245A)
  •  100% DRD or “participation exemption” equal to the “foreign-source portion” of dividends a US taxpayer receives from a 10%-owned foreign corporation.
GILTI(IRC §§ 951A, 250)
  •  Imposes tax on a US taxpayer’s Global Intangible Low Taxed Income (“GILTI”), which approximates the taxpayer’s allocable share of amounts earned by CFCs outside the US in excess of routine returns on tangible property.
  •  Included in federal taxable income in a manner similar to subpart F income.
  •  A 50% deduction for such income is provided, generally resulting in a US tax rate of 10.5% for GILTI income, reduced by 80% of related foreign tax credits, subject to ordinary limitations.
FDII(IRC § 250)
  •  Permits domestic corporations to deduct 37.5% of their Foreign Derived Intangible Income (“FDII”), which calculates an amount similar to GILTI and multiplies that amount by the fraction of the income earned in the US that is attributable to property sold or licensed to a non-US person for foreign use or to services provided outside the US.
BEAT(IRC §§ 14401, 59A)
  •  The Base Erosion Anti-Abuse Tax (“BEAT”) generally imposes a 10% minimum tax (5% in 2018) on a taxpayer’s income determined without regard to tax deductions arising from base erosion payments (including the portion of a taxpayer’s net operating loss (“NOL”) deduction treated as related to base erosion payments), which generally cannot be reduced by credits other than, through 2025, the research credit under IRC § 41(a) (“R&D credit”) and 80% of certain other credits.
Interest Limitation(IRC § 163(j))
  •  Limits the deduction for net business interest expense to 30% of adjusted taxable income.
  •  Generally, disallowed business interest may be carried forward indefinitely.
Bonus Depreciation(IRC § 168(k))
  •  Expands bonus depreciation to allow full expensing of the cost of both new and used “qualified property” acquired and placed in service after September 27, 2017, and before January 1, 2023.
  •  Phase out of depreciation rate for property placed in service between 2023 and 2026; zero rate in 2027 and thereafter.

Much Ado About Conformity

The gating question as to the SALT impact from the Act will be whether and how a state conforms to the IRC. States generally fall within three regimes in terms of how they conform to the IRC:

(1) states that adopt the provisions of the IRC in real time (“rolling” conformity states) (For example, Maryland bases its corporate income tax on “the corporation’s federal taxable income for the taxable year as determined under the Internal Revenue Code … .” Md. Code Ann., Tax-Gen. § 10-304(1). See also , e.g., Del. Code Ann. 30 § 1901(10), D.C. Code Ann. § 47-1801.04(28), and Mass. Gen. Laws Ann. ch. 63, §§ 30(3), 30(4).),

(2) states that conform to the IRC as of a static or fixed date (“fixed” conformity states) (For example, until recently New Hampshire conformed to the IRC in effect as of December 31, 2000. N.H. Rev. Stat. Ann. section 77-A:1.XX.(1). See also, e.g. , Fla. Stat. § 220.03(1)(n), Ga. Code Ann. § 48-1-2(14), and Va. Code Ann. § 58.1-301(B).), and

(3) states that pick and choose different provisions of the IRC (“selective” conformity states). (See, e.g. , Ark. Code Ann. § 26-51-404 et seq.).

Most states are split between rolling (approximately 22 states) (Alabama, Alaska, Colorado, Connecticut, Delaware, District of Columbia, Illinois, Kansas, Louisiana, Maryland, Massachusetts, Missouri, Montana, Nebraska, New Mexico, New York (generally), North Dakota, Oklahoma, Oregon, Rhode Island, Tennessee, and Utah. For brevity, this article does not discuss the nuances of each state’s rolling conformity provisions.) and fixed (approximately 20 states) (Arizona, Florida, Georgia, Hawaii, Idaho, Indiana, Iowa, Kentucky, Maine, Michigan (taxpayers may elect to apply the current IRC date), Minnesota, New Hampshire, North Carolina, Ohio (personal income tax), South Carolina, Texas, Vermont, Virginia, West Virginia, and Wisconsin.) conformity methods, with only a handful falling into selective conformity states (approximately 5 states). (Arkansas, California, Mississippi, New Jersey, and Pennsylvania.). Making matters more complicated, all states selectively “de-conform” from certain enumerated IRC provisions. For instance, many states have separately enacted net operating loss rules and dividends received deductions that are different from the IRC provisions. ( See, e.g., 72 Pa. Stat. Ann. §§ 7401(3)(1)(m), 7401(3)(4)(c)(1)(A)(VIII) (requiring taxpayers to add back NOLs deducted under IRC § 172 on their federal return in calculating Pennsylvania taxable income and permitting taxpayers to deduct an amount of NOLs up to 35% of their taxable income for tax years starting after December 31, 2017, but before 2019); La. Rev. Stat. Ann. §§ 47:287.73(B)(1), 47:287.86 (requiring taxpayers to add back NOLs deducted under IRC § 172 on their federal return in calculating Louisiana net income and permitting taxpayers to subtract from Louisiana net income an amount as its “net operating loss deduction,” not to exceed 72% of its Louisiana net income; with loss carryovers to each of the 20 taxable years following the taxable year of such loss); COMAR (preventing taxpayers from using an NOL generated when a corporation is not subject to Maryland income tax law as a deduction to offset Maryland income in a carryover year); La. Rev. Stat. Ann. §§ 47:287.73(B)(3), 47:287.738(F)(1) (requiring taxpayers to add back the amounts of dividends received deductions allowed by IRC §§ 243, 244, and 245 and permitting taxpayers a deduction equal to 72% of the amount of dividends otherwise included in gross income for the period of July 1, 2015, though June 30, 2018, and a 100% percent deduction for all other periods beginning after December 31, 2005)).

It’s All About the [Tax] Base
The Transition Tax

The Transition Tax has the potential to significantly expand the federal income tax base for any corporation caught within the purview of IRC § 965. IRC § 965 provides for a one-time tax on a US shareholder with respect to its investment in CFCs and certain other foreign corporations based on those entities’ untaxed accumulated E&P. The untaxed accumulated E&P is divided into two categories: cash and non-cash amounts. The cash amounts are taxed at a 15.5% effective rate and non-cash amounts are taxed at an 8% effective rate.

Federal Mechanics

The Transition Tax operates within the framework of “subpart F” of the IRC. The subpart F rules generally require certain income earned by a CFC to be included in the gross income of a United States shareholder (“US shareholder”) (The Act revised the definition of US shareholder to include a US person (as defined in IRC § 7701(a)(30).) that owns, directly, indirectly or constructively, 10% or more of the vote or value of the stock of a foreign corporation. However, this change is made effective for tax years of foreign corporations beginning after December 31, 2017, and thus, does not apply for purposes of the Transition Tax. Accordingly, for purposes of the Transition Tax, US shareholder means a US person that owns, directly, indirectly or constructively, 10% or more of the vote of the stock of a foreign corporation.), on a pro rata basis, whether or not the earnings are distributed to such US shareholders. (IRC § 951(a)(1)). A CFC is defined as any foreign corporation where more than 50% of its stock (either by vote or value) is owned directly or indirectly by US shareholders. (IRC § 957(a)).

The Act requires a US shareholder of a “specified foreign corporation,” generally defined as any CFC or a foreign corporation with respect to which one or more domestic corporations is a US shareholder (each an “SFC”) (IRC § 965(e)(1).), to include in gross income, as subpart F income, its post-1986 accumulated E&P. (The measurement date of a SFC’s untaxed accumulated E&P is either November 2, 2017 (the date the first version of the Act was introduced in the US House of Representatives) or December 31, 2017, whichever date on which there is a greater amount of E&P. IRC § 965(a)). A US shareholder must then include its pro rata share of such amount as subpart F income in its taxable year within which the SFC’s last taxable year beginning before January 1, 2018 ends. (This is subject to any reduction – a netting – based on the US shareholder’s allocable share of the E&P deficits of any other SFCs. IRC §§ 951(a), 965(a), 965(b)(5)).

In order to achieve the effective rate on the two classes of E&P, a US shareholder is entitled to a deduction – analogous to a DRD – to achieve (i) a 15.5% effective rate on accumulated untaxed E&P up to the amount of cash and cash equivalents held by the relevant SFCs and (ii) an 8% effective rate on any remaining untaxed accumulated E&P (the “Transition Tax Deduction”). (IRC § 965(c)). A US shareholder is permitted to apply foreign tax credits against its tax, but foreign tax credits related to the IRC § 965 inclusion are only allowed in proportion to the previously untaxed E&P that is subject to tax after taking into account the related deduction. (IRC § 965(g)).

A US shareholder may elect to pay the Transition Tax over eight years, paying 8% of the liability in each of the first five years, 15% in the sixth year, 20% in the seventh, and 25% in the eighth. (IRC § 965(h)).

Transition Tax in the SALT World – A One-Time Windfall?

The state tax consequences of the Transition Tax will depend on whether a given state conforms to the Transition Tax, and whether the state conforms to the Transition Tax Deduction. While the Transition Tax amount will be included in federal taxable income, it is less clear how the Transition Tax Deduction will be incorporated into the Form 1120 federal tax return. Because some states compute taxable income beginning with either line 28 or line 30, the “geography” of where the Transition Tax Deduction will appear on the federal Form 1120 tax return is important. (Line 28 is federal taxable income before net operating loss deduction and special deductions. Thus, for a state that specifies the starting point for determining state taxable income as line 28, the amount will exclude, in addition to special deductions, a taxpayer’s net operating loss deductions).

We believe that the Transition Tax Deduction will most likely appear before line 28 of the Form 1120 federal tax return. The IRC describes special deductions as those deductions set forth in IRC §§ 243 – 250. (The Internal Revenue Service, at times, has expanded what is included as “special deductions,” but these changes have not been through statute or regulation). The Transition Tax Deduction under IRC § 965 should thus be taken prior to line 28, with conforming states including the Transition Tax Deduction in determining the starting point of a taxpayer’s state income tax base regardless of whether their starting point is line 28 or after.

How the Transition Tax impacts a taxpayer’s state income tax liability will also depend on whether states that include the Transaction Tax Deduction will enact a requirement to add-back the Transaction Tax Deduction. Since some states require the add-back of the federal DRD, it is possible that a state may likewise require the Transition Tax Deduction to be added back.

The state tax treatment of the Transition Tax may also be affected by a taxpayer’s state income tax filing method – worldwide combined, water’s-edge, or separate – and each state’s rules for the treatment of subpart F income. Absent statutory changes, a state that does not tax subpart F income will likely be unable to benefit from the Transition Tax. Other states break from the general subpart F rules, requiring taxpayers to make state specific calculations of taxable foreign earnings. For example, California does not conform to the federal treatment of subpart F income. Rather, California requires water’s-edge filers to include a portion of their CFC’s income in the water’s-edge return. (Cal. Rev. & Tax. Cd. § 25110(a)(2)(A)(ii). The CFC’s net income is multiplied by a ratio of its subpart F income for the taxable year to its E&P for the taxable year to arrive at the amount of CFC income that will be included in the combined report. Id. Thus, to the extent California – a selective conformity state – conforms to IRC §965, the amount of a CFC’s untaxed accumulated E&P for California purposes could be reduced by a portion of the amount taxed under the state’s CFC/subpart F regime. Because IRC § 965 applies to non-CFCs, any reduction in the Transition Tax as a result of a CFC’s E&P being previously taxed by the state may not provide relief to all affected taxpayers). Like California, each state will have their own complexities as to how the Transition Tax will coordinate with their existing corporate income tax regimes. Given the speedy passage of the Act, it is likely that the states are still figuring out this very point.

Taxpayers will also need to be cognizant of the timing of state tax liability due to the Transition Tax compared to the federal elective deferred payment. While IRC § 965 affords an election to pay the Transition Tax over a period of eight years, it does not delay the recognition of the income. Unless a state affords a similar deferral mechanism, taxpayers will have to currently recognize and take into income the net inclusion of a SFC’s untaxed accumulated E&P and Transition Tax Deduction. Additionally, some states do not allow the use of foreign tax credits in the calculation of state income tax liability. State disallowance of foreign tax credits provides another potential disconnect between the protections afforded for federal tax purposes under the Act and the resulting impact on state corporate income taxes.

States Take Caution

States implementing the mechanics of the Transition Tax should be cognizant of the restrictions announced in Kraft General Foods, Inc. v. Iowa Department of Revenue. 505 US 71, 112 S. Ct. 2365 (1992)). In Kraft, the US Supreme Court found that Iowa’s inclusion of dividends from foreign subsidiaries, but not from domestic subsidiaries, in a taxpayer’s apportionable income tax base unconstitutionally discriminated against foreign commerce. Iowa’s discrimination was based on the state’s conformity to the federal corporate income tax scheme ( See IRC §§ 243, 901, 902.), however, the Court held that “the Iowa statute cannot withstand scrutiny … for it facially discriminates against foreign commerce and therefore violates the Foreign Commerce Clause.” ( Kraft Gen. Foods, Inc. v. Iowa Dep’t Revenue, 505 US 71, 82, 112 S. Ct. 2365 (1992)). Because the Transition Tax requires an inclusion with respect to foreign subsidiaries while there is not a similar income inclusion with respect to domestic subsidiaries, a state’s conformity to the Transition Tax will likely face constitutional scrutiny under Kraft.

Additionally, taxpayers may argue that the Transition Tax is unconstitutionally discriminatory because states would include in taxable income a form of foreign (deemed) dividends ( i.e., subpart F income under IRC § 965), but not include the corresponding apportionment factors of the SFC. Some taxpayers may thus argue that a pro rata share of an SFC’s apportionment factors, equal to the ratio used for the calculation of the Transition Tax, must be included in determining a taxpayer’s state income tax apportionment factors. Taxpayers have been unsuccessful, however, in making similar arguments in the context of foreign royalties and other foreign income. ( See Caterpillar Fin. Servs., Inc. v. Whitley, 680 N.E.2d 1082 (Ill. 1997); In re Morton Thiokol, Inc., 864 P.2d 1175 (Kan. 1993); Caterpillar, Inc. v. Commissioner of Revenue, 568 N.W.2d 695 (Minn. 1997), cert. denied, 522 US 112, 118 S. Ct. 1043 (1998); Caterpillar, Inc. v. New Hampshire Dep’t of Revenue Admin., 741 A.2d 56 (N.H. 1999), cert. denied, 529 US 1021, 120 S. Ct. 1424 (2000); cf. El Du Pont de Nemours & Co., 675 A.2d 82 (Me. 1996)).

Foreign DRD

Complementing the Transition Tax and the attempted shift to a federal territorial tax system, the Act creates a new section, IRC § 245A, which provides a corporate US shareholder (generally, a 10% owner) (As discussed above, the Act has expanded the definition of a US shareholder to include any US person (individual or corporation) who directly or indirectly owns at least 10% of the voting power or value of the CFC’s stock. IRC § 951(b). The Act also provides for more robust stock ownership attribution rules in determining whether a US person is a US shareholder.) with a 100% DRD or “participation exemption” equal to the “foreign-source portion” of any dividend it receives from a foreign corporation (the “Foreign DRD”). (IRC § 245A. These amounts do not include dividends attributable to a “passive foreign investment company” as defined in IRC § 1297). The Foreign DRD is not available with respect to dividends received by a US shareholder from a CFC if the dividends are deductible by the CFC in computing its taxes ( i.e., hybrid dividends). In addition, no foreign tax credits are allowed for any taxes paid or accrued with respect to any dividend that qualifies for the Foreign DRD.

A move to a 100% DRD is nothing new for multinational corporate state taxpayers, because some states allow a 100% subtraction or DRD for foreign dividends. This treatment largely stems from the Kraft decision. ( Kraft, 505 US 71 (1992)). Unlike the Transition Tax, the Foreign DRD falls within the IRC’s “special deductions.” Whether the starting point for calculating the state tax base is line 28 or a subsequent line of a corporation’s federal tax return Form 1120 is critical to determining the state impact of the Foreign DRD. States that do not otherwise provide for a DRD for foreign dividends received may also not conform to the new IRC § 245A or enact legislation to decouple. However, as with the calculation of the Transition Tax, any differing treatment between domestic and foreign dividends will likely face constitutional scrutiny under Kraft.


Global intangible low-taxed income (“GILTI”) is the “stick” to foreign-derived intangible income’s (“FDII”) “carrot.” This article accordingly addresses these two provisions of the Act together. Because both GILTI and FDII are new sections of the IRC, taxpayers may see a disconnect at the state level. Without a state’s conformity to FDII, however, a state corporate taxpayer may be left licking their GILTI wounds.

Federal Mechanics

The Act, under new IRC § 951A, generally imposes a current tax on a US shareholder’s GILTI computed as its share of its CFCs’ income in excess of a routine return on the US shareholder’s aggregate share of the CFCs’ depreciable tangible property. (IRC §§ 951A(a), (b)). The GILTI tax operates by requiring a US shareholder to include in taxable income its GILTI in a manner similar to subpart F income inclusion. (IRC § 951A(f)). While the Act requires the inclusion of GILTI, it also generally allows a 50% deduction for the GILTI under new IRC § 250 (IRC § 250(a)(1).), subject to a taxable income limitation on the amount of the deduction allowed. (IRC § 250(a)(2).

Specifically, if the sum of a domestic corporation’s FDII and GILTI amounts exceeds its taxable income determined without regard to IRC § 250, then the amount of FDII and GILTI for which a deduction is allowed is reduced by an amount determined by such excess. ( Id.). The inclusion of GILTI with the accompanying 50% deduction generally results in an effective US tax rate of 10.5% on GILTI, not taking into account foreign taxes. For taxable years beginning after December 31, 2025, the deduction is reduced to 37.5%, resulting in an effective tax rate of 13.125% on GILTI. ( Id.). Taxpayers may also claim a foreign tax credit for 80% of foreign taxes paid on CFCs’ income that gives rise to the GILTI inclusion, which is in a separate category of income for foreign tax credit purposes and cannot be carried back or forward – e.g., use it or lose it. (IRC § 960(d)). Therefore, the GILTI of a taxpayer that is able to utilize foreign tax credits generally will not be subject to residual US tax if the average foreign tax rate imposed on such income is at least 13.125%. For taxable years after December 31, 2025, the deduction is reduced to 37.5%. (IRC § 250(a)(3)(B)).

In addition to the 50% GILTI deduction, new IRC § 250 permits domestic corporations to deduct 37.5% of their FDII (Deemed intangible income multiplied by the fraction of foreign-derived deduction eligible income over deduction eligible income.), which is income computed similar to GILTI and is attributable to certain sales of property to foreign persons or to the provision of certain services to any person, or with respect to any property, located outside the US. (IRC § 250(a)(1)). The FDII provision generally results in a reduced effective tax rate of 13.125% on FDII ( Id.), subject to a taxable income limitation on the amount of the deduction allowed. (IRC § 250(a)(2)). For taxable years after December 31, 2025, the deduction is reduced to 21.875%. (IRC § 250(a)(2)(A)).

Broadening the SALT Base with a Stick

The impact of the GILTI and FDII provisions on the state corporate income taxes of multinational corporations – should states conform – will generally be a broadening of the state tax base, unless an exclusion otherwise applies. Unlike the Transition Tax, the GILTI’s base broadening effect is not a one-time deal.

Because IRC § 951A is a new section, states will not have a specific exclusion for GILTI. Likewise, the 50% GILTI deduction is contained in new IRC § 250, which is included in the line 29b “special deductions.” The FDII deduction – the carrot – is also contained in IRC § 250. Whether the starting point for calculating a state’s tax base is line 28 or a subsequent line of a corporation’s Form 1120 will therefore play a significant role in determining the state impact of the GILTI tax and FDII deduction. States may also not conform to the IRC § 250 deductions or may require the add-back of amounts deducted under IRC § 250. The result would be a corporate taxpayer paying state tax on income that was offset by a corresponding deduction under federal law. The IRC § 250 deductions, as a taxable income limitation, may also operate differently for state purposes because of the difference in tax base/consolidation for federal and state income tax purposes. Additionally, some states do not allow the use of foreign tax credits in the calculation of state income tax liability, further adding to the disconnect of the Act’s intended federal impact with state income tax results.

As with the Transition Tax, the impact of GILTI (and FDII) will be affected by a taxpayer’s state income tax filing method and state-specific rules for the treatment of subpart F income. States’ inclusion of GILTI, where there is not a similar income inclusion from domestic subsidiaries, may also run afoul of Kraft. And, like the Transition Tax, taxpayers may argue that the GILTI inclusion is unconstitutionally discriminatory because they are required to include a form of foreign (deemed) dividends ( i.e., subpart F income under IRC § 951A), but do not include the CFC’s factors attributable to such income in the apportionment formula.

In addition, the inclusion of GILTI and/or the Transition Tax in calculating state taxable income will require taxpayers to review the application of, and impact to, state deductions and adjustments, including NOLs, tax credits, and state expense disallowance provisions.


Included in the Act is a form of minimum tax – the base erosion and anti-abuse tax (“BEAT”) – with a stated goal of discouraging US corporations from the perceived erosion of the US tax base through deductible or amortizable payments to foreign affiliates.

Federal Mechanics

The Act, under new IRC § 59A, applies BEAT to corporations which have annual gross receipts of at least $500 million for the preceding three taxable years and which have a base erosion percentage ( i.e., generally deductible payments to foreign affiliates over total deductions), of at least 3% (2% for affiliated groups that include a bank or securities dealer). (IRC § 59A(e)). The applicable gross receipts and base erosion percentage are determined using a special aggregation rule. (IRC § 59A(e)(3)). In addition, special rules apply for determining the applicable gross receipts of a foreign person. (IRC § 59A(e)(2)(A)). The BEAT imposes a 10% (5% in 2018) minimum tax on a taxpayer’s modified taxable income (“MTI”) to the extent such amount exceeds the taxpayer’s regular tax liability (as defined in IRC § 26(b)) which generally cannot be reduced by credits other than, through 2025, the R&D credit and 80% of “applicable section 38 credits.” (IRC § 59A(b)(1). For this purpose, applicable IRC § 38 credits include the low-income housing credit determined under IRC § 42(a), the renewable electricity production credit determined under IRC § 45(a), and the investment credit determined under IRC § 46, but only to the extent properly allocable to the energy credit determined under IRC § 48).

A taxpayer’s MTI is determined by adding back to a taxpayer’s adjusted taxable income the total deductions taken during the tax year arising from base erosion payments made to foreign affiliates without regard to tax deductions arising from the base erosion payments, including a proportionate amount of a taxpayer’s NOL. (IRC § 59A(c)(1)). Base erosion payments are generally defined as amounts paid by a taxpayer to a related foreign person that are deductible to the taxpayer or that create depreciable or amortizable asset basis. (IRC § 59A(d)(1)). Base erosion payments generally do not include payments for cost of goods sold, payments for certain services provided at cost, payments subject to US withholding tax (actually deducted and withheld), and payments with respect to certain derivatives. (IRC § 59A(d)). The base erosion percentage is relevant for determining not only whether a corporation is subject to the BEAT at all (which it is if the base erosion percentage is greater than 3%), but also to determine the degree to which NOL deductions are added back to MTI.

To show how the BEAT applies, take the following simple example. Assume that a multinational corporation (that satisfies the gross receipts threshold) for 2019 has $1,000 of gross income, $300 of deductible payments to a related foreign affiliate, $100 of deductible payments to an unrelated foreign party, and a $200 NOL.

First, calculate the taxpayer’s regular tax liability under IRC § 26(b) :

$1,000 – Gross income

($300) – Deductible payments to related foreign party ( i.e., base erosion payments)

($100) – Deductible payments to unrelated foreign party ( i.e., non-base erosion payments)

$600 – Adjusted taxable income

($200) – NOL

$400 – Taxable income

X 21% (New corporate tax rate)

= $84 Regular corporate tax liability

Second, calculate the taxpayer’s modified taxable income :

$400 – Taxable income is the starting point

+$300 – Base erosion payments

+$150 – Percentage of total NOL added back based on base erosion percentage ($200 x 75%)

$850 – MTI

Finally, calculate the base erosion minimum tax amount .

Using these numbers the taxpayer’s base erosion minimum tax amount is $1 (10% x $850 MTI = $85 less $84 taxpayer’s regular corporate tax liability). In this example, the taxpayer would have a tax liability of $85, comprised of the $84 regular corporate tax liability plus the additional $1 of BEAT liability. (Because this example assumes no tax credits, the example is a shortcut for the for IRC § 59A(b)(1)(B) calculation).

We Got the BEAT?

The federal impact of the BEAT is the payment of additional tax for those taxpayers subject to it. Because the BEAT is a separate tax that does not go into the calculation of federal taxable income, the BEAT currently does not have an impact on state taxable income. However, taxpayers should stay on the lookout for what states will do with the BEAT.


With the start of most state legislative sessions, state legislatures will likely grapple with how to handle the issues created by the Act. Taxpayers should stay abreast of these developments and be prepared to address the issues discussed herein and others that are sure to come. Unfortunately, it is unlikely that state guidance will come any time soon on how taxpayers are to comply with the new Act.

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