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U.S. multinationals need immediate guidance on how to treat the offshore cash they will have to bring back under a pending tax reform measure—and how to address a sweeping set of complex issues, practitioners told Bloomberg Tax.
With a tax on “deemed repatriation” going into effect in 2017, those issues include what should be treated as cash, how to measure—and avoid double counting—earnings and profits, how foreign tax credits can be used, and the treatment of look-through entities like partnerships, they said.
Congress is poised to pass tax reform legislation (H.R. 1) that requires multinationals to bring back money and other assets they have stockpiled overseas, at a one-time tax rate, as a trade-off for a 100 percent exemption on most foreign dividends. The intense need for guidance stems from the fact that the repatriation would be deemed to have taken place before the start of 2018.
“Everyone hopes that because of this great need, the Treasury Department will put it out as quickly as possible,” said Eric Solomon, co-director of National Tax at Ernst & Young LLP in Washington.
Solomon and other practitioners said Treasury would have a big job ahead using the new authority it would have to target deals crafted before the law is signed to keep offshore money out of U.S. coffers.
“How quickly they can identify what they consider the anti-avoidance techniques is going to be very important,” Solomon said. “This empowers the Internal Revenue Service and Treasury to write what appear to be retroactive rules to make that previous tax planning ineffective.”
IRS officials have acknowledged that repatriation guidance under tax code Section 956 is “at the top of the list” once the tax reform measure becomes law. Solomon said the government has been already been working with the tax community, reaching out to the tax sections of both the American Bar Association and the New York State Bar Association for input.
Nearly all the practitioners contacted by Bloomberg Tax said one of the most pressing issues for guidance is: What’s cash? The legislation taxes cash at 15.5 percent, while “illiquid” assets face an 8 percent rate.
The bill approved by conferees lists several kinds of assets that will be treated as cash—a section that didn’t change from previous versions of the bill.Those include :
However, the conference report says the Treasury secretary “may identify other assets that are economically equivalent” that can also be treated as cash.
Companies will be watching this issue very closely, said Jeffrey Paravano, managing partner of Baker & Hostetler LLP’s Washington office.
“Some of our clients believe it’s very clear that they’ve reinvested in tangible assets,” Paravano said. “And some have questions. They believe if there’s any doubt” about a the status of an asset, “it should be classified as illiquid.”
Paul M. Schmidt, a partner and tax chair at Baker & Hostetler LLP, said in an email that defining cash and illiquid assets creates “tremendous pressure” on how taxpayers measure earnings and profits.
Companies also need to know when “netting” is available, he said.
When taxpayers evaluate their “net” position, they calculate the net amount due from, or due to, another organization—allowing open transactions to be resolved with a single payment. Schmidt said companies would want to know if they could net their payables and receivables in figuring the repatriation tax.
Paravano said with the effective date before Jan. 1, 2018, there might be some pushback on the repatriation tax itself, but it likely wouldn’t be widespread. “There’s some minor interest in whether this is an impermissible tax, by a small number of companies that had not been planning to repatriate,” he said.
Joe Calianno, a partner at BDO USA LLP, said companies would be pressing for guidance on double counting under the conference report—a job lawmakers would hand off to Treasury. He said it’s noteworthy that not only would Congress authorize guidance to prevent double counting, but also to curb cases where earnings and profits haven’t been counted at all.
Douglas Stransky, an international tax partner at Sullivan and Worcester LLP in Boston, described a situation when a company pays a dividend “for a good reason” on Dec. 29, so the dividend has to be included on the company’s U.S. tax return for that year.
Stransky said if the multinational has to calculate its earnings and profits on Dec. 31 without regard to that distribution, the question becomes, “do you now have a double inclusion” in determining the deemed repatriation tax?
“You’re always going to have some level of arbitrariness,” but if Congress does intend for there to be double inclusions, “at least tell us,” he said about the tax reform legislation.
Solomon said another double counting issue could arise when a multinational has moved one controlled foreign corporation to another during the year. “Could the same E&P be counted for both?” he said.
Another issue relates to look-though entities. If a CFC owns a partnership, “I’m wondering whether you would look through to other entities that are owned by the partnership?” Solomon said. “Exactly how would that work?”
In addition, Paravano and other practitioners said the testing date for determining the tax that has to be paid is important. It would be either Nov. 2 or Dec. 31, whenever the E&P is greatest. It’s a key issue, Paravano said, because companies have invested abroad since the House and Senate first announced a bifurcated rate for taxing cash and noncash assets.
He said just calculating the tax is going to be tough, especially as companies are trying to figure out how to apply their foreign tax credits. “Companies will have no choice but to start computing this on their own,” he said. “Any assistance the IRS could provide would be helpful.”
Solomon also said taxpayers need to know about potential interactions with:
Almost across the board, tax practitioners said the form of the guidance is a critical issue. It’s likely the IRS would put out notices quickly, rather than going through the longer process of writing regulations, they said.
Robert J. Kovacev, a a partner with Steptoe & Johnson LLP in Washington, cautioned that if Treasury writes binding rules, taxpayers will be watching closely to make sure they get the notice and time to comment required under the Administrative Procedure Act.
They “will expect Treasury to engage in reasoned decisionmaking before issuing any rules,” Kovacev said in an email. “If Treasury attempts to issue temporary regs that are not favorable to taxpayers, a challenge to their validity is almost a foregone conclusion. This suggests that non-binding guidance is more likely in the short term than actual regulations.”
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