The Treasury Department released the Obama Administration's General Explanations of the Administration's Fiscal Year 2010 Revenue Proposals (usually known as the "Greenbook) on May 11. See Treasury Release, Administration proposes Tax Cuts for Middle Class Families and Small Businesses, Closing Corporate Tax Loopholes, May 11, 2009 (TG-125) and Greenbook. The release continues to emphasize the problem that the current tax code's international provisions "give[] businesses that invest and create jobs overseas a competitive advantage over those who invest and create jobs at home."
The release starts with its additional tax cuts--the making pay work credit for families, and the three cuts for businesses and their owners that are, in my view, indefensible (expanding the NOL provision, providing a zero capital gains rate on small business stock; and making the R&D credit permanent). It then outlines the repeal of tax preferences for oil companies and overseas investment, including the check-the-box loophole closer, the deferral of deductions (primarily interest) to match repatriation of income, and various other loophole closers.
Personally, I wish that Obama had never made the promise to continue the 2001-2003 tax cuts except for those making more than $250,000. Fact is, we will need some tax increases all around to pay for various public goods that government should provide--like universal health care. People should start thinking of this tradeoff without always see red when anyone mentions tax increases.
It should be noted that this budget would finally enact some much-needed reforms in the treatment of Big Oil, removing a number of "tax expenditures" that have given undue subsidies to this industry (and made many an oilman rich because of the tax subsidies). The Greenbook (pp58-70) details a series of proposed repeals, including the credit for enhanced oil recovery projects, the credit for production from marginal wells, the expensing of intangible drilling costs, the deduction for tertiary injectants, the passive loss exception for working interests in oil and gas properties, the percentage depletion allowance. It's about time these subsidies for Big Oil were repealed, so let's hope Congress gets on board on this one. The budget also proposes eliminating the alternative fuel mixture credit gambit that paper companies have been exploiting by mixing diesel with the "black liquor" left over from paper processing.
There are just a few of the rules included here that need to be enacted in respect of financial institutions and life insurance companies. But the budget provides a start in the right direction. For example, the budget proposes a requirement of income accruals on forward sales of corporate stock. Under current law, corporations do not recognize gains or losses on forward sales, even though a current sale for a deferred payment would result in interest income. The proposal would treat those two transactions consistently and require accrual on the forward sale. Similarly, commodities dealers, delaers in securities, options dealers and commodities derivatives dealers get partial capital treatment on their dealer activities under section 1256 under current law. The Obama proposal would take away that preference and require all such dealers to report ordinary income, just as other dealers in property must. The Obama proposal would also broaden the scope of the control definition for the anti-abuse rule in section 249, moving from section 368(c) control (which requires direct control in a parent subsidiary relationship) to section 1563(a)(1) control, which takes into account indirect relationships. The rules also would modify the determinations for dividends received deductions by life insurance companies, because the current methodology for prorating amounts between the company and the policyholders do not always accurately reflect a company's economic interest in the account.
Other changes are noteworthy. Carried interests would be taxed as ordinary income and subject to self-employment tax. Payments of punitive damages would no longer be deductible, and insurance payments to cover punitive damages paid would be includible. A particularly noteworthy proposal is the repeal of the "last in-first out" (FIFO) and "lower of cost or market" (LCM) methods of accounting for inventory. As the Greenbook notes, the method amounts to a "one-way mark-to-market regime that understates taxable income". Repeal is the right answer here.
On the individual side, the proposals require consistentcy of valuation for basis purposes and for estate tax purposes. No longer would an heir be able to claim an exorbitantlly high valuation as its basis, when the estate avoided estate tax by claiming a highly discounted valuation. Reporting requirements would ensure that recipients used the same value claimed by the estate as their basis. At the same time, the proposal would add a new category of restrictions that should be disregarded in determining valuation for estate tax purposes, to eliminate (or lessen) the ability of planners to artificially lower the value of an estate to avoid estate tax. Of course, these estate tax and basis measures make sense. They would make a lot more sense if Congress was reasonable and permitted the estate tax to lapse back to its 2001 level, rather than continuing to exempt these ultra wealthy estates from almost all taxation.
As I noted in an earlier posting, the administration's international tax proposals also represent an appropriate turn in the right direction. After years of allowing corporations to have too much say over corporate tax policy through influential lobbying, the government appears to be ready to embrace a change in direction that will ensure that corporations pay their fair share of the tax burden. As Reuven Avi-Yonah notes in a brief essay on this issue posted on SSRN, there are sound reasons for ensuring that corporations pay tax once on their income, rather than permitting them to game the system so as to avoid both US tax and foreign tax.
Corporate lobbyists' arguments that sounder taxation of corporations will "destroy" them because it will render them "uncompetitive" should not carry much weight. For one thing, they've been making this argument for years, as the US tax system has gone through a variety of changes. There doesnn't seem to be any empirical evidence that the changes in the US tax system have negatively impacted the US MNEs' ability to compete. For another, many of the devices Obama's proposal addresses are ones used by domestic corporations to shift their US income offshore in order to avoid taxation on it in the US--so it has nothing to do with competition and everything to do with lowering taxes that should be paid in the US. (For example, moving an intangible created in the US to a Caymans Island mailbox for an amount that is much less than the expected future income stream from the property right, and then claiming that all of the income paid to the company to use the property right is foreign source income not subject to US taxation.) Furthermore, this argument tends to be made any time anyone suggests that corporations bear any of the costs of their income-producing activities. Corporations want to dump their pollution off on the public at large (socialization of costs) while enjoying the huge profits from that activity (privatization of gains). Needless to say, they want to enjoy the benefits of being managed and headquartered in the US (socialization of costs through the support of the US military for their ships at sea, and similar activities around the globe) while reaping the benefits of various special "tax expenditures" cajoled from the tax writing committees even if adverse to the long-term interests of the U.S. (subsidies for companies that extract natural resources--privatization of benefits).
Citizens for Tax Justice has a brief release worth reading on "Myths and Facts about Offshore Tax Abuses" (May 8, 2009).
The Greenbook clarifies how the check-the-box rule would work under the Administration's proposal. A foreign corporation could "check-the-box" on an entity created in its own jurisdiction, and that entity could be recognized as a disregarded entity. But a foreign corporation could not check the box on an entity created in another jurisdiction--that entity would be treated as a corporation. The proposal isn't clear on when US corporations would be permitted to check-tye-box on first-tier foreign entities. It says that the proposal "generally" would be inapplicable "except in cases of U.S. tax avoidance."
The budget also proposes to stiffen the way that section 482 polices the pricing of intangible property shifted to offshore jurisdictions. It includes workforce, goodwill and going concern value in the items covered, and provides that the Commissioner may value the intangible properties on an aggregate basis if that produces a more reliable result. Valuation must be at the "highest and best use".
These proposals are, of course, related to other important issues at stake, especially health care reform. For more information on the current status of those proposals, see Senate Finance Committee materials, including the following: Press Release (May 11, 2009), Description of Policy Options (May 14, 2009); Senate Finance Committee, Financing Comprehensive Health Care Reform, Public Roundtable, May 12, 2009 (BNA link) (noting 235 billion of tax expenditures for health care).
Recent Comments