Washington update. Robert M. Rozen, Principal, Washington Council Ernst & Young, Ernst & Young LLP Robert D. Schachat, Principal, Ernst & Young LLP

Transcription

1 Washington update Robert M. Rozen, Principal, Washington Council Ernst & Young, Ernst & Young LLP Robert D. Schachat, Principal, Ernst & Young LLP Page 0

2 Tax legislative outlook Page 1

3 Agenda Politics Budget Congress Tax reform Real estate Page 2

4 Congressional profile, 114 Congress Senate makeup, 114 Congress 54 / 46 Republicans Democrats House makeup, 114 Congress 247 / 188 Republicans Democrats Page 3

5 Political perspectives At 247 seats, largest GOP majority in House since 1930 Democrats seen as unlikely to gain majority in 2016 Very few crossover districts in which seats were won by the opposite party in the presidential election Republicans represent only 28 districts won by President Obama in the 2012 election Democrats represent only five districts won by Mitt Romney in 2012 Senate: trend of lopsided number of seats up for re-election 2014: 21 Democratic, 15 Republican seats up for re-election 2016: 24 Republican, 10 Democratic seats up for re-election 2018: 25 Democratic, 8 Republican seats up for re-election Page 4

6 2016 Senate elections Currently held by Democrat (10) Currently held by Republican (24) No race in 2016 (16) WA Murray AK Murkowski OR Wyden CA Open NV Reid ID Crapo UT Lee AZ McCain MT HI Schatz WY CO Bennet NM ND Hoeven SD Thune NE KS Moran OK Lankford TX MN IA Grassley MO Blunt AR Boozman WI Johnson LA Vitter IL Kirk MS MI OH IN Portman Coats WV TN KY Paul AL Shelby NY Schumer PA Toomey SC GA Scott Isakson VA NC Burr DE NJ ME RI MA VT Leahy NH Ayotte CT Blumenthal MD Open FL Rubio Page 5

7 Agenda Politics Budget Congress Tax reform Real estate Page 6

8 Federal budget deficit $486 billion for FY2015 stays below $500 billion until FY2019 projected to increase above $1 trillion in 2025 totals $7.2 trillion for FY As a percentage of GDP: Federal budget surplus/deficit, Actual Projected Percentage of GDP Average Deficit, 1965 to 2014 (-2.7%) Source: CBO Updated Budget Projections, March 10, 2015 Page 7

9 FY2016 Budget Resolution Spring 2015, Continues Deep Cuts in Domestic Appropriations Guides the appropriations process Simply a congressional resolution; not signed by President Republican majority decides to continue deep domestic spending cuts via sequester while restoring defense spending Permits Republicans to use reconciliation instructions to pass legislation targeting repeal of the Affordable Care Act by a simple majority vote Calls for tax reform to reduce marginal rates, broaden base Page 8

10 IRS funding has fallen sharply 14 $13.4 $13.2 $12.6 $11.6 $11.5 $10.9 Reduced Resources & Services Funding cut 18% House would cut another $830m in FY 2016 More than 13,000 fewer employees (14% decline) $ Billions 8 6 Lowest individual and business audit levels in a decade Cutback on issuance of PLRs 4 Increased responsibilities 2 7 million more individual tax returns filed Implement FATCA, ACA Page 9

11 Agenda Politics Budget Congress Tax reform Real estate Page 10

12 Legislative deadlines Active fall agenda 30 September Expiration of - Government funding - Internet Tax Freedom Act - Airport and Airway Trust Fund 29 October Highway spending authorization expires 20 November Highway funding will drop below safe level of $4 billion September October November December January 2016 As soon as late October Treasury measures exhausted -- debt limit must be addressed 31 December Tax extenders will have been expired for 1 year Potential agenda items Continuing Resolution Long-term highway funding Export-Import bank Cybersecurity International tax reform Tax extenders Affordable Care Act changes Internet tax ban/online sales tax Page 11

13 The Speaker s resignation What does it mean for the future of the House Speaker Boehner resigns effective 30 October Leading candidates to replace are Majority Leader McCarthy and Majority Whip Scalise Reflects deep anger on the right, in the House and across the nation Will anything change with Boehner s departure? Page 12

14 Government funding beyond 30 September Republican majority in Congress attempting to advance further cuts in domestic spending via sequester; defense exempted Democrats demanding domestic and defense spending levels at current levels without sequester This has gridlocked FY 2016 appropriations process Further complicated by desire of GOP to add riders, including forbidding federal funds to Planned Parenthood, killing EPA climate change rules, etc. Republican congressional leadership wants to avoid shutdown of federal government while far-right conservatives want to force President s hand over Planned Parenthood funding Federal government could shut down for a few days if a short term Continuing Resolution cannot pass in time By December, parties will have to reach full fiscal year agreement Page 13

15 Debt limit The debt ceiling was set at $18.1 trillion through 15 March 2015 Since that time, Treasury has had to employ extraordinary measures to fund the government In a 29 July letter to Congress, Treasury Secretary Jack Lew said measures exhausted as soon as late October CBO Update released 25 August: extraordinary measures exhausted and the Treasury will run out of cash between mid-november and early December Question: Will this set up another point of confrontation between the White House and Congress? Page 14

16 Tax extenders About five dozen tax provisions that Congress extends on an annual or biannual basis Most expired at the end of 2014, including R&D tax credit, NMTC (New Markets Tax Credit), WOTC (Work Opportunity Tax Credit), credits for energy efficient new homes, 15-year depreciation of tenant improvements and restaurant property, contributions of real property for conservation purposes, deduction for energy efficient buildings, 50% bonus depreciation, empowerment zone incentives Three options: make some permanent and not extend others, extend all/most retroactively just for 2015, extend retroactively one year and forward one year through 2016 Page 15

17 Tax extenders Senate In July, Finance Committee approved 2-year extenders package $95 billion bill to extend most expired provisions through 31 December 2016 No offsets included in the base bill No Senate floor action expected House Ways and Means has approved bills to make 15 extenders permanent Democrats object over lack of revenue offsets Final Deal House and Senate expected to negotiate year-end deal on extenders, probably as part of larger agreement on other issues Page 16

18 Highway funding: major issue before Congress Prime example of failure of Congress to act Federal excise tax to fund Highway Trust Fund has not been increased since 1993 Meanwhile, cost of infrastructure goes up while gasoline tax collections are soft due to more energy efficient automobiles Almost no federally elected officials advocate for increased federal excise tax on gasoline; no serious debate Broad advocacy for more infrastructure spending are not met with calls for more revenues Congress fails to do long term extensions, funding remains flat, and shortage of funds from excise tax are filled in with general government spending Page 17

19 Highway funding 29 October: latest highway authorization extension expires July: Senate approved 6-year bill with three years of funding Bipartisan interest in tying international tax reform to long-term highway funding Chairman Ryan planning to unveil plan by early October for international tax reform that funds long term highway funding Obama FY2016 Budget: $268 billion from transition to tax reform Former Chairman Camp s bill: $126.5 billion from deemed repatriation Sens. Portman, Schumer back Obama/Camp approach to funding Page 18

20 Quiz for Bob After six years of committee hearings, congressional tax reform study groups, multiple releases of tax reform drafts, scores of analyses and economic reports, and countless political speeches about the need to broaden the corporate tax base to reduce the top tax rate, what tax proposal is Congress poised to take up this fall? Page 19

21 Quiz for Bob (cont.) a) comprehensive tax reform that broadens the corporate and individual tax base and reduces rates b) business only tax reform that broadens the tax base and reduces business tax rates c) individual only tax reform that broadens the base and lowers top individual rate d) a new $300 billion tax expenditure for intellectual property-related income that narrows the tax base Page 20

22 Potential elements of international reform plan from Ways and Means this fall Move to a dividend exemption (territorial) system Deemed repatriation Potential for revenue to be used for highways Patent or innovation box Reduced tax rate on income tied to IP Minimum tax/anti-base erosion measures For future foreign earnings of multinationals Other raisers possible If goal is revenue neutral using conventional scoring Page 21

23 Patent box/innovation box: what is it? A patent box or innovation box, as reflected in the various European IP regimes, allows qualifying business income derived from intellectual property to be taxed at a rate lower than a country s corporate tax rate: Examples: Luxembourg IP regime: 80% deduction of net income effective tax rate (ETR) of 5.86% Belgian patent income deduction: 80% deduction of gross income (may result in a loss, available to offset other income) UK patent box: 10% tax rate Netherlands innovation box: ETR of 5% What qualifies to fit in the box varies by country, but typically includes at least patents. Some countries have a substantially larger qualifying IP income basis. The box is designed to encourage companies to keep IP, research and associated jobs in home country Page 22

24 Deemed repatriation: what is it? Deemed repatriation is a tax collected on accumulated, unrepatriated foreign earnings of US companies Obama budget: mandatory one-time 14% tax on earnings accumulated in foreign subsidiaries; payable over five years $268 billion raised over 10 years toward highway funding Camp tax reform plan: mandatory one-time transition tax of either: 8.75% (accumulated earnings held in cash, cash equivalents or certain other short-term assets); or 3.5% (accumulated earnings invested in property, plant and equipment) $170.4 billion raised over 10 years ($126.5 billion of which would be paid into the Highway Trust Fund) Page 23

25 Agenda Politics Budget Congress Tax reform Real estate Page 24

26 Prospects for tax reform: unlikely The President and Republicans focused on business tax reform Questions persist, including: 1 Scope of reform? Comprehensive, business-only or narrower Will business tax reform benefit pass-through entities? Will tax reform lose or gain revenue, or be revenue neutral? And, over what period of time should revenue be measured? 5 How should the revenue consequences be estimated? Page 25

27 Tax reform conundrums Obama White House is insisting on business only tax reform because it is not interested in addressing individual tax reform which is more difficult Tax writing committee chairmen showed some interest in business only tax reform but pass-through and small business interests pushed back very hard Most Democrats will not vote for comprehensive tax reform that lowers top tax rate for individuals Most Republicans will not vote for tax reform unless it reduces top tax rate for individuals White House and Ways and Means chairman Paul Ryan sees a potential limited solution by doing international tax reform only that adopts a hybrid territorial international tax system and includes deemed repatriation to pay for more highway spending Democrats may be willing to support territoriality in return for more highway spending; but raising revenues to pay for more spending may not be acceptable to rank and file Republicans, especially in House Page 26

28 What drives latest interest in doing international tax reform only Inability to get traction for comprehensive tax reform Global developments around the BEPS process (base erosion and profit sharing), including the adoption of patent boxes in other nations, requiring nexus between job location and income sourcing Corporate inversions and other foreign acquisitions of US business General concern about international competitiveness of US companies Interest in long-term highway funding Page 27

29 Agenda Politics Budget Congress Tax reform Real estate Page 28

30 Chairman Camp s Tax Reform Act of 2014 pass-through highlights Partnerships: Repeals rules relating to guaranteed payments and liquidating distributions Requires mandatory basis adjustments in case of transfers of partnership interests Revises rules related to unrealized receivables and inventory items Repeals time limitation on taxing pre-contribution gain Restricts publicly traded partnership exception to mining and natural resources partnerships S corporations: Makes permanent reduced recognition period for built-in gains Modifies S corporation passive investment income rules Expands qualifying beneficiaries of electing small business trust Extends time for making S corporation elections Page 29

31 Chairman Camp s Tax Reform Act of 2014 real estate highlights Repeals section 1031 like-kind exchange rule Lengthens depreciation period to 40 years for residential and non-residential real property Repeals the interest exemption for newly issued private activity bonds and repeals the special rules permitting advanced refunding bonds and tax credit bonds Preserves Low-Income Housing Tax Credit with a number of modifications Repeals historic rehab credit Phases down the amount of mortgage indebtedness eligible for interest deduction to $500,000 and makes interest on new home equity indebtedness not deductible Page 30

32 Chairman Camp s Tax Reform Act of 2014 real estate highlights Treats gain on the sale of real property as ordinary income, to the extent of post-2014 depreciation deductions, increasing the rate from 25% to 35% Applies the interest charge rules to installment sales exceeding $150,000, thus eliminating the aggregate $5 million limitation Repeals the gross income exclusion for contributions to capital of a corporation by non-shareholders, including state and local governments Repeals the deduction for energy-efficient commercial buildings Recovers environmental remediation costs ratably over 40 years Page 31

33 Chairman Camp s Tax Reform Act of 2014 real estate investment trust (REIT) proposals Limitations on conversions: Prohibition on spin-offs Immediate recognition of built-in gains on conversion Limitation on fixed percentage rent and interest income Non-REIT earnings & profits (E&P) required to be distributed in cash after REIT election Reduction in percentage limitation on value of taxable REIT subsidiary (TRS) from 25% to 20% Restrictions on definition of real property: Short-life property not treated as real property Timber not treated as real property Miscellaneous provisions: Repeal of preferential dividend rule Debt instruments of REITs treated as real estate assets Asset and income test clarification for ancillary real personal property Expansion of hedging exception Modification to safe harbor to permit development and marketing by TRS Page 32

34 Other REIT issues FIRPTA Administration budget: exempt foreign pension funds from FIRPTA Real Estate Investment and Jobs Act of 2015, H.R Real Estate Investment and Jobs Act of 2015, S.915, approved by Senate Finance Committee in April 2015 Increases portfolio investment exception from 5% to 10% House bill includes foreign pension plan exemption Senate bill includes several additional REIT provisions that raise revenue increases from 10% to 15% of the rate of withholding of tax on dispositions of U.S. real property interests requires any corporation that is a U.S. real property holding company to disclose such status to the IRS, the corporation's shareholders, and the public requires a broker to deduct and withhold a tax equal to 15% of the amount realized on the disposition of stock of a U.S. real property holding company by a foreign person exempts regulated investment companies (RICs) and REITs from tax rules governing the treatment of stock of a domestic corporation as a U.S. real property holding company. provides that neither RICs nor REITs shall not be treated as domestic corporations for purposes of determining whether dividends from a foreign corporation are eligible for the tax deduction for the U.S-sourced portion of such dividends Page 33

35 Other REIT Issues expansions? Department of Energy and the renewable energy industry have been interested in modifying the definition of real property to facilitate the use of a REIT structure to raise capital for renewable energy Others have discussed modifications to facilitate a REIT structure as a means of financing infrastructure Dilemma for REIT industry: as some question IRS rulings on nontraditional REITs, others are suggesting expanding REIT property types to facilitate raising capital to serve larger public policy purposes Page 34

36 Threat to like-kind exchange rule Camp repeal Wyden repeal Baucus repeal Obama budget limit deferral to property under $1 million for real property exchanges Page 35

37 2016 Presidential Election Reintroduction of carried interest issue In August, Donald Trump proposes taxing carried interest at ordinary income rates: The hedge fund guys are getting away with murder In September, Jeb Bush follows that up with proposal in his comprehensive tax play to tax carried interest without real capital at risk as ordinary income Hillary Clinton economic plan includes ending carried interest loophole President Obama starts mentioning his carried interest proposal again Senator Schumer then clarifies his position that carried interest should be taxed at ordinary income and Democrats suggest using carried interest revenues to finance increased appropriations in year-end deal Page 36

38 2016 Presidential Election So far, Jeb Bush is only GOP candidate to offer tax plan Released on 9 September, detailed plan reflects many of the proposals that have emerged in Congress in recent years Corporate: seeks to lower tax rate to 20% The top rate for pass-through entities would be 28% Calls for territorial system with one-time deemed repatriation at a tax rate of up to 8.75% (similar to Camp plan) Full expensing of capital expenditures, paid for by eliminating most corporate deductions, including the business interest deduction Individual: three tax brackets of 28%, 25%, and 10% Limit tax value of itemized deductions to 2% of a filer s adjusted gross income; charitable contributions exempt from cap Eliminate state and local income tax deduction Carried interest without real capital at risk taxed as ordinary income Eliminate personal exemption phase-out (PEP) and Pease, repeal estate tax Repeal 3.8% net investment tax enacted with Affordable Care Act Page 37

39 Applause!! Questions? Page 38