Is your bank prepared for the new tax law? March 14, :00 PM ET

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1 Please disable pop-up blocking software before viewing this webcast Is your bank prepared for the new tax law? March 14, :00 PM ET 1

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4 Please disable pop-up blocking software before viewing this webcast Is your bank prepared for the new tax law? March 14, :00 PM ET 4

5 Speakers Joseph Hagedorn, Tax Law Editor, Business Entities and Tax Accounting, Bloomberg Tax Warren Joseph, Assistant Managing Editor, Federal Tax, Bloomberg Tax Bill Reilly, Partner & National Tax Leader - Banking, Grant Thornton LLP Dan Gross, Senior Manager, Tax Services, Grant Thornton LLP 5

6 Learning objectives Discuss the overhaul thrust of the new tax law and its effect on banks Identify strategies and solutions in key areas of tax reform, including interest expense and executive compensation Explain the impact of revisions in other areas like deferred taxes, net operating losses, capital expenditures and REITS 6

7 Agenda 1 The big picture: What does tax reform mean to your business? 4 The what: What you should be doing now 2 The new: The future of tax 3 The when: Why should you take action now? 7

8 The big picture: What does tax reform mean to your business? 8

9 The big picture Significant tax reform was signed into law on Dec. 22, 2017 Generally effective for tax years beginning after Dec. 31, 2017 Major financial statement implications should be considered Planning is still possible, but businesses must move quickly 9

10 Polling question #1 Does your bank have NOLs? a. Yes b. No 10

11 The new: The future of tax Significant provisions that impact banks 11

12 Tax reform overview Flat 21% corporate rate Significant expensing and cost recovery provisions General interest limitations based on adjusted taxable income Corporate AMT repealed Limitations on deducting net operating losses Significant international provisions, including: - Territorial system and one-time tax on unrepatriated earnings - Global minimum tax on certain foreign income 12

13 Corporate tax rate and AMT Rate reduced to 21% across the board ( 11). Repeal of domestic production activities deduction ( 199). Corporate AMT repealed ( 55). Prior year minimum tax credit retained ( 53). Changes to dividend received deduction ( 243, 245, 246A). Effective date: For tax years beginning after December 31,

14 International provisions Dividends received deduction ( 245A) 100% deduction for foreign-source portion of any dividend received by a domestic corporation that is a U.S. shareholder of a specified 10% owned foreign corporation No FTC or deduction for foreign taxes paid on foreign-source portion of any dividend Transition tax ( 965) Subpart F income of a deferred foreign income corporation increased for the last taxable year beginning before Jan. 1, 2018 by the greater of accumulated post-1986 deferred foreign income as of Nov. 2, 2017 or as of Dec. 31, 2017 Tax rates 15.5% cash 8% non-cash 14

15 International provisions GILTI and FDII ( 250) ( 951A) A U.S. shareholder of any CFC must include in gross income for a taxable year its GILTI for the taxable year. GILTI = net CFC tested income -net deemed tangible income Determined annually with respect to each U.S. shareholder Similar to subpart F inclusions FDII = (foreign-derived deduction eligible income / all deduction eligible income) * deemed intangible income BEAT ( 59A) Applies to an applicable taxpayer with average annual receipts of $500 million for 3-year period ending with preceding taxable year and base erosion percentage of 3% (2% for banks and securities dealers) 15

16 Net operating losses Deduction limited to 80% of taxable income. Carrybacks limited to farmers and insurance companies. No limit on length of carryforwards. Effective date: For losses arising in tax years beginning after December 31,

17 Polling question #2 Where have you seen the interest expense limitations come up? a. In bank b. With banks' customers c. Both 17

18 Deduction limitations FDIC premiums no longer deductible by large banks ( 162(r) (new)). Meal and entertainment expense deduction disallowed in most cases ( 274). Effective dates: For tax years beginning after December 31, Settlement costs for sexual harassment cases no longer deductible if subject to nondisclosure agreement ( 162(q) (new)). Characterization of settlements as nontaxable fines and penalties broadened ( 162(f)). Local lobbying no longer deductible ( 162(e)). Effective dates: For amounts paid or incurred after December 22,

19 Interest deduction ( 163(j)) Net interest expenses incurred by a business limited to the sum of business interest income, 30% of the business s adjusted taxable income. Businesses with average annual gross receipts of $25 million or less exempt from the limit. Disallowed interest carried forward indefinitely. Real property trades or business that use the ADS and farming businesses may elect not to be subject to the business interest deduction limitation. Interest deduction limit does not apply to certain regulated public utilities or to certain electric cooperatives. Effective date: For tax years beginning after December 31,

20 Interest deduction New law uses the OECD concept of limiting interest to 30% of income 30% of adjusted taxable income roughly equivalent to EBITDA pre-2022; and EBIT post-2022 Exceptions Public utilities Electing real estate Businesses with <$25 million in gross receipts Unlimited carryforward 20

21 Interest deduction How are banks affected? Leveraged customers interest expense deduction may be limited Interest expense derived from investments in certain tax credit partnerships (i.e. energy) may be limited (at the partnership level) Planning opportunities Offer customers alternatives to debt (i.e. leasing) 21

22 Employee remuneration Performance exception to $1 million limitation on compensation deduction repealed ( 162(m)). Deduction for qualified business income may result in increased interest in employee conversion to nonemployee status ( 199A) (new). New provisions for qualified equity grants ( 83(i) (new)). Parking and transit benefits remain nontaxable to employees but are no longer deductible to employer ( 274(l) (new)). Effective dates: For tax years beginning after December 31,

23 Compensation and benefits provisions Expansion of $1M compensation deduction limit for public companies - Eliminates the exemption for qualified performance-based compensation and commissions - Expands application to the compensation of more employees (once a covered employee, always a covered employee) - Transition rule - Accounting policy elections 23

24 Other key business provisions 2017 tax act (Pub. L. No ) and Bipartisan Budget Act (Pub. L. No. 123) Expiring business credits EXTENDED through 2017 Like kind exchanges Limited to real property Business energy credit EXTENDED through 2021 Work Opportunity Tax Credit New Markets Tax Credit Research credit RETAINED RETAINED RETAINED, but research and experimental expenditures amortizable beginning in 2022 Orphan Drug Credit REDUCED beginning in 2018 Rehabilitation credit RESTRICTED beginning in 2018 Contributions by state and local governments to corporations INCLUDIBLE IN INCOME after December 22,

25 The when: Why you should take action now? 25

26 Why now? ASC 740 The impacts of enacted tax law changes on any deferred tax balances are recorded as discrete items in continuing operations in the period which includes the enactment date This means December for calendar year filers! But see SEC Staff Accounting Bulletin (SAB) 118 allowing for reasonable estimates The one-time tax on unrepatriated earnings requires all foreign attributes to be known This could take months for certain corporations Businesses that proactively plan for the new law will be in a better position to take full advantage it. Short term planning Long term planning 26 26

27 The what: What should you be doing now? 27

28 Planning for tax reform: Acting early Some of the most effective planning opportunities created by tax reform required action before reform was effective. The significant rate cut means deferring income and accelerating deductions is even more powerful than usual. Historically, banks have been reluctant to pursue timing changes that did not provide financial statement benefit. Key opportunities include: Accounting methods review Businesses employ dozens of separate accounting methods on everything from inventory and rebates, to software development and advanced payments. Identifying a method that accelerates deductions or defers income often results in a favorable adjustment that can be recognized fully in the year the change is made. Fixed assets & repairs Building assets represent a very large expense for most banks, and not all costs associated with these assets must be capitalized and depreciated over a 39-year schedule. Many building assets can be reclassified and depreciated using shorter lives, while other costs may qualify for immediate deduction as repairs or maintenance. Compensation and benefits Making minor changes to bonus pools, other compensation arrangements, and even benefit plans present opportunities to accelerate deductions against 2017's higher rates. 28

29 Planning for tax reform: Accounting methods review Conformity election prior to application of the conformity election, most banks maintain a deferred tax asset in connection with non accrual interest income. Electing the conformity election may present the opportunity for a bank to reverse its deferred tax asset in connection with non accrual interest income. Automatic method change (due with timely filed tax return) Conformity election provided in Treasury Regulation (d)(3) Rev. Rul discusses treatment of interest on non performing loans REIT dividend deferral many banks still maintain captive REIT's for capital purposes & state tax planning purposes. REIT's are permitted a dividends paid deduction on their federal tax return. Some of the ways REITs apply the dividends paid deductions are as follows: Pay dividends during the year Dividends declared in October, November, December deemed paid on December 31 if paid in January of following year (857(b)(9)) Consent dividends 858(a) election to treat dividends as paid during the tax year Deficiency dividends 29

30 Polling question #3 Have you made any changes with your REITs in light of tax reform? a. Yes b. No 30

31 Planning for tax reform: Accounting methods review (continued) 858(a) election to treat the dividends as paid during the tax year In general, the shareholder of the REIT includes in income the dividend from the REIT when received. If during the year the REIT pays no dividends and elects inclusion of section 858(a) dividends on its tax return, the shareholder of the REIT could potentially not include any dividend income from the REIT in that year. If a lower tax rate were applicable in the following year the shareholder would report income under a lower applicable tax rate in the following year Be aware of the REIT excise tax. A REIT must distribute at least the sum of 85% of REIT ordinary income and 95% of REIT capital gain income. Otherwise it will be subject to an excise tax of four percent on the excess of such required distribution over the sum of the amounts actually distributed and the retained income on which the REIT has paid income tax. (excise tax due March 15) 31

32 Planning for tax reform: Accounting methods review (continued) 12 Month Rule (a)-4(f) Acceleration of prepaid expenses Taxpayer not required to capitalize amounts paid if right or benefit of taxpayer does not extend beyond the earlier of 12 months after the first date on which the taxpayer realizes the right or benefit or the end of the taxable year following the taxable year in which the payment is made. Application of 12 month rule may require method change if not the present method used Regulation provides examples for prepaid insurance Be careful rent is deductible pursuant to 467 Pension Plan Funding Actuary will provide the plan sponsor with an actuarial funding valuation report each year. It is standard for the funding valuation report to include the amount of the maximum deductible contribution for the year. Funding of plan within 8.5 months of year end can result in acceleration of deduction to prior tax year. 32

33 Planning for tax reform: Fixed assets & repairs Cost Segregation/Repairs/Capital Cost Recovery Banks historically have overlooked this type of study because of low borrowing costs and no financial statement benefit. Permanent financial statement benefit applicable when deferred tax liability is created at a higher tax rate and then lower rate enacted Reclassifying longer-lived building assets to accelerate tax depreciation. Applies to newly constructed buildings, recently acquired properties or existing facilities via an accounting method change. Can include review of single facility or entire portfolios of real and personal property for tax advantageous positions. 33

34 Polling question #4 Do you plan on making changes to your executive compensation plans in light of tax reform? a. Yes b. No 34

35 Planning for tax reform: Compensation & benefits Employee bonus deductibility (Reg (a)(2)(i)) One of the tests to determine if bonuses are deductible in the year accrued is to consider what happens to the bonus pool if an employee leaves before the bonuses are paid out. If an employee leaves and the bonus reverts back to the company, the liability may not be considered to have been "established". Bonuses taken into account in year 1 - all events occurred to establish the fact of the liability 2 amount can be determined with reasonable accuracy 3 economic performance has occurred with respect to the liability Rev Rul Discusses accrual method taxpayer who becomes obligated to pay fixed amount of bonuses to group of eligible employees at end of year in which services were rendered, even though employer doesn't know either identify of recipient or amount of bonus payable to each until after end of tax year. Conclusion an employer can establish the "fact of the liability" under 461 for bonuses payable to a group of employees even though the employer does not know the identify of any particular bonus recipient and the amount payable to that recipient until after the end of the taxable year. Acceleration of bonus pool deduction may require accounting method change & board resolution if not current method 35

36 Multistate tax considerations general corporate reform provisions Corporate background and profile Impact of federal tax reform may vary by industry, geography and type of tax Decrease in federal income tax rate State impact of federal accounting method changes Overall materiality considerations for state purposes income and apportionment State tax attribute analysis (NOLs and credits, release of valuation allowances/tax accounting impact, etc.) Overlooked state tax attributes in prior years may become more valuable with onset of any accounting method changes, and/or federal/state tax reform differences Review of BEPS/385 implications, if applicable Understand what planning steps have been taken to address BEPS and 385 concerns and how tax reform will impact those plans State tax impact may remain despite federal changes to interest deduction 36

37 Multistate tax considerations general corporate reform provisions Full expensing of business investment State Conformity Reasonable expectation that state conformity to federal tax reform will vary widely, potentially increasing federal and state tax differences Technology solutions may be necessary/recommended to more accurately and efficiently track variances State Credits and Incentives opportunities Elimination of deductions/credits and state interest expense State conformity The resolution of state tax audits resulting in payments, may yield a permanent tax rate benefit Negotiating a resolution can be a time consuming process The analysis and resolution of uncertain tax positions (e.g., proactive filing in states with economic nexus, VDAs, market sourcing, etc.) may yield a permanent tax rate benefit Reporting of federal RAR changes to states where a liability may result 37

38 Questions? 38

39 Speakers Joseph Hagedorn, Tax Law Editor, Business Entities and Tax Accounting, Bloomberg Tax Warren Joseph, Assistant Managing Editor, Federal Tax, Bloomberg Tax Bill Reilly, Partner, Tax Services, Grant Thornton LLP Dan Gross, Senior Manager, Tax Services, Grant Thornton LLP 39

40 Disclaimer This Grant Thornton LLP presentation is not a comprehensive analysis of the subject matters covered and may include proposed guidance that is subject to change before it is issued in final form. All relevant facts and circumstances, including the pertinent authoritative literature, need to be considered to arrive at conclusions that comply with matters addressed in this presentation. The views and interpretations expressed in the presentation are those of the presenters and the presentation is not intended to provide accounting or other advice or guidance with respect to the matters covered For additional information on matters covered in this presentation, contact your Grant Thornton LLP adviser 40

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