Tax Reform 101 for the Non-Tax Lawyer

Transcription

1 Tax Reform 101 for the Non-Tax Lawyer February 27, 2018 New York, NY Thomas R. May, Partner, Baker McKenzie Reza Nader, Partner, Baker McKenzie Jim Woehlke, COO and General Counsel, MBL Benefits Consulting Corp.

2 Agenda Registration and Breakfast 8:30 9:00 AM Significant Changes in Law Brought about by Tax Reform and likely Organizational Impact 9:00 10:15 AM What May Be Next for Tax Reform? 10:15 10:25 AM Q&A 10:25 10:30 AM Networking Coffee Hour 10:30 11:30 AM

3 1 Significant Changes in Law Brought about by Tax Reform and likely Organizational Impact

4 In General U.S. Corporate Tax Rate Reduced to 21% Per the Tax Foundation, the new tax law will: Significantly lower tax rates, leading to 1.7% increase in GDP 1.5% higher wages 339,000 new FTE jobs 4

5 Individual Income Tax Changes U.S. Corporate Tax Rate Reduced to 21% Touted as a tax cut for the rich, the reality is that tax rates are reduced for all taxpayers. Per the Washington Post, "the vast majority of taxpayers will see their taxes drop until 2026 and the percentage of Americans who will owe no tax will grow from 44% today to 47.5% 5

6 Standard Deduction and Exemptions U.S. Corporate Tax Rate Reduced to 21% Increases the inflation-adjusted standard deduction in 2018 to: $12,000 for single filers from $6,500, $18,000 for heads of household from $9,550, and $24,000 for joint filers in 2018 from $13,000. But, eliminates the personal exemption, while expanding the child tax credit 6

7 Changes Itemized Deductions Changes to Deductions U.S. Corporate Tax Rate Reduced to 21% Limits the mortgage interest deduction to the first $750,000 in principal value. Limits the state and local tax deduction to a combined $10,000 for income, sales, and property taxes. (Taxes paid or accrued in carrying on a trade or business are not limited.) But retains the charitable deduction 7

8 Child Care Credits U.S. Corporate Tax Rate Reduced to 21% Expands the child tax credit from $1,000 to $2,000 Increases the phase-out from $110,000 in current law to $400,000 married couples. The first $1,400 would be refundable. 8

9 Alternative Minimum Tax on Individuals U.S. Corporate Tax Rate Reduced to 21% Alternative Minimum Tax Changes: Raises the exemption on the alternative minimum tax from $86,200 to $109,400 for married filers Increases the phase-out threshold to $1 million 9

10 Changes to Obamacare U.S. Corporate Tax Rate Reduced to 21% Effectively repealed Obamacare's individual mandate by reducing the penalty to $0 beginning in Employer penalties remain...for now. 1

11 Individual Income Tax Changes U.S. Corporate Tax Rate Reduced to 21% Most individual changes phase out on December 31, 2025 The new method of indexing chained CPI and individual mandate repeal will be permanent 1

12 Retained Provisions U.S. Corporate Tax Rate Reduced to 21% Preserved in the Tax Code: Student Loan Interest Deduction Medical Expense Itemized Deduction Charitable Contribution Itemized Deduction Graduate student tax break 1

13 Carried Interest Holding Period Three-year holding period requirement for recognizing long-term capital gain with respect to a partnership interest received in connection with the performance of substantial services by the holder or a related person Limited impact on hedge funds and private equity funds Hedge funds usually do not hold investments for longer than one year Private equity funds often hold investments for 3 years (there are exceptions) Asset-by-asset holding period 13

14 Increased Estate & Gift Tax Exclusion Increased estate, gift and GST tax exclusion to (expected) $11.2 million for decedents in 2018 and $22.4 million for married couples The increased exemption sunsets December 31, 2025 and pre-2018 levels apply with inflation adjustments Annual exclusion inflation adjusted to $15,000; $152,000 for non-citizen spouse 1014 basis step-up retained Valuation discount techniques should continue to apply No change for nonresident, non-us citizens, who are subject to US estate tax on real and tangible personal property located in the United States as well as on shares of US securities, to the extent such property exceeds $60,000 14

15 Other Notable Changes Self-created IP not treated as a capital asset Impact of suspension of miscellaneous itemized deductions Increase charitable contribution deduction limitation from 50% to 60% of AGI Deduction for interest on home equity indebtedness suspended (grandfather protections apply) Deduction for mortgage interest deduction limited to debt of up to $750,000 (grandfather protections apply) Suspension of payor s alimony deduction / payee s inclusion for divorce or separation agreements executed after December 31,

16 U.S. Corporate Tax Rate Reduced to 21% U.S. Corporate Tax Rate Reduced to 21% The U.S. corporate tax rate has been reduced from 35% to a flat 21% tax rate for tax years beginning after December 31, An additional deduction of 37.5% from taxable income may be available for foreign derived intangible income ( FDII ) resulting in an effective tax rate of approximately %. Effective U.S. tax rate on U.S. corporations projected to drop from average of 27% to 21.1% and earnings per share to increase by approximately 7.6% (source: Morgan Stanley) Companies may explore pros and cons of internal restructuring to relocate assets, activities and entities to the United States. 1

17 What Would That Look Like? US INC APAC CHINA NL CV NL BV CAN INC EMEA FR UK GER 1

18 One Time Tax ("Transition Tax") on Offshore Earnings of Subsidiaries of U.S. Parent The Tax Act will impose a Transition Tax on the offshore earnings of subsidiaries of a U.S. parent. The earnings will be taxed at reduced rates of 15.5% on earnings attributable to cash and 8% on non-cash earnings. The definition of "cash" as attributable to the Transition Tax includes cash equivalents and could be read quite broadly. Efforts to reduce cash to reduce Transition Tax rate may be subject to anti-abuse rules to be promulgated Earnings (and thus cash) already taxed under the Transition Tax can be repatriated to the U.S. free of federal income tax; however, distributions could still be subject to state and non-u.s. taxes. 18

19 Future Distributions of Foreign Source Earnings: 100% Dividends Received Deduction The U.S. will no longer impose tax on foreign sourced earnings distributed to U.S. parent via a dividends received deduction. Credits (and deductions) for foreign taxes paid (e.g., withholding taxes) with respect to the earnings distributed are disallowed. Distributions could still be subject to state and non-u.s. taxes. Should eliminate the disincentive to repatriate earnings (and cash) to the U.S. parent company and encourage distributions from foreign subsidiaries. Incentive to reduce or eliminate foreign taxes remains. 1

20 What Will Companies Do With Freed Up Earnings? Capex investment Employee compensation Share buybacks Dividends M&A Debt paydown Competitive erosion 2

21 Disallowance of Deductions for Net Interest Expense to 30% of Adjusted Taxable Income Deduction for business interest expense by U.S. issuers in a particular tax year is limited to the sum of (i) business interest income plus (ii) 30 percent of adjusted taxable income, which generally corresponds to earnings before interest, taxes, depreciation and amortization (EBITDA) for tax years beginning before January 1, 2022, and earnings before interest and taxes (EBIT) thereafter. Disallowance of interest expense used to apply only to interest paid on debt extended or guaranteed by related parties limitation now applies to ALL interest expense New and pre-existing debt is subject to limitation (i.e., there is no grandfathering) 2

22 Impact of Interest Expense Limitation Interest rates are sufficiently low that, as a practical matter, the limitation may not apply immediately and equity remains relatively highpriced. The incentive to lodge interest-bearing debt in the U.S. is reduced because of the reduction of the U.S. corporate tax rate from 35% to 21%. It may make more sense to lodge interest-bearing debt into a highertax jurisdiction. 22

23 Impact of Interest Expense Limitation US INC Credit BANK APAC CHINA NL CV NL BV CAN INC EMEA FR UK GER 23

24 Capital Investment Expense Deduction 100% of the cost of property acquired after September 27, 2017 and placed in service before or on December 31, Beginning in 2023, generally reduced by 20% per year. Available for both new and used property. Additional incentive for section 338 elections. Does not change the treatment of intangible property. 24

25 Changes to Net Operating Loss ("NOL") Utilization Amended section 172(a) restricts the deduction for net operating loss carryovers for any taxable year to the lesser of: 1) the aggregate of such carryovers to such year; or 2) 80 percent of taxable income of the taxpayer computed for such year. Amends section 172(c) to eliminate the carryback of net operating losses and extend the carryforward of net operating losses from 20 years to indefinitely. Impact on valuation of tax assets for financial statement purposes and in M&A deals (e.g., indemnification provisions). 25

26 Global Intangible Low-Taxed Income ("GILTI") Provisions Statute is designed to ensure that income of non-u.s. subsidiaries (which could have been deferred under prior law) is taxed at a combined U.S. and foreign rate in the range of 10.5% to 15%. Credits for foreign income taxes paid with respect to GILTI inclusions is permitted but subject to a 20% disallowance of foreign taxes paid. Effectively repeals deferral except with respect to fixed returns on depreciable assets. Between the lower U.S. corporate tax rate and GILTI rules, companies may want to rethink current structures that are designed to address the "subpart F" rules of the Code, pre-tax Act. 26

27 Foreign Derived Intangible Income ( FDII ) The Act provides a deduction for 37.5% of FDII for tax years prior to 2026 (13.125% effective U.S. tax rate) and % of FDII for tax years starting with 2026 (16.406% effective U.S. tax rate). FDII is income from property which is sold by the taxpayer to any person who is not a United States person and which is for foreign use. FDII is income from services provided by the taxpayer which are provided to any person, or with respect to property, not located within the United States. Does it pass muster under the WTO? 27

28 Base Erosion Anti-Abuse Tax ("BEAT") The BEAT will impose a minimum tax on U.S. companies of 10% (5% in the case of taxable years beginning in calendar year 2018) of modified taxable income. Deductible (or depreciable/amortizable) payments to related parties are added back to modified taxable income (costs of goods sold are not but costs of services sold not clear). Applies to corporate taxpayers with average annual gross receipts of at least $500 million for the 3 tax year period ending with the preceding year and meeting a base erosion percentage threshold. The BEAT is more likely to apply to inbound companies but payments to non- U.S. subsidiaries of U.S. multinationals can also be subjected to the BEAT. 28

29 2 What May Be Next for Tax Reform?

30 CONTACT US: James A. Woehlke COO and General Counsel, MBL Benefits Consulting Corp. +1 (212) Thomas R. May Partner, Baker McKenzie +1 (212) Paul DePasquale Partner, Baker McKenzie +1 (212) Reza Nader Partner, Baker McKenzie +1 (212) Glenn Fox Partner, Baker McKenzie +1 (212)

31 Baker & McKenzie LLP is a member firm of Baker & McKenzie International, a Swiss Verein with member law firms around the world. In accordance with the common terminology used in professional service organizations, reference to a "partner" means a person who is a partner, or equivalent, in such a law firm. Similarly, reference to an "office" means an office of any such law firm. This may qualify as Attorney Advertising requiring notice in some jurisdictions. Prior results do not guarantee a similar outcome Baker & McKenzie LLP