On Dec. 21, 2018, almost a year after the legislation commonly known as the Tax Cuts and Jobs Act (P.L. 115-97, hereinafter “TCJA” or “Tax Reform”) was passed into law, the Department of the Treasury and the Internal Revenue Service published in the Federal Register proposed regulations under Section 59A—the base erosion and anti-abuse tax, or the “BEAT.”
Last fall, as part of the “Fundamentals of Tax Reform” series, we provided an overview of the new BEAT rules and highlighted some of the questions practitioners were encountering. See INSIGHT: Fundamentals of Tax Reform: BEAT, Daily Tax Report (BNA), Kimberly Majure, John DerOhanesian, KPMG LLP (09/24/2018) (hereinafter, the “prior BEAT article”). With the issuance of the proposed BEAT regulations and the final IRS Form 8991 and related instructions, we have answers to some of these questions, at least on an interim basis until the BEAT regulations are finalized. Unfortunately, not all of the answers will be welcome to taxpayers and in some cases, the proposed BEAT regulations raise even more questions.
As with the other articles in this “Fundamentals of Tax Reform” series, this piece is not intended to provide an in-depth discussion of the proposed BEAT regulations, but rather a description of material highlights and, where relevant, insight into commons issues and questions as well as a few practical notes. For convenience, we will organize the discussion within the framework of the proposed BEAT regulations—applicable taxpayer issues; issues related to the identification and computation of base erosion payments and base erosion tax benefits; and BEAT liability calculation issues—then end with a brief discussion of BEAT reporting on the final IRS Form 8991. As this article continues the discussion begun in our previous segment, we refer to that first article for general definitions and key terminology.
1. Applicable Taxpayer Issues
The gating issue for BEAT liability is whether a taxpayer qualifies as an Applicable Taxpayer and, consequently, is at risk for BEAT liability. Corporations (not including a regulated investment company, a real estate investment trust, or an S corporation) must apply a two-factor test for determining whether Applicable Taxpayer status applies:
(i) Does the taxpayer have average gross receipts of at least $500 million during the prior three-year period (the “gross receipts test”)?
(ii) Does the taxpayer have a base erosion percentage (BE%) of at least 3% (2% for certain financial institutions) (the “BE% test”)?
These factors are applied aggregating all taxpayers within a single controlled group (the “Aggregate Group”). The proposed BEAT regulations offer guidance that clarifies a number of computational issues that arise in making this determination.
a. Determining the Aggregate Group and Testing Dates
The proposed BEAT regulations apply a snapshot test for determining group membership as of the last day of the taxpayer’s taxable year. Domestic corporations, as well as foreign corporations to the extent of income effectively connected with the conduct of a U.S. trade or business (ECI) or, if under the auspices of an applicable tax treaty, to the extent taken into account in determining net taxable income (attributable business profits), that are members of the group as of this date are taken into account for purposes of the Applicable Taxpayer tests.
If, as will often happen in foreign-parented groups, there are multiple U.S. taxpayers, the Aggregate Group may include domestic corporations with different taxable periods. In that case, the proposed regulations require each of those domestic corporations to determine its Aggregate Group and apply the gross receipts test and BE% test as of the end of its own taxable year to determine whether that domestic corporation is an Applicable Taxpayer—in other words, the Applicable Taxpayer test must be applied multiple times, using each taxpayer’s own taxable period as the reference point. Taxpayers are permitted to use a reasonable method for conforming data to the testing period. Note, however, that the proposed BEAT regulations contain a special transition rule that applies to the BE% test: A taxpayer is required to aggregate other members’ base erosion payments even if they arose in periods before BEAT applied to those members.
Let’s see how this plays out in an example. Foreign Parent (FP) wholly owns two U.S. corporations (“US1” and “US2,” respectively); each is a parent of a U.S. consolidated group. US1’s group has a tax year end of December 31 and US2’s group has a tax year end of June 30. US1 and US2 are members of an Aggregate Group and thus the US1 and US2 groups are required to aggregate their operations to calculate their gross receipts and BE%, in reference to their respective tax years.
For the 2018 calendar year, US1 identifies the members of the Aggregate Group as of Dec. 31, 2018. The US1 group applies the gross receipts test by including all of the US1 and US2 groups’ gross receipts for the periods ending Dec. 31, 2015, through Dec. 31, 2017. US1 group applies the BE% test by including all of the US1 and US2 groups’ base erosion payments and deductions for the period ending Dec. 31, 2018. Notably, this includes any base erosion payments arising in the US2 group, even though BEAT did not apply to the US2 group for the Jan. 1, 2018, through June 30, 2018, period. Separately, for the fiscal period ending June 30, 2019, the US2 group identifies members of the Aggregate Group as of June 30, 2019. US2 group computes gross receipts by including all of its and US1 group’s gross receipts for tax years ending June 30, 2016, through June 30, 2018. Base erosion payments and deductions are included in the BE% test to the extent treated as arising in the July 1, 2018, through June 30, 2019, period. Due to separate application of the tests to US1 and US2 groups, US1 and US2 may end up with significantly different results, including one qualifying as an Applicable Taxpayer and the other not having Applicable Taxpayer status—despite the fact that both are members of the same Aggregate Group.
Practical Notes: Because membership in an Aggregate Group is determined at the end of the taxable year, acquisitions and dispositions made during a taxable year can have a significant impact on the results determined under the gross receipts and the BE% test. For example, the sale of the stock of an Aggregate Group member could take place in the last month of the taxable year, but the reduction to the gross receipts of the Aggregate Group would be all gross receipts of the transferred Aggregate Group member for the prior three-year period. Alternatively, the stock of a new Aggregate Group member could be acquired in the last month of the taxable year, but the increase in gross receipts of the Aggregate Group would include all of the gross receipts of the new Aggregate Group member for the prior three-year period. Effectively, this means that groups engaging in significant acquisition or disposition activity will need to recalculate their Applicable Taxpayer data every year (instead of relying on prior years’ efforts), and acquisition due diligence will need to include more extensive target information on a go-forward basis.
In applying the gross receipts test and BE% test to an Aggregate Group, the proposed BEAT regulations generally disregard intra-group payments, to avoid double counting of gross receipts and deductions. Significantly, the proposed BEAT regulations take a different approach for identifying intra-group payments than the simple year-end test discussed above. That is, the proposed regulations disregard transactions that occur between members of the taxpayer’s Aggregate Group that were members of the Aggregate Group “as of the time of the transaction.” Thus, if royalties are paid to a group member on the 15th day of each month, and that entity exits the group on December 1, a calendar year taxpayer would disregard the January through November payments (i.e., from the numerator and denominator of the BE% fraction), but include the December payment in the denominator of the fraction. (The final payment would be made to a then-unrelated entity and therefore would be excluded from the numerator.)
As noted above, a foreign corporation is a member of the Aggregate Group to the extent of its ECI or attributable business profits. Consistent with this rule, the proposed regulations treat a payment to a foreign member of the Aggregate Group as disregarded only if, at the time of the transaction, it is taken into account in determining such foreign corporation’s ECI or attributable business profits. For example, UK Parent (UKP) owns the stock of a U.S. corporation (US Sub) and also conducts some of its commercial activities in the U.S. through a permanent establishment (PE). US Sub makes a payment of $100x to UKP for services performed in the U.S. and $200x for services performed outside of the U.S. Assume there is no risk that the payment for the foreign services is ECI or attributable to the PE. US Sub and UKP (but only to the extent of its taxable business profits, if any) are members of an Aggregate Group. As a result, if and to the extent that the $100x payment from US Sub is taken into account in determining business profits attributable to the U.S. PE, it should be eliminated from the current year BE% test (and, in future years, excluded as prior year gross receipts). In contrast, the $200x payment for the foreign services would generally be included in the BE% test, because UKP is not subject to U.S. federal income tax with respect to that payment. (The $200x payment would not be included in the gross receipts test, because the gross receipts test does not include income of a foreign corporation that is not ECI, or is not included in net taxable income of a foreign corporation that determines its net taxable income under an applicable tax treaty.)
b. Gross Receipts—Measurement Issues
Section 59A(e)(2)(B) contains a cross-reference to the rules of Section 448(c)(3) for purposes of determining gross receipts in certain circumstances when taxpayers do not easily fit into the prior-three-year gross receipts test. The proposed BEAT regulations expand on the reference as follows:
Annualization Rule. Taxpayers that have a taxable year of less than 12 months must annualize gross receipts for the short period by multiplying the gross receipts for the short period by 365 and dividing the result by the number of days in the short period. For example, a calendar year taxpayer that only came into existence on July 1 but has $50 million of gross receipts for the July 1 through December 31 short year, would be treated as having annualized gross receipts of $99.18 million for that year.
Short Life Rule. A taxpayer that has not been in existence for at least three taxable years must determine its average annual gross receipts for the period that it was existence, taking into account the annualization rule above. The effect of this rule is to preclude taxpayers from artificially reducing average gross receipts. For example, if a corporation was in existence for two years and earned $500 million each year, its average gross receipts would be $500 million per year ($1 billion / 2 years), as opposed to $333 million per year ($1 billion / 3 years).
Successor Rule. The rules for determining the gross receipts of a taxpayer include any predecessor to the taxpayer. A predecessor includes the distributor or transferor corporation in a transaction described in Section 381(a), in which the taxpayer is the acquiring corporation.
Although the proposed BEAT regulations do not provide any clear ordering guidelines to coordinate these three special rules, it seems reasonable to apply the successor rule first, then the annualization rule, and finally the short life rule. Assuming this ordering is correct, and subject to the provisions of the final BEAT regulations, the data for predecessor and successor corporations would be combined first, and the annualization rule would only apply to the extent there is any remaining short year during the testing period. If the taxpayer still has fewer than three prior taxable years in the testing period, the average annual gross receipts are calculated only with respect to those years in which the taxpayer was in existence.
Let’s illustrate this point with an example. Foreign Parent (FP) owns the stock of two U.S. corporations (“US1” and “US2,” respectively). US1 and US2 are both calendar year taxpayers. US1 was incorporated on July 1, 2015, and remained in existence through Dec. 31, 2017, at the time when US1 merged with and into US2. US2 was incorporated on July 1, 2016, and remains in existence. Assume FP did not have any operations that were subject to U.S. tax either as effectively connected income or under the terms of an applicable treaty. The revenues for US1 and US2 are summarized below.
To determine whether it is an Applicable Taxpayer for 2018, US2 must compute its average gross receipts for the 2015 through 2017 taxable years for purposes of the gross receipts test. US2 was not in existence during the entire three-year period and also acquired US1 in a transaction governed by Section 381(a); thus, the rules above should be applied in determining US2’s gross receipts.
If the successor rule is applied first, US1’s and US2’s gross revenues would be combined, resulting in $200 million for the 2015 taxable year, $450 million for the 2016 taxable year, and $600 million for the 2017 taxable year. Next, the gross receipts for the 2015 taxable year would be annualized and increased to approximately $397 million, because US1 and US2 together were only in existence for 184 days during the year. The average gross receipts over this period would be approximately $482 million ((397M + 450M + 600M) / 3).
Notably, a different result would arise if instead the annualization rule was applied before the other rules. Under this approach, in the first step, US1’s gross receipts for the 2015 taxable year would be annualized, resulting in approximately $397 million, and US2’s gross receipts for the 2016 taxable year would be annualized, resulting in approximately $300 million for the 2016 taxable year. Next, the successor rule would be applied to combine US1’s and US2’s gross revenues, resulting in $397 million for the 2015 taxable year, $600 million for the 2016 taxable year, and $600 million for the 2017 taxable year. The average gross receipts over this period would be approximately $532 million ((397M + 600M + 600M) / 3).
2. Base Erosion Payment and Base Erosion Tax Benefit Issues
The terms “base erosion payment” and base erosion tax benefit (BETB) are closely linked for purposes of the BEAT. Base erosion payments include deductible payments that are made to foreign related persons, and payments made in connection with the acquisition of depreciable or amortizable property from related foreign persons (as defined in the prior BEAT article). BETBs include deductions with respect to a base erosion payment and depreciation or amortization deductions with respect to property acquired with a base erosion payment. The proposed BEAT regulations provide operating rules for determining what constitutes a base erosion payment, including how items flowing through partnerships should be taken into account. In addition, the proposed regulations clarify and expand the exceptions to base erosion payments.
Non-Cash Consideration. In the early going after enactment of Section 59A, BEAT management included an analysis as to what constituted a “payment” (including, in particular, transfers or remittances between a disregarded entity and its owner), or on-shoring assets that had historically given rise to cross-border deductible payments (e.g., foreign-owned IP). One of the biggest surprises of the proposed BEAT regulations was the introduction of rules that expand taxpayers’ understanding of “payment,” potentially turning the tables on these anticipated planning tools.
Proposed Treasury Regulations Section 1.59A-3(b)(3) provides “an amount paid or accrued includes an amount paid or accrued using any form of consideration, including cash, property, stock, or the assumption of a liability,” which, in itself is not terribly surprising. More surprising is the application suggested in the preamble to the proposed regulations, which lists several examples of base erosion payments, notably including transactions that otherwise qualify for non-recognition treatment: a domestic corporation’s acquisition of depreciable assets from a foreign related party in a Section 351 exchange, a Section 332 liquidation, and a reorganization described in Section 368. Helpfully, the preamble also explains that, because a distribution of assets by a foreign corporation under Section 301 does not include a transfer of consideration by the distributee shareholder, there is no amount paid or accrued that would give rise to a BEAT liability for the shareholder.
Compare, as a practical matter, the following scenarios:
Based on the preamble (although not the language of the proposed regulations), the inbound distribution of IP illustrated in Scenario 1 is not a base erosion payment, and therefore USP’s (i.e., the U.S. shareholder’s) subsequent amortization is not a BETB, despite the fact that the distribution is taxable to CFC1 and USP and results in a basis step-up for the IP (and a correlatively higher amount of amortization). In contrast, if USP received the same IP in a non-taxable inbound liquidation of CFC1, according to the preamble to the proposed regulations, the liquidation results in a base erosion payment. Thus, USP’s amortization of the (non-stepped up) basis in the IP would be a BETB. This result does not make much sense, especially considering that both the “payment” by USP to CFC1 (i.e., the stock of CFC1) and the recipient of the “payment” cease to exist as a result of the transaction. In Scenario 3 above, FP contributes the IP to US1 in a Section 351 exchange. Here, again, the preamble to the proposed regulations suggests that this transaction is a base erosion payment, and US1’s amortization of the (non-stepped up) basis in the IP would be a BETB. This appears to be true irrespective of whether US1 actually issues any stock in the transaction. The policy behind these results is not entirely clear.
U.S.Branch Operations. The proposed BEAT regulations also clarify what payments by a foreign corporation can be base erosion payments for a U.S. branch or PE. Specifically, a base erosion payment includes a payment made by a foreign corporation that is deductible against the foreign corporation’s ECI or is a payment in connection with the acquisition of depreciable or amortizable property that is held in the conduct of a U.S. trade or business. For foreign corporations eligible for the benefits of an applicable double tax treaty, a base erosion payment also includes deductions taken into account in computing business profits attributable to a permanent establishment.
Consistent with the general approach to determining the ECI of a foreign corporation, the proposed BEAT regulations do not generally recognize transfers and remittances between a U.S. branch and its foreign home office as payments, and therefore those transactions are not base erosion payments. However, if a foreign person applies a treaty that determines the foreign person’s net taxable income based on an arm’s length allocation of profits based on assets used, risks assumed, and functions performed in the U.S. (generally known as treaties that apply the Authorized OECD Approach, or “AOA treaties”), a different rule applies: Any deduction attributable to an amount paid or accrued (or treated as such) by the PE to its foreign home office or a foreign branch owned by the same foreign home office (an “internal dealing”) is potentially subject to the BEAT. Under this rule, the proposed BEAT regulations treat otherwise disregarded, deductible transfers between a U.S. branch to its foreign home office, or to foreign branches owned by the same home office, as regarded for BEAT purposes.
Practical Notes: As a result of the internal dealings rule, the proposed BEAT regulations treat U.S. branches of certain foreign home offices (i.e., home offices eligible for the benefits of an applicable AOA treaty) very differently than U.S. branches or U.S. disregarded entities of non-AOA treaty benefited foreign home offices. Currently, there are fewer than 10 countries that have treaties in force with the U.S. that adopt an approach of allocating profits based on assets, risks, and functions, including Belgium, Canada, Germany, and the U.K. If finalized as proposed, the internal dealings rule could be a significant trap for the unwary.
Netting of Payments. The proposed regulations generally require a taxpayer to determine the amount of its base erosion payments on a gross basis. The preamble notes, however, that where generally applicable U.S. tax law would allow the computation of deductions on a net basis, the proposed BEAT regulations do not change that result. As mentioned in our prior BEAT article, the cost sharing regulations in Treas. Reg. Section 1.482-7 allow participants in a qualified cost sharing arrangement to net qualifying buy-in and cost sharing payments (i.e., paid and received), for purposes of determining the appropriate amount of a U.S. participant’s deductions. Therefore, under the proposed BEAT regulations, the amount of the base erosion payment also would be determined on a net basis. The preamble further notes that the application of existing general tax principles (e.g., principal-agent, reimbursement doctrine, conduit theory, assignment of income, or other principles of generally applicable tax law) may affect the amount or general deductibility of a payment or series of payments, and therefore may impact the existence or amount of a base erosion payment.
Clarification of the Scope of the SCM Exception. Under the services cost method (SCM) exception, certain payments that are otherwise eligible for the services cost method in Treas. Reg. Section 1.482-9 (without regard to the business judgment rule) are excluded from the definition of base erosion payments. As noted in the prior BEAT article, there was some question as to whether the SCM exception applies when a mark-up is paid with respect to a payment that would otherwise meet the requirements for the exception. This arises because the statutory language for the SCM exception requires that “such amount [must constitute] the total services cost with no markup component.” The proposed BEAT regulations confirm the availability of the exception for the cost component of an otherwise qualifying payment, even if the payment includes a mark-up (but note that the mark-up remains separately BEAT-able).
Practical Notes: A taxpayer relying on the SCM exception is generally subject to certain documentation requirements. In particular, Prop. Treas. Reg. Section 1.59A-3(b)(3)(i)(C) requires the taxpayer to maintain books and records that are adequate to permit the IRS to verify the amount charged for the services and the total services costs incurred by the service provider. This includes a description of the services in question, identification of the service provider and the service recipient, calculation of the amount of profit mark-up (if any) paid for the services, and sufficient documentation to allow verification of the methods used to allocate and apportion the costs to the services in question. Notably, these documentation requirements as applicable to the BEAT are slightly different than those applicable in the general transfer pricing context found in Treas. Reg. Section 1.482-9(b)(6). The necessary tracking exercise entailed by these rules is proving to be more difficult than taxpayers initially anticipated. For instance, SCM-eligible services may historically have been combined with non-SCM-eligible services and require disaggregation of the single combined payment, and proper reflection in the taxpayer’s intercompany general ledger accounts. This can be a real challenge, particularly as cost-related information is generally maintained in the foreign affiliate’s systems. Costs attributed to both SCM-eligible and non-SCM-eligible services would need to be allocated and separately documented. In addition, if a (BEAT-able) mark-up is charged, the amount of the mark-up on the qualifying services would need to be documented.
QDP Exception. The qualified derivative payment (QDP) exception applies to certain payments made by the taxpayer to a foreign related party in connection with certain derivatives if the taxpayer recognizes gain or loss on the derivative on a mark-to-market basis, the gain or loss is ordinary, and any gain, loss, income or deduction on a payment made pursuant to the derivative is also treated as ordinary. The proposed BEAT regulations clarify the scope of qualifying derivatives by excluding sale-repurchase agreements and securities lending transactions.
In addition, the proposed BEAT regulations provide guidance on the QDP reporting requirements established in Section 59A(h)(2)(B), satisfaction of which is a necessary component of qualifying for the exception. Specifically, taxpayers had worried that missed or mistaken reporting with respect to one derivative would have a cliff effect, causing all of the taxpayer’s derivatives to fail and consequently be disqualified from the QDP exception. Helpfully, the proposed BEAT regulations indicate that the misreporting of one derivative payment would only trigger the loss of the QDP exception in that specific instance.
New Exceptions from Base Erosion Payments. In addition to clarifying the contours of the SCM exception and the QDP exception, the proposed BEAT regulations also adopt three new exceptions to the definition of base erosion payment. These exceptions generally include:
(i) An exception for payments that are included in a related foreign person’s income as ECI;
(ii) An exception for payments made by certain global systemically important banking (GSIB) organizations that are made with respect to certain total loss absorbing capacity securities that the GSIB is required to hold under U.S. law to minimize the risk of insolvency; and
(iii) An exception for foreign currency losses occurring under Section 988 (which are also excluded from the denominator of the BE% calculation).
The proposed BEAT regulations also contain several provisions that effectively grandfather certain pre-Tax Reform items from the BEAT rules. Notably, the proposed BEAT regulations make clear that certain deductible payments made in pre-tax reform years for which the deduction was deferred until a post-tax reform year are not base erosion payments. Consistent with this general approach, and contrary to the government’s position set forth in IRS Notice 2018-28, the proposed BEAT regulations exclude interest disallowed under old Section 163(j) that is carried over from a pre-tax reform year (i.e., prior to Jan. 1, 2018) to a post-tax reform year (i.e., after Jan. 1, 2018). Finally, NOLs from pre-Reform vintage years have a BE% of zero, effectively excepting them from being added back in the modified taxable income calculation.
Treatment of Partnerships and Partnership Items. In our prior BEAT article, we raised the age-old question of whether a partnership should be viewed as a separate entity or an aggregate of its partners for purposes of applying the BEAT. The proposed BEAT regulations adopt an aggregate approach to partnerships for purposes of the BEAT. Consequently, payments made to a partnership are treated as made to its partners, and payments made by a partnership are treated as made by its partners.
For example, as illustrated in the diagram below, assume Foreign Parent (FP) owns the stock of two U.S. corporations (“US1” and “US2”) and a foreign corporation (FS). US1, US2, and FS together own all of the interests in a domestic partnership (PRS)—20%, 50%, and 30%, respectively. US1 makes a $100x interest payment to PRS on which no U.S. withholding tax is imposed.
Under the proposed BEAT regulations, PRS should be treated as an aggregate of its partners for purposes of applying the BEAT. Accordingly, US1 is treated as having made a $50x interest payment to US2, as well as a $30x interest payment to FS. While the payment from US1 to US2 is a purely domestic payment and therefore not a base erosion payment, the payment from US1 to FS is potentially a base erosion payment. Nevertheless, if PRS is engaged in a U.S. trade or business and the interest is ECI for FS, it may qualify for the new ECI exception provided that US1 obtains the proper documentation (i.e., Form W-8ECI) and files an IRS Form 1042-S reflecting ECI treatment.
3. BEAT Calculation Issues
Very generally, a taxpayer’s ultimate BEAT liability is the excess of:
(i) U.S. taxable income increased by the sum of the taxpayer’s BETBs plus the BE% of NOLs (NOL BE%) utilized during the taxable year (“modified taxable income” or “MTI”), less
(ii) The taxpayer’s regular U.S. tax liability, less certain tax credits.
The proposed BEAT regulations provide guidance on several aspects of this calculation.
Addback Approach to Calculating MTI. Section 59A defines MTI as the taxable income of the taxpayer “without regard to” BETBs or the NOL BE% allowed for the year. This language does not clearly indicate whether taxpayers simply add their BETBs and NOL BE% back to taxable income (under an “addback approach”) or, alternatively, are required to recalculate taxable income entirely as though the BETBs and the BE% of their NOL deduction did not exist (taking a “recomputation approach”). Some taxpayers had feared that a recomputation approach would have required separate BEAT-specific attributes (e.g., Section 163(j) and NOLs) to be determined and tracked, creating significant additional complexity. For example, the starting point for the interest expense limitation under Section 163(j) is the taxpayer’s taxable income. If a separate Section 163(j) calculation were required for BEAT purposes under a recomputation approach, the taxpayer would need to recompute its taxable income by adding back its BETBs for purposes of determining its interest expense limitation. Net operating losses likewise would need to be adjusted to reflect the amount eligible to be deducted against the different taxable income base (computed without BETBs). Notably, some taxpayers preferred a recomputation approach, as they believe it would have given them better results. The proposed BEAT regulations, however, make clear that taxpayers are to use the addback approach.
Applicable Rate for Fiscal Year Taxpayers. Another critical component of the BEAT liability calculation is the applicable BEAT rate. Section 59A indicates that the applicable rate starts at 5% for 2018; jumps from 5 to 10% from 2019 through 2025; and makes a second jump to 12.5% from 2026 onward. The application of this rule, however, is somewhat complicated by the proposed regulations, which state that Section 15 applies to any taxable year beginning after Jan. 1, 2018. Notably, Section 15(c) by its terms applies when specific statutory language is used, e.g., “for taxable years beginning after” a specified date. Section 59A does not include such language with respect to the jump from the 5% to 10% rate, but instead provides generally for a rate of “5 percent in the case of taxable years beginning in calendar year 2018.” Consequently, the proposed regulations—which simply require the application of Section 15(c)—do not clearly require 5% and 10% rate blending for fiscal year taxpayers. Nevertheless, the final Form 8991 instructions explicitly provide that “for tax years that begin in 2018 and end in 2019, the applicable rate is a blended rate (as described in Section 15) based on the number of days in the tax year before January 1 and the number of days in the tax year on or after January 1.”
4. Reporting Obligations
In addition to releasing proposed BEAT regulations in mid-December, Treasury also released a final version of Form 8991 (Tax on Base Erosion Payments of Taxpayers with Substantial Gross Receipts). The final form remains largely unchanged from the draft version and if there is one overarching takeaway, it is that the IRS and Treasury expect taxpayers to “show their math.” The form is divided into four parts, with each part corresponding to a different part of the BEAT calculation.
In Part I, filers must demonstrate how they came to the conclusion that they are (or, in many cases, are not) an Applicable Taxpayer for purposes of the BEAT. Indeed, one of the more surprising aspects of the final form is the breadth of the requirement. In general, any U.S. corporation (apart from a regulated investment company, a real estate investment trust, or an S corporation) that has gross receipts of at least $500 million in at least one of the three preceding tax years, must file a Form 8991, at the very least completing the first portion of Part I to demonstrate how the Applicable Taxpayer tests apply to the filer. Practically speaking, this means there will be taxpayers that could have zero BEAT liability—even zero risk of having BEAT liability because they are not Applicable Taxpayers—that nevertheless have a Form 8991 filing requirement. In addition, a taxpayer must complete Schedule A (providing details about its base erosion payments and BETBs) even if it is not an Applicable Taxpayer.
Only those filers that qualify as Applicable Taxpayers will be required to complete Parts II through IV (and the corresponding Schedules A and B), generally showing their calculations with respect to MTI, adjustments to their regular tax liability for BEAT purposes, and finally, the computation of their BEMTA (if any). This amount flows directly onto the taxpayer’s applicable Form 1120, with the precise schedule and line number dependent upon the type of filer.
Treasury and the IRS also revised Form 5472 in order to accommodate the new BEAT reporting provisions. Specifically, new Part VIII was added to the form, and requires taxpayers to report their base erosion payments, BETBs, and any qualified derivative payments for purposes of the BEAT. Taxpayers should also note that Congress increased the penalties related to Form 5472 from $10,000 per form to $25,000. A new Schedule G was added to Form 5471, and it too includes similar questions regarding the BEAT.
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Overall, the proposed BEAT regulations help clarify a number of issues facing taxpayers, but at the same time raise several more. The Treasury and IRS have requested comments on more than 15 issues posed in the proposed BEAT regulations, and it seems likely that final regulations will contain at least a few significant changes from the proposed BEAT regulations. Particularly if BEAT regulations as finalized are retroactively applicable to the 2018 taxable year, taxpayers and their advisors will be under the gun to digest the final rules, apply these changes to the taxpayer’s facts, and report the consequences of these changes before their return filing deadline. Together with the other, evolving tax reform rules, the next year or two should be … interesting.
This column does not necessarily reflect the opinion of The Bureau of National Affairs, Inc. or its owners.
Kimberly Majure is a principal with the international tax group of the Washington National Tax practice of KPMG LLP and also serves as the inbound tax services lead for KPMG U.S.; she is based in the firm’s Washington, D.C. office.
John DerOhanesian is a senior manager in KPMG LLP’s International Corporate Services Group in San Diego, California.
Brett Bloom is a manager in the Washington National Tax practice of KPMG LPP.
The authors would like to thank Michael H. Plowgian, KPMG LLP, for his insight and suggestions.
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