Biden’s government has proposed significantly increasing the tax burden on foreign income through a policy called Global Intangible Low-Tax Income (GILTI). While government rhetoric aims to double the tax rate on GILTI from 10.5 percent to 21 percent, that’s less than half the story.
The rate on GILTI is increasing, but at a higher rate than suggested by the Biden administration. In addition, the tax base is broadened. Together, the higher rate and broader base mean companies will have to accept a tax hike on their overseas profits, resulting in additional federal tax revenues of 532 billion.It is likely that companies will burden GILTI with an overall tax burden similar to that of Biden exceeds proposed corporate tax rate of 28 percent.
GILTI was designed to act as a backstop to the corporate tax system by making some foreign profits of US companies subject to minimum taxation. GILTI is defined under applicable law as net foreign income after deducting 10 percent of the value of foreign property, plant and equipment. Half of GILTI is taxed at the US corporate rate of 21 percent, which means that the base tax rate on GILTI is 10.5 percent.
If a company pays foreign taxes, it can claim 80 percent of the value of these taxes as offsetting against GILTI liability. Taking this foreign tax credit policy into account, the GILTI tax rate increases to 13.125 percent.
Businesses can expect an even higher tax rate on GILTI for a variety of reasons, and a recent report by the Joint Tax Committee shows that the average total tax rate on GILTI in 2018 was 16 percent for 81 businesses.
The government of Biden is proposing several changes that will affect the rate and base of GILTI.
The proposed corporate income tax rate of 28 percent has a direct effect on the GILTI rate. If the corporate tax rate increases, the tax rate automatically increases to GILTI.
In addition, they suggest increasing the taxable GILTI amount. Instead of taxing only half of GILTI, 75 percent would bear additional US tax liabilities. This would increase the property tax rate for GILTI to 21 percent, which the Biden government is focusing on.
However, the government has not proposed any changes to the 80 percent limit on foreign tax credits. The tax rate on GILTI would start at 26.25 percent for companies that already pay foreign taxes.
According to Biden’s proposals, the current legal range of GILTI rates would double from 10.5 to 13.125 percent to a range of 21 to 26.25 percent.
Then the tax base changes would come.
The 10 percent deduction for foreign property, plant and equipment would be removed, increasing the tax liability of US companies with overseas factories and other infrastructure serving overseas markets.
The calculation for GILTI would also be changed from net international income to net income calculated on a country basis. This creates a problem as GILTI does not allow for loss carryforwards or tax credit carryforwards under applicable law and the Biden government is not proposing to change this. Without these guidelines, the switch to country-specific calculations means that GILTI ignores time differences between start and win phases and artificially inflates GILTI’s liability over time.
They also propose expanding the tax base to include foreign income from oil and gas exploration.
Additionally, the von Biden government has proposed not to allow some deductions for expenses related to GILTI under Section 265 of the Tax Code. Applicable law restricts businesses to deducting expenses for tax-exempt income. This is most relevant for tax-exempt bonds. If the proceeds of a bond are not taxable, the interest expense on the bond should not be deductible.
The government of Biden intends to treat 25 percent of GILTI as tax-exempt and prohibit deductions in accordance with this assumed exemption. Interest deductions are already limited by another directive in applicable law, so the government’s proposal to further limit deductions is just another tax hike by further limiting deductions.
Current law also provides for an exclusion from GILTI for income that is subject to high foreign tax. If a company’s foreign income is already taxed at 90 percent of the US tax rate (currently 18.9 percent), this income can be excluded from the GILTI calculation. This policy should limit the unintended effects of GILTI on income already exposed to high taxes elsewhere.
However, the Biden government would remove this exclusion from high taxes and expand the scope of GILTI.
When you put all of these guidelines together, change tax rate increases, and tax base, it is not difficult to achieve an effective tax rate for GILTI that would exceed Biden’s proposed statutory corporate tax rate of 28 percent. It would also far exceed the global minimum tax of 15 percent that the government is negotiating with about 139 other countries.
There are four key factors that contribute to this outcome because they lead to double taxation of foreign income. The first three are issues under applicable law that would be exacerbated under the Biden approach. These are the 80 percent foreign tax credit limit, the requirement to apportion some domestic expenses to foreign income, and the absence of loss carryforwards or excess foreign tax credits. If GILTI were to work as intended (as a minimum tax on foreign income), each of these issues would need to be addressed.
However, instead of proposing to address these issues, the administration is proposing a fourth complication that leads to double taxation by denying additional deductions related to GILTI.
Although GILTI was adopted as the backstop for the new international tax system introduced in 2017, the Biden government’s proposals would make politics an extremely heavy burden for cross-border investment. This would put US companies at a relatively disadvantage when competing against foreign companies in foreign markets.
Companies that currently owe GILTI additional US tax liabilities would increase their tax costs and companies that are currently outside of GILTI’s purview would be included.
Rather than complicating and overlaying new tax burdens through GILTI, policymakers should focus on streamlining US international tax regulations and ensuring that GILTI does not penalize US companies in overseas markets.
Launch of the US Resource Center for International Tax Reform