President Joe Biden’s plan to tax the profits companies report to investors is likely to skew financial reporting incentives, provide less transparency to shareholders, and raise difficult implementation issues.
Biden’s infrastructure proposal would impose a minimum tax of 15% on profit companies that publicly report their annual accounts, known as “book income.” The aim of the proposal – which is similar to the legislation previously endorsed by Senator Elizabeth Warren (D-Mass.) – is to tax companies like Amazon.com Inc. that report high profits to investors but pay little to no federal income tax .
However, tax and accounting professionals indicated that corporate taxable income is often based on credits and deductions allowed by tax laws, such as tax credits and deductions. B. Depreciation on net operating losses, is much lower than your book income. And if the problem is tax legislation, that is where the administration should focus their attention, they said.
“If Congress feels that the tax code is not being followed, they should set the tax code instead of taxing something else that violates the other thing,” said Jeff Hoopes, associate professor and accountant at Kenan Flagler University of North Carolina Business school.
He and others said that taxing the income companies that report their annual accounts will likely encourage those companies to cut their profits, resulting in less useful information for investors. It could also encourage companies to seek changes in accounting standards to narrow the gap between book and taxable income.
These potential consequences, and the challenges of implementing this type of tax, are issues that the Biden government must grapple with as it moves forward with its proposal. Congressional implementation of the plan will be complicated. House spokeswoman Nancy Pelosi, D-Calif., Hopes the House can pass the package through July 4th.
Jeff Bezos, CEO of Amazon, said in a statement the company supports Biden’s focus on investing in infrastructure and increasing the corporate tax rate to pay for it.
Everything in detail
The Biden government announced new details on the tax in a report released on Wednesday. The tax would apply to companies with net book income of $ 2 billion or more, the equivalent of 180 companies, according to the report. Biden campaigned for a much smaller $ 100 million threshold that would have made more companies taxable.
About 45 of the companies that reached this higher threshold would have owed the minimum tax under the Biden proposal in recent years, with an average increased liability of about $ 300 million per year, according to the administration. Those estimates assume that other parts of the plan, particularly international tax rules designed to discourage companies from moving profits offshore, will come into effect, a tax official said on a call with reporters on Wednesday.
To assess their liability, companies would charge 15% tax on their book profit and regular tax liability. You would compare the two numbers and pay the difference to the IRS if book income tax is higher. Businesses would receive a tax credit for taxes paid in previous years above the minimum book tax threshold for general corporate tax credits – including research and development, clean energy and residential property tax credits – and for overseas tax credits, the administration said.
Allowing certain loans to reduce the bite of the minimum tax, said Erica York, an economist with the Tax Foundation’s Center for Federal Tax Policy.
However, there are still intricate details that the administration needs to figure out. For example, the tax code allows accelerated depreciation, which allows businesses to write off a larger portion of the cost of an asset in the first few years that it is used. When calculating book income, these expenses are typically evenly distributed over the life of the asset. The proposal did not specify how the new tax will account for these types of timing differences, York said.
“The minimum tax on book income sounds very appealing, but it is quite difficult to implement,” said Victor Fleischer, professor at the University of California’s Irvine School of Law. Fleischer was the Democratic Tax Advisor to the Senate Finance Committee from 2016 to 2017.
Because it’s so challenging, it might be harder to move forward than some of the other changes proposed in the Biden infrastructure plan, Fleischer said. “I’m not going to say it’s impossible, but it would be a tough road,” he said.
Manage result down
The Biden government wouldn’t be the first to try to levy companies that take advantage of tax breaks to reduce or eliminate their federal tax burdens entirely.
The alternative corporate minimum tax, which was finally repealed under the Republican-led 2017 Tax Act, was an attempt to address this issue. Under such a tax, companies calculate their taxable income twice – once to determine their normal liability applying all allowable credits and deductions, and a second time under AMT rules which prohibit certain tax breaks. Companies then pay the higher tax in each case.
A corporate minimum tax was first included in the Tax Code in 1969. It was revised as part of the Tax Reform Act of 1986 and referred to as the alternative minimum tax. The 1986 Act also added a book income adjustment to the AMT from 1987 to 1989. According to this rule, 50% of the difference to the AMT income was added if the net book income of a company exceeded its taxable income according to the AMT rules.
Research found that in response to the book income adjustment, companies tampered with their financial reporting to reduce their AMT burden.
It’s likely that companies would react similarly to the new Biden book revenue tax, Hoopes said. “Not only has it come up before, we tried it and it didn’t work.”
Financial accounting numbers will be less meaningful to investors as companies cut their profits and make less informed decisions, he said.
Bring in more politics
There is concern that the Biden proposal could lead more companies to campaign for changes in accounting standards known as generally accepted accounting principles (GAAP) that would depress book revenues, Fleischer said. Corporations might not mind reporting lower profits to shareholders if it means paying less tax, he said.
Companies would then likely place more emphasis on unofficial or non-GAAP earnings numbers to advertise their performance as rosier than the sanctioned numbers suggest.
“If you think non-GAAP is popular now, watch what happens if you go down this path,” said David Zion, research analyst at Zion Research. “It would be non-GAAP for steroids.”
US accounting standards are set by the Financial Accounting Standards Board – a private, not-for-profit organization based in Norwalk, Connecticut that is recognized by the US Securities and Exchange Commission as a standard setter.
Independent standard setting is a cornerstone of US markets. When companies tie their cash taxes to the income they report in their financial statements, every new rule the FASB makes is linked to questions about tax ramifications, said David Gonzales, senior accounting analyst at Moody’s Investors Service.
“It would add another wrinkle to accounting decisions to say, ‘Oh, if we change this in the financial statements, how will it affect the amount of income taxes this company pays? ” he said.
Zion said this puts a lot of power in the hands of those in charge of accounting.
“You would effectively have the FASB, which sets the tax policy, and last time I looked like no one had chosen you for this job,” he said.