Corporate Tax

US regulation proposing tax on corporate guide earnings may undermine R&D incentives – MNE Tax

By Doug Connolly, MNE Tax

A bill announced by Senator Elizabeth Warren (D-Mass.) On Aug. 9 would impose a tax on income that large corporations report to their shareholders to prevent those corporations from using “loopholes” – including tax incentives like the research and development (R&D) tax credit – to avoid taxes.

President Biden included a similar plan in his corporate income tax proposals released in May, and he unsuccessfully tabled the proposal this summer as a potential fundraiser for a bipartisan infrastructure bill. Biden’s plan provides a minimum tax of 15% on global book income for companies with global book income of more than $ 2 billion.

On the flip side, Warren’s bill, called the Real Corporate Profits Tax Act, would impose a 7% tax on annual profits of companies over $ 100 million. For foreign corporations, the tax would apply on that portion of their annual financial statements that is effectively related to a US trade or business.

Both plans aim to address the same problem: large corporations report sizeable profits to their shareholders while avoiding paying US federal income taxes on those profits. At least 55 large U.S. corporations paid no income tax in 2020 and reported more than $ 40 billion in total in profits, according to a review of public financial reports by the Institute on Taxation and Economic Policy.

There are several reasons companies can do this. As Kimberly Clausing, Assistant Secretary of State for Tax Analysis for the US Treasury Department, said in response to a question from Senator Warren about Amazon’s low effective tax rate in a March Senate Finance Committee hearing:

[T]There are many reasons why US companies end up with very low tax rates. And I think this is where we focus most of all on the problem of international profit shifting. … There are other reasons why companies pay less taxes. These include, for example, receiving high R&D credits or losses in recent years that could reduce their tax liability.

A tax that appropriately bridges the gap between corporate book revenue and tax revenue would target not only tax evasion techniques such as profit shifting, but also tax incentives that Congress intended, such as the R&D tax credit. This would at least apply to the large corporations affected by such a tax – Warren’s bill is said to apply to around 1,300 publicly traded companies.

Congress can, of course, change its mind about the extent to which large, profitable corporations should benefit from research and development tax incentives or other measures aimed at stimulating investment, such as accelerated depreciation.

However, this does not seem to be the intention of the current administration. Although Biden’s proposed corporate book income tax could similarly diminish the benefits of research and development tax incentives, Treasury Secretary Janet Yellen has stressed that strengthening research and development tax incentives is a priority for Biden. The potential impact of the proposed book income tax on R&D incentives appears to be the side effect of a blunt instrument rather than a conscious policy choice, at least in Biden’s case.

However, the administration has not yet proposed any specific R&D tax rules. Therefore, it remains to be seen what the net effect of such R&D regulations would be when combined with a book income tax that could feed into Democrats’ corporate tax reform efforts in the coming months.

Doug Connolly is the Editor-in-Chief of MNE Tax. He has more than 10 years of experience in tax law developments and previously worked for both a Big Four law firm and a leading legal publisher. He holds a law degree from the American University’s Washington College of Law.

Doug Connolly

Doug Connolly

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