Tax reform is not over. While the new US tax law was signed in December 2017, companies are dealing with an ongoing and challenging road towards implementation. The business community has been generally pleased with the results — particularly with the reduction of the top corporate rate to 21 percent — and the US economy has responded positively. However, one of the shortcomings of the law, which was passed in record time, is the complexity and lack of clarity regarding many of its provisions. And thanks to the contentious political environment on Capitol Hill, there is currently not enough bipartisan support for Congress to pass a technical corrections bill.
In this article, we highlight the ongoing road to implementation, focusing on the international provisions that may affect companies doing business globally and the modeling exercises and scenario planning required to determine what the bill could mean to your organization.
The international provisions include sections on global intangible low-taxed income (GILTI), base erosion and anti abuse tax (BEAT), and foreign-derived intangible income (FDII) — all of which have placed CTOs under tremendous pressure to work through the complexity and deliver detailed insights to stakeholders. The goal of these rules is to curb the erosion of the US tax base by equalizing the US tax burden on exported goods and services and income earned through controlled foreign corporations. While well intended, the international provisions are proving to be complex and often ambiguous. There is some concern that, as currently written, the cost of the international tax provisions may offset more of the savings from the corporate rate cut than was intended, and for some companies these costs greatly exceed any savings. CTOs are looking for clear guidance from the IRS and the Treasury to resolve the ambiguities. All of this uncertainty has placed tax functions under tremendous pressure. They are being asked by the C-suite, boards, and audit committees to deliver detailed insights about how the new tax law affects current business conditions, as well as its mid and longer-term implications so companies can plan for the future. CTOs are having difficulty providing simple answers to these questions and are struggling to reliably forecast their company’s effective tax rate (ETR) for purposes of press releases and meetings with audit committees. To give themselves some leeway, many CTOs are presenting their company’s ETR as a range spanning several percentage points, typically from the mid to upper twenties. But even determining an accurate range can be complicated as the BEAT rate increases from 5 percent in 2018 to 10 percent in 2019, and key questions regarding how the new provisions work remain unanswered pending regulations — in particular the rules for determining how much foreign tax credits can be used to offset he impact of GILTI. CTOs are also feeling pressure on staffing and are discussing the need for extra headcount with senior leaders.
Another issue of growing concern for CTOs is what actions to take — or not take — with respect to intellectual property (IP) that currently is held offshore. Following the OECD’s Base Erosion Profit Shifting project, some companies face considerable foreign tax risk from their current IP holding structure and could substantially reduce that risk by moving the IP to the United States where significant development work occurs. Fortunately, the new law offers significant benefits if companies bring foreign IP back to the United States. Nonetheless, while the potential tax benefits are intriguing, there is concern that future elections could put upward pressure on the 21 percent corporate rate as well as the preferential FDII rate. In particular with respect to FDII, change could be further spurred by a successful World Trade Organization challenge. So, some CTOs have expressed reluctance to bring IP back home.
With such complexity, particularly in the international provisions, CTOs are increasingly turning to modeling to determine the potential impact on their organization. Models that can handle multiple scenarios, are scalable, and take a holistic approach to the new tax bill are of greatest value to CTOs. In other words, you should include all of the new provisions — GILTI, FDII, BEAT, and section 163(j) — as well as scenarios that consider ETR sensitivity to changes in structures and supply chain, and changes in the business forecast, including product mix, at the same time. With so much interconnectivity between the various provisions, there is just too much risk of distorted or completely invalid results if you try to piece together separate ad hoc models.
Even though modeling is generally agreed upon as a necessary approach, CTOs are finding it difficult to do so effectively. With limited clarity and detail available in the new law, modeling with any certainty is difficult pending additional guidance. Having the resources necessary to perform effective modeling is also proving difficult.