It ain’t pretty and warrants caution. That was Ernst & Young’s assessment of the new tax rules signed into law at the end of 2017 in a rundown of the reform given to members of NeuGroup’s Global Cash and Banking Group.
The bill was passed in record time, but as a result it contains numerous errors and murky language. Republicans have tried to put together a technical corrections bill to deal with some of those errors, but Democrats—remembering how Republicans ignored a similar effort to tighten up the Affordable Care Act—have been uncooperative so far.
The Joint Committee on Taxation Bluebook is typically published at the end of each Congress to explain the intent of enacted tax legislation, and E&Y said an off-year edition may be published sooner to provide guidance. Treasury regulations could also play a helping hand, but none are expected before fall. Other legislative approaches may be taken to address issues more substantive than technical changes, although none are on the horizon.
The uncertainty created by problematic language in the law is compounded, according to E&Y, by the likelihood that some provisions may change should Democrats regain power. That’s a big if, given that to make substantive changes they would likely have to take both houses of Congress as well as the presidency, and that’s unlikely to happen for at least a couple of years. Nevertheless, the Democrats have already proposed an alternative tax plan that would in part raise the corporate tax rate to 25% from 21%, according to Justin Shafer, partner and US tax reform leader at E&Y who delivered the GCBG presentation along with three other E&Y professionals.
“They don’t intend to change the international provisions, and they seem to like the 100% expensing provision, but who knows?” Mr. Shafer said, noting the politics could shift over time.
The international provisions create a tax system that adopts elements of a territorial tax system, in which only domestic earnings are taxed, but also institute a residual tax on worldwide earnings.
Mr. Shafer noted that more than 50 countries are now considering tax reform, creating a sort of “race to the bottom” in terms of instituting corporate-friendly provisions. Compounded by more scrutiny from global tax authorities, tax reform legislation shifts the US to a more competitive environment, E&Y said, recommending that companies evaluate the following:
- Intellectual property (IP), and where it is most beneficially located
- Taxation of trade flows, both imports and exports
- Ability to shift manufacturing footprint, IP, or principal company structure to the US
- Research & development centers, and where they are located
E&Y’s presentation noted that the new tax law makes the US a more competitive tax environment, especially because of the low 21% corporate tax rate and also the temporary 100% bonus depreciation and the Foreign Derived Intangible Income (FDII). The latter creates a low 13.125% rate on certain directly earned foreign income, although it is widely assumed that other countries will challenge it through the World Trade Organization.
As a result, E&Y recommends the following actions to consider:
- Review impact of new provisions on the tax cost of current global operating model, including cost effective changes to location of certain functions and risks
- Review current location of IP and evaluate the re-alignment in light of new tax provisions
- Assess the P&L impact of re-locating manufacturing footprint and corresponding 100% bonus depreciation adjustment
- Review R&D locations and potential benefits of re-locating
E&Y advised caution before corporates make significant changes to take advantage of provisions of the new tax law, and so far companies appear to be taking that approach. Repatriation of cash trapped overseas, so as to avoid paying the former 35% tax rate, would appear to be one of the more straightforward provisions of the new law, requiring fewer legal and other time-consuming changes.
According to NeuGroup Peer Research, 39% of responding members expect their companies to repatriate between $1 billion and $9 billion, with 6% bringing back more than that amount; 11% expects to return between $500 million and $1 billion. Thirty-four percent don’t anticipate repatriated cash to be fully deployed until at least the latter part of this year, and another 20% well into next year.