As part of the Inflation Reduction Act, President Biden on Aug. 16 signed into law a new 15% alternative minimum tax on the adjusted financial statement income of certain large corporations. While broadly aimed at large, profitable U.S. corporations with low effective tax rates, the new tax also applies to certain large foreign-parented groups with U.S. income above a certain threshold.
The minimum tax applies to an “applicable corporation,” which means generally any corporation (with certain specified exceptions) that has three-year average annual financial statement net income, or “book” income, that exceeds $1 billion, after allowing for certain specified adjustments. The tax is effective for tax years beginning after December 31, 2022.
Application to foreign-parented multinational groups
The book minimum tax applies to U.S.-related income of a “foreign-parented multinational group” when the adjusted financial statement income of all members of the multinational group exceeds the $1 billion three-year average annual net income threshold. However, the tax will only apply when the net income in the U.S. equals or exceeds $100 million on average over a three-year period.
The legislation defines a foreign-parented multinational group with respect to any tax year as two or more entities that meet three specifications:
- At least one entity is a domestic corporation and at least one is a foreign corporation.
- The entities are included in the same applicable financial statement for the tax year.
- The common parent of the entities is a foreign corporation, or, if there is no common parent, the entities are treated as having a common parent that is a foreign corporation under applicable rules.
For these purposes, the legislation specifies that, in the case of a foreign corporation engaged in a trade or business in the U.S., the U.S. trade or business will be treated as a separate domestic corporation wholly owned by the foreign corporation.
The act directs the Treasury Department to issue regulations for determining when entities are treated as having a common parent that is a foreign corporation, the entities to be included in the foreign-parented group, and the common parent of the group.
‘Adjusted financial statement income’ and ‘applicable financial statement’
The act defines a corporation’s “adjusted financial statement income” for any tax year as the corporation’s net income or loss set out in their applicable financial statements, as adjusted in accordance with the provisions of the act.
For these purposes, an “applicable financial statement” generally includes:
- Statements certified as prepared in accordance with generally accepted accounting principles (GAAP) and required to be filed with the U.S. Securities and Exchange Commission.
- If no GAAP statements, statements prepared on the basis of international financial reporting standards (IFRS) and filed with the agency of a foreign government.
- If no GAAP or IFRS statements, other statements filed by the taxpayer with a regulatory or governmental body as specified by the Treasury.
Calculation of tax
The alternative minimum tax to be imposed equals the excess of the “tentative minimum tax” for the tax year over the sum of (1) the regular tax for the tax year and (2) any tax imposed under the base erosion and anti-abuse tax (BEAT) provisions. For applicable corporations, the tentative minimum tax equals 15% of the corporation’s “adjusted financial statement income” for the tax year minus the “corporate AMT foreign tax credit” (as defined in the legislation) for the tax year.
A corporation’s adjusted financial statement income for a tax year equals their income or loss as set out in the corporation’s applicable financial statements, with certain adjustments. The specified adjustments pertain to related entities, certain items of foreign income, disregarded entities, defined benefit plans and depreciation, among other items. There is also a deduction for financial statement net operating losses.
As the book minimum tax is now law and will apply to tax years starting in January 2023 onward, large foreign-parented multinational groups with significant U.S. inbound investments should begin evaluating their potential liability for the tax. The thresholds of $1 billion in group net income and $100 million in U.S. net income should generally enable smaller groups or those with smaller U.S. inbound investments to avoid the new alternative minimum tax.
Under the definition of an “applicable corporation” to which the book minimum tax applies, if a corporation is deemed an applicable corporation in a tax year, it generally retains that designation in subsequent years – even if it no longer meets the thresholds in those years. There are some limited exceptions, including for a change in ownership and a specified number (to be determined by the Treasury) of consecutive tax years not meeting the threshold.
Treasury regulations, once proposed, should provide greater clarity in determining the application of the tax to foreign-parented entities operating in the country, as well as more generally on the calculation of the tax and related issues.
The book minimum tax is not intended to align the U.S. with the global minimum tax proposal under Pillar Two of the OECD agreement, and such legislative amendments were not included in the Inflation Reduction Act as enacted. However, there are notable similarities in the policy directions of the taxes, which both impose a 15% minimum tax based on financial statement income.
Written by Monika Loving, Michael Masciangelo and Tiffany Ippolito. Copyright © 2022 BDO USA, LLP. All rights reserved. www.bdo.com