The Complicated Web TCJA Weaves
Listen as we discuss how practitioners navigate the interconnected provisions of the Tax Cuts and Jobs Act, with a strong emphasis on Export Incentives including FDII and the Interest Charge Domestic Sales Corporation.
David D. Stewart, Benjamin M. Willis, and Mark Gasbarra
David Stewart: Welcome to the podcast. I’m David Stewart, editor in chief of Tax Notes Today International. This week: tax technology post-TCJA. The Tax Cuts and Jobs Act has fundamentally altered the tax landscape. The 2017 law not only overhauled the U.S. tax system that had been in place for decades, but also changed how practitioners do their jobs. Joining me now from his home in Maryland to talk about tax planning, the TCJA, and technology, is Tax Notes contributing editor Ben Willis. Ben, welcome to the podcast.
Ben Willis: Thanks, Dave. Appreciate you having me on the show.
David Stewart: Now, who did you talk to?
Ben Willis: I just had a fantastic discussion with Mark Gasbarra, who’s the national managing director with Forte International Tax. And they focus on providing services to multinational corporations and partnerships and other businesses, as well as assisting law firms and accounting firms.
David Stewart: What did you and Mark talk about?
Ben Willis: Mark and I covered a lot of topics, Dave. His career began in 1981, and he has seen so many changes throughout the code. Obviously, the 1986 acts we compared a little bit to the Tax Cuts and Jobs Act. We also focused a lot on the export subsidies that he has immense experience and expertise with. He’s been working with domestic sales corporations, which have been around for a long time, and then later DISCS. And now IC-DISCS, which are still available and can actually be combined with some of the benefits inside of section 250, which provide deductions to certain corporations in the export industry. And so, in addition to that, we focused on tax planning generally, and the need for businesses to have up-to-date and current software and accounting to provide the information that they need.
David Stewart: All right, let’s go to that interview.
Ben Willis: Hi Mark. Thanks for joining me today. How are you?
Mark Gasbarra: Thankfully, I’m very well, as is our family and all our team members. We, of course, are following the CDC recommendations and working from home to the extent possible. And since our practice is primarily web-based, these restrictions have not negatively impacted our ability to serve our clients. My son-in-law, though, is a cardiologist, and he works in a large hospital complex. So we do worry about their family’s well-being. But so far, so good. Thanks for asking. And how about you?
Ben Willis: I’m doing great. Thanks for asking. I’m like you, following the guidelines and my whole family’s at home. I’ve got a two-year-old son, so if you hear him running around in the background, try to appreciate the circumstances. I’m sure you will.
Mark Gasbarra: Always a welcome sound.
Ben Willis: Well, with a cardiologists as a son and different concerns, I appreciate you’ve got a lot going on. It sounds great that you’re still able to continue providing your clients with services, considering that you’ve got a wide range of tools. Can you tell me a little bit about that, and how you’re serving your clients right now?
Mark Gasbarra: You know, our practice is centered on developing, licensing, and implementing VantagePoint, our cloud-based global tax platform. And the Tax Cuts and Jobs Act has dramatically expanded the need for the software — software capable of delivering complex international tax calculations in real time. In real time is very important because our clients must quantify the income tax consequences of any number of complex transactions in business models under very tight time constraints, such as acquisition planning, quarterly and year-end tax provisions calculations that are included in their financial results. And our team has programmed every major international tax change since 1981 and led the export incentives practice in international tax quantitative consulting practices of two of the Big Four accounting firms before we formed VantagePoint and Forte International Tax in 2004. You know, the TCJA, in many respects, is even more transformative than the 1986 act was.
Ben Willis: I certainly appreciate your point about the TCJA being more transformative than the ’86 legislation, particularly with respect to complexity and potentially … and I think that your point that the need for technology. In other words, you’re talking about the need for up-to-date information on a lot of calculations that are all tied in together. And some of the historic basic balance sheets require much more sophisticated modeling.
Mark Gasbarra: Absolutely. And you know the world’s getting smaller but certainly more complex at the same time. So on top of our international tax reform, you know, we got the BEPS actions as well, and it’s only going to continue.
Ben Willis: Well, we’ve heard so much about BEPS lately, it’s a good point for me to pick up on and just ask. As far as the Tax Cuts and Jobs Act base erosion provisions, clearly folks think of GILTI and FDII and some of the other provisions. Did that take months to incorporate some of those rules and guidance?
Mark Gasbarra: Well, it’s very interesting. Absolutely. The BEPS actions have been very significant, but the Tax Cuts and Jobs Act, GILTI, FDII, section 163(j), and BEAT, and especially the interplay of those provisions are far more impactful. Let me explain. Let’s start with the global low-taxed intangible income, the so-called stick of the carrot and stick approach. GILTI effectively ended the indefinite deferral of foreign earnings from the U.S. tax base. You know, before this tax reform, foreign earnings had a very limited immediate impact on a U.S.-based multinational U.S. tax liability. And because the U.S. corporate income tax rate was generally much higher than the foreign tax rate, there was no incentive to repatriate those earnings, hence the lockout effect. Now, unless covered by qualified business asset investment, foreign earnings are immediately subject to U.S. tax, so their impact must be accounted for on a real-time basis immediately.
Now as far as the carrot approach, that’s the foreign-derived intangible income, affectionately called FDII, is a very powerful tax incentive, following in the footsteps of the domestic International Sales Corporation in other export-related tax benefits that have been part of the U.S. international tax fabric since the 1971 tax act, and other provisions even earlier than that with the World Trade Hemisphere corporations. So, export incentives have been a part of the fabric for a long time.
But the coupling of FDII with the GILTI provisions within the section 250 deduction is completely unique. And as a result of that coupling, we hope that FDII will survive potential EU and WTO challenges. But FDII is not exactly the same as those other export provisions. Services qualify, which they may never would have qualified under the DISC and predecessor regimes. But the documentation requirements are much more significant. The proposed regulations provide really onerous documentation requirements. We’re hoping they’ll be relaxed.
But the combination of GILTI, FDII, and the foreign tax credit provisions and related limitations create an intricate set of interdependencies that is further complicated by the section 163(j) limitation on the deductibility of interest expense and then the BEAT provisions. For example, the amount of interest expense that could be taken as a deduction is dependent on the section 250 GILTI FDII deduction. And at the same time, the GILTI FDII deduction depends on the amount of interest expense that is deductible. So it’s circular and fortunately, you know, one of the things they covered in the regulations was we thought about putting in simultaneous equations. Thankfully, they didn’t do that but instead have order. Well, there are many of these interdependent calculations within the new regime, which makes modeling and planning extremely difficult without having complex software to handle it.
Another sort of interesting aspect of all this is because of the transition act, which is the 965 provision where we immediately tax over an eight-year period, immediately tax all the buildup, some $2 trillion or more of previously untaxed earnings. All these categories, all this tracking of previously taxed E&P has to be maintained. And because GILTI provisions result in immediate inclusion that those PTI, or previously tax income, distributions have to be tracked on an annual basis, and the tracking is extremely complex. And I really think it’s impossible, practically impossible, to do all this tracking without having any software to do it. But I will say this, while the complexity abounds with the Tax Cuts and Jobs Act. And it does eliminate the foreign repatriation lockout, which is huge, and that was built into the prior international tax regime. And I think our clients would tell you that the reduction in the corporate tax rate was well worth this added complexity.
Ben Willis: Wow, very interesting. It sounds like the TCJA has been keeping you extremely busy. Well, it seems like there’s a lot of other countries out there who have kind of focused on individual legislation and rules that could generate income stemming from the United States or is currently being picked up and benefiting the treasury here. And so, an example would be digital services taxes that are being discussed and whatnot. And so I’m not entirely certain whether these are a response to FDII and some countries are pulling income away from one another. But the export incentives seem to provide a large benefit and has been something that the U.S. has been doing for a long time, along with a number of other countries as well. And so, just kind of expanding on that concept, could you tell me a little bit about what other export incentives are available today? Are we looking at just the FDII? Or are there other ways that taxpayers can benefit from selling overseas?
Mark Gasbarra: Yeah, there’s a couple of points. One, I don’t want to leave BEPS quite yet and the digital services tax. But because our 50 states can’t agree on uniform tax rules, I think getting the world to agree is going to be difficult. But at the same time, the price for not coming up with some sort of an agreement on how you more fairly tax intangible property income, because the arm’s length standard of section 42, it’s hard to find comparable transactions when each company’s intellectual property is so different than the other, which leaves, besides the routine returns on routine functions, a large pot of intangible income. The world needs to figure out how to fairly allocate the taxes that should be associated with that income based on where it’s earned, which like the classics are things like Facebook that don’t have a physical presence maybe in a country, but they derive significant revenue from users in those countries. So we’ll have to see what happens on that.
But yeah, the export incentives has long been a favorite of ours. You know, I actually led the export incentives practice for a couple of Big Four firms, and it really goes back primarily to the DISC, the Domestic International Sales Corporation, and it does. We still have it. I mean, the interest charge of the IC-DISC, the Interest Charge Domestic International Sales Corporation, was introduced in 1984 was actually the offspring of the original DISC provisions designed to placate objections raised by our trading partners and the General Agreement on Tariffs and Trade, or GATT. And like DISC, the Interest Charge DISC was established originally as a deferral regime. However, the deferral was limited to the deemed profits on no more than $10 million of qualified export gross receipts per year. And an interest charge is assessed on the tax savings achieved through the deferral. But that’s not the real power of the IC-DISC. The repatriated profits of an IC-DISC constitute qualified dividend income that was introduced in 2013. So the export profits that run through the IC-DISC are ultimately taxed individuals as capital gains or at capital gains rates. This results in permanent tax savings, not deferral, but permanent tax savings, through the difference in ordinary income and capital gains tax rates. So today, the DISC is used primarily by private companies because they’re owned ultimately by individuals and not large multinational corporations. Because qualified dividend income distributions do not provide an ETR or effective tax rate benefit when repatriated back to regular C corporations.
Ben Willis: It’s a large benefit, especially considering the 250 deduction at 50 percent for C corporations only on that GILTI portion. And so this seems to give a lot of benefits for what a lot of folks worry about, which is limited just to those large C corporations.
Mark Gasbarra: Yeah, and if you’re a privately held C corporation, you know, you need to be a C corporation to get the FDII benefit. But the IC-DISC can be used in conjunction with the DISC. So you could actually have this closely held C corporation take advantage of the FDII benefit, and the distribution is going through an IC-DISC, qualify for IC-DISC benefits, so you can get a dual benefit. And there again, you’ve got some sort of simultaneous equations going on, which we handle in the software. Because the IC-DISC deduction should be taken into account and computing FDII. And the FDII deduction should be taken into account determining profits associated for IC-DISC benefit.
Ben Willis: Well, it seems like we’ve covered a lot here today. Let me ask if the coronavirus is impacting any of the points that we’ve discussed today, or just your ability to deliver client service?
Mark Gasbarra: Well, I will say this. We do enjoy face-to-face training sessions and planning meetings with our clients. But online meeting applications, you know, result in very significant time and cost savings and allow us to maintain robust flow of communication between those meetings. So absolutely, I think, as a result of today’s work-from-home requirements, you know, we are more and more dependent on technology. And I believe the COVID-19 situation, however temporary and hopefully it’s very temporary, will result, even though that may be temporary, will result in permanent shift on how we leverage technology leading to several benefits, including flexible work-life balance and cost in time savings.
Ben Willis: I can’t agree any more. For example, because I’m now teaching my taxation of business entities class from my home, and that’s happening for universities and schools across the country, and I can’t imagine that that won’t have a huge impact. A lot of these schools historically, law schools in particular, have been known for kind of resisting some of the changes to online classes and other technological changes. But now that it’s being forced upon us through the quarantine, this kind of changes the whole game for everybody. Now we have all these professors, who are historically unfamiliar with this technology, are now required to use it and are using it in order to continue with their classes since their students have to take them from home. And it sounds like, to your point, this could have long-term beneficial changes on work and education, on a number of things. Hopefully, we are able to continue FaceTime and have great phone discussions and video discussions like we’re doing now, But before we conclude, I’ll ask, are there any final thoughts or advice that you’d like to share with our listeners?
Mark Gasbarra: I got a couple things. First of all, keeping up with the tax changes. Isn’t it very important? And, of course, my first recommendation is always to read Tax Analysts’ Tax Notes publications and listen to their podcasts. But for us, working closely with the clients and service providers is very important. It’s a great way to disseminate information, participate in real-time seminars and workshops. We’re actively involved with the Tax Executives Institute as a speaker and sponsor, and some other courses that I recommend for international tax professionals. Always the George Washington International Tax Institute is great, the Tax Council Policy Institute, the D.C. Bar International Fiscal Association, Association for Computers and Taxation. These are all listed on our website at forteintax.com.
Ben Willis: All right, I appreciate your candid comments throughout today’s discussion and your explanations. I appreciate talking. Thank you so much for joining me today. And I hope you have a great day, Mark.
Mark Gasbarra: Indeed. The pleasure’s been all mine, Ben. Thanks for having me.