Explaining the International Tax Provisions in the House Reconciliation Bill

The House Ways and Means Committee introduced the tax subtitle of their massive reconciliation bill this week, and with the Committee’s markup of their legislation comes the third major proposal in the past few months that would change how U.S. multinational companies pay taxes on their foreign earnings. NTU has previously analyzed proposals from the Biden administration and Senate Finance Chair Ron Wyden (D-OR), and here we’ll break down the good, bad, and the ugly in the Ways and Means international tax proposal led by Committee Chair Richard Neal (D-MA).

Summarizing the Ways and Means International Tax Proposal

The following table summarizes Ways and Means Democrats’ offering to international tax reform, compared with 1) current law, as passed in the 2017 Tax Cuts and Jobs Act (TCJA), 2) the Pillar Two agreement tentatively reached by more than 130 countries in global tax negotiations, 3) President Biden’s proposal, and 4) Chair Wyden’s proposal:

Table I: Comparing International Tax Proposals
	Current Law (2018- present)	Pillar Two	Biden	Wyden/ Senate Finance	Neal/ Ways and Means
Statutory tax rate on Global Intangible Low-Taxed Income (GILTI)*	10.5%	15%	21%	Unclear, but higher than 10.5%	16.6%
Tax rate on Foreign Derived Intangible Income (FDII)	13.125%	N/A	28%**	Unclear, but would be equal to the GILTI rate	20.7%
Substance- based carve-out	10% of deemed tangible income return (Qualified Business Asset Investment, or QBAI)	5% of the carrying value of tangible assets plus payroll (7.5% for the first 5 years)	0% (no carve-out)	0% (no carve-out)	5% of the deemed tangible income return (half of current-law QBAI)
GILTI deduction limited by foreign tax credit (FTC) haircut?	Yes, 20% FTC haircut	No	Likely yes, 20% FTC haircut	Maybe, FTC haircut of between 0% and 20%	Yes, FTC haircut of 5%
Country-by- country calculation of GILTI liability?	No	Yes	Yes	Yes, with high-tax jurisdictions excluded	Yes
* = Have questions like ‘what’s GILTI?’ ‘What’s FDII?’ See NTU’s new issue brief, “What’s the Deal With International Tax Reform?” ** = President Biden’s proposal repeals the FDII deduction, so the tax rate on FDII is equal to the statutory corporate income tax rate - 28% under the Biden proposal

As noted in the table above, the Ways and Means proposal is, in some ways, better than the Biden and Wyden proposals. Unfortunately, the Ways and Means proposal still would significantly raise taxes on U.S. companies. The nonpartisan Joint Committee on Taxation estimates that the Committee’s changes, on net, will raise taxes by $232 billion over the next decade:

Table II: JCT Score of Select W&M International Tax Provisions
Provision of W&M Proposal	JCT Score, 2022-2031
-Raise GILTI rate from 10.5% to 16.6% -Raise FDII rate from 13.125% to 20.7%	+$96.5 billion
Modify FTC rules for dual capacity taxpayers	+$5.7 billion
-Require country-by-country (CbC) determinations of FTC limitations -Limit FTC carryforwards under subpart F, from 10 years to 5 years -Repeal FTC carrybacks (currently 1 year)	+$63.3 billion
-Require CbC determinations of GILTI liability -Allow carryover of CbC GILTI losses -Reduce QBAI carveout, from 10% to 5% -Add foreign oil and gas extraction income (FOGEI) to GILTI calculations -Include oil shale and tar sands income in foreign oil related income (FORI) for GILTI calculations	+$106.7 billion
Reduce FTC haircut from 20% to 5%	-$39.8 billion
Net Effect	+$232.4 billion

Here’s a brief overview of the good, the bad, and the ugly in the Ways and Means proposal:

The Good

• Allowing carryover of GILTI losses: Under current law, taxpayers cannot carry over their net losses in GILTI from one year to the next. Under the Ways and Means proposal, U.S.-based multinational companies would be able to carry over losses, on a country-by-country basis, from one year to the next. As American Enterprise Institute Senior Fellow Kyle Pomerleau has pointed out, carryforward of GILTI losses (and foreign tax credits; more on that below) is “good and 100% necessary if moving to [a] country-by-country system.”
• Allowing carryforward of excess FTCs under GILTI: Under current law, taxpayers also cannot carry forward excess FTCs under GILTI. Allowing carryforwards of excess FTCs under GILTI is a positive change that will ensure companies are not subject to higher GILTI rates than the statutory minimum due to FTC limitations.
• Reducing the FTC haircut: The Ways and Means Committee takes the matter of FTC haircuts in a positive direction relative to current law, reducing the FTC haircut from 20 percent to five percent. This is a better proposal than what the Biden administration would likely offer, as we assume their silence on the FTC haircut matter means they would likely support retaining a 20-percent FTC haircut. However, the Committee should go the extra mile and eliminate the FTC haircut altogether. We understand and appreciate that lawmakers included the FTC haircut to “protect against foreign soak-up taxes” on the foreign income of U.S. MNCs, but repealing the FTC haircut would better and more fully prevent double taxation of U.S. businesses’ foreign-source income. Repeal would also reflect the reality that U.S. MNCs operate in several countries, pay taxes in those countries, and should receive full credit for foreign taxes paid.

The Bad

• Reducing the QBAI carveout: Ways and Means would reduce the substance-based carve-out in GILTI, which attempts to focus GILTI taxation on companies’ returns from highly-mobile, highly-profitable intangible assets, from 10 percent of a net deemed tangible income return (Qualified Business Asset Investment, or QBAI) to five percent. This would be less generous than the Pillar Two carve-out, which would be five percent of the carrying value of tangible assets and payroll (the latter not currently included in QBAI), with a 7.5-percent carve-out for the first five years of the global agreement. While the Ways and Means proposal is better than the Biden and Wyden proposals, which would leave the U.S. with no substance-based carve-out, lawmakers should have a substance-based carve-out that is as generous as Pillar Two will allow. Lawmakers should also wait to implement such a carve-out until countries are locked in on Pillar Two; right now, countries only have an agreement in principle.
• Limiting FTC carryforwards and repealing FTC carrybacks: Under current law, U.S.-based multinational companies can carry forward excess foreign tax credits up to 10 years and carry them back up to one year, but not for FTCs attributable to GILTI. The Ways and Means proposal would expand FTC carryforwards to GILTI income, a positive change (see above), but would also cut in half the amount of time a company can carry forward excess FTCs (from 10 years to five). The Ways and Means proposal would also repeal FTC carrybacks. The nonpartisan Tax Foundation calls carrybacks (in the context of net operating losses, or NOLs) “an important countercyclical tool in the tax code to help stabilize the economy during recessions.” And the OECD envisions “unlimited” carry-forwards of losses, writing that unlimited carry-forwards ensure that companies will not be subject to tax under the GloBE rules on more than their economic income due to an expired loss carry-forward.” The OECD also notes that unlimited carryforwards are particularly important for some industries that experience “very long business cycles.”
• Delinking GILTI and FDII rates: Under current law, the tax rates on income derived from intangibles held abroad (GILTI) is roughly the same as the tax rates on export income derived from intangibles held in the U.S. (FDII). Though the statutory GILTI rate is 10.5 percent, less than FDII’s 13.125 statutory rate, FTC haircuts make the top GILTI rate 13.125 percent -- linking GILTI and FDII rates in the process. The Ways and Means proposal reduces FTC haircuts from 20 percent to five percent, which reduces the range of potential GILTI rates from around 16.6 percent to around 17.5 percent.^[1] Unfortunately, the Committee’s significant changes to FDII leave the statutory FDII rate at 20.7 percent, a much more significant gap between GILTI and FDII rates than under current law. This could inadvertently incentivize multinational companies to offshore high-value, highly-profitable, and highly-mobile intangible assets, since the tax rates on income derived from intangibles held abroad (GILTI) will be several percentage points lower than the tax rates on export income derived from intangibles held in the U.S. (FDII). The difference will be between 3.2 and 4.1 percentage points, depending on FTC haircuts.

The Ugly

• Raising GILTI and FDII rates: The Ways and Means proposal raises the GILTI rate beyond what it may need to be for Pillar Two compliance, and sooner than may be needed to comply with a Pillar Two agreement that has yet to be written in stone. Of note, JCT estimated that in 2018 that, even with a statutory 10.5-percent GILTI rate, U.S. corporations paid an overall effective tax rate of 16 percent of GILTI -- high enough, in theory, to comply with a Pillar Two agreement. A 16.6-percent statutory GILTI rate, calculated country-by-country and with a FTC haircut still in place (albeit a smaller one), will no doubt lead to effective GILTI tax rates higher than 16.6 percent for many companies and in many jurisdictions. The FDII tax hike is even larger, featuring a statutory rate that would be 58 percent higher than it is under current law. This will discourage U.S. companies from onshoring high-value, highly-profitable intangible assets (such as intellectual property), and may even convince some U.S. companies, on net, to offshore such intangibles. Both of these tax hikes will leave U.S. companies with fewer dollars to invest in workers, tangible assets that increase worker productivity, and intangible assets that create jobs and taxable profits in the U.S. economy.
• Moving to country-by-country (CbC) calculations: The Biden administration has put lawmakers in a bind by insisting on (and agreeing to) CbC calculations of GILTI liability at the global tax negotiations. NTU and others have argued that CbC will increase complexity, compliance, and tax burdens on U.S. companies. Even if lawmakers insist on including CbC, though, even if just to comply with an anticipated Pillar Two agreement, it is disappointing to see lawmakers in the Senate and now the House fail to consider any safe harbors or de minimis thresholds that would reduce the CbC burden. OECD experts facilitating the global tax negotiations have considered such “simplification options,” and NTU would strongly encourage lawmakers to include some of these options in any proposal that includes a move to CbC GILTI and FTC calculations.
• Increasing Base Erosion and Anti-Abuse Tax (BEAT) rates: Though not covered in the analysis above, the Ways and Means proposal also increases taxes under the BEAT regime, meant to limit multinational companies’ ability to shift profits from the U.S. to low-tax jurisdictions. The Committee would raise the BEAT rate 50 percent between now and 2026, from 10 percent in 2022 to 15 percent in 2026 and after. The Committee would also subject most corporate taxpayers over a certain gross receipts threshold to BEAT liability, regardless of whether or not those corporations actually make a large number of base erosion payments (in proportion to their total deductions). These changes, combined, would raise taxes by $24.9 billion over the next decade. Removing the base erosion payments threshold from BEAT takes the tax further away from its original intent as an anti-abuse regime, and Ways and Means lawmakers have offered little policy justification for significantly raising the BEAT rate. This appears, at first glance, to be an ill-designed revenue grab that lawmakers should immediately reconsider.

Overall, the Ways and Means proposal takes international tax policy in the right direction in a few small but notable places. Lawmakers should work to incorporate these improvements into future international tax policy discussions. Overall, though, the Committee’s proposal would amount to a net $232 billion tax hike (net $257 billion, including BEAT) on U.S. companies. Lawmakers should scrap most of the Ways and Means Committee’s proposals and go back to the drawing board.