“Clear Focus On Foreign Income”: Full Breakdown Of The Treasury’s Corporate Tax Proposal

As reported earlier, today the Treasury has released a new, more detailed description of its corporate tax proposals which will be the pay-for to fund Biden’s $2.25 trillion “Jobs”, aka infrastructure, plan. The proposals are in line with the outline from the White House last week, but include a few key details related to the treatment of foreign income and the minimum tax on book income.

Below we lay out a summary of what was released, courtesy of Goldman’s political economist Alec Philips:

• Overall, Treasury estimates the proposal would raise around $2 trillion over 10 years. Compared to the CBO’s projection of total corporate profits, this would represent an increase in the effective corporate tax rate of 7pp. The net increase by company would vary substantially from this for two reasons.
• First, the White House is proposing substantial tax incentives for specific activities—manufacturing, R&D, infrastructure, housing, and clean energy to name a few—many of which would go to corporations.
• Second, around 60% of the gross tax increase the Treasury proposes relates to more heavily taxing the foreign profits of multinationals at rates similar to the current 21% domestic tax rate. The proposals would also tax the US profits of foreign multinationals more heavily.
• These details are very likely to change. Senate Democrats have already released their own proposal, though it follows the same general outline. More importantly, some centrist Democrats have already suggested they prefer a smaller corporate rate increase.
• The Treasury’s report is silent on the timing of tax increases, but Goldman thinks a retroactive tax hike is very unlikely. Budget rules require long-term offsets to new spending, but not in the near-term, and we expect that retroactive tax increases would reduce political support for the next fiscal package.

As Larry McDonald summarizes in his latest Bear Trap report, the plan (infrastructure bill) would raise the corporate tax rate to 28% from 21%, increase minimum taxes on U.S. companies’ foreign income and make it harder for foreign-owned companies with U.S. operations to benefit from shifting profits to low-tax countries, i.e., effectively blocking the inversion deals that were so prevalent under Obama… And, as Yellen revealed today, the US is working with G-20 nations to agree to a global minimum corporate tax rate that can stop the race to the bottom.

“So the global minimum tax would be on US companies doing business abroad but they are ALSO trying to get the G20 to agree to a minimum… Keep in mind, some companies such as Ireland have corporate tax rates as low as 12.5%. Goldman’s 9% EPS-hit projection does not incorporate a potential hike on foreign profits.“

“The infrastructure bill wants to raise the so-called GILTI tax 10ppt on US companies’ foreign income. Yellen is separately trying to negotiate countries raise their corporate tax BECAUSE US wants to raise GILTI tax and if other countries don’t raise their taxes, we get same thing that happened pre 2017, USA companies going abroad. But these countries are not going to play ball with Yellen…”

What these considerations in mind, here are the full details from the Treasury’s description of its corporate tax proposal, which it has subbed the “Made in America Tax Plan“, courtesy of Goldman:

There are no new proposals in today’s Treasury release. The proposals all appear to have been mentioned in the outline the White House released last week as part of its “American Jobs Plan.” However, the proposal includes some new details, particularly with regard to the replacement for the Base Erosion and Anti-Avoidance Tax (BEAT) (see below), which the prior release did not describe.

Treasury’s proposals imply a 7pp gross increase in the effective corporate tax rate. The Congressional Budget Office (CBO) projects corporate profits totaling $29.3 trillion over the next ten years. A $2 trillion rise in gross corporate taxes would represent a 7% increase off of that base. Looked at differently, CBO currently projects the Treasury will collect $3.5 trillion in corporate taxes, so a $2 trillion increase would increase corporate taxes by more than 60%. However, this is subject to two important caveats. First, the net tax increase would be smaller, as the Administration is also proposing new tax incentives (not detailed today) that some of these new revenues would pay for. Second, it would affect multinationals more heavily.

The release highlights how much the Biden Administration plans to rely on taxing foreign profits for new tax revenue. Of the roughly $2 trillion over ten years the Treasury estimates the plan would raise, around $1.2 trillion appears to come from changing the tax treatment of foreign corporate income, primarily by tightening or replacing policies Congress first enacted in the 2017 Tax Cut and Jobs Act (TCJA). This would primarily affect US-based companies with foreign profits, though some provisions would also affect foreign-based multinationals with profits in the US.

The main points of the proposal are as follows:

• GILTI-related taxes would more than triple. The TCJA established a new tax on Global Intangible Low-Tax Income (GILTI), which taxed US-based companies on half of their foreign profits from intangible assets at the US rate (21%). Intangible income is defined as profits in excess of a 10% return on physical capital. The tax applies to aggregate foreign profits, net of tax credits worth 80% of taxes paid on those profits. The Administration proposes three changes: repeal the 10% return on capital; tax 75% of foreign profits rather than 50%; and apply the system on a country-by-country basis to better isolate profits in low-tax jurisdictions.  Treasury estimates this would raise $500bn in revenue in excess of the revenue from the current policy. For comparison, adjusted to today’s tax code and corporate profit projections, the Joint Committee on Taxation (JCT) estimated that the current GILTI provision would raise around $200bn. This is likely to increase the tax on GILTI that intellectual property-intensive industries already pay, but is also likely to affect other industries not currently affected by GILTI due to the exclusion of profits on physical capital and/or the aggregation of profits across countries.
• BEAT would be replaced and increase by several times its current effect. The Base Erosion and Anti-Abuse Tax (BEAT) was also established by the 2017 law. It applies a tax on intra-company transactions, but exempts Cost of Goods Sold(COGS) and only applies if transactions exceed 3% of total deductions. The Treasury proposes to replace BEAT with SHIELD (Stopping Harmful Inversions and Ending Low-tax Developments). The proposal still lacks detail, but appears to tie treatment of related-party transactions to the tax rate of the related party. It would also seek to further limit corporate inversions. Adjusted for current profit projections and the 28%proposed tax rate, the original JCT estimate suggests BEAT should raise around$250bn over 10 years. However, Treasury data and projections suggest the IRS might collect only around $50bn in direct BEAT taxes over that period. Today’s Treasury release does not specify the exact amount of revenue SHIELD would raise, but the figures it mentions imply it would raise at least $200bn over 10 years.
• FDII would be eliminated. The TCJA grants a deduction for the foreign profits of US companies that are derived from US-held intangible assets, known as Foreign Derived Intangible Income (FDII). This was intended to encourage companies to hold patents and other intangible assets in the US rather in low-tax jurisdictions and was meant to be complimentary to the GILTI regime. With a rise in the effective GILTI rate, Treasury appears to view the FDII policy as unnecessary. Treasury does not estimate the revenue repealing it would raise, but the 2017 JCT estimates, adjusted as above, suggest repeal might raise around $100bn.
• The Treasury provides a few new details on the global minimum tax. The Biden campaign proposed a 15% tax on global income, applied to the figure companies report to shareholders rather than the figure reported to the IRS. The White House included this in the last week’s outline without new detail. The only new detail the Treasury now provides is that it would credit firms for extra taxes (above the 15% threshold) paid in prior years, general business tax credits, and foreign tax credits. Treasury does not provide an exact revenue estimate, but the figures it does mention suggest that it would be scored at around $175bn over 10 years.
• Fossil fuel subsidies would end. The White House discussed this previously, and the Treasury estimates repeal to raise $35bn over 10 years.

These details are very likely to change. Senate Finance Committee Chairman Wyden (D-Oreg.), along with two committee members, Sens. Brown (D-Ohio) and Warner (D-Va.), have already released their own proposal, which follows the same general outline but differs in a few specifics. More importantly, at least one centrist Democrat, Sen. Manchin (D-W. Va.) has already suggested that he would prefer to increase the rate to only 25%.

Retroactive increases look unlikely. The Treasury release is silent on the timing of tax increases, but Goldman thinks a retroactive tax hike is very unlikely. There are two reasons the White House is proposing tax increases:

• The first is to pay for some of the “Jobs Plan” over the next ten years. If the White House intended to cover the full cost of the bill using the 10-year window that Congress typically uses for scoring fiscal measures, there could be pressure to make the increases retroactive in order to generate enough revenue. But neither the White House nor Congressional Democrats are proposing to fully offset the cost of their spending plan over the next ten years, so an extra year of revenue is unlikely to be worth the political cost of making tax increases retroactive.
• The second and more important reason for tax increases would be to fully offset the cost of new policies after 10 years. Assuming Democrats use the reconciliation process to circumvent Republican opposition, they will have to comply with a particular set of rules, including a prohibition on increasing the deficit after the ten-years Congress uses to consider fiscal policies (currently 2022-2031). This is less relevant for infrastructure, which would be a one-time spending boost, but would be critical to make permanent policies like expanded child care, health insurance subsidies, or the newly expanded child tax credit

When Republicans wrote the TCJA in 2017, they allowed some policies to phase out after several years while delaying the full effect of some tax increases for several years. The effect was to produce a bill that JCT estimated to raise the deficit substantially in the first several years but not at all over the long run (i.e., after the 10-year period Congress uses). At the time, most observers imagined that a future Congress would extend the tax relief and delay the tax increases. Congressional Democrats will likely use a version of this strategy this year as well, with a net deficit increase in the near-term and a budget-neutral impact over the longer term as some tax policies become more restrictive.