The Go-Go's were a unique early 1980s pop band because it was comprised solely of women who wrote, as well as performed, their own music. Their style was groundbreaking and defined what came to be known as the "new wave." And the songs were very catchy. When the base erosion and anti-abuse tax (commonly known as the "BEAT") was added to Section 59A of the Internal Revenue Code of 1986, as amended (the "Code") at the end of 2017, it too heralded a new wave . . . of taxation. Just like we're always looking to hear what's next from our favorite musicians, the tax bar has been feverishly anticipating more BEAT guidance. Luckily for us, on December 2, 2019, the US Internal Revenue Service (the "IRS") issued final regulations interpreting the BEAT rules2 (the "Final Regulations") and promulgated new proposed regulations (the "2019 Proposed Regulations") offering additional opportunities for affected taxpayers to address BEAT issues.
The Final Regulations apply to 2019 tax years. For 2018 tax years, taxpayers may elect to apply the Final Regulations or the 2018 Proposed Regulations, so long as either set of regulations is applied in its entirety. Taxpayers may also rely on the 2019 Proposed Regulations for 2018 and subsequent tax years so long as such rules are also applied in their entirety.3
The BEAT functions as a minimum tax in that it only applies if a taxpayer's liability under the BEAT (referred to as "base erosion minimum tax amount" or "BEMTA") exceeds its regular tax liability.4 The BEAT is applicable only to taxpayers with 3-year average annual gross receipts of at least $500 million and then only if their "base erosion percentage" exceeds a specified threshold (3% for taxpayer groups without domestic banks and securities dealers and 2% for groups with domestic banks and/or securities dealers that generate more than a de minimis amount of income).5 Although the BEAT potentially applies to all large taxpayers, it is likely to have significant application to banks and insurance companies.
The BEAT adds back most payments made by US taxpayers and US branches of non-US taxpayers to their non-US affiliates (that is, non-US persons connected through 25% or greater common ownership) to taxable income to arrive at "modified taxable income."6 The BEAT is then applied to this modified taxable income and, if this tax exceeds the taxpayer's regular tax, the excess or BEMTA is owed as an additional tax.
The first step in determining whether the BEAT applies to a particular taxpayer is to ascertain whether the taxpayer is an "applicable taxpayer."7 A taxpayer will be treated as an applicable taxpayer if it meets three tests:
1. The taxpayer must be a corporation, but not a regulated investment company, a real estate investment trust or an S corporation;
2. The taxpayer must have aggregate average gross receipts for the preceding three years of at least $500 million; and
3. The taxpayer's base erosion percentage for the taxable year must be 3% or higher (2% in the case of US banks and registered securities dealers).8
Special, and fairly complex, rules apply to determine whether the second and third tests are satisfied, including calculations on an "aggregate group" basis.
If a taxpayer meets the definition of an applicable taxpayer, the application of the BEAT provisions begins with the determination of "modified taxable income." Modified taxable income is taxable income determined without regard to any "base erosion tax benefit" with respect to any "base erosion payment."9 A base erosion payment includes any amount paid or accrued by the taxpayer to a related foreign person and with respect to which a deduction is allowable. In general, a foreign person will be treated as a related party if there is a 25% or greater ownership overlap with the taxpayer. A base erosion tax benefit includes a deduction that is allowed with respect to a base erosion payment.
Base erosion tax benefits generally include deductible payments for services, interest, rents and royalties. Depreciation and amortization deductions with respect to property acquired from related foreign persons may also be considered base erosion tax benefits and be disregarded in determining modified taxable income. No amount is generally added back in determining modified taxable income for payments to foreign related persons that are not deductible, but instead reduce gross income, e.g., amounts included in cost of goods sold. Base erosion payments do not include "qualified derivative payments" within the meaning of Code § 59A(h) or payments made by a US taxpayer for services that may be accounted for on the "services cost method" under Code § 482 to the extent such amount constitutes the total services cost without mark-up.10
The BEAT rate varies by year and by whether the taxpayer is a US bank or a registered securities dealer. Specifically, the BEAT rate is 10% in 2019 through 2025 and 12.5% thereafter.11 These rates are increased by one percentage point for US banks and registered securities dealers.12
II. Threshold Issue – The Determination of Gross Receipts
As noted above, only taxpayers with average annual gross receipts of at least $500 million (measured on an "aggregate group" basis) are subject to the BEAT.13 Following the 2018 Proposed Regulations, the Final Regulations generally define "gross receipts" by reference to Code §448(c)(3) and the regulations thereunder.14 Thus, gross receipts include total sales (net of returns and allowances), all amounts received for services and income from investments. Gross receipts are not reduced by cost of goods sold and do not include repayment of a loan (notably, however, gross receipts would generally include the gross proceeds from the sale of a loan by a bank).
III. Aggregate Group Calculations
Code § 59A determines the status of a corporation as an "applicable taxpayer" by measuring gross receipts and the base erosion percentage by reference to the corporation's "aggregate group." A question arises as to how these items should be measured when members of the aggregate group have different taxable years than the tested taxpayer. The 2018 Proposed Regulations provided that each taxpayer determines its gross receipts and base erosion percentage by reference to its own taxable year, taking into account the results of other members of the aggregate group during such taxable year (regardless of such other members' own respective taxable years). This approach raised administrability concerns because many companies do not maintain detailed monthly accounting records. Heeding this concern, the Final Regulations change to a "with-or-within method": the gross receipts and base erosion percentage are calculated on the basis of the tested taxpayer's taxable year and the taxable year of each member of its aggregate group that ends with or within the tested taxpayer's taxable year.15
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1 Mark Leeds is a partner and Lucas Giardelli is a senior associate in the New York office of Mayer Brown. Mark will be presenting on the Final BEAT Regulations at the International Bar Association Annual Finance & Capital Markets Tax Conference in London on January 21, 2020. Lucas will be presenting on the Final BEAT Regulations at the American Bar Association meeting in Boca Raton, FL, on January 31, 2020.
2 The Final Regulations replace proposed regulations that were issued in December 2018 (the "2018 Proposed Regulations"). For a discussion of the 2018 Proposed Regulations, please see https://www.mayerbrown.com/en/perspectivesevents/ publications/2019/01/irs-issues-proposedregulations- implementing-base.
3 Treas. Reg. § 1.59A-10.
4 Code § 59A(b).
5 Code § 59A(e); Treas. Reg. § 1.59A-2(e).
6 Code § 59A(c).
7 Code § 59A(a).
8 Code § 59A(e)(1).
9 Code § 59A(c).
10 Code § 59A(d)(5).
11 Code § 59A(b).
12 Code § 59A(b)(3).
13 Code §59A(e)(2)(B).
14 Treas. Reg. §1.59A-1(b)(13).
15 Treas. Reg. §1.59A-2(c)(3).
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