On August 16, 2022, President Biden signed into law the Inflation Reduction Act of 2022 (the Act), a sweeping bill with significant tax, energy and healthcare implications.1 This alert focuses on two key corporate tax aspects of the Act:
- the new 15% corporate alternative minimum tax, and
- the new 1% stock buyback excise tax.
Notably, the Act does not increase regular income tax rates for individuals or corporations. Nor does it address the $10,000 state and local tax deduction limitation. The Act also does not change the taxation of "carried interest" (as had been proposed in a prior version of the bill). It does, however, increase IRS enforcement funding by $80 billion over the next 10 years.
Corporate Alternative Minimum Tax
Effective for tax years beginning after December 31, 2022, the Act imposes a 15% corporate alternative minimum tax (AMT) on the "adjusted financial statement income" (broadly speaking, book income subject to certain adjustments) of an "applicable corporation."
An applicable corporation is generally any corporation – but not an S corporation, real estate investment trust, or regulated investment company – whose average annual adjusted financial statement income (or AFSI) exceeds $1 billion for three consecutive years (ignoring financial statement net operating losses). For purposes of determining whether a corporation is an applicable corporation, the AFSI of all corporations in a controlled group (generally determined using a 50% threshold) is taken into account.2 Once a corporation has satisfied this $1 billion minimum average book income test, the corporation continues to be treated as an applicable corporation, even if its AFSI falls below the $1 billion threshold, unless Treasury makes a special determination to the contrary.
To calculate AFSI, the applicable corporation starts with its net income or loss on its "applicable financial statement" (or AFS).3 For a domestic corporation, its AFS will often be its book (or more precisely, GAAP) financial statements filed with the Securities and Exchange Commission. AFSI is then adjusted to, among other things, use accelerated tax depreciation (in lieu of book depreciation that may not have been taken into account in book income).
In addition, AFSI is reduced by post-2019 (and only post-2019) financial statement net operating losses carryforwards, subject to a cap of 80% of the corporation's AFSI for the applicable year (similar to the 80% cap on use of net operating losses for regular corporate income tax purposes).
Once AFSI has been calculated, an applicable corporation determines its "tentative minimum tax," which is 15% of AFSI for the tax year less the corporation's "corporate AMT foreign tax credit" for the tax year.4
If the applicable corporation's "tentative minimum tax" is greater than its regular corporate income tax liability (plus its "base erosion and anti-abuse tax," or BEAT, liability), the corporation pays such excess (as reduced by any general business credits) as its corporate AMT. Conversely, if the applicable corporation's "tentative minimum tax" is less than its regular income tax liability (plus its BEAT liability), no corporate AMT is generally due.
Significantly, the new corporate AMT does not conform to the so-called "Pillar II" minimum tax rules set forth by the Organization for Economic Cooperation and Development. Consequently, if Pillar II is ultimately adopted, a corporation may be subject to that additional Pillar II tax regime (in addition to this new corporate AMT).
Stock Buyback Excise Tax
Effective for stock "repurchases" by a "covered corporation" after December 31, 2022, the Act imposes an annual nondeductible excise tax (on the repurchasing corporation, not the redeemed shareholder) equal to 1% of the aggregate fair market value of the repurchased stock for the tax year less the aggregate fair market value of all stock issued by the corporation during that tax year (including in equity capital raises or as compensatory stock grants).
A "covered corporation" is generally any domestic corporation – excluding S corporations, real estate investment trusts and regulated investment companies – the stock of which is traded on an established securities market (such as NYSE or NASDAQ).5 Private companies are generally excluded. However, even where the covered corporation does not buy back the stock directly, the corporation may still be subject to the excise tax if a "specified affiliate" (generally any affiliate controlled by the covered corporation, determined with a 50% vote or value threshold) repurchases the corporation's stock.
The scope of "repurchases" under the Act is broad, covering not only traditional stock redemptions or buybacks by a corporation, but also any transaction Treasury determines is "economically similar" to a corporate stock redemption.
Notably, "repurchases" may include cash consideration in certain traditional taxable stock acquisitions or taxable merger transactions to the extent funded by the target company (for example, from the target company's balance sheet or as new debt issued or assumed by the target company as part of the transaction).
Cash payments to dissenting shareholders, cash paid in lieu of fractional shares, certain corporate liquidations, redemptions of special purpose acquisition corporation (SPAC) shareholders in a "deSPAC" transaction, split-offs, and even the payment of "boot" (generally money or non-stock property) in a tax-deferred reorganization may be caught up in this new regime. In addition, the Act applies to preferred (not just common) stock repurchases by a covered corporation, even if, for example, that repurchased preferred stock is mandatorily redeemable under its existing, pre-Act terms.6 As one can imagine, future Treasury guidance on these types of matters will certainly be welcomed.
Thankfully, the Act does provide certain exceptions, including for repurchases of stock to the extent (a) the repurchases are part of a tax-deferred reorganization (other than potentially boot), (b) the repurchased stock is contributed to an employer-sponsored retirement plan, employee stock ownership plan, or similar plan, (c) the aggregate value of the repurchases for the tax year does not exceed $1 million, (d) the repurchases are undertaken by dealers in the ordinary course, or (e) the repurchases are treated as dividends for U.S. federal income tax purposes.
1. Future Sheppard Mullin alerts may focus on the other healthcare, climate-related and energy tax incentives of the Act.
2. A similar aggregation rule applies with respect to any trades or businesses (whether or not incorporated) under common control. Although the final version of the Act was revised in a manner intended to avoid or minimize the application of the AFSI aggregation rules to portfolio companies held by private equity funds, some uncertainty may remain, at least until additional guidance is provided.
3. Special rules apply in the context of consolidated groups, partnership and non-consolidated interests, foreign subsidiaries, and "disregarded entities."
4. A domestic corporation's "corporate AMT foreign tax credit" is generally the corporation's pro rata share of foreign taxes paid or accrued by any "controlled foreign corporation" (or CFC) of such corporation, to the extent such foreign taxes are reported on the AFS of such CFC (capped using a 15% rate to mirror the corporate AMT rate), plus the corporation's foreign tax credits (as reported on the corporation's AFS).
5. The excise tax may also be imposed on stock repurchases by certain foreign corporations (including certain expatriated publicly traded corporations).
6. The Act expressly grants authority to Treasury to issue regulations governing the excise tax's application to preferred stock. The excise tax may also be imposed on stock repurchases by certain foreign corporations (including certain expatriated publicly traded corporations).
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.