The Inflation Reduction Act of 2022 imposes a 15% corporate Book Minimum Tax ("BMT") for taxable years beginning after December 31, 2022. The BMT is a 15% tax on certain domestic corporations' Applicable Financial Statement Income ("AFSI"), offset by certain foreign tax and general business credits (subject to limitations). AFSI is based on the corporation's net income or loss as reported on its applicable financial statement, subject to several adjustments. A corporation subject to the BMT is only liable for additional tax to the extent its tax liability under the BMT would exceed the sum of its liability under the regular corporate income tax and Base Erosion Anti-avoidance Tax ("BEAT"). Summarized below are key features and ambiguities of the BMT.
Scope of the Book Minimum Tax Is Broader Than It First Appears
- As a general rule, the BMT only applies to domestic corporations (excluding S corporations, REITs, and RICs) whose average AFSI exceeds $1 billion over a three-year period ("Book Income Test"). However, several nuances broaden the scope of the BMT:
- For purposes of the Book Income Test only, the AFSI of entities that are treated as a single employer with a corporation under the relevant Section 52 controlled group rules are added to that corporation's AFSI.
- A U.S. corporate subsidiary of a foreign-parented group is subject to the BMT if the group's average AFSI exceeds $1 billion over a three-year period and the U.S. subsidiary's average AFSI is $100 million or more over a three-year period.
- Once a corporation crosses the income threshold and becomes subject to the BMT, it will generally remain subject to the BMT even after its average AFSI falls below the income threshold. The statute provides that the BMT may cease to apply to a corporation only if and until (i) the corporation's AFSI falls and remains below the income threshold for a number of consecutive taxable years (as determined by Treasury) or it has an ownership change, and (ii) Treasury determines "it would not be appropriate to continue to treat such corporation" as subject to the BMT. Thus, it appears that once a corporation is subject to the BMT, it will continue to apply in future years unless and until Treasury intervenes.
- The Sinema and Thune amendment to earlier drafts of the new legislation struck language from the final law treating Section 212 investment activities as a trade or business for purposes of the Section 52 controlled group rules. This amendment was motivated by concerns that the AFSI of investment funds and their portfolio companies could otherwise be combined and subjected to the BMT; guidance would be welcome to confirm that funds will be excluded from the tax.
Credit for Book Minimum Tax Paid
- Similar to the corporate alternative minimum tax that was repealed in 2017, a corporation that pays an incremental tax under the BMT is entitled to a minimum tax credit that can be used to reduce the corporation's regular income and BEAT tax liability in later taxable years, although not below the corporation's tentative tax liability under the BMT in any taxable year.
Depreciation and Amortization Adjustments
- The calculation of AFSI requires that book depreciation deductions for tangible property be replaced by the equivalent tax deductions under Section 167, including bonus depreciation. Since corporations are typically allowed to depreciate assets more quickly for tax purposes than for book purposes, this adjustment should benefit corporations with recently acquired depreciable assets by yielding a greater reduction in book income.
- By contrast, AFSI generally incorporates book amortization deductions for intangible assets, with the notable exception of certain wireless spectrum investments, for which Section 197 tax amortization deductions replace their book equivalents.
Interaction with Pillar Two
- Although the BMT and the OECD "Pillar Two" regime are similar as they both impose a 15% minimum tax rate based on book income, there are significant differences between the two. Notably, the BMT is calculated on a worldwide blended basis, whereas Pillar Two adopts a country-by-country approach. Accordingly, it is unclear whether the BMT would be categorized favorably for Pillar Two and, if so, how BMT liability would be allocated to the relevant controlled foreign corporations for purposes of Pillar Two. Our prior commentary on Pillar Two can be found here.
Deduction for Financial Statement NOL Carryforwards
- A corporation's federal income tax net operating losses ("NOLs") cannot be used to reduce AFSI, although a corporation's "financial statement NOLs" may reduce up to 80% of its AFSI. A financial statement NOL is a net loss reported on the corporation's financial statements for tax years ending after December 31, 2019.
- This deduction applies for purposes of calculating a corporation's liability under the BMT but does not apply to determine whether the corporation is subject to the BMT.
Issues for Distressed Corporations
- Distressed corporations may be hit particularly hard by the BMT given the limited availability of financial statement NOLs, the general inability to exclude cancellation of debt taxable income from book income, and the possible open-ended application of BMT even after a corporation's AFSI falls.
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.