The year 2015 promises to be an active one in U.S. international tax policy, as new players take the stage in the tax reform debate, the Base Erosion and Profit Shifting (BEPS) effort continues to develop and even begins to go into effect around the world, and corporate inversions remain a hot tax policy topic after a year of intense publicity and aggressive executive action. Against this backdrop, 2015 likely will feature a great deal of activity in the international tax arena, even if fundamental changes to the U.S. international tax regime remain unlikely in the near term. Here are 10 pressing questions that may be answered as the year unfolds.
1. Can "business only" tax reform be made to work?
It is widely agreed that President Obama and congressional Republicans are too far apart on individual income tax policy to make that a productive area of discussion. On the other hand, it is often said that the two sides "are not that far apart" on business tax reform, in the sense that almost everyone agrees that the U.S. corporate income tax rate is too high and that the tax base should be broadened in at least some respects as part of a rate reduction effort. Thus business tax reform could be an area of constructive engagement during 2015. More detailed discussions over the course of this year will reveal how much agreement there really is between the two sides, as well as how challenging it will be to design a coherent business tax reform approach without broadly implicating the individual income tax rules, in light of the fact that so much business is conducted through pass-through entities whose income is taxable under the individual regime.
2. Can policy makers agree on revenue goals for business tax reform?
It is likely that President Obama and congressional Republicans can agree that revenue-neutral business tax reform would be a worthwhile objective, if reform could improve the efficiency, perceived fairness and administrability of the rules. However, disagreements might arise as to whether, for example, the legislation must be revenue-neutral over the conventional 10-year budget window, or indefinitely in a "steady state." If there is a one-time surge in tax revenues from a deemed repatriation of foreign earnings as a transition into a territorial dividend exemption system, will that enable the enactment of policies with negative longer term budget effects as conventional budgeting principles would permit, or will President Obama invoke steady state neutrality to require dedication of this one-time revenue surge to other priorities, such as infrastructure spending, as indicated in the president's fiscal year (FY) 2016 budget proposal? The latter scenario would mean that the permanent policy would have to tilt more heavily towards base broadening in order to accomplish tax reform on a revenue neutral basis.
In addition, the concept of revenue neutrality for a business tax reform package as a whole may obscure many other revenue effects of potential interest. In particular, various segments of the business community (e.g., large multinationals, smaller businesses, U.S.-based companies, non-U.S.-based companies, various industrial sectors) will be interested in whether tax reform is revenue neutral for them, or if instead they are being called upon to finance someone else's tax cut (or benefiting from someone else's tax increase). Accomplishing revenue-neutral business tax reform to the satisfaction of both major political parties and all of these different segments of the business community will be a challenge.
3. Will "dynamic scoring" materially lighten tax reform's base-broadening load?
Although conventional revenue estimates are already "dynamic" in the sense that anticipated behavioral responses to proposed legislation are taken into account (i.e., microeconomic analysis), these estimates historically have been "static" in the sense that the macroeconomic baseline (overall size of the economy) is held constant. For the vast majority of business tax proposals, this distinction is of no consequence, as only the very broadest business tax proposals would be more than a drop in the macroeconomic bucket in view of the size of the U.S. economy. But for the most significant changes, such as a several-point reduction in the corporate income tax rate, there may be macroeconomic effects as well, and congressional Republicans are taking steps to account for these effects in scoring the revenue effects of tax reform. Their hope is that macroeconomic growth expected to result from large tax-cutting measures could boost projected tax receipts, thereby partially offsetting the more direct revenue-losing effects of such measures. This in turn would reduce the amount of base broadening necessary to accomplish tax reform on a revenue-neutral basis, making tax reform an easier lift.
Whether this scenario plays out in practice remains to be seen, and depends critically on what kind of political buy-in these dynamic scores receive—they will still be presented alongside (not instead of) conventional scores, and the White House and congressional Republicans might continue to differ regarding which one is the appropriate yardstick for determining revenue neutrality.
4. Will Congress invoke budget reconciliation procedures in order to pass tax reform legislation?
Although Republicans currently control both houses of Congress, "control" means different things as applied to the House of Representatives and the Senate, respectively. In the Senate, individual members and the minority party have greater blocking power (for example, in the form of the filibuster), such that a supermajority of 60 (out of 100) votes is typically required to pass legislation in the Senate, whereas in the House the majority party can more easily work its will. An exception to the Senate's supermajority requirement is legislation put before the Senate to "reconcile" taxing and spending measures with a budget resolution. Under this reconciliation process, only a simple majority vote in the Senate is required, but the legislation must be limited substantively in various respects (for example, it cannot increase deficits beyond the budget window, and thus might need to include "sunset" provisions). Such legislation would remain vulnerable to a presidential veto.
Passing tax reform legislation through the reconciliation process would be no one's first choice, but it is possible that congressional Republicans could pursue it in the event that a deal with the White House proves impossible otherwise. Although the legislation might not become law in the event of a veto, it could be an achievable legislative accomplishment and an important political document heading into the 2016 elections. As such, it could be a meaningful marker for what a potential Republican president and Congress might enact in 2017 or later.
5. How deep and wide is the agreement on "tough territorial" as the basic model for the U.S. outbound regime?
It is likely that both President Obama and congressional Republicans can agree that the United States should move to a territorial-type dividend exemption system to eliminate the distortions created by making the repatriation of earnings a major taxable event, and also should tighten the existing rules (e.g., subpart F) limiting the ability to defer or avoid tax on certain kinds of income earned by non-U.S. subsidiaries. These two policy initiatives cut in opposite directions, in that one would decrease and the other would increase the U.S. tax burden on income earned by U.S.-based multinational groups outside the United States; together the initiatives are sometimes described as a "tough territorial" approach. It remains to be seen whether President Obama and congressional Republicans can agree on the nature, extent and balance of the territorial-type features and the base-broadening features of such a regime, and whether the business community would be any better off under a regime that might result from these deliberations. The president's FY 2016 budget proposal includes a "minimum tax" regime that would fit the tough territorial description. Although the proposal's various numerical thresholds make it more "tough" than "territorial," the proposal nevertheless suggests there is a chance that the two sides might be able to meet somewhere in the middle.
6. What will be the revenue and policy goals for the inbound rules as part of U.S. tax reform?
Although the U.S. international tax reform discussion has tended to focus more on the outbound rules (primarily directed at U.S.-based multinationals) than on the inbound rules (primarily directed at non-U.S.-based multinationals), more recently some focus has shifted toward the inbound rules, particularly in the wake of various BEPS developments and increased attention to inbound structures in connection with corporate inversions. As the tax reform discussion advances in 2015, it will be interesting to see how prominently inbound approaches feature in the debate, and what balance of tax-cutting and tax-raising measures are proposed by different policy makers with respect to the inbound business community.
7. If business tax reform proves elusive in 2015, will policy makers pursue a more limited tax package as a consolation prize?
It is possible that the White House and congressional Republicans will conclude that they are unable to enact business tax reform in 2015 but will agree on a more limited package of tax proposals, potentially including both revenue-raising and revenue-losing items. For example, some members propose another partial repatriation holiday, while others urge that further anti-inversion legislation be enacted without delay, and numerous industry-specific tax issues continue to be discussed (such as potential repeal of the medical device excise tax). Although the tax writers may resist the pursuit of a more limited tax package, it is possible that the mutual desire to accomplish something, even something short of true tax reform, could lead to the passage of a more limited tax package in 2015. Thus, even if tax reform remains a long shot in the coming year, the tax legislative area could still present near-term risks and opportunities for the business community.
8. When and how will the "tax extenders" package be addressed?
The "tax extenders" package of expiring tax provisions (e.g., research and experimentation credit, subpart F "look-through" and active financing rules) has again expired and thus will require legislative attention in 2015. As always, questions center on when exactly Congress might pass the extension of the provisions, whether any key provisions might fall out of the package, and the term of any extension. The rationale for pursuing such a limited extension at the end of 2014 apparently was to enable congressional Republicans to pursue a more Republican-leaning package for 2015. In addition, the nature and timing of tax extenders (routinely enacted without revenue offsets) affect the budget baseline for subsequent tax reform and thus can have a real effect on whether and what kind of tax reform eventually is achieved.
9. Will the impasse over tax treaty ratification finally be broken?
The Senate has not ratified a tax treaty instrument since 2010, because the objections of a senator have blocked the invocation of the unanimous consent procedures typically used to approve tax treaties, and tax treaties are generally not seen by Senate leadership as sufficiently important to warrant the use of extended Senate floor time, as would be required without such procedures. Several signed tax treaties and protocols are currently pending as a result, and it is likely that the impasse has some effect on the conduct of current treaty negotiations with existing and prospective treaty partners. It remains to be seen whether the new Senate majority leadership will be able to negotiate an end to the impasse.
10. What surprises may come in the form of executive action?
One of the more remarkable U.S. international tax policy developments of 2014 was the Internal Revenue Service's (IRS's) issuance of Notice 2014-52, which aggressively asserted executive authority to limit certain tax benefits following certain corporate inversion transactions. Officials have suggested that there could be more to come in this area. Even if there are no new bold strokes on inversions, the notice sets a precedent for a somewhat elastic interpretation of various anti-avoidance rules in the tax code and regulations when important tax policy objectives are thought to be at stake, which could have reverberations beyond the inversion area.
Meanwhile, even if no new tax policy issue "heats up" like inversions did in 2014, the IRS's existing guidance plan includes several important and potentially controversial items, including in the areas of repatriation and outbound transfers of intangibles. If the White House and congressional Republicans continue to have a hard time coming together on legislation in 2015, IRS guidance may remain on center stage in U.S. international tax policy.
U.S. International Tax Policy: 10 Questions For 2015
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