A technical corrections bill is still all talks at this point. Congressional tax writers are unlikely to drop a bill until the Joint Committee on Taxation (JCT) issues its bluebook. Even if a package of corrections is introduced, it’s hard to see Congress passing the measure this year — Democrats aren’t exactly rushing to help the GOP fix its own mistakes.
That said, what might the package include? Our Tax Policy Update team has identified three key issues related to domestic businesses:
- Section 199A. The new deduction for pass-through businesses allows a benefit to agricultural cooperatives that is intended to mirror some of the benefits they received under the old Section 199 — the domestic productions activities deduction. Non-cooperatives are claiming they are placed at a market disadvantage as a result of the new deduction. This issue has garnered attention in both the House and the Senate. A group of House members submitted a letter to Speaker Paul Ryan (R-WI) and Majority Leader Mitch McConnell (R-KY) seeking a fix to this provision.
- Interaction of Net Interest Expensed Deductibility with Respect to Partnerships. The tax law limits the deductibility of net interest expense to 30 percent of earnings before interest and taxes (EBIT) until 2022 and limits it to EBITDA for years thereafter. The limitation is measured at the partnership level, and any excess business interest is allocated to its partners. If that partner has other business interest, then the limitation is applied at the partner level as well. Complex interaction between partnerships and the allocation of excess business interest has left many businesses wondering about its application. There are many technical issues that remain unclear in this space. Of note is whether interest (be it investment interest or business interest) retains its characterization when it passes through from a partnership to a partner that is a corporation. Furthermore, under certain partnership structures, there is no mechanism to carry back excess business interest or carry forward the excess taxable income (used in calculating the amount to be allocated). Technical corrections may not be needed here, as Treasury officials have suggested that it would be addressed through proposed regulations.
- Carried Interest. In an effort to curtail the perceived low tax rate on carried interest under prior law, the GOP tax bill enacted a 3-year minimum holding period requirement to qualify for capital gains treatment for such partnership interests. As written the new tax provision appears to exclude interests in corporations. It remains unclear whether it would also apply to S corporations, which are taxed as pass-through entities like partnerships. Many companies have already gone ahead and filed S corporations in Delaware in anticipation of the carried interest restriction not being applicable to S corporations. This issue has caught the attention of Secretary Mnuchin, who has signaled that this would apply to S corporations as it does to partnerships, but the path forward has not yet been determined.
In the coming months, the tax community will continue to identify problematic provisions in the tax code that either need outright corrections or just clarification from the tax writers. For example, the Base Erosion and Anti-Abuse Tax (BEAT) provision has caused a tizzy as companies and tax wonks continue to pour over the statute to understand what the term “base erosion payment” truly intends to capture.