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President Obama Announces Corporate Income Tax Reform Proposal: Rate Reduction

Posted in Federal Tax Legislation

 

Under our current corporate income tax system, a corporation is subject to federal income tax on its taxable income at a maximum marginal rate of 35%. In the alternative, due to large write-offs for cost recovery allowances and similar items of tax preference in computing taxable income for the regular corporate income tax, a corporate alternative minimum tax is imposed under Section 55 at a rate of 20% times the alternative minimum taxable income (AMTI) in excess of $40,000 (which exemption phases out at $310,000 of AMTI), less the alternative minimum foreign tax credit.  In many instances there are items that reduce taxable income for the regular tax but do not in computing AMTI. A special AMT tax credit carryforward under Section 53 to guards against double inclusion of income. Certain “small corporations” are not subject to the corporate AMT.

 

The President’s corporate income tax plan is designed to make Amercian companies more competitive in the global economy and to stimulate “in-sourcing” of jobs instead of “out-sourcing” and loss of American jobs. The proposal to reduce the U.S. corporate tax rate, here by 20%, is not a new proposal as the Bush Administration had floated the same idea in 2005 but with a corporate maximum tax rate of 25% .[1] However, for “manufacturing” (within the US), under the Obama proposal the highest rate of corporate income tax on taxable income from domestic manufacturing would also be set at 25%. Expect “everyone” to try to posture that is engaged in US manufacturing (in addition to the obvious case of being engaged in manufacturing) should this reform be enacted. See Section 199.

 

To see where the President’s proposal, if enacted, would place the US corporate income taxpayer in light of foreign corporate income tax rates, a few of the more notable corporate tax rates of foreign countries are listed:

Argentina 35%

Australia 30%

Austria     25%

Brazil        34%

Canada     15% (11% small business federal) 1-16% (provincial)

PRC (China) 25%

Denmark 25%

France     33.3%

Germany 29.8% (approx.)

Hong Kong 16.5%

India         33.2175%

Ireland     12.5%-25%-10%

Italy          31.4%

Japan       40.69%

Mexico   28%

Netherlands 20/25%

New Zealand 28%

Norway   28%

Poland     19%

Portugal 25%

Russia    20%-13%

South Africa 28%

South Korea 10%,20%,22%

Sweden 26.3%

Switzerland 13-25%

Taiwan  17%

United Kingdom 20%-25%

Venezuela 15%/22%/34%

 

In order to help “pay” for the reduction in corporate tax rate the idea, again, not new, is to broaden the base of the tax by eliminating tax “loopholes” (political speak for provisions which currently allow for proper tax minimization) and eliminating a number of tax subsidies. Job creation and investment in the U.S. would be incentivized. One example of base broadening would be revising the “blocker” rules which allow corporate affiliates to block foreign source income from current taxation of U.S. companies until there is dividend repatriation. Another related provision would be to defer expensing of foreign based operations. Another item for the chopping block is the liberal depletion allowance rules. President Obama has said that it was time end subsidies and tax breaks for the oil industry, which "rarely has been more profitable," while increasing tax credits for developing alternative energy sources.

 

The Republicans have also been carrying the ball for corporate income tax reform. Former Governor Mitt Romney has been quoted as wanting the corporate income tax rate to be reduced to 25%. Former House Speaker Newt Gingrich goes 50% better and suggests a maximum US corporate income tax rate of 12.5%. Former Senator Santorum would exempt domestic manufacturers from the corporate tax and halve the top rate for other businesses.

 

Details of the various proposals will be issued shortly. Also, expect the Obama Administration to propose reform of the carried interest rules (e.g., non-taxable issuance of profits interests for services in a partnership) by taxing income sourced from carried interests at ordinary rates.

 

In this election year, many don’t expect any legislation in this area to make it through Congress. It’s just political speak for some. Still, its out there and who knows, it might just happen since both parties want corporate tax reform.




[1] In November 2005, President Bush’s Advisory Panel on Federal Tax Reform published its report. The Panel recommended the adoption of a simplified income tax plan (SITP) that included a “straightforward territorial method for taxing active foreign income.” Under the SITP:

“Active business income earned abroad in foreign affiliates (branches and controlled foreign subsidiaries) would be taxed on a territorial basis. Under the system, dividends paid by a foreign affiliate out of active foreign earnings would not be subject to corporate level tax in the United States. Payments from a foreign affiliate that are deductible abroad, however, such as royalties and interest would generally be taxed in the United States. Reasonable rules would be imposed to make sure that expenses incurred in the United States to generate exempt foreign income would not be deductible against taxable income in the United States.”