On September 1, 2020, the Department of the Treasury and the Internal Revenue Service (collectively, Treasury) released final regulations under Section 59A, commonly referred to as the base erosion and anti-abuse tax (BEAT). The final regulations provide additional guidance on the application of the BEAT.
Details
Section 59A imposes on each applicable taxpayer a tax equal to the base erosion minimum tax amount for the taxable year. On December 6, 2019, Treasury published final regulations (TD 9885) under Sections 59A, 383, 1502, 6038A and 6655 (the 2019 final regulations) in the Federal Register (84 FR 66968). On the same date, Treasury also published proposed regulations (REG-112607-19) under Section 59A and proposed amendments to 26 CFR part 1 under Section 6031 of the Code in the Federal Register (84 FR 67046). On February 19, 2020, the Treasury Department and the IRS published a correction to the 2019 final regulations in the Federal Register (85 FR 9369).
The final regulations retain the basic approach and structure of the proposed regulations, with certain revisions. We’ve summarized some of the key aspects to the final regulations, below.
The final regulations retain the rule in the proposed regulations that permits the use of a reasonable approach to determine whether a taxpayer’s aggregate group meets the gross receipts test and base erosion percentage test with respect to a short taxable year of the taxpayer. However, the final regulations clarify that excluding the gross receipts, base erosion tax benefits and deductions of a member from the taxpayer’s aggregate group when the member does not have a taxable year that ends with or within a short taxable year of the taxpayer constitutes an unreasonable approach.1 In addition, to provide guidance for taxpayers in determining whether a particular approach is reasonable and does not over-count nor under-count, the final regulations include examples of methods that may or may not constitute a reasonable approach.2
The final regulations provide that when a corporation has a deemed taxable year-end under §1.59A-2(c)(4), the deemed taxable year-end is treated as occurring at the end of the day of the transaction.3 Thus, a new taxable year is deemed to begin at the beginning of the day after the transaction. A taxpayer determines items attributable to the deemed short taxable years ending upon and beginning the day after the deemed taxable year-end by either deeming a close of the corporation’s books or, in the case of items other than extraordinary items, making a pro-rata allocation without a closing of the books.4 Extraordinary items that occur on the day of, but after, the transaction that causes the corporation to join or leave the aggregate group are treated as occurring in the deemed taxable year beginning the next day. For this purpose, the term “extraordinary items” has the meaning provided in §1.1502-76(b)(2)(ii)(C). This term is also expanded to include any other payment that is not made in the ordinary course of business and that would be treated as a base erosion payment.
Section 1.59A-2(c)(5)(ii)(A) provides that, if a member of a taxpayer’s aggregate group has more than one taxable year that ends with or within the taxpayer’s taxable year and together those taxable years are comprised of more than 12 months, then the member’s gross receipts, base erosion tax benefits and deductions for those years are annualized to 12 months for purposes of determining the gross receipts and base erosion percentage of the taxpayer’s aggregate group. To annualize, the amount is multiplied by 365 and the result is divided by the total number of days in the year or years.
The final regulations also adopt a corresponding rule to address short taxable years of members. Specifically, if a member of the taxpayer’s aggregate group changes its taxable year-end, and as a result the member’s taxable year (or years) ending with or within the taxpayer’s taxable year is comprised of fewer than 12 months, then for purposes of determining the gross receipts and base erosion percentage of the taxpayer’s aggregate group, the member’s gross receipts, base erosion tax benefits and deductions for that year (or years) are annualized to 12 months.5 This rule does not apply if the change in the taxable year-end is a result of the application of §1.1502-76(a), which provides that new members of a consolidated group adopt the common parent’s taxable year. But see §1.59A-2(c)(5)(iii) (providing an anti-abuse rule that applies to transactions with a principal purpose of changing the period taken into account for the gross receipts test or the base erosion percentage test).
The final regulations also adopt a corresponding anti-abuse rule to address other types of transactions that may achieve a similar result of excluding gross receipts or base erosion percentage items of a taxpayer or a member of the taxpayer’s aggregate group that are undertaken with a principal purpose of avoiding applicable taxpayer status.6
The final regulations provide that gross receipts of foreign predecessor corporations are taken into account only to the extent that the gross receipts are taken into account in determining income that is effectively connected with the conduct of a U.S. trade or business (ECI) of the foreign predecessor corporation, which would be consistent with the ECI rule for gross receipts of foreign corporations in §1.59A-2(d). Section 1.59A-2(c)(6)(i) clarifies that the operating rules set forth in §1.59A-2(c) (aggregation rules) and §1.59A-2(d) (gross receipts test) apply to the same extent in the context of the predecessor rule. Thus, the ECI limitation on gross receipts in §1.59A-2(d)(3) continues to apply to the successor.
If a taxpayer elected to forego a deduction and followed specified procedures (the “BEAT waiver election”), the proposed regulations provided that the foregone deduction would not be treated as a base erosion tax benefit.7 The final regulations explicitly clarify that, in order to make or increase the BEAT waiver election under §1.59A-3(c)(6), the taxpayer must determine that the taxpayer could be an applicable taxpayer for BEAT purposes but for the BEAT waiver election. §1.59A-3(c)(6)(i).
In addition, when a taxpayer does not make a BEAT waiver election (or when this waiver is not permitted), §1.59A-3(c)(5) and §1.59A-3(c)(6)(i) have no bearing on whether or how a taxpayer’s failure to claim an allowable deduction, or to otherwise “waive” a deduction, is respected or taken into account for tax purposes other than Section 59A.8
The final regulations include a provision for the waiver of amounts treated as reductions to gross premiums and other consideration that would otherwise be base erosion tax benefits within the definition of Section 59A(c)(2)(A)(iii) and provide that similar operational and procedural rules apply to this waiver, such as the rule providing that the waiver applies for all purposes of the Code and regulations.9 The BEAT waiver election affects the base erosion tax benefits of the taxpayer, not the amount of premium that the taxpayer pays to a foreign insurer or reinsurer (or the amount received by that foreign insurer or reinsurer). Therefore, for example, the waiver of reduction to gross premiums and other consideration (or of premium payments that are deductions for federal income tax purposes) does not reduce the amount of any insurance premium payments that are subject to insurance excise tax under Section 4371.
Regarding the documentation requirements to make the BEAT waiver election, §1.59A-3(c)(6)(ii)(B)(1) of the final regulations omits the requirement to provide a “detailed” description. Section 1.59A-3(c)(6)(ii)(B)(6) and (7) is also revised to make certain non-substantive, clarifying changes.
The final regulations have been revised to state more explicitly that a deduction may be waived in part.10 Treasury also states in the preamble to the final regulations that the IRS plans to revise Form 8991, Tax on Base Erosion Payments of Taxpayers with Substantial Gross Receipts, to incorporate reporting requirements relating to the reporting of deductions that taxpayers have partially waived.
Subject to certain special rules in connection with the centralized partnership audit regime enacted in the Bipartisan Budget Act of 2015 (the BBA), the final regulations explicitly permit a corporate partner in a partnership to make a BEAT waiver election with respect to partnership items.11 The final regulations also clarify that a partnership may not make a BEAT waiver election.12 In addition, the final regulations provide that waived deductions are treated as non-deductible expenditures under Section 705(a)(2)(B).13
Further, the final regulations provide rules to conform the partner-level waiver with Section 163(j).14 Specifically, the final regulations clarify that, when a partner waives a deduction that was taken into account by the partnership to reduce the partnership’s adjusted taxable income for purposes of determining the partnership-level Section 163(j) limitation, the increase in the partner’s income resulting from the waiver is treated as a partner basis item (as defined in §1.163(j)-6(b)(2)) for the partner, but not the partnership.
The final regulations clarify that a partner may make the BEAT waiver election with respect to an increase in a deduction that is attributable to an adjustment made under the BBA audit procedures, but only if the partner is taking into account the partnership adjustments either because the partnership elects to have the partners take into account the adjustments under Sections 6226 or 6227, or because the partner takes into account the adjustments as part of an amended return filed pursuant to Section 6225(c)(2)(A).15 If the partner makes the BEAT waiver election, the partner will compute its additional reporting year tax (as described in §301.6226-3) or the amount due under §301.6225-2(d)(2)(ii)(A), treating the waived amount as provided in §1.59A-3(c)(6).
The final regulations clarify that waived deductions attributable to a consolidated group member are treated as noncapital, nondeductible expenses that decrease the tax basis in the member’s stock for purposes of the stock basis rules in §1.1502-32 to prevent the shareholder from subsequently benefitting from a waived deduction when disposing of the member’s stock.16
The final regulations in §1.59A-3(b)(3)(iii)(C) expand the ECI exception, whereby a base erosion payment does not result from amounts paid or accrued to a foreign related party that are subject to tax as ECI, to apply to certain partnership transactions. The expanded ECI exception in §1.59A-3(b)(3)(iii)(C) applies if the exception in §1.59A-3(b)(3)(iii)(A) or (B) would have applied to the payment or accrual as characterized under §1.59A-7(b) and (c) for purposes of Section 59A (assuming any necessary withholding certificate were obtained).
The ECI exception reflected in §1.59A-3(b)(3)(iii)(C) also may apply in other situations, such as when (1) a U.S. taxpayer contributes cash and a foreign related party of the U.S. taxpayer contributes depreciable property to the partnership (see §1.59A-7(c)(3)(iii)), (2) a partnership with a partner that is a foreign related party of the taxpayer partner engages in a transaction with the taxpayer (see §1.59A-7(c)(1)) or (3) a partnership engages in a transaction with a foreign related party of a partner in the partnership (id.).
The general ECI exception reflected in §1.59A-3(b)(3)(iii)(A) would not apply if a U.S. person purchased depreciable or amortizable property from a foreign related party and that property was not held in connection with a U.S. trade or business. Similarly, when a U.S. person is treated as purchasing the same depreciable or amortizable property from a foreign related party under §1.59A-7(c)(3)(iii) because the foreign related party contributes that property to a partnership, the ECI exception does not apply even though the property becomes a partnership asset after the transaction and the partnership uses the property in its U.S. trade or business.
To implement this addition, the final regulations include modified certification procedures similar to those set forth in §1.59A-3(b)(3)(iii)(A) in order for the taxpayer to qualify for this exception. Specifically, the final regulations require a taxpayer to obtain a written statement from a foreign related party that is comparable to a withholding certification provided under §1.59A-3(b)(3)(iii)(A), but which takes into account that the transaction is a deemed transaction under §1.59A-7(b) or (c) rather than a transaction for which the foreign related party is required to report ECI. The taxpayer may rely on the written statement unless it has reason to know or actual knowledge that the statement is incorrect.
The final regulations provide that the partnership anti-abuse rule for derivatives does not apply when a payment with respect to a derivative on a partnership asset qualifies for the qualified derivative payment (QDP) exception.17
The 2019 final regulations include an anti-abuse rule that provides that if a transaction, plan or arrangement has a principal purpose of increasing the adjusted basis of property that a taxpayer acquires in a specified nonrecognition transaction, the nonrecognition exception of §1.59A-3(b)(3)(viii)(A) will not apply to the nonrecognition transaction. Additionally, §1.59A-9(b)(4) contains an irrebuttable presumption that a transaction, plan or arrangement between related parties that increases the adjusted basis of property within the six-month period before the taxpayer acquires the property in a specified nonrecognition transaction has a principal purpose of increasing the adjusted basis of property that a taxpayer acquires in a nonrecognition transaction. The final regulations modify the anti-abuse rule to now provide that when the rule applies, its effect is to turn off the application of the specified nonrecognition transaction exception only to the extent of the basis step-up amount. Second, §1.59A-9(b)(4) has been revised to clarify that the transaction, plan, or arrangement with a principal purpose of increasing the adjusted basis of property must also have a connection to the acquisition of the property by the taxpayer in a specified nonrecognition transaction.
The final regulations generally apply to taxable years beginning on or after the date of publication in the Federal Register. The rules in §§1.59A-7(c)(5)(v) and (g)(2)(x), and 1.59A-9(b)(5) and (6) apply to taxable years ending on or after December 2, 2019. Taxpayers may apply the final regulations in their entirety for taxable years beginning after December 31, 2017, and before their applicability date, provided that, once applied, taxpayers must continue to apply these regulations in their entirety for all subsequent taxable years.18 Alternatively, taxpayers may apply only §1.59A-3(c)(5) and (6) for taxable years beginning after December 31, 2017, and before their applicability date, provided that, once applied, taxpayers must continue to apply §1.59A-3(c)(5) and (6) in their entirety for all subsequent taxable years. Taxpayers may also rely on §§1.59A-2(c)(2)(ii) and (c)(4) through (6), and 1.59A-3(c)(5) and (c)(6) of the proposed regulations in their entirety for taxable years beginning after December 31, 2017, and before the date of publication in the Federal Register.
For additional details, including items not discussed in this summary, see the final regulations.
UPCO Insights
Despite numerous comments, the final regulations retain the rule in the proposed regulations and do not permit a taxpayer to decrease the amount of deductions that are waived either by filing an amended federal income tax return or during an examination.
