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Perceived GILTI Shortcomings Focus of Senate Hearing

Posted on Mar. 29, 2021

The global intangible low-taxed income provision was a primary target of criticism from Democrats and witnesses at a Senate Finance Committee hearing, although most critiques focused on reforming GILTI rather than advocating a complete rewrite.

The criticism at the March 25 hearing appeared to coalesce around three aspects of GILTI — its exemption from tax for qualified business asset investment income, its reduced rate, and its inapplicability on a per-country basis. These critiques come as Finance Committee Chair Ron Wyden, D-Ore., announced that he will release a new international tax framework “in the coming days” in cooperation with committee members Sherrod Brown, D-Ohio, and Mark R. Warner, D-Va.

“[There] is a need to make sure the best research and manufacturing is done in America. Yet the international system Republicans created in 2017 says just the opposite — ‘Don’t do it here; build everything overseas,’” Wyden said. “Aren’t we undercutting all the time and money spent trying to get research and development and manufacturing in the United States by having this backward system in place where you have all these incentives to ship the jobs overseas and ship our factories outside of our country?”

Senior tax counsel for Finance Committee Democratic staff has previously indicated that the framework will align with the policy goals of the Biden administration. Like the criticisms at the hearing, the Biden administration has also called for an increase in the GILTI rate to 21 percent, moving it to a country-by-country determination, and ending the exemption for deemed returns under 10 percent of QBAI.

Curiously, the 2017 Obama-Biden Treasury green book called for a minimum tax not entirely unlike GILTI that provided an allowance for corporate equity reduction that could be viewed as somewhat like the QBAI exemption.

Bye, Bye, QBAI?

Kimberly A. Clausing, Treasury deputy assistant secretary for tax analysis, who has previously faulted GILTI for the same shortcomings, did so again at the hearing.

Clausing faulted GILTI for providing a larger tax-free exemption the more tangible assets a company held offshore. She took aim at the foreign-derived intangible income provision, which also bases its deduction on QBAI, for providing a less generous deduction if a company increases its U.S. investments, which she views as “turbo charging” the incentive to move assets offshore.

“These two provisions mean that if a company moves plant and equipment from Indiana to India, it both increases its ability to earn tax-free income offshore and it also increases its FDII deduction. These are two powerful incentives that directly encourage offshoring,” Clausing said. “With both hands, you are encouraging movement offshore in plant and equipment through the tangible asset exclusion.”

Pam Olson of PwC and James R. Hines Jr. of the University of Michigan both argued that it would be a mistake to repeal FDII, asserting that the provision encourages the location of intangible property in the United States and that the country risked falling to dead last in R&D incentives among OECD countries if it did away with it.

“We could be shooting ourselves in the foot by doing away with FDII,” committee member Rob Portman, R-Ohio, said.

Countering critiques of the QBAI exemption, Portman argued that the exemption was merely recognizing that tangible property earnings are not vulnerable to profit shifting and the provision reflects realities necessary for U.S. companies to serve foreign markets.

For U.S. businesses “to compete in foreign markets, they need to be where the customers are,” Portman said. “Procter & Gamble . . . cannot ship diapers from Ohio overseas profitably.”

Olson asserted that QBAI measures a return on tangible assets and serves to recognize that, when located in another country, the foreign jurisdiction has primary jurisdiction to tax income attributable to it. Further, GILTI does not encourage the offshoring of operations and is already targeting what it should — the more mobile intangible income.

“I’m unaware of any company that has moved operations to take advantage of GILTI — quite to the contrary. They try to escape it. And some of that escape is even subjecting themselves to subpart F or bringing the assets back to the United States to take advantage of the U.S. rate and FDII,” Olson said.

Clausing argued, however, that GILTI not only encouraged investment in low-tax jurisdictions but also made investment in high-tax foreign jurisdictions more attractive than the United States through its allowance of a blending of rates in its calculation to tax the income at half the U.S. rate. Brown also took issue with GILTI’s “50 percent off coupon” provision under section 250.

“Like a master distiller, you can combine high-tax and low-tax income and get to this outcome [that] is really much better than you would get operating in the United States,” Clausing said.

Beating Up BEAT

The base erosion and antiabuse tax was also criticized. Committee member Thomas R. Carper, D-Del., wondered whether the provision needed to be repealed or simply tweaked.

Chye-Ching Huang of New York University School of Law argued that the BEAT needs to be “retooled” because the provision was intentionally written “with a lot of holes in it.” She specifically mentioned the BEAT exclusion for cost of goods sold as a major revenue loser.

Carper argued that there was consensus among Democrats, Republicans, and industry that the BEAT needed reform, specifically calling out the provision for discouraging the use of tax credits.

Clausing agreed that the BEAT needs changes and that it had “mistakenly hit” U.S. companies benefiting from tax credits in attacking things such as investments in clean energy rather than targeting profit shifting. Without offering specifics, Clausing said that many of the regs implementing the provision have made the amount of revenue collected “very disappointing.”

Some of the more high-profile taxpayer regulatory breaks from the BEAT include an exception from the tax for total loss absorbing capital securities, seen by some as a gift to the banking industry, and the provision allowing taxpayers to waive deductions to escape the tax and its potential cliff effect.

Elements of the current system “can be salvaged and strengthened to build a coherent workable system that is less tilted,” Huang said. “[There’s] a large incentive to locate profits and investment offshore. Now, the law did create GILTI, BEAT, and FDII to try and limit that damage, but their design is flawed.”

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