Corporate income tax issues for Q1 2024
Hoped-for corporate tax law changes
In the first weeks of the new year the hope for first quarter tax legislation was high. At the end of the January the House passed certain tax law changes that failed to crystalize into actual legislation. Accordingly, the list of hoped-for changes including a return to immediate deductions for research and experimental expenditures, 100% bonus depreciation, and a return to more favorable definitions of adjusted taxable income for purposes of determining the interest expense limitation remain unchanged as of the end of the quarter.
Additionally, under the current law, the general bonus depreciation applicable percentage drops to 60% for property placed in service after Dec. 31, 2023 and before Jan. 1, 2025.
Foreign currency translation gains and losses
Towards the end of 2023, the IRS and Treasury issued proposed regulations addressing the taxation of foreign currency translation gains and losses on foreign branches under section 987. The proposed regulations address the inclusion of these currency translation gains or losses in taxable income, providing several methods for taxpayers to use to determine the inclusion amount. While the regulations are only proposed, there are certain instances in which taxpayers may be required to conform to the proposed regulations. Read more about the proposed regulations in RSM US’s tax article: Section 987 proposed foreign currency regulations may impact QBUs.
Direct pay and transferability of energy credits
As corporations prepare to make first quarter estimated tax payments there has been an uptick in the interest in transferrable energy credits as created by the Inflation Reduction Act (IRA). The IRA introduced several new green energy credits and enhanced other existing credits to offer direct pay and transferability options. The direct pay feature allows companies without a tax liability to monetize the credits directly while the transferability feature allows corporations to sell their tax credits. The direct pay feature is generally limited to tax exempt entities, but there are limited circumstances where a taxpaying entity may have the option to monetize a credit through direct pay or the transfer of an energy credit. The buyer of the credits often benefits by purchasing the tax credits at a discount from the entity engaged in credit generating activities and the discount is not taxable income to the buyer. The purchasing corporation can then utilize the credits to offset their income tax liability in lieu of cash tax payments.
Under ASC 740, refundable credits where an entity can use the credits without regard to taxable income, such as credits eligible for direct pay, generally fall outside the scope of ASC 740. The Financial Accounting Standards Board (FASB)staff indicated in a technical inquiry that transferable credits may fall within the scope of ASC 740, however there continues to be diversity in practice regarding accounting for nonrefundable transferrable credits.
Cancellation of debt income (CODI)
As a recent trend, there has been an increase in entities recognizing cancellation of debt income as part of a debt restructuring. The accounting for such an event for both book and tax purposes can be complex. Read more from RSM about traps for the unwary regarding related party debt purchases in: The purchase of debt by a party related to the debtor—a taxable event?
Updates from the Financial Accounting Standards Board
The FASB issued two accounting standards updates (ASU) during the first quarter of the year, including ASU 2024-01 - Compensation - Stock Compensation (Topic 718): Scope Application of Profits Interest and Similar Awards and ASU 2024-02 - Codification Improvements - Amendments to Remove References to the Concepts Statements.
ASU 2023-09, Income Taxes (Topic 740): Improvements to Income Tax Disclosures, released in December 2023 continues to be the focus of most tax departments. The ASU focuses on income tax disclosures around effective tax rates and cash income taxes paid. The ASU is effective for public business entities for annual periods beginning after Dec. 15, 2024 (generally, calendar year 2025), and effective for all other business entities one year later. While entities have some time to comply with the additional disclosure requirements, entities should begin reviewing their provision process and ensure those processes are designed to collect the necessary data to comply with the requirements. For additional information on the income tax disclosure ASU, read our article: ASC 740: FASB releases ASU 2023-09: Improvements to Income Tax Disclosures.
State tax
The first quarter tends to be a quiet quarter in terms of tax law changes, but there were a few significant state tax law changes during the quarter, including updates to conformity with the Internal Revenue Code and tax rate changes. Read more about state and local tax considerations in our companion alert: State tax law changes for the first quarter of 2024.
International tax
Pillar Two now effective
Pillar Two aims to enact a global minimum corporate tax rate of 15% of adjusted net income on large international businesses regardless of the locations of the business’ headquarters or jurisdictions in which the business operates. There are several charging mechanisms in the Pillar Two framework to collect any required top-up tax, including the Qualified Domestic Minimum Top Up Tax (QDMTT), the Income Inclusion Rule (IIR) and the Undertaxed payments/profits rule (UTPR). In tax jurisdictions that enacted the Pillar Two legislation in 2023, QDMTTs and the IIR are generally effective for years beginning on or after Dec. 31, 2023 (commonly this would be calendar year 2024), with the UTPR effective for years beginning on or after Dec. 31, 2024 (commonly this would be calendar year 2025).
Entities preparing financial statements for a multinational enterprise (MNE) group with €750 million or more in consolidated revenue may be subject to the Pillar Two rules. Under the rules, the €750 million threshold must be met in at least two of the last four years immediately preceding the tested year. An MNE group is any group that includes at least one entity or permanent establishment that is not located in the jurisdiction of the UPE.
Many countries have enacted legislation aimed at enshrining the Pillar Two framework into their tax law while many more countries have committed to enacting such legislation. As noted above, the QDMTT and IIR rules are now generally effective, however it is important to note that only legislation enacted as of the balance sheet date is applicable for an income tax provision under GAAP. The FASB also indicated during 2023 that taxes under Pillar Two would be viewed as similar to an alternative minimum tax as discussed in Topic 740, Income Taxes. Under ASC 740, deferred taxes would not be recognized or adjusted for the future effects of the minimum taxes. Ultimately, companies will need to evaluate the laws that are enacted and reflect any effects on the income tax provision in the period in which the legislation is enacted.
The analysis required of the impacts of Pillar Two on multinational entities can be quite significant, however, for the first quarter, entities must consider the potential effects of Pillar Two tax liabilities and reflect their best estimate of Pillar Two in their first quarter estimated annual effective tax rate.
Australia
The Australian Taxation Office has released guidance on its compliance approach and risk assessment framework in relation to certain cross-border arrangements involving intangible assets and international related parties. Read more about the guidance in the following article from RSM Australia: Intangibles migration arrangements – PCG 2024/1.
The Australian Taxation Office has also released an updated draft tax ruling that seeks to define what payments are classified as royalties. The draft ruling if finalized in its current form could have potentially significant impacts for entities in the software industry. Read more about the draft tax ruling in RSM Australia’s article: ATO Proposed Expansion of “Royalty” Definition Goes Too Far?
The Australian Government has released Exposure Draft legislation for the implementation of key aspects of the Pillar Two framework. The various measures in this announcement will commence from either Jan. 1, 2024 or Jan. 1, 2025, depending on the specific measure.
The Australian Taxation Office has released further draft guidance on the application of Australia’s Hybrid Mismatch Rules covering the definitions of hybrid payer and liable entity. Read more about the complexities of Australia’s hybrid mismatch rules and the recent guidance in RSM Australia’s article: Liable entity and hybrid payer – Hypothetically imposed but still liable?
Brazil
The Provisional Measure No. 1.185/23 was approved by the Senate and converted in the Law No. 14.789/23. It modifies the treatment of ICMS (State Value-Added Tax) subsidies, which were considered exempt from tax income. The new rules establish that investment subsidies will be taxed and will generate a tax credit that can be used to offset other federal taxes.
Bill No. 2/2024, which aims to stimulate the modernization and renewal of production processes, proposes accelerated depreciation for machines and equipment acquired during 2024. The bill was presented to the Chamber of Deputies but has not yet been enacted.
Canada
Read into Canadian Parliament on Nov. 30, 2023, Bill C-59 contains amendments to the Income Tax Act (Canada), and a new Digital Services Tax Act (DSTA). The below legislative proposals are upcoming changes that form part of Bill C-59. To date, the bill has not yet been enacted.
The DSTA will apply a 3% tax on Canadian-sourced revenue from digital services (in-scope revenue) exceeding $20 million earned by large domestic and foreign taxpayers having at least 750 million euros in global revenue. In-scope revenue includes revenue from online marketplace services, online targeted advertising services, social media services, and the sale or licensing of user data obtained from an online marketplace, a social media platform or an online search engine.
The excessive interest and financing expense limitation (EIFEL) may apply to deny a specified proportion (generally, 30% of Canadian earnings before interest, tax, depreciation and amortization as calculated for tax purposes) of interest and financing expenditures of corporations that earn taxable income in Canada. Generally, interest and financing expenditures captured under EIFEL are only those that are otherwise deductible from taxable income earned in Canada.
Germany
The German Federal Council approved the Growth Opportunities Act negotiated in the mediation committee on March 22, 2024. The regulations will come into effect after the publication of the law in the Federal Law Gazette. The legislative package in the version of the mediation committee contains significantly fewer measures than initially planned. Amongst other things, regulations on cross-border financing relationships within the corporate group were introduced. Read more in the article: Federal Council Approves Growth Opportunities Act.
Italy
Italy introduced a reshoring incentive in Article six of Legislative Decree No. 209 published on Dec. 27, 2023. The incentive is intended to apply starting from the 2024 tax period but is subject to the authorization of the European Commission.
This regime provides incentives for transferring economic activities carried out in countries outside the European Union or the European Economic Area to Italian territory. Specifically, incomes derived from the activities transferred to Italy receive favorable treatment with only 50% of their income being included in the determination of taxable income for the initial year and in the subsequent five tax periods. However, activities previously conducted in Italy within the 24 months preceding the transfer are excluded from this regime. If the entity at the end of the incentive period, transfers the re-shored activities outside of Italy within the five years, or within ten years for larger companies, the tax authority will recover the unpaid taxes resulting from the incentive, plus interest.
Spain
On Dec. 20, 2023, the Ministry of Finance published draft legislation to introduce into Spanish domestic legislation the Pillar Two effective tax rate of 15% for multinational enterprises and large-scale domestic groups for public consultation.
This draft legislation includes the IIR and a QDMTT applicable for fiscal years starting on or after Dec. 31, 2023, as well as an UTPR generally applicable for fiscal years starting on or after Dec. 31, 2024.The draft legislation contains a Transitional CbCR Safe Harbor, a Safe Harbor for QDMTT and a Transitional UTPR Safe Harbor. As of the end of the first quarter, the draft legislation has not yet been enacted.
On Jan. 18, 2024, Spain’s Constitutional Court declared several corporate income tax measures introduced by Royal Decree-Law 3/2016 unconstitutional, including:
- The limitations introduced on offsetting tax net operating losses (NOLs) for companies whose net turnover was at least €20 million in the previous tax period. Specifically, the limitation of up to 50% of the taxable base for taxpayers with a turnover of between €20 million and €60 million, and the limitation of up to 25% of the taxable base for taxpayers with a turnover of at least €60 million.
- The limitation on the application of deductions to avoid double taxation, whereby the amount of the applicable tax credits could not exceed 50% of the full tax liability.
- The recapture of share impairment losses whereby impairments that had been deducted in previous years for tax purposes were includable in the taxable base spread over the following five years (at a rate of 1/5 per year).
The declaration of unconstitutionality means that the measures are null. However, the court limited the effects of the ruling by narrowing the taxpayers affected. The following taxpayers should not be affected by the decision:
- Corporate income tax obligations that on the date of the ruling had been resolved by a final court decision or a final administrative resolution;
- Tax assessments or self-assessments that had not been challenged by taxpayers on the date of the ruling (meaning those for which the deadline to file a claim had already expired).
Despite the above limitations, taxpayers who were affected by these limitations on the utilization of NOLs or the credits to avoid international double taxation will no longer be affected by these limitations.
United Kingdom
The Finance Act 2024 received Royal Assent and was passed into UK law on Feb. 22, 2024. One of the most notable changes in the law is making permanent the 100% first year allowance for certain capital expenditure previously set to end on April 1, 2026.
Additionally, the Act makes changes to the UK’s enhanced research and development (R&D) tax relief rules that generally take effect for accounting periods beginning on or after April 1, 2024. Draft guidance on aspects of the R&D tax relief changes (specifically those relating to entitlement to enhanced relief for contracted out R&D and new restrictions on overseas expenditure) was also published in February, and businesses that undertake R&D activities in the UK should consider this guidance and assess the impact on their tax position. Further background on the R&D changes is available from RSM UK.
At the 2023 Autumn Statement, the UK government announced that the tax generally payable by a pension scheme administrator on an authorised surplus payment (a return of surplus assets of a defined benefit pension scheme to the employer) will be reduced from 35% to 25% from April 6, 2024. This change was enacted on March 7, 2024. US groups with UK subsidiaries operating a material defined benefit pension scheme that is in surplus and is expected to make an authorized surplus payment should ensure the appropriate tax charge is reflected.
Finally, the UK Chancellor delivered his annual budget on March 6, 2024. Subsequently, Finance (No.2) Bill 2023-24 was published on March 13, 2024 and is expected to be enacted in Summer 2024. There were few significant changes affecting corporate taxpayers, however the full details are included RSM UK’s Detailed analysis: Spring Budget 2024.
