In December 2017, the Tax Cuts and Jobs Act became law. The TCJA’s international provisions sought to accomplish one main and important goal: prevent large U.S. multinational companies such as Apple and Google from avoiding U.S. tax on their profits. Using aggressive transfer pricing techniques, these companies have historically avoided paying U.S. tax on profits by shifting their profits to their wholly owned foreign subsidiaries located in low-tax jurisdictions.
To prevent this conduct, the TCJA introduced global intangible low-taxed income.1 At its core, GILTI imposed a global minimum tax of 10.5 percent on the profits of foreign subsidiaries. So if Google and Apple foreign subsidiaries paid less than 10.5 percent on profits in a foreign country, the U.S. parents — Google and Apple themselves — would have to make up the difference in U.S. GILTI taxes.
Since the TCJA became law, Democrats maintained that the 10.5 percent minimum tax was a gift to the corporate Goliaths. The Democrats have asserted that this minimum GILTI tax rate should be equal to the standard U.S. corporate tax rate, which is currently 21 percent.2
Since the election, both President Biden and Treasury Secretary Janet Yellen have clearly stated that the minimum GILTI tax rate will be increased. In addition, the Democrats seek to reverse various GILTI-related goodies that former Treasury Secretary Steven Mnuchin and Lafayette G. “Chip” Harter III3 gave to Big Business.
How to Fix GILTI?
As the GILTI minimum tax rate is set by law, the Biden administration must use congressional legislation to increase it. This numerical change is relatively straightforward. However, given the rapid and rather haphazard manner in which the TCJA was enacted, GILTI, which is particularly complicated, has many problems with it. Biden will seek to fix most of these problems through Treasury regulations, rather than through legislation, for four main reasons.
1. The complex and technical nature of the subject matter.
International tax law, like GILTI, is extremely technical and involves (1) highly complicated issues of accounting between related companies, and (2) determining which countries get to tax profits of multinational companies. In addition, GILTI introduced a large number of terms that needed clarification.4 Finally, GILTI involved the highly intricate interplay between it and a vast number of other complex corporate tax provisions — foreign tax credits and net operating losses to name a couple.
In essence, in enacting GILTI, Congress created a high-level blueprint and delegated to Treasury the job of converting the GILTI blueprint into detailed regulations that Big Business could follow and that the IRS could enforce.
Section 7805 gives Treasury the authority to issue regulations that have the weight of law. Section 7805(a) states that Treasury “shall prescribe all needful rules and regulations for the enforcement of [the tax code], including all rules and regulations as may be necessary by reason of any alteration of law in relation to internal revenue.”
And in the case of GILTI, that is exactly what Treasury did. Treasury took the blueprint and issued several sets of proposed and final regulations that interpreted the GILTI law. These highly technical regulations were several hundred pages long in total.
2. A paralyzed Congress.
For decades, the Democrats and Republicans in Congress have focused on hurting each other rather than passing legislation. With only a laser-thin majority in Congress, Biden will spend his political capital on his top priorities, not intricate GILTI provisions. Accordingly, he will seek to fix GILTI via Treasury, which he controls.
In the near term, it is likely that the Biden administration will focus on what it can achieve through the regulatory process by reviewing, withdrawing, or modifying Trump administration regulations viewed as giveaways to Big Business.5
All proposed legislation must be scored for its impact on the budget. As a general rule, if new legislation has a cost, the cost must be offset by revenue cuts elsewhere. This is not the case with Treasury actions. Treasury actions are not subject to scoring. Thus, Biden has every incentive to fix GILTI via Treasury.6
Biden and the Democrats seek to show results quickly. As Senate Finance Committee member Debbie Stabenow, D-Mich., said, “I think the goal would be to get things done in the first half of the year.”7
For all the above reasons, one can expect that Treasury will be the key player in fixing GILTI.
What GILTI Problems Can Treasury Fix?
One specific GILTI-related regulation that is a top priority for Biden is nullifying the high-tax GILTI exemption regulation (HTGR) that Mnuchin and Harter granted Big Business, some of which they had good ties with.8 In essence, the HTGR completely excluded a significant amount of foreign profits from the minimum tax. The Democrats and many others maintain that the HTGR was a huge goody that was created out of thin air due to pressure from Big Business.
To understand how the Biden Treasury can reverse HTGR requires some understanding of how agencies (such as Treasury) create regulations.
Under the APA, to create regulations that have the weight of law, Treasury (like other agencies) must do three things:
Publish proposed regulations.9
Notice and comment phase. Allow the public a meaningful opportunity to submit comments.10
Issue final regulations. Treasury is required only to consider the comments. If Treasury does not wish to adopt the comments, it must provide only a reasoned explanation for its conclusion.
Failure to follow these guidelines can result in a taxpayer filing an action under the Administrative Procedure Act that seeks to invalidate the regulation for being arbitrary.11
In issuing the HTGR, Treasury followed this process. It first issued other GILTI-related proposed regulations (without HTGR) and invited the “public” to comment. Dozens of comments (surprisingly all from corporate Goliaths, huge accounting and legal firms, and their trade associations) asked for HTGR. Ultimately, Treasury got the message and issued the separate HTGR proposed and final regulations, and Big Business was happy.
To nullify HTGR and fix many other GILTI-related problems, Biden’s Treasury simply has to issue new proposed and final GILTI regulations that undo HTGR, which will be done over the strenuous objection of Big Business.
Regulatory Fix for the ‘Public’: The Implications
GILTI regulations have the weight of law. Compared with obtaining a legislative fix, relief through a Treasury regulation is a walk in the park. And that is an understatement. This is so for three main reasons:
Many fewer decision-makers. In the case of GILTI, ultimately there were two decision-makers: Mnuchin and Harter.
Professional considerations focused primarily on the congressional blueprint and tax policy, not on hidden political agendas, party politics, etc.
Big Business had solid ties to the previous Treasury decision-makers (Mnuchin/Wall Street, Harter/Big Accounting).12
Bottom line, whenever decisions are made by Treasury (or any agency) rather than Congress, the likelihood of getting effective permanent relief greatly increases. The problem with regulatory action is that it happens behind closed doors. And what took place between Treasury and Big Business as relates to HTGR is particularly shocking and somewhat unsettling.13
In theory, Treasury’s tax experts should generate regulations that objectively interpret and implement the law. Reality, however, is much murkier, and Treasury or agency action is often driven by money and relationships. This is especially so with GILTI. Given the last-minute manner in which it became law, GILTI was full of holes and ambiguities. Accordingly, Treasury enjoyed and still enjoys tremendous flexibility in creating GILTI regulations.
When Money Meets Government
After GILTI became law, high-level Treasury officials were swarmed by lobbyists. The crush was so intense that the officials had little time to do their jobs.14
In one specific instance, Harter presented Mnuchin with a plan to give the banks a tax break. Mnuchin — a longtime banking executive — signed off on it. Inside Treasury, the decision was controversial, as some officials told Harter that the department lacked the power to grant such relief. Harter dismissed the objections.15
Lobbyists seeking the HTGR pulled out all stops. Procter & Gamble and others contacted senators on the Finance Committee to influence Treasury. Senior Treasury officials in the Obama administration were retained to push for HTGR.16
In fact, in a meeting between Mnuchin and a senior Hanes official, Hanes threatened to move its headquarters out of the United States if the HTGR was not provided.17 As stated above, Treasury got the message and adopted the HTGR.
Will things change under Biden? No. First, politics and money go hand in hand. Second, as Treasury is a much easier lobbying target than Congress, the exact same lobbying firms that lobbied Mnuchin will now lobby Yellen. It will simply be a Democratic partner, not the Republican partner, of the lobbying firm who does it. Cynical? No. Realistic.
At least as to GILTI, Biden’s priorities are clear: a higher GILTI tax rate and nullify HTGR. GILTI, however, is a massive topic, and Big Business will try its best to chip away at it on the margins. And if Big Business is unhappy with Biden’s new GILTI regulations, it will file Administrative Procedure Act-related lawsuits challenging them.18
What does the regulatory approach mean for us ordinary people and small or medium business owners? The fact that Treasury is far easier to work with than Congress is the same for everyone. This provides a huge opportunity for us to lobby Treasury (and other agencies) to achieve relief from detrimental laws and regulations.
There are several reasons why we can be effective. First, Biden and Yellen have explicitly stated that Treasury will focus on helping smaller businesses. Second, there are many small business owners. Strength in numbers. Third, in issuing regulations, Treasury must grant small businesses special treatment under the Regulatory Flexibility Act and Paperwork Reduction Act. Failure by Treasury to do so can result in lawsuits that challenge Treasury’s regulations.19
The problem is that small businesses lack the money, time, and organizational abilities that Big Business has. However, as the author has shown, effective e-advocacy — using the internet, email campaigns, and social media — does show results....
For the complete article, see www.taxnotes.com/tax-notes-federal/tax-system-administration/legislation-or-treasury-regulations-how-biden-will-fix-tax-system/2021/02/08/2r3nl