The recent release of the Treasury Department's Greenbook saw the unveiling of significant detail regarding the Administration's Stopping Harmful Inversions and Ending Low-Tax Developments (SHIELD) proposal. Put forth as an anti-base erosion measure targeting domestic corporations and branches that will replace the Base Erosion and Anti-Abuse Tax (BEAT), the SHIELD presents some potentially thorny issues regarding its treatment of the cost of goods sold (COGS), its deviation from a true top-up tax model, and its reliance on an agreed-upon minimum tax threshold percentage to relieve taxpayers of potential liability.
With regard to COGS, the well-known exception of these types of payments from the BEAT regime is eliminated in the context of the SHIELD. Technically speaking, the treatment of COGS in the Code is handled as a reduction to, rather than a deduction from, income. Because the BEAT involves direct tracing between related party payments made and the deductions arising from those payments, the rationale for excluding COGS was that there was no corresponding deduction to deny. The SHIELD, however, does not require any tracing; if there are deductions associated with related party payments made to recipients in low-tax jurisdictions, then they will be denied. If there are not, as is the case with COGS, then other deductions will be denied in a corresponding amount. Recent statements from Treasury officials have surmised that the mechanism for denying deductions wholly unrelated to the offending payments may involve a pro rata calculation, rather than an ordering rule of some sort.
While the stated aim of the SHIELD is to ensure that income – regardless of where it is earned – is subject to a minimum rate of taxation, the mechanics of the rule operate such that the presence of a low-taxed entity anywhere in the U.S. payor's financial reporting group will operate to also deny deductions even when the U.S. payor makes payments to affiliates in high-tax jurisdictions. This is a derivative effect of the design feature of the SHIELD, whereby direct tracing is eschewed in favor of ensuring that the overall group taxation meets the minimum tax threshold. However, this approach has the effect of going far beyond ensuring a minimum level of group taxation, as a true top-up tax would. Instead, it creates the possibility of denying deductions in excess of net profits.
Finally, given the delayed effective date of the SHIELD, it may be the Administration's hope that the proposal alone is enough to incentivize our trading partners to adopt an OECD-compliant minimum tax regime sooner rather than later. With the G7's recent agreement on a 15 percent minimum tax rate, they are certainly one step closer to consensus. However, the G7 is not the Inclusive Framework, and there are countries even within the G20 who may be critical of the rate. Moreover, tying the minimum tax rate to external events is tricky, in that the legislation will have to approved by Congress and it is far from clear that lawmakers on both sides of the aisle approve of any of these proposals. It may be that it takes much longer than the next 18 months to nail down all of the specifics. #TaxTake
In the News
In The Hill, Jorge commented on the challenges and importance of gaining Democrats' support for President Biden's infrastructure plan. Jorge said if Democrats draft a bill that does not get Republican support, differences between progressive and moderates are likely to be "more pronounced."
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