[co-author: Ben Cantor – Law Clerk]
On August 12, 2022, the US Congress passed the Inflation Reduction Act of 2022 (the “Act”), which was signed into law by President Biden on August 16, 2022. In addition to sweeping changes to energy, environmental and health policies, the Act introduces a new 15% alternative minimum corporate tax (“AMT”), imposes a new 1% excise tax on certain corporate share buybacks, and extends the limit on excessive business losses of non-corporate taxpayers by two years.
The central theses
- The 15% AMT generally applies to US companies with year-end revenues greater than $1 billion, as measured by grouping the year-end revenues of sufficiently affiliated companies.
- Due to last-minute changes in the law, it appears that private equity funds’ corporate portfolio investments are not treated as a single group for this purpose, and thus each such portfolio company is likely to be subject to the AMT only if it is done separately Exceeds $1 billion in year-end revenue.
- Share repurchases by public companies are subject to a 1% consumption tax, the potential impact of which extends beyond simple repurchases (e.g. certain tax-exempt transactions may be subject to the tax).
- The limitation on operating losses for non-corporate taxpayers has been extended by two years.
Alternative minimum tax for companies
The AMT may apply in each tax year to any “Applicable Entity”, meaning any entity that satisfies the Adjusted Financial Statement Income (“AFSI”) test for one or more prior tax years. Applicable entities do not include S corporations, real estate mutual funds or regulated investment companies. An applicable corporation is generally required to pay the higher of AMT or its regular corporate income tax.
The AFSI test is generally satisfied for a tax year if the entity has an average AFSI greater than $1 billion for the three tax years prior to the tax year under review. For a calendar year corporation with a tested tax year ending December 31, 2023, the 2023 AFSI test could be satisfied based on the average AFSI over the period including 2020, 2021 and 2022. U.S. affiliates (or U.S. trades or corporations) of foreigners-parent groups may be subject to the AMT if the foreign group meets the $1 billion average AFSI test and the domestic subsidiary (or unincorporated entity) also meets one average AFSI test of $100 million.
Once a company meets the AFSI test to be an applicable company, it generally remains an applicable company for years to come, although the law allows the US Treasury Department to set rules by which it ceases to be an applicable company be if the AFSI test is not taken for some periods. A change of ownership may also result in a corporation no longer being an applicable corporation.
AFSI is calculated using the aggregate book income of a group of companies, aggregated as “sole employer” for tax purposes, with a wide range of adjustments. In general, companies are grouped together when they are controlled by a common parent company or when they are controlled by five or fewer persons who are individuals, estates or trusts. Partnerships that do not engage in trading or business (such as private equity funds) generally do not have to consolidate their subsidiaries, but partnerships with sufficiently concentrated ownership may eventually become owners of suitable businesses. Partnerships engaged in a trade or business may be merged with related entities. The law was amended to remove certain provisions that grouped companies controlled by a partnership, even if that partnership did not conduct a trade or business.
The AMT applies to tax years beginning after December 31, 2022.
Excise tax on share buybacks
The statute also imposes a 1% excise tax, payable by the repurchasing company, on the market value of all shares repurchased by a US company whose interests are publicly traded on an established securities market and by certain US stocks Subsidiaries of foreign companies whose holdings are similar are publicly traded. Repurchases include redemptions and any other transaction deemed economically similar by the US Treasury Department. The fair market value of the shares repurchased will be offset by the fair market value of the shares issued by the Company in the same tax year. Exceptions to the 1% use tax are repurchases that are part of tax-free reorganizations where no gain or loss is recognized by shareholders, transactions in which the aggregate value of shares repurchased during the tax year does not exceed $1 million, repurchases of a regulated investment entity or real estate investment trust and repurchases treated as dividends for U.S. federal income tax purposes.
The term “buyback” has been broadly defined in the Articles and, absent regulatory guidance, the 1% excise tax could potentially be applied to split-off transactions and other transactions not traditionally considered share buybacks, such as B. Payments for fractional shares, and payments to dissenters in exchange that are part of tax-free restructurings.
Any consumption tax payments are not tax deductible. Consumption tax applies to share buybacks after December 31, 2022.
Business losses of non-corporate taxpayers
The law also extends the limit on excessive corporate losses for non-corporate taxpayers by two years. Excess operating losses are the amount by which operating deductions exceed gross operating income. Prior to the Act and the enactment of the Coronavirus Aid, Relief, and Economic Security Act (“CARES Act”), the Excess Business Loss Limit applied to any tax year beginning after December 31, 2017 and before January 1, 2026, thereby increasing the Non-corporate taxpayers’ ability to recover net business losses will be capped at $250,000 in non-business income for individual filers, including trusts, and $500,000 for joint filers (with such amounts being inflation-indexed). The CARES Act changed the excess business loss limit so that it applies to tax years beginning after December 31, 2020 and before January 1, 2026. The American Rescue Plan Act of 2021 further extended the expiration date by one year, i.e. by taxing tax years beginning before January 1, 2027. The law extends the application of the operating loss limit rules to tax years beginning before January 1, 2029.