On November 19, 2021, the House of Representatives passed the Build Back Better Act (the “Act”). The Act includes funding for various programs as well as significant new tax provisions intended to help offset the cost. The Act now heads to the Senate, where its passage faces significant obstacles.
While it remains uncertain whether the Act will ultimately become law (and, if so, in what form), the enactment of the Act in its current form would have substantial effects on corporate taxpayers and their shareholders. Some aspects of the Act that may be of particular interest to such taxpayers are discussed below.
General Corporate Tax Provisions
Corporate Alternative Minimum Tax
The Act would generally impose a 15% corporate alternative minimum tax (the “Corporate AMT”) on the adjusted financial statement income (“AFSI”) of any corporation (other than an S corporation, regulated investment company or real estate investment trust) with a three-year average AFSI of greater than $1 billion, effective for taxable years beginning after December 31, 2022. A corporation’s AFSI for a taxable year would be equal to its net income or loss as reported on its applicable financial statement for such year, subject to certain adjustments (including a reduction for any financial statement net operating loss carryovers, subject to limitations). An applicable corporation would be liable for the Corporate AMT to the extent that 15% of its AFSI (less any applicable Corporate AMT foreign tax credits) exceeds its regular U.S. federal income tax liability. General business credits (such as R&D, renewable energy, enhanced oil recovery and work opportunity credits) would generally be permitted to offset a corporation’s net U.S. federal income tax liability (including its Corporate AMT liability) in an amount of up to 75% of such liability. Special rules would apply in the case of a corporation with a foreign parent.
Excise Tax on Stock Buybacks
The Act would generally impose a 1% excise tax on the fair market value of any stock of a corporation that is repurchased by the corporation or certain affiliates of the corporation (as reduced by the fair market value of certain stock issuances during the applicable year), effective for repurchases of stock after December 31, 2021. The excise tax would apply to repurchases of stock of any domestic corporation whose stock is traded on an established securities market, but only in limited circumstances would the excise tax apply to repurchases of stock of a foreign corporation whose stock is traded on an established securities market. However, the excise tax would not apply in certain specified circumstances (e.g., to the extent the repurchase is part of a reorganization and no gain or loss is recognized on such repurchase by the shareholder or to the extent the repurchase is treated as a dividend for U.S. federal income tax purposes).
Deferral of Certain Liquidation Losses
The Act would defer the recognition by any member of a “controlled group” (generally, a group of corporations connected by at least 50% stock ownership) of losses resulting from the complete liquidation of another member of the controlled group or from stock or securities of another member of the controlled group becoming worthless by reason of certain corporate actions, effective for liquidations or actions occurring on or after the date of the enactment of the Act. Deferred losses could not be recognized until all property received by members of the controlled group in connection with such liquidation or action is transferred to unrelated persons. This would significantly limit a corporation’s ability to trigger losses on a subsidiary’s stock by entering into a so-called Granite Trust transaction.
Adjusted Basis Limitation for Spin-Offs
The Act would require the recognition of gain by the distributing corporation in certain divisive D-reorganizations involving transfers to such corporation’s creditors, generally effective for reorganizations occurring on or after the date of the enactment of the Act. Gain recognition generally would be required when the sum of the liabilities assumed by the controlled corporation, the amount of money and fair market value of other property transferred to creditors, and the fair market value of any nonqualified preferred stock and the aggregate principal amount of obligations of the controlled corporation transferred to creditors exceeds the basis of the assets transferred by the distributing corporation to the controlled corporation.
Shareholder-Level Tax Provisions
Limitation of Exclusion for Gain from Qualified Small Business Stock
The Act would modify the exclusion for gain from the sale or exchange of qualified small business stock to provide that the 75% and 100% exclusion rates would not apply to (i) any taxpayer with an adjusted gross income that equals or exceeds $400,000 or (ii) trusts or estates, effective for sales or exchanges after September 13, 2021 (other than a sale or exchange made pursuant to a binding written contract that was in effect on September 13, 2021 and not modified in any material respect thereafter). Consequently, such taxpayers would be able to exclude only 50% of the amount of such gain regardless of when the applicable qualified small business stock was acquired.
Application of Net Investment Income Tax to Active Trade or Business Income
The Act would increase taxes on certain S corporation shareholders by expanding the application of the 3.8% Net Investment Income Tax to all net income and gain from a trade or business (regardless of whether the taxpayer materially participates in the applicable trade or business) that is not otherwise subject to employment taxes for taxpayers with adjusted gross income in excess of specified thresholds, effective for taxable years beginning after December 31, 2021.
We continue to monitor the progress of the Act and expect to provide further updates as developments unfold. If you have any questions about the Act, please contact any of the authors of this update.
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