On August 16, President Biden signed the Inflation Reduction Act of 2022 (IRA) into law at the White House, finalizing a scaled down version of legislation that has been many months in the making. Here is an outline of the final tax details included in the Act that could affect middle market companies.
Extension of Limitation on Excess Business Losses
The Tax Cuts and Jobs Act imposed a limitation on excess business losses of noncorporate taxpayers. In simpler terms this means you cannot deduct a business loss in excess of a threshold amount, $270,000 for a single taxpayer in 2022, and instead any excess loss carries forward as a net operating loss subject to the NOL rules. This rule was set to expire before tax years beginning in 2026. The IRA extends this rule through 2028.
The IRA extends, modifies, and creates several environmental and clean energy tax credits.
The IRA did not address the required amortization of research expenses as many had hoped. However, it does increase from $250,000 to $500,000 the limit on the amount of credit a qualified small business may elect to treat as a credit against their payroll tax liability. This is applicable to taxable years beginning after 2022.
15% Tentative Minimum Tax on Large Corporations
Imposes a tentative minimum tax of 15% (TMT) of adjusted financial statement income (AFSI) for corporations with over $1 billion in profits for any 3-year period ending prior to the current year. The provision is effective for tax years beginning after December 31, 2022.
The tax applies to C corporations which have an average AFSI greater than $1 billion over three years. While this threshold seems to exclude most of the middle market, corporations with a foreign parent that have at least $100 million in AFSI could be subject to the TMT. In addition, controlled group rules apply which would aggregate the income of commonly controlled companies to determine applicability of this tax.
AFSI of a corporate taxpayer includes:
- The AFSI of any disregarded entity owned by the taxpayer
- If the taxpayer is a partner in a partnership, its distributive share of the AFSI from the partnership
- If the taxpayer is a U.S. shareholder of one or more Controlled Foreign Corporations (CFC), its pro rata share of the AFSI of the CFC is taken into account. This provision could subject Global Intangible Low Taxed Income (GILTI) to be taxed at 15% rather than the current effective rate of 10.5%
- AFSI will be reduced by certain accelerated depreciation deductions
- The aggregate net operating loss carryovers from years after December 31, 2019 may reduce AFSI
A corporation that has a change in ownership or that has a set number of consecutive years (to be determined by the Secretary) in which it does not meet the income test may be excepted from the rules.
The TMT is calculated as the excess of the TMT over the regular income tax plus base erosion and anti-abuse (BEAT) liability for the taxable year. The TMT may be offset by AMT foreign tax credits based on taxes paid to foreign countries.
Appropriates about $80 billion to the IRS to add auditors, improve customer service, and modernize technology. We expect to see increased IRS audits in the coming years due to the additional funding.
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We expect to see further guidance on these issues in the coming months. We will continue to provide updates as they become available. If you have any questions on this news and how it could impact you or your business, please contact us.