On January 13, 2016, Rep. Devin Nunes (R-CA) and a number of co-sponsors, including Rep. Pat Tiberi (R-OH) and Rep. Charles Boustany (R-LA), introduced a tax reform bill, the American Business Competitiveness Act (H.R. 4377). The bill would make radical changes to the taxation of business income, including:

— a 25% top rate on the net business income of both corporations and owners of unincorporated businesses,

— 100% expensing of all capital expenditure by a business and full cash accounting by corporate and unincorporated businesses,

— a territorial international tax system, in which only income from business activities within the US are taxed, and repeal of the current anti-deferral "subpart F" rules with no minimum tax or other replacement anti-base erosion measures,

— nondeductibility of interest expense,

— exclusion of interest and other financial items from the computation of net business income, and inclusion of interest income by individuals at the same tax rate as qualified dividend income if the interest is paid by US issuers,

— repeal of the corporate and individual AMT (but no refundability of corporate AMT credits), and

— full cash accounting for all corporate and unincorporated businesses.

The bill would also provide businesses net operating loss carryback of five years and unlimited carryforward (with interest). House Ways and Means Committee Chairman Kevin Brady (R-TX) has said that the Nunes bill would be given serious consideration in 2016 and would be the subject of a Committee hearing. Reps. Nunes, Tiberi, and Boustany are all senior members of the Ways and Means Committee. A Tax Foundation dynamic revenue estimate said the bill would generate $631 billion over 10 years despite a static revenue score showing a revenue loss of $1.6 trillion over 10 years.

Territorial international tax system

Unlike the territorial system proposed by former Ways and Means Committee Chairman Dave Camp (R-MI) in 2014, which took the form of a 95% deduction for dividends from foreign subsidiaries, the Nunes bill would exempt all business income that was not effectively connected with the conduct of a trade or business within the United States (defined to exclude US possessions, including Puerto Rico). Thus, the income of foreign branches of US companies would be exempt from US taxation. However, the bill does not provide for the allocation of a portion of a US company's general overhead expenses to foreign branches (presumably this would be dealt with in future regulations).

The bill also would repeal the current subpart F anti-deferral rules, rather than amending the subpart F rules to capture low-taxed foreign earnings attributable to intangible property as Chairman Camp's bill did.

Transitional tax on unrepatriated foreign earnings

The bill also differs from Camp's approach by providing for a flat 5% tax on a US corporation's share of the unrepatriated earnings of foreign corporations in which the US corporation owns at least 10% of the voting stock. Taxpayers would not be given the option to pay the transitional tax in installments over a period of years. Nor is there any provision for claiming foreign tax credits against this tax.

The taxable amount would be based on each foreign corporation's post-1986 undistributed earnings (as defined in section 902(c)) for the corporation's last taxable year beginning prior to January 1, 2015, reduced by dividends distributed during such taxable year. As a result, foreign subsidiaries' accumulated losses would generally not be netted off against other foreign subsidiaries' accumulated undistributed earnings, in contrast to Camp's bill. (Note: the January 1, 2015 date mentioned above would presumably be changed to a later date, such as January 1, 2016, if the bill were to be marked up by the Ways and Means Committee.)

Taxation of financial institutions

The bill provides special rules for financial institutions (defined as including regulated banks, insurance companies, investment banks, securities brokers, and mutual funds, but not credit unions). These businesses would be taxable only on amounts received in transactions with customers that are not business entities, and would be able to deduct expenses only for amounts paid in transactions with such customers. Thus, it appears that a bank's tax computation would essentially be limited to interest and fee income from loans to non-business borrowers, and interest expense on deposits from non-business depositors. Insurance companies and other regulated financial businesses would similarly be taxable on their net income from transactions with non-business customers but not from transactions with business customers.

Capital expenditure

As noted earlier, the bill would provide for full expensing of the cost of capital assets used in a business (excluding the cost of any financial transactions, whether capital in nature or not). For depreciable assets acquired before the effective date of the bill, deductions would be allowed after the effective date in accordance with the depreciation rules that applied pre-enactment, but the basis of such assets for purposes of determining gain on sale would be reduced to zero. The bill also would provide cash accounting for all corporate and unincorporated businesses.

Concluding observations

Given the drastic changes that the bill would make in the taxation of business income in the United States, it appears that the current draft of the bill would require extensive modifications to address all of the myriad technical issues that the legislation would raise.

Materials related to the bill are available here.