Biden’s Corporate Minimum Book Tax Narrows, but Problems and Uncertainties Remain

April 13, 2021

As part of the U.S. Treasury Department’s report outlining President Biden’s corporate tax plan, it has become clear the 15 percent minimum tax on book income will apply to a smaller set of corporations than originally proposed during the 2020 presidential campaign. While the scope of the tax has narrowed, several key questions remain about the tax design, including whether it will penalize investment by not providing a credit for key investment incentives such as full expensing.

According to the Treasury report, the minimum book tax would apply to corporations with a net income of $2 billion or more, a significantly larger exemption than the $100 million threshold originally proposed in 2019. Treasury estimates that about 180 firms would meet the income threshold and 45 would owe minimum tax liability, compared to about 1,100 firms listed in the U.S. that would meet a $100 million income threshold.

The proposed tax has narrowed in other ways too. The administration has clarified that firms will be able to apply a credit for taxes paid above the 15 percent threshold in prior years and can also use general business tax credits such as the R&D tax credit or credits for clean energy. Foreign tax credits can also be used, which was detailed in the original proposal.

Business tax credits are a common reason why a corporation may report book profits without owing tax liability, and allowing these credits to apply to the minimum tax on book income  greatly reduces the impact of the tax. Take, for example, a firm that engages in a lot of R&D spending. The firm may post $10 million in book profits to shareholders but owe no tax on this income after reducing tax liability with R&D tax credits.

Many business credits, like the R&D tax credit, are designed to incentivize investment in preferred activity. By including them in the calculation for minimum tax liability, the administration has acknowledged their importance in the tax code, which calls into question the purpose of the minimum tax in the first place

Putting these inconsistencies aside, there are several questions that remain unanswered about the minimum tax. The biggest question relates to the treatment of timing differences between definitions of book income and taxable income.

For example, when calculating book income, firms depreciate investments over their useful lives, which can take many years. Under the tax code, many investments can be fully deducted from taxable income the year they are made. This timing difference is meant to incentivize investment and ensure income is properly taxed. To ensure investment is not penalized, the minimum book tax should provide a tax credit for any tax imposed on book income due to a timing issue, but the administration has been silent on this issue.

Answering Key Questions Regarding President Biden’s Minimum Corporate Book Tax
Questions for President Biden’s Minimum Tax What We Know So Far

What will be the economic impact of a minimum tax on corporate book income?

The narrower tax base (applying to firms over $2B in net income) and allowing general business tax credits mean fewer firms will be impacted than originally expected.

Can the minimum tax accommodate tax credits that are provided to incentivize preferred behavior (e.g., R&D tax credits for new R&D investment, proposed “Made in America” credits for onshoring)?

The minimum tax will provide a credit for “taxes paid above the minimum book tax threshold in prior years, for general business tax credits (including R&D, clean energy and housing tax credits), and for foreign tax credits.”

How will book-tax gaps attributed to timing differences (e.g., accelerated depreciation) be treated under the minimum tax?

It remains unclear if a credit will be provided for timing differences. If a credit is not provided, investment may be penalized as firms would not receive the full value of depreciation deductions.

Will the minimum tax deviate from book income in places where taxable income is broader than book income?

It remains unclear, but likely, that certain book income deductions would be disallowed (e.g., executive compensation, business meals post-2023).

Sources: U.S. Treasury Department, “The Made in America Tax Plan”; Tax Foundation review of literature on minimum book taxation.

A second area of uncertainty is whether the administration will deviate from book income where it is more narrowly defined than the existing corporate income tax base. For example, the rules defining book income permit corporations to fully deduct the value of executive compensation from gross income, while the tax code has restrictions on deducting executive compensation above $1 million for certain executives. As another example, meals consumed for business purposes are fully deductible for book income but not for taxable income (after January 1, 2023, those expenses will be restricted to a 50 percent deduction for tax purposes).

The administration may be tempted to carve those restrictions into the minimum tax, creating further complexity and potentially risking the independence of financial accounting standards from political influence.

The more we learn about the proposed minimum book tax, the more questions we have about its implementation and ultimate purpose. The corporate tax base should be reformed directly, rather than piecemeal through a complicated and burdensome separate tax applicable to a small number of companies. Rather than clawing back disliked tax provisions, policymakers should work to understand why investment incentives like full expensing should be preserved and find alternative ways to improve the corporate tax base.

Launch Resource Center: President Biden’s Tax Proposals

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The tax base is the total amount of income, property, assets, consumption, transactions, or other economic activity subject to taxation by a tax authority. A narrow tax base is non-neutral and inefficient. A broad tax base reduces tax administration costs and allows more revenue to be raised at lower rates.

Full expensing allows businesses to immediately deduct the full cost of certain investments in new or improved technology, equipment, or buildings. It alleviates a bias in the tax code and incentivizes companies to invest more, which, in the long run, raises worker productivity, boosts wages, and creates more jobs.

Depreciation is a measurement of the “useful life” of a business asset, such as machinery or a factory, to determine the multiyear period over which the cost of that asset can be deducted from taxable income. Instead of allowing businesses to deduct the cost of investments immediately (i.e., full expensing), depreciation requires deductions to be taken over time, reducing their value and discouraging investment.

Book income is the amount of income corporations publicly report on their financial statements to shareholders. This measure is useful for assessing the financial health of a business but often does not reflect economic reality and can result in a firm appearing profitable while paying little or no income tax.

A tax credit is a provision that reduces a taxpayer’s final tax bill, dollar-for-dollar. A tax credit differs from deductions and exemptions, which reduce taxable income, rather than the taxpayer’s tax bill directly.

Taxable income is the amount of income subject to tax, after deductions and exemptions. For both individuals and corporations, taxable income differs from—and is less than—gross income.