The Base Erosion and Anti-Abuse Tax (BEAT) was adopted as part of the 2017 tax reform bill and is a tax meant to prevent foreign and domestic corporations operating in the United States from avoiding domestic tax liability by shifting profits out of the United States.
How does BEAT work?
One component of the new international tax system is a new tax called the “Base Erosion and Anti-Abuse Tax,” or BEAT. The BEAT was adopted when the U.S. moved from a worldwide to a territorial system, which changed incentives for tax avoidance.
The BEAT is essentially a 10 percent minimum tax that is meant to prevent foreign and domestic corporations operating in the United States from avoiding domestic tax liability by shifting profits out of the United States. The scope of the BEAT is limited to large multinational corporations with gross receipts of $500 million or more. The BEAT also does not apply unless “base erosion” payments—payments that corporations based in the U.S. make to related foreign corporations—exceed 3 percent (2 percent for certain financial firms) of total deductions taken by a corporation.
The BEAT works much like a minimum tax. Corporations pay BEAT to the extent it exceeds its ordinary corporate income tax liability. BEAT is equal to 10 percent of “modified taxable income” minus regular corporate income tax liability (not to go below zero). Modified taxable income is calculated by taking ordinary taxable income and adding back “base erosion” payments made to related foreign corporations (in effect, disallowing the deduction for these costs). These payments added back to taxable income to construct modified taxable income include payments for services, interest, rents, and royalties, and deductions for depreciation and amortization. However, payments for costs of goods sold, the deductions for GILTI and FDII, and the dividends-received deduction (the participation exemption) are not added back.
Suppose a corporation in the United States has gross receipts of $500 million, expenses of $480 million, and taxable income of $20 million. Under the ordinary corporate income tax this corporation’s tax liability would be $4.2 million (21 percent of $20 million). This corporation’s payments to a Controlled Foreign Corporation based in another country totaled $50 million, so it well exceeded the 3 percent of total deductions’ threshold. The company’s modified taxable income with respect to BEAT is $70 million, which is equal to its taxable income ($20 million) plus the payments it made to a foreign CFC ($50 million). As such, its total tax liability is $7 million ($4.2 million in ordinary corporate tax plus $2.8 million, the excess of BEAT over ordinary corporate liability).
In 2026, the BEAT rate will increase from 10 percent to 12.5 percent.
|Total U.S. Gross Receipts||$500|
|Total U.S. Expenses||$480|
|Corporate Income Tax Liability (Taxable Income x 21% federal corporate tax rate)||$4.20|
|Base Erosion Payments||$50|
|Modified Taxable Income||$70|
|BEAT Liability (10% of Modified Taxable Income)||$7|