Trump Set to Axe US Anti-tax Avoidance Measures

July 2017

A new notice from the IRS reveals President Donald Trump’s plans to revoke Obama-era anti-tax avoidance measures including earnings stripping rules, which could cause an upsurge of inversions.

As the Trump administration is preparing to introduce tax reform, several anti-tax avoidance measures adopted under his predecessor Barack Obama seem likely to be revoked.

In April, the president issued an executive order to reduce tax regulatory burdens, which included reviewing all “significant tax regulations” issued after January 1 2016. The measures laid out in the IRS notice includes the so-called earnings stripping rules, which deal with related-party debt as debt or equity for federal tax purposes.

Earnings stripping is a technique that can be used to convert the US income of multinationals into foreign income, leading corporations to enjoy lower tax rates from foreign countries. This can happen through companies setting up inter-company loans where the borrower is the US company and the lender a foreign parent company, and when the US company then pays interest on those loans, it reduces the taxable income for the US company and the interest income is often taxed at a lower rate or not at all.

The Obama administration issued rules to curb this as part of a bigger crackdown on inversions at a time when blockbuster M&A deals into Europe dominated the financial news headlines. The rules drew criticism for being too broad when they were introduced in 2016, and pharmaceuticals giants Allergan and Pfizer’s $160 billion merger was quashed as a result of the regulations.

If the rules were revoked, there would not be any particular documentation requirements for loans from a foreign parent to a US corporate affiliate. Daniel Shaviro, Wayne Perry Professor of Taxation at NYU, told TP Week. Revoking the rules would “help multinationals to engage in profit shifting at the expense of the US tax base,” he said.

“In other words, they would have an easier time than under the regulations using interest deductions to wipe out US source taxable income,” Shaviro said, and added that the plans to scrap the rules came as no surprise to him.

Shaviro said Trump is helping his core constituency in revoking the rules. “Whether he is also helping himself personally is unclear, since we haven’t seen his tax returns. As a general rule, it is always reasonable to expect personal gain to be a factor in anything he does, but here his actions would be unsurprising even if he didn’t gain personally,” Shaviro said.

However, the rules are by some seen as a threat to business. Nancy McLernon, chief executive of the Organisation for International Investment, said in CNBC that it was “great to see the Trump administration recognise the detrimental impact that these regulations will have on America’s economic competitiveness”.

The US Congress recently published an overview of the federal tax system, where it said: “Policymakers are also concerned that US tax rules may create a ‘lockout effect’, which is a colloquial reference to the possibility that the overseas earnings of US corporations are being ‘locked out’ and not reinvested in the United States because US corporations have a tax incentive, created by deferral, to reinvest foreign earnings rather than repatriate them.”

The earnings stripping rules’ “overbreadth, questionable legal underpinnings and lack of administrability” make them a “popular target for revocation,” said Linda Swartz, chair of Cadwalader, Wickersham & Taft’s tax group in New York.

“The government would clearly have the authority to revoke the regulations, and if they do so, multinationals will have far fewer hoops to jump through to effect routine intra-group debt transactions, including those involving cash management, that are not undertaken for any tax avoidance purpose,” Swartz told TP Week.

The Treasury has requested comments on whether the measures should be revoked or modified and will recommend final action by September 18 2017.

EU Pressure

While Trump is looking to remove the earnings stripping rules, the EU is turning up the heat on the US to make it commit to international transparency standards.

The US is at the moment the only large financial centre that has not signed up to the Common Reporting Standard (CRS), which exchanges tax information between nations. A recent declaration from the G20 leaders made clear that it wanted all relevant jurisdictions to sign up to and implement the CRS.

“We commend the recent progress made by jurisdictions to meet a satisfactory level of implementation of the agreed international standards on tax transparency and look forward to an updated list by the OECD by our next summit reflecting further progress made towards implementation,” the declaration said, and warned: “Defensive measures will be considered against listed jurisdictions”.

The above article was published on on 18 July 2017 and has been republished with the approval of the Publisher.