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A.
Repeal of Extraterritorial Income Regime (sec. 101
of the House bill, sec. 101 of the Senate amendment,
and secs. 114 and 941 through 943 of the Code)
Present
Law
Like many other countries, the
United States
has long provided export-related benefits under its
tax law. In the
United States
, for most of the last two decades, these benefits
were provided under the foreign sales corporation
("FSC") regime. In 2000, the European
Union succeeded in having the FSC regime declared a
prohibited export subsidy by the World Trade
Organization ("WTO"). In response to this
WTO finding, the United States repealed the FSC
rules and enacted a new regime, under the FSC Repeal
and Extraterritorial Income Exclusion Act of 2000.1
The European Union immediately challenged the
extraterritorial income ("ETI") regime in
the WTO, and in January of 2002 the WTO Appellate
Body held that the ETI regime also constituted a
prohibited export subsidy under the relevant trade
agreements.
Under the ETI regime, an exclusion from gross income
applies with respect to "extraterritorial
income," which is a taxpayer's gross income
attributable to "foreign trading gross
receipts." This income is eligible for the
exclusion to the extent that it is "qualifying
foreign trade income." Qualifying foreign trade
income is the amount of gross income that, if
excluded, would result in a reduction of taxable
income by the greatest of: (1) 1.2 percent of the
foreign trading gross receipts derived by the
taxpayer from the transaction; (2) 15 percent of the
"foreign trade income" derived by the
taxpayer from the transaction;2
or (3) 30 percent of the "foreign sale and
leasing income" derived by the taxpayer from
the transaction.3
Foreign trading gross receipts are gross receipts
derived from certain activities in connection with
"qualifying foreign trade property" with
respect to which certain economic processes take
place outside of the
United States
. Specifically, the gross receipts must be: (1) from
the sale, exchange, or other disposition of
qualifying foreign trade property; (2) from the
lease or rental of qualifying foreign trade property
for use by the lessee outside the United States; (3)
for services which are related and subsidiary to the
sale, exchange, disposition, lease, or rental of
qualifying foreign trade property (as described
above); (4) for engineering or architectural
services for construction projects located outside
the United States; or (5) for the performance of
certain managerial services for unrelated persons. A
taxpayer may elect to treat gross receipts from a
transaction as not foreign trading gross receipts.
As a result of such an election, a taxpayer may use
any related foreign tax credits in lieu of the
exclusion.
Qualifying foreign trade property generally is
property manufactured, produced, grown, or extracted
within or outside the
United States
that is held primarily for sale, lease, or rental in
the ordinary course of a trade or business for
direct use, consumption, or disposition outside the
United States
. No more than 50 percent of the fair market value
of such property can be attributable to the sum of:
(1) the fair market value of articles manufactured
outside the
United States
; and (2) the direct costs of labor performed
outside the
United States
. With respect to property that is manufactured
outside the
United States
, certain rules are provided to ensure consistent
U.S.
tax treatment with respect to manufacturers.
House
Bill
The provision repeals the ETI exclusion. For
transactions prior to 2005, taxpayers retain 100
percent of their ETI benefits. For transactions
after 2004, the provision provides taxpayers with 80
percent of their otherwise-applicable ETI benefits
for transactions during 2005 and 60 percent of their
otherwise-applicable ETI benefits for transactions
during 2006. However, the provision provides that
the ETI exclusion provisions remain in effect for
transactions in the ordinary course of a trade or
business if such transactions are pursuant to a
binding contract4
between the taxpayer and an unrelated person and
such contract is in effect on
January 14, 2002
, and at all times thereafter.
In addition, foreign corporations that elected to be
treated for all Federal tax purposes as domestic
corporations in order to facilitate the claiming of
ETI benefits are allowed to revoke such elections
within one year of the date of enactment of the
provision without recognition of gain or loss,
subject to anti-abuse rules.
Effective date. --The provision is effective
for transactions after
December 31, 2004
.
Senate
Amendment
The provision repeals the exclusion for
extraterritorial income. However, the provision
provides that the extraterritorial income exclusion
provisions remain in effect for transactions in the
ordinary course of a trade or business if such
transactions are pursuant to a binding contract
between the taxpayer and an unrelated person and
such contract is in effect on September 17, 2003,
and at all times thereafter.
The provision permits foreign corporations that have
elected to be treated as
U.S.
corporations pursuant to the extraterritorial income
exclusion provisions to revoke their elections. Such
revocations are effective on the date of enactment
of this provision. A corporation revoking its
election is treated as a
U.S.
corporation that transfers all of its property to a
foreign corporation in connection with an exchange
described in section 354 of the Code. In general,
the corporation shall not recognize any gain or loss
on such deemed transfer. However, a revoking
corporation shall recognize any gain on any asset
held by the corporation if: (1) the basis of such
asset is determined (in whole or in part) by
reference to the basis of such asset in the hands of
the person from whom the corporation acquired such
asset; (2) the asset was acquired by an actual
transfer (rather than as a result of the U.S.
corporation election by the corporation) occurring
on or after the first day on which the U.S.
corporation election by the corporation was
effective; and (3) a principal purpose of the
acquisition was the reduction or avoidance of tax.
The provision also provides a deduction for taxable
years of certain corporations ending after the date
of enactment of the provision and beginning before
January 1, 2007.5
The amount of the deduction for each such taxable
year is equal to a specified percentage of the
amount that, for the taxable year of a corporation
beginning in 2002, was excludable from the gross
income of the corporation under the extraterritorial
income exclusion provisions or was treated by the
corporation as exempt foreign trade income of
related FSCs from property acquired by the FSCs from
the corporation.6
However, this aggregate amount does not include any
amount attributable to a transaction involving a
lease by the corporation unless the corporation
manufactured or produced (in whole or in part) the
leased property.
The specified percentage to be used in determining
the deduction is: 80 percent for calendar years 2004
and 2005; 60 percent for calendar year 2006; and 0
percent for calendar years 2007 and thereafter. For
calendar year 2003, the specified percentage is the
amount that bears the same ratio to 100 percent as
the number of days after the date of enactment of
this provision bears to 365. In the case of a
corporation with a taxable year that is not the
calendar year (i.e., a fiscal year corporation), a
special rule is provided for determining a weighted
average specified percentage based upon the calendar
years that are included in the taxable year.
The deduction for a taxable year generally is
reduced by the specified percentage of exempted FSC
income and excluded extraterritorial income of the
corporation for the taxable year from transactions
pursuant to a binding contract.
Effective date. --The provision is effective
for transactions occurring after the date of
enactment.
Conference
Agreement
The conference agreement follows the House bill,
except that under the conference agreement the ETI
exclusion provisions remain in effect for
transactions in the ordinary course of a trade or
business if such transactions are pursuant to a
binding contract7
between the taxpayer and an unrelated person and
such contract is in effect on
September 17, 2003
, and at all times thereafter.
Effective date. --The effective date is the
same as the House bill.
B.
Deduction Relating to Income Attributable to
United States
Production Activities (sec. 102 of the House bill,
secs. 102 and 103 of the Senate amendment, and sec.
11 of the Code)
Present
Law
A corporation's regular income tax liability is
determined by applying the following tax rate
schedule to its taxable income.
Table
1. --Marginal Federal Corporate Income Tax Rates for
2004
Taxable income: Income tax rate:
$0 - $50,000 .....................15 percent of taxable income
$50,001 - $75,000 ................25 percent of taxable income
$75,001 - $10,000,000 ............34 percent of taxable income
Over $10,000,000..................35 percent of taxable income
The benefit of the first two graduated rates
described above is phased out by a fivepercent
surcharge for corporations with taxable income
between $100,000 and $335,000. Also, the benefit of
the 34-percent rate is phased out by a three-percent
surcharge for corporations with taxable income
between $15 million and $18,333,333; a corporation
with taxable income of $18,333,333 or more
effectively is subject to a flat rate of 35 percent.
Under present law, there is no provision that
reduces the corporate income tax for taxable income
attributable to domestic production activities.
House
Bill
In general
The House bill provides that the corporate tax rate
applicable to qualified production activities income
may not exceed 32 percent (34 percent for taxable
years beginning before 2007) of the qualified
production activities income.
Qualified production activities income
"Qualified production activities income"
is the income attributable to domestic production
gross receipts, reduced by the sum of: (1) the costs
of goods sold that are allocable to such receipts;
(2) other deductions, expenses, or losses that are
directly allocable to such receipts; and (3) a
proper share of other deductions, expenses, and
losses that are not directly allocable to such
receipts or another class of income.8
Domestic production gross receipts
Under the House bill, "domestic production
gross receipts" generally are gross receipts of
a corporation that are derived from: (1) any sale,
exchange or other disposition, or any lease, rental
or license, of qualifying production property that
was manufactured, produced, grown or extracted (in
whole or in significant part) by the corporation
within the United States;9
(2) any sale, exchange or other disposition, or any
lease, rental or license, of qualified film produced
by the taxpayer; or (3) construction, engineering or
architectural services performed in the United
States for construction projects located in the
United States. However, domestic production gross
receipts do not include any gross receipts of the
taxpayer derived from property that is leased,
licensed or rented by the taxpayer for use by any
related person.10
"Qualifying production property" under the
House bill generally is any tangible personal
property, computer software, or property described
in section 168(f)(4) of the Code. "Qualified
film" is any property described in section
168(f)(3) of the Code (other than certain sexually
explicit productions) if 50 percent or more of the
total compensation relating to the production of
such film (other than compensation in the form of
residuals and participations) constitutes
compensation for services performed in the United
States by actors, production personnel, directors,
and producers.
Under the House bill, an election under section
631(a) made by a corporate taxpayer for a taxable
year ending on or before the date of enactment to
treat the cutting of timber as a sale or exchange,
may be revoked by the taxpayer without the consent
of the
IRS
for any taxable year ending after that date. The
prior election (and revocation) is disregarded for
purposes of making a subsequent election.
Effective date. --The House bill provision is
effective for taxable years beginning after December
31, 2004.
Senate
Amendment
In general
The Senate amendment provides a deduction equal to a
portion of the taxpayer's qualified production
activities income. For taxable years beginning after
2008, the Senate amendment deduction is nine percent
of such income. For taxable years beginning in 2004,
2005, 2006, 2007 and 2008, the deduction is five,
five, five, six, and seven percent of income,
respectively. However, the deduction for a taxable
year is limited to 50 percent of the wages paid by
the taxpayer during such taxable year.11
In the case of corporate taxpayers that are members
of certain affiliated groups, the deduction is
determined by treating all members of such groups as
a single taxpayer.
Qualified production activities income
In general, "qualified production activities
income" under the Senate amendment is the
modified taxable income12
of a taxpayer that is attributable to domestic
production activities. Income attributable to
domestic production activities generally is equal to
domestic production gross receipts, reduced by the
sum of: (1) the costs of goods sold that are
allocable to such receipts;13
(2) other deductions, expenses, or losses that are
directly allocable to such receipts; and (3) a
proper share of other deductions, expenses, and
losses that are not directly allocable to such
receipts or another class of income.14
For taxable years beginning before 2013, the Senate
amendment provides that qualified production
activities income is reduced by virtue of a fraction
(not to exceed one), the numerator of which is the
value of the domestic production of the taxpayer and
the denominator of which is the value of the
worldwide production of the taxpayer (the
"domestic/worldwide fraction").15
For taxable years beginning in 2010, 2011, and 2012,
the reduction in qualified production activities
income by virtue of this fraction is reduced by 25,
50, and 75 percent, respectively. For taxable years
beginning after 2012, there is no reduction in
qualified production activities income by virtue of
this fraction.
Domestic production gross receipts
Under the Senate amendment, "domestic
production gross receipts" are gross receipts
of a taxpayer that are derived in the actual conduct
of a trade or business from any sale, exchange or
other disposition, or any lease, rental or license,
of qualifying production property that was
manufactured, produced, grown or extracted (in whole
or in significant part) by the taxpayer within the
United States or any possession of the United
States.16
Such term also includes a percentage of gross
receipts derived from engineering or architectural
services performed in the United States for
construction projects in the United States.17
Finally, such term includes gross receipts derived
by the taxpayer from the use of film and videotape
property produced in whole or in significant part by
the taxpayer within the
United States
. "Qualifying production property"
generally is any tangible personal property,
computer software, or property described in section
168(f)(3) or (4) of the Code.18
However, qualifying production property does not
include: (1) consumable property that is sold,
leased or licensed as an integral part of the
provision of services; (2) oil or gas (other than
certain primary products thereof);19
(3) electricity; (4) water supplied by pipeline to
the consumer; (5) utility services; and (6) any
film, tape, recording, book, magazine, newspaper or
similar property the market for which is primarily
topical or otherwise essentially transitory in
nature.20
Other rules
Qualified production activities income of
passthrough entities (other than cooperatives)
With respect to domestic production activities of an
S corporation, partnership, estate, trust or other
passthrough entity (other than an agricultural or
horticultural cooperative), the deduction under the
Senate amendment generally is determined at the
shareholder, partner or similar level by taking into
account at such level the proportionate share of
qualified production activities income of the
entity.21
The Senate amendment directs the Secretary to
prescribe rules for the application of the deduction
to passthrough entities, including reporting
requirements and rules relating to restrictions on
the allocation of the deduction to taxpayers at the
partner or similar level.
Qualified production activities income of
agricultural and horticultural cooperatives
With regard to member-owned agricultural and
horticultural cooperatives formed under Subchapter T
of the Code, the Senate amendment provides the same
treatment of qualified production activities income
derived from products marketed through cooperatives
as it provides for qualified production activities
income of other taxpayers (i.e., the cooperative may
claim a deduction from qualified production
activities income). In addition, the Senate
amendment provides that the amount of any patronage
dividends or per-unit retain allocations paid to a
member of an agricultural or horticultural
cooperative (to which Part I of Subchapter T
applies), which is allocable to the portion of
qualified production activities income of the
cooperative that is deductible under the Senate
amendment, is excludible from the gross income of
the member. In order to qualify, such amount must be
designated by the organization as allocable to the
deductible portion of qualified production
activities income in a written notice mailed to its
patrons not later than the payment period described
in section 1382(d). The cooperative cannot reduce
its income under section 1382 (e.g., cannot claim a
dividends-paid deduction) for such amounts.
Separate application to films and videotape
Under the Senate amendment, the deduction provided
by this provision with respect to films and
videotape is determined separately with respect to
qualified production activities income of the
taxpayer allocable to each of three markets:
theatrical, broadcast television, and home video.
The Senate amendment provides rules for making a
separate determination of qualified production
activities allocable to each market.
Alternative minimum tax
The deduction provided by the Senate amendment is
allowed for purposes of the alternative minimum tax
(including adjusted current earnings). The deduction
is determined by reference to modified alternative
minimum taxable income.
Coordination with ETI repeal
For purposes of the Senate amendment, domestic
production gross receipts does not include gross
receipts from any transaction that produces excluded
extraterritorial income pursuant to the binding
contract exception to the ETI repeal provisions of
the Senate amendment.
Qualified production activities income is determined
without regard to any deduction provided by the ETI
repeal provisions of the Senate amendment.
Effective date. --The Senate amendment
provision is effective for taxable years ending
after the date of enactment.
Conference
Agreement
In general
The conference agreement provides a deduction from
taxable income (or, in the case of an individual,
adjusted gross income) that is equal to a portion of
the taxpayer's qualified production activities
income. For taxable years beginning after 2009, the
deduction is equal to nine percent of the lesser of
(1) the qualified production activities income of
the taxpayer for the taxable year, or (2) taxable
income (determined without regard to this provision)
for the taxable year. For taxable years beginning in
2005 and 2006, the deduction is three percent of
income and, for taxable years beginning in 2007,
2008 and 2009, the deduction is six percent of
income. However, the deduction for a taxable year is
limited to 50 percent of the wages paid by the
taxpayer during the calendar year that ends in such
taxable year.22
In the case of corporate taxpayers that are members
of certain affiliated groups, the deduction is
determined by treating all members of such groups as
a single taxpayer and the deduction is allocated
among such members in proportion to each member's
respective amount (if any) of qualified production
activities income.
Qualified production activities income
In general, "qualified production activities
income" is equal to domestic production gross
receipts, reduced by the sum of: (1) the costs of
goods sold that are allocable to such receipts;23
(2) other deductions, expenses, or losses that are
directly allocable to such receipts; and (3) a
proper share of other deductions, expenses, and
losses that are not directly allocable to such
receipts or another class of income.24
Domestic production gross receipts
"Domestic production gross receipts"
generally are gross receipts of a taxpayer that are
derived from: (1) any sale, exchange or other
disposition, or any lease, rental or license, of
qualifying production property that was
manufactured, produced, grown or extracted by the
taxpayer in whole or in significant part within the
United States;25
(2) any sale, exchange or other disposition, or any
lease, rental or license, of qualified film produced
by the taxpayer; (3) any sale, exchange or other
disposition electricity, natural gas, or potable
water produced by the taxpayer in the United States;
(4) construction activities performed in the United
States;26
or (5) engineering or architectural services
performed in the United States for construction
projects located in the United States.
However, domestic production gross receipts do not
include any gross receipts of the taxpayer that are
derived from (1) the sale of food or beverages
prepared by the taxpayer at a retail establishment,27
or (2) the transmission or distribution of
electricity, natural gas, or potable water.28
In addition, domestic production gross receipts do
not include any gross receipts of the taxpayer
derived from property that is leased, licensed or
rented by the taxpayer for use by any related
person.29
"Qualifying production property" generally
includes any tangible personal property, computer
software, or sound recordings. "Qualified
film" includes any motion picture film or
videotape30
(including live or delayed television programming,
but not including certain sexually explicit
productions) if 50 percent or more of the total
compensation relating to the production of such film
(including compensation in the form of residuals and
participations31
) constitutes compensation for services performed in
the United States by actors, production personnel,
directors, and producers.32
Other rules
Qualified production activities income of
passthrough entities (other than cooperatives)
With respect to domestic production activities of an
S corporation, partnership, estate, trust or other
passthrough entity (other than an agricultural or
horticultural cooperative), although the wage
limitation is applied first at the entity level, the
deduction under the conference agreement generally
is determined at the shareholder, partner or similar
level by taking into account at such level the
proportionate share of qualified production
activities income of the entity. The Secretary is
directed to prescribe rules for the application of
the conference agreement to passthrough entities,
including reporting requirements and rules relating
to restrictions on the allocation of the deduction
to taxpayers at the partner or similar level.
For purposes of applying the wage limitation at the
level of a shareholder, partner, or similar person,
each person who is allocated qualified production
activities income from a passthrough entity also is
treated as having been allocated wages from such
entity in an amount that is equal to the lesser of:
(1) such person's allocable share of wages, as
determined under regulations prescribed by the
Secretary; or (2) twice the appropriate deductible
percentage of qualified production activities income
that actually is allocated to such person for the
taxable year.
Qualified production activities income of
agricultural and horticultural cooperatives
With regard to member-owned agricultural and
horticultural cooperatives formed under Subchapter T
of the Code, the conference agreement provides the
same treatment of qualified production activities
income derived from agricultural or horticultural
products that are manufactured, produced, grown, or
extracted by cooperatives,33
or that are marketed through cooperatives, as it
provides for qualified production activities income
of other taxpayers (i.e., the cooperative may claim
a deduction from qualified production activities
income).
In addition, the conference agreement provides that
the amount of any patronage dividends or per-unit
retain allocations paid to a member of an
agricultural or horticultural cooperative (to which
Part I of Subchapter T applies), which is allocable
to the portion of qualified production activities
income of the cooperative that is deductible under
the conference agreement, is deductible from the
gross income of the member. In order to qualify,
such amount must be designated by the organization
as allocable to the deductible portion of qualified
production activities income in a written notice
mailed to its patrons not later than the payment
period described in section 1382(d). The cooperative
cannot reduce its income under section 1382 (e.g.,
cannot claim a dividends-paid deduction) for such
amounts.
Alternative minimum tax
The deduction provided by the conference agreement
is allowed for purposes of computing alternative
minimum taxable income (including adjusted current
earnings). The deduction in computing alternative
minimum taxable income is determined by reference to
the lesser of the qualified production activities
income (as determined for the regular tax) or the
alternative minimum taxable income (in the case of
an individual, adjusted gross income as determined
for the regular tax) without regard to this
deduction.
Timber cutting
Under the conference agreement, an election made for
a taxable year ending on or before the date of
enactment, to treat the cutting of timber as a sale
or exchange, may be revoked by the taxpayer without
the consent of the
IRS
for any taxable year ending after that date. The
prior election (and revocation) is disregarded for
purposes of making a subsequent election.
Exploration of fundamental tax reform
The conferees acknowledge that Congress has not
reduced the statutory corporate income tax rate
since 1986. According to the Organisation of
Economic Cooperation and Development
("OECD"), the combined corporate income
tax rate, as defined by the OECD, in most instances
is lower than the U.S. corporate income tax rate.34
Higher corporate tax rates factor into the
United States
' ability to attract and retain economically vibrant
industries, which create good jobs and contribute to
overall economic growth.
This legislation was crafted to repeal an export tax
benefit that was deemed inconsistent with
obligations of the
United States
under the Agreement on Subsidies and Countervailing
Measures and other international trade agreements.
This legislation replaces the benefit with tax
relief specifically designed to be economically
equivalent to a 3-percentage point reduction in
U.S.-based manufacturing.
The conferees recognize that manufacturers are a
segment of the economy that has faced significant
challenges during the nation's recent economic
slowdown. The conferees recognize that trading
partners of the
United States
retain subsidies for domestic manufacturers and
exports through their indirect tax systems. The
conferees are concerned about the adverse
competitive impact of these subsidies on
U.S.
manufacturers.
These concerns should be considered in the context
of the benefits of a unified top tax rate for all
corporate taxpayers, including manufacturing, in
terms of efficiency and fairness. The conferees also
expect that the tax-writing committees will explore
a unified top corporate tax rate in the context of
fundamental tax reform.
Effective date. --The conference agreement is
effective for taxable years beginning after December
31, 2004.
C.
Reduced Corporate Income Tax Rate for Small
Corporations (sec. 103 of the House bill and sec. 11
of the Code)
Present
Law
A corporation's regular income tax liability is
determined by applying the following tax rate
schedule to its taxable income.
Table
1. --Marginal Federal Corporate Income Tax Rates for
2004
Taxable income: Income tax rate:
$0 - $50,000 .....................15 percent of taxable income
$50,001 - $75,000 ................25 percent of taxable income
$75,001 - $10,000,000 ............34 percent of taxable income
Over $10,000,000..................35 percent of taxable income
The benefit of the first two graduated rates
described above is phased out by a five-percent
surcharge for corporations with taxable income
between $100,000 and $335,000. Also, the benefit of
the 34-percent rate is phased out by a three-percent
surcharge for corporations with taxable income
between $15 million and $18,333,333; a corporation
with taxable income of $18,333,333 or more
effectively is subject to a flat rate of 35 percent.
House
Bill
Under the House bill, a corporation's regular income
tax liability is determined by applying the
following tax rate schedules to its taxable income.
Table
2. --Marginal Federal Corporate Income Tax Rates for
2013 and thereafter
Taxable income: Income tax rate:
$0 - $50,000 .....................15 percent of taxable income
$50,001 - $75,000 ................25 percent of taxable income
$75,001 - $20,000,000 ............32 percent of taxable income
Over $20,000,000..................35 percent of taxable income
The benefit of the graduated rates described above
is phased out by a three-percent surcharge for
corporations with taxable income between $20 million
and $40,341,667; a corporation with taxable income
of $40,341,667 or more effectively is subject to a
flat rate of 35 percent.
Table
3. --Marginal Federal Corporate Income Tax Rates for
2011-2012
Taxable income: Income tax rate:
$0 - $50,000 .....................15 percent of taxable income
&nb |
