The Republicans announced in a joint statement on July 27 that the BAT, a proposed import tax, will not be implemented as part of the tax reform package.
“While we have debated the pro-growth benefits of border adjustability, we appreciate that there are many unknowns associated with it and have decided to set this policy aside in order to advance tax reform,” said the statement by Paul Ryan, speaker of the House of Representatives, Senate Majority Leader Mitch McConnell, House Ways and Means Committee Chairman Kevin Brady, Senate Finance Committee Chairman Orrin Hatch, Treasury Secretary Steven Mnuchin, and National Economic Council Director Gary Cohn.
The announcement is good news for companies such as Walmart, Target, Nike, Gap and major automotive manufacturers that would have suffered higher costs for materials imported from abroad. The wider business community reliant on imports and foreign companies exporting to the US have also expressed their relief to its removal from the tax reform package. Moreover, it would have been consumers that would have paid the ultimate price through higher costs for goods.
“Overall there seems to be relief among most of the US business community that an impediment to tax reform has been circumvented,” said Jeffrey C LeSage, vice chairman of tax at KPMG in the US. “Even if a company were in favour of a BAT, they can accept that it is now off the table if its absence makes a lower corporate rate more likely.”
Jaye Calhoun, partner at Kean Miller in the US, said that dropping the BAT signals the “congressional leadership's interest in getting true tax reform accomplished” and it “seems like it may be easier to get a tax reform package passed without the BAT”.
The BAT was proposed in the House Republicans’ 2016 tax reform blueprint to exempt exports and tax imports as a means to eliminate the “self-imposed export penalty and import subsidy by moving to a destination-basis tax system”. The tax was also being used as a way to protect tax revenues that would be lost under plans to cut the corporate tax rate from 35% to as low as 15% and offer a one-time repatriation tax for multinationals.
BAT not dead yet
Although the BAT is no longer on the table as part of the tax reform package, it doesn’t mean it has gone away forever.
“There is still uncertainty on the future of the BAT,” LeSage said, stressing that while the Republicans have “put aside” the BAT that is not exactly the same as saying they have completely abandoned the idea.
“The supporters of the BAT within Congress still believe it is a good idea, and one that will have its time. But the politics of the moment are such that the time for a BAT is not now. The urgency to pass some form of tax reform is greater than the desire to continue to debate the BAT,” LeSage said.
Plugging the revenue gap
The removal of the proposal is good news for businesses and it will allow the government to push ahead with its tax plan, but it leaves questions about how the government will be able to plug the tax gap left by the abandoned measure. The Tax Policy Center estimated in February that the BAT would generate about $1.2 trillion over the next decade and about $1.7 trillion in the following 10 years.
There is no doubt that the BAT, if implemented, would have raised a significant amount of revenue. With its removal, legislators will need to consider how to replace that revenue to offset the costs of reducing the corporate rate.
LeSage suggested that companies could be targeted using other means. “As Congress looks for revenue raisers elsewhere, they could decide to limit interest deductibility or pursue cost recovery as a way to find additional tax revenue, which would be felt by many in the corporate community,” he said.
Besides finding the lost revenue, the Tax Foundation said the government will need to ensure the removal of the BAT proposal does not facilitate base erosion. “The border adjustment accomplished an important goal: it prevented base erosion due to corporations shifting profits overseas. Without the border adjustment, lawmakers will need to carefully consider how to design a territorial tax system that eliminates many of the perverse incentives in our current system, but also prevents base erosion,” it said.
Reaching consensus
The BAT’s removal will allow the government to expedite the tax reform bill.
“While the principles released on July 27 were short on detail and long on aspiration, their release clearly signalled that there is momentum for and areas of consensus on tax reform between Congress and the administration and a timeline for a plan – something American business leaders hadn’t heard in a while,” said LeSage.
“The announcement confirmed several assumptions – most notably a plan without the BAT, with lower rates and some version of accelerated cost recovery, and with repatriation,” Le Sage continued. “But without an answer to the hardest question – how to pay for it all – companies may still be reluctant to move ahead on many of their major corporate initiatives until they have a better view into the eventual tax landscape.”
However, a White House official said on July 31 that hearings on the tax proposals will begin from September with a target of getting a version of the tax reform bill through the House of Representatives by October and the Senate in November, Bloomberg reported. Marc Short, the White House director of legislative affairs, also said a 2018 budget resolution, which would pave the way for a tax bill, would be agreed upon in September or October.
“So that, I think, is an aggressive schedule, but that is our timetable,” Short said at a tax event in Washington sponsored by Americans for Prosperity.
According to LeSage, most multinationals now expect the eventual reform package to include a hybrid version of territoriality, with a minimum tax on foreign earnings and a foreign dividend exemption system. “I’d expect that most US-based multinationals would see this as an improvement over the current US worldwide tax approach which would allow them to reduce their tax burden if they access overseas earnings and help level the competitive landscape versus non-US based enterprises.”
“Congress and the White House will be pushing hard to get some type of tax reform, and the messaging has already begun as Congress goes on recess and back home to their constituents,” said Mike Heimert, managing director and global leader of the transfer pricing services practice at Duff & Phelps in the US. “They are promising to push the reform through the normal legislative processes, which, if they want tax reform to be permanent and substantive, the Republicans will have to get some friends from the Democratic side of the aisle on their side. Of course, this means compromise, competing interests and agendas, and will make for great political theatre. While reform may not pass this year, I would give favourable odds to some newsworthy changes to the Tax Code in early 2018 so that the politicians can promote their accomplishments in time to gear up for the fall 2018 elections.”
Calhoun noted that in light of the failures to repeal or limit Obamacare, tax reform has to be a success. “Republicans have to show that they can accomplish some of their goals or they are going to come off very badly in the next election cycle. They need a win,” he said. “So I think people seem to be more optimistic than you might otherwise think, because there is certainly a lot of support for tax reform and it's possible that it could happen.”
“American taxation of multinational businesses is out of step with the rest of the world. In order to foster domestic economic development and even ultimately to raise US tax revenues, Congress needs to reform the US tax system. This is a good opportunity to do so,” Calhoun concluded.
