Corporate alternative minimum tax: IRS issues initial guidance

Introduction

The 15% corporate alternative minimum tax (CAMT) was enacted in 2022. The CAMT applies only to some large, profitable corporations and corporate groups. CAMT computations use book income (financial statement income) as a starting point, not taxable income. The IRS has issued its initial guidance addressing the CAMT — Notice 2023-7 (the Notice) — with more to come.

CAMT in general

The CAMT applies only to applicable corporations with annual average adjusted financial statement income (AFSI) that exceeds $1 billion. For a corporation that is a member of a foreign-parented multinational group, the annual average AFSI must be over $1 billion for all members of the group and $100 million or more from only the U.S. corporation(s). When measuring AFSI, aggregation rules may require adding AFSI of multiple companies together. AFSI is based on financial statement net income with numerous adjustments. Average annual AFSI is based on the three tax years preceding the tax year in which the tax applies.

The CAMT is effective for tax years beginning after Dec. 31, 2022. It does not apply to S corporations, regulated investment companies or real estate investment trusts.

CAMT liability arises only if CAMT computations based on AFSI yield a higher result than regular federal income tax and base erosion anti-abuse tax (BEAT) computations for the taxable year. A minimum tax credit is provided to CAMT payers that can be carried forward and utilized in future years to the extent that the regular tax exceeds the tentative minimum tax.

Financial statement net operating loss carryovers reduce the AFSI base for computing the 15% minimum tax. However, this benefit applies only to AFSI losses from taxable years ending after Dec. 31, 2019. Additionally, loss carryovers from prior years can offset no more than 80% of AFSI in the current year. A large corporation with pre-2020 regular tax losses carried forward may see CAMT liability resulting from its inability to apply pre-2020 financial statement losses to reduce AFSI.

The Notice sets forth interim CAMT guidance and announces that the Treasury Department and the IRS intend to release both proposed regulations dealing with the CAMT and additional interim guidance (e.g., another notice) before releasing proposed regulations. Taxpayers may rely on the Notice until proposed regulations are issued.

Highlights of Notice 2023-7

• Applicable corporation safe harbor: The Notice provides a safe harbor “simplified method” for corporations to determine whether they are an applicable corporation subject to the tax. The $1 billion AFSI threshold mentioned above is lowered to $500 million and the $100 million test for U.S. corporations in a foreign-parented multinational group is lowered to $50 million. Some adjustments still apply in computing these lower thresholds. Applying the simplified method will allow some corporations to avoid many of the complex and time-consuming adjustments required to convert financial statement net income to AFSI when making the determination of whether the corporation is an applicable corporation that may be subject to the CAMT. On the other hand, due to the lower thresholds, the safe harbor may have no value to corporations with large financial statement net income.
• Nonrecognition transactions: Gain or loss recognized for financial statement purposes from certain capital contribution and reorganization transactions are not taken into account in calculating AFSI. The specified transactions are those qualifying under sections 332, 337, 351, 354, 355, 357, 361, 368, 721, 731 or 1032 without recognition of any gain by the taxpayer. Corresponding adjustments for the current and future years must be made to AFSI to eliminate any basis adjustments that result from taking the gain into account for financial statement purposes. Thus, a step-up in the basis of assets that occurs if income is recognized for financial statement purposes from one of the specified nonrecognition transactions will not be taken into account in computing AFSI in the current or future years. The differences in the basis of assets will require more adjustments in reaching AFSI. It will also impose an additional recordkeeping burden on applicable corporations.
• Cancellation of debt income: Debt discharge income that results in cancellation of debt (COD) income that is excluded for tax purposes but results in financial statement income is not taken into account in calculating AFSI. Only the amount excluded for tax purposes results in an adjustment to AFSI. Any amount that is applied to reduce regular tax attributes under section 108(b) will reduce CAMT attributes. The Notice does not define CAMT attributes; instead, it requests comments on what CAMT attributes should be reduced. These attributes will likely include financial statement net operating loss carryforwards and basis in assets.
• Depreciation deductions: Depreciation deductions for financial statement purposes may be substantially different from the deductions allowed for federal income tax purposes. In general, due to the use of accelerated depreciation (including bonus depreciation) for federal income tax purposes, the depreciation used for federal income tax will initially be much greater than the financial statement depreciation. These book-tax differences may have a significant effect on a corporation’s potential CAMT exposure.

Lobbying efforts of various groups relating to CAMT adjustments for depreciation appear to have been successful. Section 56A(c)(13) provides that AFSI is reduced for depreciation deductions allowed under section 167 for assets to which section 168 applies. Financial statement depreciation for these assets is disregarded in computing AFSI. Allowing deductions for accelerated federal depreciation while adding back the book depreciation in computing AFSI will result in a lower AFSI in the early years of the life of an asset. Note that dispositions of assets will also result in adjustments to AFSI to reflect the differences in tax versus book depreciation.

The Notice addresses three important issues related to the adjustment for depreciation.

1. Cost of goods sold (COGS) depreciation: In response to comments issued by practitioners to the IRS, the tax depreciation recovered as part of COGS in computing taxable income reduces AFSI while book COGS depreciation is disregarded. The Notice requests comments on how this adjustment should be determined.
2. Assets depreciated outside of section 168: Assets that do not qualify for depreciation under section 168 do not result in an adjustment to AFSI. For example, if a portion of property is deducted under section 181 (allowing a deduction for the cost of any qualified film or television production), and the remainder is depreciated under sections 167 and 168, only the portion of the cost that is depreciated under sections 167 and 168 qualifies for the adjustment. Certain assets that are not section 168 property (such as computer software) may only qualify for the adjustment to AFSI if bonus depreciation is taken for tax purposes under section 168(k).
3. Repair deductions: Repair deductions taken for federal income tax purposes do not qualify for a reduction to AFSI.

• Direct payments or sales of credits under sections 48D, 6417 and 6418: Advanced manufacturing investment credits under section 48D and “green energy” credits under section 6417 provide for elections to treat the credit as a direct payment for income tax purposes. This direct payment may result in a refund if it exceeds the taxpayer’s actual tax liability. Under section 6418, taxpayers may sell certain credits for cash. Generally, these direct payments or sales of credits do not result in income for tax purposes; however, they may result in financial statement accounting income. The Notice allows AFSI to be adjusted to eliminate the effect of the financial statement income.

Learn more

Most corporations will not be affected by the CAMT, but the calculations can be complex for those subject to the tax. To learn more about the applicability of the CAMT and how it may affect you, please contact your Baker Tilly advisor.

The information provided here is of a general nature and is not intended to address the specific circumstances of any individual or entity. In specific circumstances, the services of a professional should be sought. Tax information, if any, contained in this communication was not intended or written to be used by any person for the purpose of avoiding penalties, nor should such information be construed as an opinion upon which any person may rely. The intended recipients of this communication and any attachments are not subject to any limitation on the disclosure of the tax treatment or tax structure of any transaction or matter that is the subject of this communication and any attachments.