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Brian Davis: Discussing the U.S. Tax Reform, And Its Potential Global Impact

Brian Davis: Discussing the U.S. Tax Reform, And Its Potential Global Impact

Pwc cosponsored the event entitled “US tax reform: Overview and the potential global impact'” organised by the American Chamber of Commerce in Cyprus in cooperation with the U.S. Embassy. The event took place on 5 December 2017 with Pwc Partner Stelios Violaris being the coordinator while the presentation was held by Washington DC based PwC international tax practitioners Brian Davis, Director at PwC Florham Park, New Jersey and Jason T Young PwC, Manager, McLean. Their presentation focused on the very latest developments and outlook on the US tax reform and its potential global impact.

In an interview, Davis answered interesting questions and underlined important factors regarding the US Tax reform, and its potential global impact.
 

What are the key changes under the US tax reform?

When thinking about U.S. tax reform, particularly as it relates to business, a key point to keep in mind is that the effort is premised on modernizing a tax code that has not been subject to fundamental revision in more than 30 years. Modernization means that the headline corporate income tax rate will be brought down to a level that is more-closely aligned with the tax rates of other developed economies (the rate is settled at 21%, from 35%). It also means that the U.S. system for taxing the international profits of U.S.-based enterprises will be brought into closer alignment with the “territorial” tax systems employed by many other nations. When it comes to taxing profits of domestic and global enterprises, over the past few decades the U.S. has increasingly become an outlier amongst OECD nations; the present reform effort is an exercise in narrowing that gap.

With respect to timing, the President has already signed the bill on 22 December and as a result the new U.S. tax law takes effect as from 1 January 2018 (although the operative date for certain provisions may be delayed until 2019). While predicting the outcome of a legislative process is always difficult, the legislative champions of this effort have cleared a path for success and have demonstrated an ability to meet or exceed timeline expectations.

 

In what ways have political dynamics of recent years affected the US tax reform?

The United States political landscape remains fairly polarized, and the division principally is one between the two major political parties – the Republicans and the Democrats – though philosophical differences may drive some legislators to affiliate with more discrete legislative blocs. Further, while the Republicans have the Majority on Capitol Hill, that advantage is narrow and certain Republican legislators have demonstrated a willingness to deviate from “party line” politics when proposed legislation cannot be reconciled with that legislator’s own views. As a result, moving significant tax law changes through the legislative process without broad bipartisan support can be perilous, as the Republicans have a very slim margin for error and generally cannot count on the support of even moderate members of the Democrat party.

In light of the foregoing, the present U.S. tax reform effort has been positioned to advance in the U.S. Senate pursuant to a special process that merely requires simple majority approval (as opposed to normal process, which requires approval by three-fifths of the Senate). To use this special process, however, Senate rules impose significant procedural constraints on the proposed tax legislation especially as it relates to the bill’s effect on the U.S. national debt. These fiscal constraints, particularly when coupled with current political dynamics, mean that every provision of the proposed tax legislation that loses federal revenue must be carefully managed against other provisions that raise revenue while, at the same time, not losing the support of key lawmakers along the way. Presently, key sensitivities in the proposed legislation center on a potential elimination of certain deductions popular with individual taxpayers (e.g., a deduction for taxes paid to state or local governments).

 

How will it affect US multinationals conducting business both within and outside the US? Which other parties will be impacted by the changes?

In order to implement the sweeping changes envisaged – such as the reduction in the headline corporate income tax rate and the pivot toward a “territorial” tax system for international profits – a revision of existing tax rules, and implementation of new and potentially novel tax rules, is envisaged. Such changes will thus require the careful attention of executives at U.S. parented and non-U.S. parented enterprises, and because these changes may have significant value and supply chain implications, the attention of executives outside the fields of finance, tax and accounting may also be necessary.

For all taxpayers, the new U.S. tax rules will impose significant limitations on the ability to reduce U.S. taxable income through deductions for net interest expense, and the rules will also severely constrain the ability to benefit from the use of so-called “hybrid” entity or instrument arrangements. In addition, certain taxpayers (e.g., a U.S. subsidiary belonging to a non-U.S. parented enterprise) may be caught by rules aimed at limiting the benefit of making certain deductible payments (e.g., royalties, service fees, but not cost-of-goods-sold payments) to related non-U.S. persons. For U.S. parented enterprises, there will be a “toll charge” levied on the historic earnings of non-U.S. subsidiaries (e.g., to the extent U.S. tax was previously avoided under the present U.S. tax system), and a new “minimum” tax potentially applicable to future earnings realized by these non-U.S. subsidiaries on a go-forward basis.

As a result there, is a pressing need for companies to begin preparing calculations and modeling the impact of these new rules – this is particularly true for companies with public reporting obligations, as Q1 2018 tax reform readiness is acutely important as President Trump has already signed a tax reform bill in December 2017. Accordingly, companies need to be ready to gather data that may not be readily available, in order to perform calculations, in the near term. For executives at enterprises that touch the U.S. market, this is perhaps the most important message to understand.

 

Do you believe that stakeholders are ready for these changes?

While significant U.S. tax reform appears to be at hand, this has been a topic of ongoing discussion for the last decade or more. As a result, an important part of the final bill – while perhaps novel as to certain aspects – will in many ways be similar to proposals that have been circulating in Washington, D.C. for a number of years. In other words, both the U.S. Government and taxpayers have more-or-less anticipated that U.S. tax reform would unfold within the currently contemplated framework, with surprises principally emerging around the edges.

Nevertheless, given the way that this legislation is unfolding, it is likely that there will be a number of gaps or glitches that may need to be addressed. In this regard, the political polarization that currently plagues Washington, D.C. may make the normal course by which tax legislative gaps or glitches are remedied by the Congress more difficult to achieve. As a result, we should expect increased pressure on the U.S. Treasury and Internal Revenue Service to issue administrative guidance to address these issues. Regulatory guidance, however, is a subject of increased scrutiny under the current Administration, and thus it is difficult to predict how anticipated Treasury / IRS notice and regulatory guidance efforts will materialize. The IRS is also experiencing funding constraints, so government staffing on new guidance projects is likely to increase the present tension on existing resources.

In short, while taxpayers have generally engaged in discussions around U.S. tax reform for a number of years, many are still experiencing some shock at the proposition that significant reform legislation could be introduced, enacted and effective within a period of two months. My expectation is that taxpayers will initially struggle to navigate the new rules with confidence, in part because of the gaps and glitches noted above.

 

Do you believe that Cyprus is an attractive investment and business destination for US companies? What could further improve the ease and cost of doing business?

I am firmly convinced that Cyprus will remain an attractive investment and business destination for U.S. companies. The country’s mature professional services industry, business-friendly tax and legal environment, and membership in the European Union present companies with a stable and welcoming foothold in the critical E.U. market. As Brexit, the OECD’s BEPS project, U.S. tax reform and other fiscal and trade disturbances unfold and reshape global business and tax landscapes, Cyprus remains well-positioned to provide the stability and policy transparency that U.S. investors require.

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