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For companies in the services industry, the Base Erosion and Anti-Abuse Tax (BEAT) may feel like a dominating force that’s impossible to overcome. Even though the BEAT applies broadly to large US corporations, companies that provide services to their customers, when compared to companies in the manufacturing or retail space, find themselves at a distinct disadvantage under the BEAT. Alvarez & Marsal, Taxand USA, explains the BEAT, why companies in the services industry are at a distinct disadvantage under the BEAT, and a method that may be used overcome that disadvantage.
What is the BEAT?
The BEAT is a new minimum tax targeted at US multinationals that make base eroding payments (i.e. certain deductible payments to related foreign parties). In determining the minimum tax, base eroding payments are added back to the company’s taxable income. This new modified taxable income amount is then hit with a 5 percent rate (or 10 percent for taxable years beginning after December 31, 2018) to determine the modified tax liability. If the resulting “modified tax liability” is higher than the taxpayer’s actual tax liability, the difference is the BEAT and must be paid in addition to the “regular” US Federal income tax.
Who is subject to the BEAT?
Importantly, not every US corporation is subject to these rules. A US corporation must pass two thresholds before the BEAT is applicable. If the taxpayer does not meet the criteria of either test, the BEAT does not apply. First, the US corporation must have average annual gross receipts in excess of $500 million over the past 3 years. Second, the US corporation’s deductible payments made to related parties (i.e. base eroding payments) must exceed 3 percent of the US corporation’s aggregate allowable deductions in the current taxable year.
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Many service companies are being caught unfairly by the BEAT. Some, for example, are surprised that their legacy transfer pricing and payment structures, which met various standards of acceptance in the past, are targeted to cause harmful results. Now is the time to get a real handle on how BEAT applies (or could apply) and scenarios where the liability may be mitigated. There are many opportunities to reorganise the flows of payments to mitigate the BEAT’s impact. Most services companies are already evaluating additional options as well, such as analysing the services cost method as an appropriate means to alleviate the stinging bite of the BEAT.