TAX NEWS - June 2010

US Tax: Baucus softens carried interest provision in Senate extenders legislation

US Senate Finance Committee Chairman Max Baucus, D-Mont., unveiled tax extenders legislation June 8 that closely tracks a bill approved by the House late last month, but softens some provisions in a revenue offset that would change the tax treatment of income from carried interests.

Majority Leader Harry Reid, D-Nev., is currently expected to move to end debate on the Senate version of the American Jobs and Closing Tax Loopholes Act of 2010 on June 11. That motion, if approved, would set the stage for a floor vote in the Senate during the week of June 14.


Carried interest changes

Under the House-approved bill, 50 percent of carried interest would be treated as ordinary income, and 50 percent would receive capital gain treatment for 2011 and 2012. Beginning on January 1, 2013, that ratio would increase to 75 percent ordinary income treatment and 25 percent capital gain.

As proposed by Baucus, the Senate bill retains the 50-50 split between ordinary and capital income treatment for carried interests in 2011 and 2012. For taxable years beginning in 2013, however, it reduces the House ratio to 65 percent ordinary income treatment and 35 percent capital gain.

In addition, the Senate bill includes a provision for a 55-45 split between ordinary and capital gain treatment for carried interest that is allocable to the sale or exchange of any asset which is held at least seven years. This exception, which is not in the House bill, would be effective for taxable years beginning in 2013.

The Senate bill also includes a carve-out from the House bill's general ordinary income treatment of the disposition of an investment services partnership interest (ISPI). The Senate version would add an exception for the disposition of an ISPI in certain energy-related publicly traded partnerships by a widely held regulated investment company, a real estate investment trust, or a nonservice individual.

Oil spill tax hike absorbs revenue loss – As proposed, the Senate's carried interest provision would raise an estimated $14.45 billion over 10 years (down from $17.7 billion in the House bill). To recoup the bulk of the revenue loss, the Senate bill would increase the Oil Spill Liability Trust Fund tax to 41 cents per barrel (sunset December 31, 2020), and increase the single-incident expenditure caps for the trust fund (estimated 10-year revenue gain: $14 billion). The House-passed bill would increase the tax to 34 cents per barrel from its current level of 8 cents (estimated 10-year revenue gain: $11.78 billion).


Foreign tax & other offsets unchanged

The Senate bill makes no substantive changes to a $14.5 billion package of House-approved provisions intended to tighten foreign tax credit rules and close perceived foreign tax loopholes. Several of these provisions – related to foreign tax credit splitting, covered asset acquisitions, use of section 956 for foreign tax credit planning, and redemptions by foreign subsidiaries – would be effective retroactively.

The bill also incorporates House revenue offsets that would:

- Subject certain S-corporation income to employment taxes and clarify that individuals engaged in professional services businesses may not avoid employment taxes by routing earnings through a limited partnership or limited liability company (estimated 10-year revenue gain: $11.25 billion).
- Treat distributions of debt securities in a tax-free spin-off transaction in the same manner as distributions of cash or other property (estimated 10-year revenue gain: $255 million).
- Repeal the boot-within-gain limitation in the case of any reorganization transaction if the exchange has the effect of the distribution of a dividend, and ensure that an appropriate amount of earnings is taken into account in determining the amount of the dividend (estimated 10-year revenue gain: $510 million).
- Increase the required corporate estimated tax payments factor for corporations with assets of $1 billion or more by 36 percentage points for payments due in July, August, and September of 2015, with an offsetting reduction in 2016 (estimated revenue gain: $21.23 billion in 2015, revenue neutral over 10 years).
- Ease pension funding requirements for certain cash-strapped companies that offer defined benefit plans (estimated 10-year revenue gain: $2 billion). The Senate bill drops a House provision that would impose new fee disclosure requirements on administrators of defined contribution plans, such as 401(k) plans, as well as service providers, however.


Tax Incentives

Like the House bill, the Senate legislation would retroactively extend – generally through 2010 – over 50 business and individual tax incentives that expired at the end of last year.

Notable business provisions that would be extended include, among others, the research and experimentation tax credit, the New Markets Tax Credit, 15-year straight-line cost recovery for qualified leasehold improvements, the exception for active financing income under subpart F, and lookthrough treatment of payments between related controlled foreign corporations.

Among the individual incentives extended under the bill are the itemized deduction for state and local general sales taxes, the additional standard deduction for state and local real property taxes, and the above-the-line deduction for qualified tuition and related expenses. (The Senate bill, like the House version, provides that the deduction for qualified tuition expenses would not be available to taxpayers who would have received a greater tax benefit under the Hope Scholarship and Lifetime Learning credits.)

The bill also would extend an array of charitable-giving provisions and infrastructure and economic development tax incentives.