Tax Implications of the Build Back Better Act

On November 19, 2021, the House of Representatives passed the Build Back Better Act (the “BBB”). This Client Alert discusses the key personal, corporate, international, and energy-related tax provisions of the BBB for various taxpayers.

The BBB will now be sent to the Senate for its consideration. The Senate is not expected to begin consideration of the bill until after the Thanksgiving holiday. If the Senate makes revisions to the bill, the revised bill will be returned to the House for its consideration.

All Section references refer to the Internal Revenue Code of 1986, as amended (the “Code”). Unless otherwise specified, the effective date for each proposed provision is the tax years beginning after December 31, 2022.

Corporate Taxpayers: The key business tax aspects of the BBB are summarized below.

• Corporate Profits Alternative Minimum Tax: Rather than increase the corporate federal income tax rate, the BBB would impose a 15% minimum tax on the adjusted financial statement income of certain corporations that report over $1 billion in profits to shareholders. The threshold is reduced to $100 million in the case of certain corporations with foreign parents. A corporation would be subject to the tax if its average annual adjusted financial statement income exceeds $1 billion for any three consecutive years of the corporation (ending after December 31, 2019) ending with the taxable year that precedes the taxable year at issue. The determination of adjusted financial statement income would take into certain foreign tax credits and financial statement net operating loss carryovers. The amount of tax would be equal to the amount by which the minimum tax exceeds the corporation’s regular tax. Regulated investment companies and real estate investment trusts would not be subject to the tax. This tax would be effective for taxable years beginning after December 31, 2022.
• Corporate Stock Buyback Excise Tax: The BBB would impose a 1% excise tax on a publicly traded domestic corporation that buys stock back from its shareholders. The tax would apply to the value of the stock that is repurchased by the corporation during a taxable year. Repurchases subject to the tax would include stock redemptions and certain economically similar transactions. The tax would also apply to the purchase of the stock of a publicly traded corporation by a corporation or a partnership that is more than 50% owned by the publicly traded corporation. In addition, certain direct and indirect subsidiaries of the public corporation would be subject to the tax if the subsidiary executes the buyback. The amount of repurchases subject to the tax would be reduced by the value of any stock issued during the taxable year, including stock issued to employees or employees of a direct or indirect subsidiary. The tax would not apply to certain transactions, including tax-free buybacks that are part of a tax-free reorganization (as long as no gain or loss is recognized by the exchanging shareholder), if the aggregate value of the repurchased stock does not exceed $1 million, or if the repurchase is treated as a dividend for tax purposes. This tax would be effective for stock repurchases after December 31, 2021.
• Limitation on Excess Business Losses: The BBB would make permanent the current limits on deducting pass-through business losses against non-business income. Under current law, non-corporate taxpayers cannot deduct a business loss in excess of $250,000 ($500,000 for joint filers) of non-business income. Disallowed losses may be carried forward to subsequent taxable years and, under current law, the carryforward is treated as a net operating loss carryforward in those subsequent years (subject to the net operating loss limitations). The current limitation is set to expire after 2025. The BBB would remove the sunset date on this limitation. In addition, the BBB would not treat the disallowed losses that are carried forward as net operating losses. The disallowed losses would instead be treated as excess business losses in future years and would be subject to the $250,000 (or $500,000) limitation for that year. This provision would be effective for taxable years beginning after December 31, 2020–meaning that this change would be retroactive to 2021 excess business losses.
• Limitation on Certain Divisive Reorganizations: The BBB would limit the tax-free transfer of non-qualified preferred stock and debt securities of a controlled corporation by a distributing corporation to its creditors in a tax-free spinoff transaction. With the new limitation, the distributing corporation would recognize gain on certain transfers of non-qualified preferred stock and debt securities. The distributing corporation would recognize gain to the extent that the fair market value of the preferred and principal amount of the debt exceeds the excess of the basis of the assets transferred to the controlled corporation in the spinoff over the liabilities assumed by the controlled corporation in the spinoff. This limitation would apply to spinoffs after the effective date of the BBB, with a limited exception for transactions pursuant to certain binding agreements, described in a ruling request submitted to the IRS prior to the effective date, or described in a public announcement filing with the SEC prior to the effective date.
• Certain Partnership-Related Payments Treated as Dividend Equivalents: The BBB would expand the definition of “dividend equivalent amounts” to include payments pursuant to specified notional principal contracts with respect to publicly traded partnerships and certain other partnerships. Income and gain for purposes of calculating a dividend equivalent would include income or gain from the deemed disposition of the partnership interest as a result of terminating the notional principal contract. This provision would apply to payments made after December 31, 2022.
• Limitation on Gain Exclusion for Sale of Qualified Small business Stock: The BBB would limit the current gain exclusion for the sale of qualified small business stock (“QSBS”) for certain high income taxpayers. Under current law, a holder of QSBS that acquired such QSBS after September 27, 2010 can exclude 100% of the gain on the sale of the QSBS (subject to certain exclusions). Lower exclusion rates (either 50% or 75%) apply for QSBS acquired prior to September 27, 2010. The BBB would provide that a taxpayer with adjusted gross income equal to or exceeding $400,000 can only exclude 50% of the gain on the sale of such taxpayer’s QSBS, regardless of when the QSBS was acquired. A similar rule would apply to QSBS held by trusts or estates. Subject to a limited binding contract exception, the provision would apply to sales or exchanges of QSBS after September 13, 2021–meaning that this change is retroactive to certain sales of QSBS in 2021.

Individuals: The key individual tax aspects of the BBB are summarized below.

• State and Local Tax (SALT) Deduction: The BBB would raise the cap on the SALT deduction from $10,000 to $80,000 and extend the cap through the 2030 tax year.
• Expanded application of net investment income tax (NIIT): The BBB would change the way the NIIT taxes apply to individual taxpayers. Currently, the NIIT does not apply to trade or business income earned by an individual that materially participates in the business. The BBB would expand the NIIT by applying it to all trade or business income. The NIIT would apply to taxpayers earning more than $500,000 (joint filers) or $400,000 (individuals). The NIIT would have a phase-in threshold for taxpayers whose income does not exceed the threshold by more than $100,000. This provision would apply to the 2022 tax year.
• Surcharge on high-income taxpayers: The BBB would impose a new surcharge tax on taxpayers equal to 5% of income in excess of $10 million, and an additional surcharge tax of 3% on income in excess of $25 million. This surcharge tax would apply to all sources of income included in the calculation of modified adjusted gross income, including business income and capital gains. This provision would apply to the 2022 tax year.
• Retirement Account Restrictions: The BBB introduces new restrictions on the ability of taxpayers to use Individual Retirement Accounts (‘IRAs”) and other qualified retirement plans if they are maintaining a high balance in their retirement account.  
  • New Contributions: The BBB would prohibit new contributions to a traditional or Roth IRA for a taxable year if the total value of the taxpayer’s IRA and defined contribution retirement accounts total value exceed $10 million as of the end of the prior taxable year and the taxpayer’s modified adjusted gross income is greater than $400,000 (single or married filing separately) or $450,000 (joint filers). These limitations would be effective for 2029 tax year.
  • Information Reporting Requirement: The BBB would create a new annual IRS information-reporting requirement on employer defined contribution plan accounts with aggregate account balances exceeding $2.5 million.
  • Mandatory Distributions: The BBB would require taxpayers with IRA and defined contribution retirement accounts that have a total value exceeding $10 million at the end of a taxable year to take a minimum distribution for the following year. The minimum distribution would be 50% of the amount by which the individual’s prior year IRA and defined contribution retirement accounts total value exceeded the $10 million threshold. Additionally, if a taxpayer’s IRA and defined contribution retirement accounts total value exceed $20 million, that excess would be required to be distributed from Roth IRAs up to the lesser of: (1) the amount needed to bring the IRA and defined contribution retirement accounts total value below $20 million; or (2) the aggregate balance in the ROTH IRAs. These provisions would be effective for the 2029 tax year.

Energy-Related Provisions:

• Extend the Renewable Energy Production Tax Credit: The BBB extends the production tax credit (PTC), for construction beginning by the end of 2026, allowing energy-producer taxpayers to claim a tax credit based on electricity produced from renewable energy resources. The provision provides a “base credit” rate of 0.5 cents/kilowatt hour, or an increased “bonus credit” rate of 2.5 cents/kilowatt hour. To claim the “bonus credit” rate, a taxpayer generally must satisfy certain prevailing wage requirements during construction and for each year of the 10-year credit period and apprenticeship requirements during construction (or risk a $5,000 penalty per noncompliant worker). To satisfy the apprenticeship requirement, the applicable percentage of labor hours performed by a qualified apprentice must be no less than 15% (10% for projects beginning construction in 2022; 12.5% for 2023), but noncompliance can be cured through a penalty payment. A taxpayer may claim an additional 10% credit if the energy facility meets new “domestic content” requirements that require any steel, iron, or manufactured product to be produced in the United States in adjusted percentage phasing-in over the next several years, ranging from 40% (20% for offshore wind) to 55%. If a facility uses tax-exempt bonds for financing, the credit will be reduced. Finally, if a facility is placed in service in an “energy community,” generally meaning a census tract where a coal mine or coal-fired electric facility has been retired, there is another 10% credit increase.

Under current law, the PTC is in a phase-out, with imminent deadlines to begin construction for credit eligibility and a reduction of the credit rate available. This new linkage between labor and energy credits is a significant change for the PTC.

• Extend the Renewable Energy Investment Tax Credit: The BBB extends the investment tax credit (ITC), for construction beginning by the end of 2026 (some construction by the end of 2031), allowing taxpayers to claim a credit for the cost of energy property. Like the two-tiered PTC, the provision provides a “base credit” rate of 6% of the basis of energy property or a “bonus credit” rate of 30% of the basis of energy property. To claim the “bonus credit” rate, a taxpayer generally must satisfy certain prevailing wage requirements during construction and for each year of the five years after the project is placed in service, and satisfy apprenticeship requirements during construction (or risk a $5,000 penalty per noncompliant worker). These credit rates apply with respect to facilities placed into service after December 31, 2021. The ITC is expanded to include energy storage technology, biogas property, microgrid controllers, dynamic glass, and linear generators. A taxpayer may claim an additional 2% credit (10% if the taxpayer also meets the prevailing wage and apprenticeship requirements) if the energy facility meets new “domestic content” requirements. Like the PTC, energy property placed into service in an “energy community” increases the credit by 2% (10% if the taxpayer also meets the prevailing wage and apprenticeship requirements).
• Enhance the ITC for Low-income Communities: Effective January 1, 2022, the BBB generally provides for an enhanced 10% credit for wind and solar facilities that are developed in low-income communities, such that the Secretary will make an allocation of the environmental justice solar and wind capacity limitation, considering several enumerated factors, to not exceed 1.8 gigawatts for each calendar year 2022 through 2026.
• New Elective Payment for Energy Property and Electricity Produced from Certain Renewable Resources: Adding new IRC Section 6417, the BBB provides for a “direct pay option” such that a taxpayer may elect to be treated as having made a payment of tax equal to the value of the credit for which they would otherwise be eligible. Rather than opting to carry forward credits to years when credits can offset tax liability, a taxpayer can elect to treat the amount of credit as a payment of tax. This treatment allows a taxpayer with low or no tax liability to accelerate its use of the credit. This direct pay option is available for the following credits: IRC § 48 ITC, IRC § 45 PTC, IRC § 45Q credit for carbon capture and sequestration, IRC § 30C alternative fuel vehicle refueling property credit, IRC § 48C advanced energy project credit, IRC § 48D investment credit for transmission property, IRC § 45W zero-emission nuclear power production credit, IRC § 45X clean hydrogen production credit, IRC § 48E advanced manufacturing investment credit, IRC § 45AA advanced manufacturing production credit, IRC § 45BB clean electricity production credit, IRC § 48F clean electricity investment credit, and IRC § 45CC clean fuel production credit.
• New Investment Credit for Electric Transmission Property: The BBB provides a tax credit for the basis of qualifying electric transmission property (generally defined as tangible, depreciable property, including an electric transmission line of 500 MW or greater or related transmission property) placed in service by a taxpayer before January 1, 2032. Like the two-tiered PTC and ITC, the provision provides a “base credit” rate of 6% of the basis of energy property or a “bonus credit” rate of 30% of the basis of energy property. To claim the “bonus credit” rate, a taxpayer generally must satisfy certain prevailing wage requirements during construction and for each year of the five years after the project is placed in service, and satisfy apprenticeship requirements during construction.
• Extend Credit for Carbon Oxide Sequestration: The BBB extends the IRC Section 45Q credit for carbon oxide sequestration (also known as carbon capture) facilities that begin construction before the end of 2031. To qualify for the credit, direct air capture facilities must capture no less than 1,000 metric tons of carbon oxide annually while electricity-generating facilities must capture no less than 18,750 metric tons of carbon oxide and 75% of total carbon emissions. Other facilities must capture no less than 12,500 metric tons of carbon oxide. The provision provides a “base credit” rate of $17 or a “bonus credit” rate of $85 per metric ton captured for geological storage and a “base credit” rate of $12 or a “bonus credit” rate of $60 per metric ton of carbon oxide captured and utilized for an allowable use by the taxpayer. To claim the “bonus credit” rate, a taxpayer generally must satisfy certain prevailing wage requirements during construction and for each year of the 12-year credit period, and satisfy apprenticeship requirements during construction. Carbon capture technologies are an option to reduce greenhouse gas emissions from coal- and natural-gas-fired power plants, as well as other large industrial sources. To claim this credit, a taxpayer must measure emissions of qualified carbon oxide (carbon oxide that otherwise would have been released) at the point of capture and at the point of disposal (or similar).
• Green Energy Publicly Traded Partnerships: The BBB expands the definition of qualified income for publicly traded partnerships to include income from certain activities related to energy production eligible for the PTC, property eligible for the ITC, renewable fuels, and energy and fuel from carbon sequestration projects eligible for credits under Section 45Q.
• Extend the Advanced Energy Project Credit: The BBB renews the qualified advanced energy credit under IRC § 48C, allowing the Secretary to allocate additional credits for each year, 2022 through 2031. The provision provides a “base credit” rate of 6% of the basis of energy property or a “bonus credit” rate of 30% of qualified investments in qualified advanced energy projects. To claim the “bonus credit” rate, a taxpayer generally must satisfy certain prevailing wage requirements during construction and for each year of the five years after the project is placed in service, and satisfy apprenticeship requirements during construction.
• New Advanced Manufacturing Investment Credit: The BBB provides an investment tax credit up to 25% (though all taxpayers are eligible for minimum of 5%) for advanced manufacturing facilities. The taxpayer must pay prevailing wages and satisfy apprenticeship requirements to be eligible for the 25% ITC. To claim this ITC, the taxpayer must commence construction before January 1, 2026.
• New Advanced Manufacturing Production Credit: The BBB provides a production tax credit for eligible components that are produced and sold, if the final assembly occurs at a facility in the United States (with a union-negotiated collective bargaining agreement), and the components are produced and sold by January 1, 2027. This PTC is annually reduced by 25%.
• New Clean Electricity Production and Investment Credits: The BBB creates an emissions-based incentive for electricity generating facilities. A taxpayer may elect the ITC (a base credit rate of 6%, or bonus rate credit of 30%, if a taxpayer satisfies prevailing wage rate requirements and apprenticeship program requirements) or the PTC (credit of 2.5 cents per kilowatt hour of energy produced and sold in the 10-year period after the facility is placed in service). Any power facility of any technology can qualify for the credits, as long as the facility’s carbon emissions are at or below zero.
• New Clean Fuel Production Tax Credit: The BBB creates a new incentive for the US production of clean fuels. The credit level is based on “lifecycle carbon emissions,” from production to use of the transportation-grade fuel. A fuel may qualify for this credit if its “lifecycle emissions are at least 25% less than the US average. An elevated credit rate of $1.00 per gallon (compared to $0.20 per gallon) is available to taxpayers who pay wages at the prevailing rate and satisfy the apprenticeship requirements. Increased credit rates are also available for aviation fuel. This credit will phase-out at the latter of 2031 or when emission targets (75% less than 2021 carbon levels) are met.
• Expand Energy Efficient Commercial Buildings Deduction. The BBB increases the maximum deduction (with a three-year cap rather than the existing lifetime cap) for energy efficient commercial buildings. To be eligible, the property must reduce associated energy costs by 25% or more in comparison to a building that meets the American Society of Heating, Refrigerating and Air-Conditioning Engineers (ASHRAE).standard affirmed by the Secretary as of four years prior to the date such building is placed into service.
• Refundable Qualified Plug-in Electric Drive Motor Vehicle Credit for Individuals:  This provision provides for a refundable income tax credit of $4,000 (plus an additional $3,500 for increased battery capacity) for new qualified plug-in electric drive motor vehicles placed into service by the taxpayer during the taxable year, before December 31, 2031.  The credit is limited to one vehicle per-taxpayer per-taxable year and to 50% of the purchase price, along with an income phase-out.  The credit is limited to vehicles that qualify, as defined in the provision, and limited to vehicles that do not exceed a certain “manufacturer’s suggested retail price.”  The credit is increased if the vehicle is assembled in the U.S. by a facility with a union-negotiated collective bargaining agreement and if the vehicle’s battery cells are manufactured in the U.S.  Beginning in 2027, this credit is only applicable to vehicles with final assembly in the U.S. 
• Credit for Previously-owned Qualified Plug-in Electric Drive Motor Vehicles: The BBB creates a new refundable $2,000 credit (with an additional $2,000 based on battery capacity) for the purchase of used battery and fuel-cell electric cars after date of enactment through 2031.  To qualify, the vehicle must generally meet the IRC § 30D requirements (the current credit requirements for electric vehicles) and be a model year at least two years earlier than the date of sale, and the sale price must not exceed $25,000.  Restrictions on this credit include an income phase-out, a limit to claiming this credit once in a three-year period, only dealership transactions, and no related-party transactions, among others.  Additionally, this credit may be transferred to the seller of the vehicle so that the purchaser may access the value of the credit immediately.
• Qualified Environmental Justice Program Credit:  The BBB creates a capped refundable competitive credit of $1 billion for each year from 2022 through and including 2031 to institutions of higher education for environmental justice programs.  The qualifying programs must address or improve data about environmental stressors to improve health and economic outcomes for persons living in low-income areas.  The credit is 20% of costs to be spent within 5 years.  A higher credit of 30% is available for programs with material participation from Historically Black Colleges and Universities and Minority Serving Institutions.  

International Provisions:

• Modified Deduction for Foreign Derived Intangible Income (“FDII”) and Global Intangible Low-Taxed Income (“GILTI”): The Code provides detailed calculations to determine FDII and GILTI. Generally, FDII is the portion of a domestic corporation’s income derived from the domestic corporation’s sale of property to non-US persons and services provided by the domestic corporation to any person, or with respect to property, not located in the US less a fixed return on the domestic corporation’s depreciable assets. GILTI is generally a US shareholder’s proportionate share of a controlled foreign corporation’s (i.e. a foreign corporation if more than 50% of the total combined voting power of all classes of stock or more than 50% of the total value of the stock of the foreign corporation are owned actually or constructively by a U.S. person) income less a fixed return on the controlled foreign corporation’s depreciable assets. The BBB would modify the deduction allowable for FDII and GILTI. Currently, Section 250 of the Code allows a deduction for domestic corporations equal to 37.5% of its FDII–the BBB modifies this deduction to equal 24.8% of FDII. Also, Section 250 of the Code allows a deduction for domestic corporations equal to 50% of its GILTI–the BBB modifies this deduction to equal 28.5% of GILTI. Currently, FDII and GILTI deductions in excess of a corporation’s taxable income are not allowed to be included in the calculation of the corporation’s net operating losses; the BBB would change this to allow these excess FDII and GILTI deductions to be included in the corporation’s net operating losses.
• Limitations on the Foreign Tax Credit: Under the BBB, foreign tax credits would be determined on a country-by-country basis. This would result in taxpayers being unable to offset income associated with one foreign jurisdiction with foreign taxes paid in a different jurisdiction. In addition, the BBB eliminates the ability to carryback foreign tax credits.
• GILTI Calculation Modifications: The BBB requires that GILTI be included in the income of a shareholder of a controlled foreign corporation on a country-by-country basis. The BBB would decrease the amount of the fixed return on the controlled foreign corporation’s depreciable assets that is subtracted from the US shareholder’s proportionate share of a controlled foreign corporation’s income in determining GILTI, thus increasing GILTI.
• GILTI Deemed Paid Foreign Tax Credit Modification: Currently, the Code deems that a domestic corporation shall have paid foreign taxes generally equal to 80% of the domestic corporation’s portion of the taxes paid or accrued by the controlled foreign corporation attributable to the GILTI taken into account by the domestic corporation. The BBB would increase the 80% in the foregoing formula to 95%, thus increasing the GILTI deemed paid foreign tax credit for a domestic corporation, which can be used against GILTI on a country-by-country basis. Also, the BBB would allow the carryforward of excess foreign tax credits with respect to GILTI for five years for tax years beginning after December 31, 2022 and before January 1, 2031, and thereafter the carryforward period will be 10 years (under current law a carryforward is not allowed for excess foreign tax credits attributable to GILTI).
• Deduction for Foreign-Source Dividends: The BBB would allow a deduction for the foreign-sourced portions of dividends received by a domestic corporation only from a controlled foreign corporation. This reduces the scope of the current law, which allows this deduction for the foreign-sourced portions of dividends received from specified 10% owned foreign corporations owned by domestic corporations.
• Certain Dividends by Controlled Foreign Corporations Treated as Extraordinary Dividends: Under the Code, extraordinary dividends generally are dividends paid to a corporation on behalf of stock owned two years or less if the corporation receives a dividend that (1) equals or exceeds 5% of the corporation’s basis in preferred stock or (2) equals or exceeds 10% in the case of any other stock. If there is an extraordinary dividend, the shareholder’s basis in its stock will be reduced by such dividend, and to the extent the extraordinary dividend exceeds the shareholder’s basis in the stock, the excess will be treated as gain from the sale or exchange of such stock. The BBB would treat “disqualified CFC dividends” as extraordinary dividends without regard to the period the domestic corporation held the controlled foreign corporation’s stock. “Disqualified CFC dividends” means any dividend paid by a controlled foreign corporation to the extent such dividend is attributable to earnings and profits earned when such corporation was not a controlled foreign corporation or when such stock was not owned by a US shareholder.
• Base Erosion and Anti-Abuse Tax (“BEAT”) Modifications: The BEAT is an additional tax on certain large corporations with average annual gross receipts equal to or greater than $500 million for the three preceding taxable years that make payments to foreign related parties that comprise 3% or more of the corporation’s total tax deductions (the “base erosion percentage threshold”). A corporation subject to BEAT must pay the base erosion minimum tax amount equal to 10% (12.5% for taxable years beginning after December 31, 2025) of the corporation’s “modified taxable income” minus the corporation’s regular tax liability reduced by certain tax credits. The BBB would modify the BEAT base erosion minimum tax amount by (1) changing the rate to 10% for taxable years beginning after December 31, 2021 and before January 1, 2023; 12.5% for taxable years beginning after December 31, 2022 and before January 1, 2024; 15% for taxable years beginning after December 31, 2023 and before January 1, 2025; and 18% for taxable years beginning after December 31, 2024; (2) not reducing the corporation’s regular tax amount by tax credits; and (3) changing items included in modified taxable income. The BBB would also remove the base erosion percentage threshold for tax years beginning after December 31, 2023, thus any corporation with average annual gross receipts equal to or greater than $500 million for the three preceding taxable years would be subject to BEAT tax on its base erosion payments.