Donald Trump has once again been elected as President and is calling for tax rate cuts. With Republicans in control of both the House and Senate, the political landscape may feel reminiscent of 2016. As Yogi Berra famously said, “It’s déjà vu all over again.”
However, as of this date, the only corporate tax rate cut being discussed is a 15% rate for domestic manufacturers. Accordingly, the main impact on Banks of a 2025 tax bill may be the indirect beneficial impact on customers of the 15% domestic manufacturing rate and the extension of expiring Tax Cuts and Jobs Act (“TCJA”) provisions.
Read on for a deeper dive into these potential impacts and what they may mean for your bank’s tax planning.
Outlook For Extending TCJA Bonus Depreciation
Under existing TCJA phase-outs, the deduction for bonus depreciation will be 60% for assets placed in service in 2024, 40% for 2025, 20% for 2026, and zero thereafter. President elect Trump has proposed to restore 100% bonus depreciation.
Since assets placed in service in 2024 will get 60% bonus depreciation, as well as depreciation of a portion of the remaining basis in both 2024 and 2025, it may not make sense to defer placing these assets in service until 2025 in the hopes of obtaining 100% bonus depreciation. Further, should a tax bill not pass, those assets placed in service in 2025 would only be eligible for 40% bonus depreciation.
Bad Debt Proposed Regulations
Under the existing tax bad debt conformity method, a Bank is entitled to the conclusive presumption of worthlessness for tax return purposes with regard to assets wholly or partially charged off for book purposes. Many Banks have not elected the conformity method but are deducting their book net charge offs on the tax return under a facts and circumstances approach. Under this approach, the IRS is free to challenge the taxpayer on audit that the bad debts are not worthless or partially worthless for income tax purposes.
In December 2023, the IRS issued Proposed Regulations which would create a new tax method of accounting for bad debts – the Allowance Charge Off Method (“ACM”). While we previously discussed the Proposed Regulations in a prior article, as a reminder there are some important differences between the existing conformity method and the ACM.
The ACM will apply to a Bank and any 80% or more affiliate (with the exception of a captive REIT). In contrast, the existing conformity method only applies to Banks. Taxpayers adopting the ACM may exclude some partial charge offs from the new method and defer the tax bad debt deduction for those partial charge offs until future years (which is beneficial in certain M&A scenarios), while the old conformity method did not allow for such deferrals.
The ACM extends protection to bad debts claimed on debt securities, which was unclear under the old conformity method. The new method also does not require a Regulatory Determination Letter, as was required under the prior conformity method. One issue to be clarified in final regulations is whether non-accrual loan interest will be deemed to be charged off under the ACM as it was under the former conformity method.
The proposed bad debt regulations may be early adopted for 2024 tax years. We would be glad to discuss the impact on your bank’s tax situation.
Excise Tax on Repurchases of Corporate Stock
Treasury released final procedural regulations on June 28, 2024, concerning the reporting and payment of the §4501 excise tax on repurchases of corporate stock. Under the final procedural regulations, for a taxpayer with a taxable year ending after December 31, 2022, and on or before June 28, 2024, the due date for the first payment of the excise tax and the filing of Form 7208 was October 31, 2024 (even though final substantive regulations have not been issued).
The final procedural regulations require a return for a taxable year even if a taxpayer has no excise tax liability due to exceptions or issuances that exceed repurchases made during its taxable year.
For the 2024 calendar year, the due date for filing Form 7208 is the due date of Form 720 for the first full calendar quarter after the end of the tax year – thus April 30, 2025, for calendar year taxpayers.
Expansion of Proportional Amortization Method
ASU 2023-02 expanded the population of tax credit investments for which the investor may elect to apply the Proportional Amortization (‘PAM”) method from LIHTCs to any tax equity investment meeting the PAM criteria. Under PAM, both the book and tax effects of the investment are recorded on the income tax expense line of the financial statements.
In practice, Banks are finding that many energy credit projects do not meet the PAM criteria. One hurdle to adopting PAM for energy credit investments is that substantially all of the projected benefits are from income tax credits and other income tax benefits. Substantially all is not defined but is generally considered to be 90%.
Additionally, the adoption of PAM requires use of the flow through (to the effective tax rate) method for accounting for income tax credits. Many Banks prefer to use the deferral method for investments in energy tax projects, under which the book investment in the energy credit project is reduced by the amount of the tax credit.
FASB Issues Guidance on Income Tax Disclosures
On December 14, 2023, the FASB issued a final standard on improvements to income tax disclosures. The standard requires disaggregated information about a reporting entity’s effective tax rate reconciliation as well as information on income taxes paid.
ASU 2023-09 will be effective for public business entities whose annual periods begin after December 15, 2024. For entities other than public business entities, the requirements will be effective for annual periods beginning after December 15, 2025. The guidance will be applied on a prospective basis with the option to apply the standard retrospectively. Early adoption is permitted.
The new guidance focuses on two specific disclosure areas: the rate reconciliation and income taxes paid.
- Rate Reconciliation – The ASU requires public business entities, on an annual basis, to provide a tabular rate reconciliation (using both percentages and dollar amounts) of (1) the reported income tax expense (or benefit) from continuing operations, to (2) the product of the income (or loss) from continuing operations before income taxes and the applicable statutory federal (national) income tax rate of the jurisdiction (country) of domicile using specific categories, and separate disclosure for any reconciling items within certain categories that are equal to or greater than a specified threshold.
- Income Taxes Paid – For each annual period presented, the ASU requires all reporting entities to disclose the year to-date amount of income taxes paid (net of refunds received) disaggregated by federal (national), state, and foreign. It also requires additional disaggregated information on income taxes paid (net of refunds received) to an individual jurisdiction equal to or greater than 5% of total income taxes paid (net of refunds received). An entity may identify a country, state, or local territory as an individual jurisdiction.
M&A Outlook
Bank mergers continue to occur and may accelerate in 2025. There are many issues to consider, either for Acquiring or Target Banks. Some of these issues include the following:
- Planning to avoid a Target short period tax net operating loss carryforward to avoid bad bucket deferred tax assets (DTAs) subject to full disallowance under Basel 3.
- IRS guidance may mitigate a former tax trap for acquired Bank Owned Life Insurance (where life insurance contracts are not more than 5% of Target Bank assets) – but careful attention to BOLI policies can avoid unintended consequences.
- Proper planning is key to minimize any non-deductible golden parachute payments. The ability to use non-compete covenants to mitigate parachute provisions is now uncertain given a District Court’s ruling that new FTC provisions rendering non-competes unenforceable is unconstitutional.
- Analysis of transaction costs is required even if claiming the 70% safe harbor for success-based fees. Issues include whether the transaction is covered by the safe harbor and the treatment of milestone payments.
- In tax free mergers, the receipt of cash boot by Target shareholders is deemed to be a taxable repurchase by a public Target, and thus subject to the 1% excise tax on stock repurchases.
- The IRS may view any deal termination fees or breakup fees as capital gain and loss; and
- Tax insurance against acquired bank tax exposures is becoming more prevalent.
These are only a few of many considerations for both Acquiring Banks and Target Banks. We would be glad to meet with you to discuss these and other issues at your convenience.
Expansion of “Covered Employee” Group Coming In 2027
The TCJA revamped §162(m) effective in 2018 by removing the performance-based compensation exception and expanding the scope of covered employees. The American Rescue Plan Act (ARPA) further expanded the list of covered employees to include five more of the highest-paid employees for tax years beginning after December 31, 2026.
Once this ARPA provision is effective, covered executives would include the (1) CEO, (2) CFO, (3) executive officers captured under the existing rule, including under the “once covered-always covered” rule, and (4) five additional “employees.”
This change could include individuals who happen to be highly paid in a single year (whether due to a one-time bonus, termination, change in control, or large stock compensation awards). Note, however, that these five additional employees are not subject to the “once covered-always covered” rule.
While it is difficult to project compensation years into the future, there may be planning opportunities to mitigate potential permanent disallowance of executive compensation under §162(m). We would be glad to discuss with your Bank at your convenience.
Changing Landscape for Tax Credits
As background, the Inflation Reduction Act (the “IRA”) created many new energy related tax credit incentives for projects constructed on or after January 29, 2023, with a 30% credit for eligible costs, provided certain requirements are met. The IRA also provides for enhanced credits where projects are located in economically or environmentally distressed areas.
The newly enacted credits can be acquired through a traditional tax equity partnership structure, but there are also transferable credits for certain clean energy projects, which do not involve a tax equity partnership investment. Additionally, certain of the new energy credits can be carried back three years.
For taxpayers considering investing in energy credits in order to file a three year carryback, keep in mind that an ordering rule provides that these ITC related credits are used first – thus, in order to reduce current year tax liability down to the 25% floor on ITC credits so as to file a three year carryback, any other unused current year tax credits of the taxpayer, such as LIHTCs, become a credit carryforward, which is a bad bucket DTA that is fully disallowed under Basel 3.
Transferable credits may only be current year generated credits, must be purchased for cash, must be transferred to an unrelated party, and are not transferable a second time. These credits are purchased at a market discount in the secondary market, and the good news is that the discount is not federal taxable income.
The transferable credit buyer still has tax risk over the five-year tax credit compliance period, which makes it important to deal with experienced counterparties, and consider the need for appropriate guarantees.
In April 2024, final regulations were published which rejected many suggestions proposed by the tax credit industry. The long-term viability of at least some of these newly enacted credits remains to be seen given the results of the 2024 elections and the new Administration’s views with regarding to repealing the IRA.
New York Tax Reform Regulations
On December 27, 2023, the New York State (NYS) Department of Taxation and Finance (Department) finalized its Article 9-A corporate franchise tax regulations, a mere 9 years after the enactment of NYS Tax Reform.
These regulations take a number of positions which may prove to be controversial, including the treatment of FHLB and FRB dividends, the ability to follow federal mark-to-market rules under §475 for purposes of the NYS Qualifying Financial Instrument (QFI) election, and the treatment of dividends from captive REITs.
It remains unclear whether 9-year retroactivity will ultimately be upheld by NYS courts. However, taxpayers should consider the impact of these regulations on their NYS tax position.
If you need further guidance or have any questions on this topic, we are here to help. Please do not hesitate to reach out to discuss your specific situation.
This material has been prepared for general, informational purposes only and is not intended to provide, and should not be relied on for, tax, legal or accounting advice. Should you require any such advice, please contact us directly. The information contained herein does not create, and your review or use of the information does not constitute, an accountant-client relationship.
