Taxation & Representation, Oct. 18, 2023
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Taxation & Representation, Oct. 18, 2023

October 18, 2023

By Brownstein Tax Policy Team


Legislative Lowdown

House Republicans Continue Search for Speaker; Consequences of Vacancy Grow. Rep. Kevin McCarthy (R-CA) was removed from his position as speaker of the House on Oct. 3, days after he partnered with Democrats to pass a 45-day continuing resolution (CR) to avoid a government shutdown. Following the removal, Rep. Patrick McHenry (R-NC) became speaker pro tempore, a limited role in which he has sufficient power to facilitate the election of a new speaker but not to advance legislation. Rep. McHenry was designated for the role by Rep. McCarthy shortly after his January election; a post-9/11 rule requires the speaker to make a secret list of who would fill the post in the case of a vacancy, but the appointment only lasts until another speaker is elected.
Majority Leader Steve Scalise (R-LA) was next in line for the speakership as the second-highest ranking member of the House Republican Conference. Rep. Scalise narrowly defeated Judiciary Committee Chair Jim Jordan (R-OH) in a secret ballot on Oct. 11, but Scalise withdrew his bid roughly 24 hours later after encountering further roadblocks and failing to build a sufficiently broad coalition. A second secret ballot vote occurred on Oct. 13, with Rep. Jordan defeating Rep. Austin Scott (R-GA) as the Republicans’ next nominee for Speaker. Though Rep. Jordan is backed by former President Trump, he faces many of the same struggles as Rep. Scalise and, in addition, is unpopular among moderates. The first floor vote for speaker since McCarthy’s removal was held on Oct. 17, with Jordan receiving 200 votes, 17 votes shy of winning the speakership. Twenty Republicans did not vote for Jordan, and all 212 Democrats voted for their nominee, House Minority Leader Hakeem Jeffries (D-NY).
If the conference remains at a complete impasse, Rep. Max Miller (R-OH) is part of a group discussing the idea of a short-term speakership to pass more pressing items, such as funding for Israel and the annual appropriations bills. This could be for a 45-day, 60-day or similarly narrow time frame and would likely be filled by a member of existing House leadership—Reps. McHenry, Tom Emmer (R-MN) or Elise Stefanik (R-NY).
Without an elected speaker of the House, the chamber has been at a standstill for two weeks. In addition to leaving Congress unable to respond to the outbreak of war in the Middle East, no progress has been made toward a year-long funding deal since lawmakers agreed to the CR on Sept. 30. With the passage of the CR, appropriators now have until Nov. 17 to pass all 12 appropriations bills or to punt the deadline further into the year via another short-term CR. Additionally, per the debt limit deal between former Speaker McCarthy and President Biden, Congress must pass all 12 appropriations bills by Dec. 31 or face an across the board 1% cut from fiscal year (FY) 2023 levels.
As it stands, the House has passed four of the 12 annual funding bills: Defense, Homeland Security, Military Construction-Veteran Affairs and State-Foreign Operations. Of the remaining eight bills, six are ready for floor action and two—including the Labor, Health and Human Services (HHS), Education, and Related Agencies appropriations bill (“Labor-HHS-Education”)—are still in committee. The Senate has not passed any, though all 12 measures have been reported out of committee.
It has become standard practice in recent years for Congress to rely on a last-minute end-of-year omnibus spending package to fund the government for the remainder of the fiscal year. However, even if both chambers do pass all 12 of their proposed bills, the differences between the House and Senate versions of the bills must be reconciled. For example, while appropriations bills from the Democratic-controlled Senate keep the IRS budget static between FY 2023 and FY 2024, the Financial Services and General Government (FSGG) Appropriations bill in the Republican-controlled House currently rescinds $1.1 billion from the IRS budget. Furthermore, Senate appropriations bills do not rescind IRS funding provided by the Inflation Reduction Act (IRA, Pub. L. 117-169) beyond the amount agreed to by President Biden and then-Speaker McCarthy, while House appropriations bills combined rescind $67 billion from IRA-IRS funding.
In addition to appropriations, this also makes the prospects of passing a year-end tax package—including restorations of the expired Tax Cuts And Jobs Act (Pub. L. 115-97) provisions on the research and development amortization deduction, bonus depreciation, and interest limitation deduction—much more challenging.
Democratic Senators Urge IRS and Treasury Department to Close Ambiguities in Tax Code. Sens. Elizabeth Warren (D-MA), Sheldon Whitehouse (D-RI), Chris Van Hollen (D-MD) and Bernie Sanders (I-VT) wrote a letter to Treasury Secretary Janet Yellen and IRS Commissioner Daniel Werfel on Oct. 3 imploring the Treasury Department to “proactively use its rulemaking authority” to remove ambiguities in the tax code that they believe to be unfairly benefitting wealthy taxpayers and “threaten[ing] our government’s ability to raise important revenue.”
The letter largely commends the Treasury Department and the Biden administration for implementing provisions in the IRA and Infrastructure Investment and Jobs Act (IIJA, Pub. L. 117-58) intended to address perceived unfairness in the tax code favoring high-income earners and corporations, such as the corporate alternative minimum tax and the corporate stock buyback tax. The letter also praises the administration’s work to implement the IRA’s energy-tax credits.
The letter recommends the Biden administration to “lay out a clear, proactive regulatory agenda” to increase tax code fairness, but also argues that the Treasury Department has the authority and obligation to use its rulemaking power to interpret existing rules in a way that would also incentivize fairness. The letter specifically identifies three regulatory actions the Treasury Department can take now: (1) “address[ing] abuses for … police valuation games, perpetual dynasty trusts, and transfers of foreign assets”;  (2) regulating multinational subsidiaries’ passive earnings; and (3) ensuring compliance with payroll taxes. The letter even states that the Treasury Department can revisit and revise prior rulemakings, stating that they have “clear authority … to ensure the law is correctly implemented.” The letter requests Secretary Yellen and Commissioner Werfel to provide a “staff-level briefing” on the extent of the Treasury Department’s rulemaking authority, as well as to provide an agenda for “mak[ing] the tax system fairer,” by Nov. 2.
This letter is the latest in a series of efforts by this group of lawmakers pushing the Treasury Department to address perceived ambiguities in the tax code. In March, the senators wrote a letter urging the IRS to address several issues, including clarification that Intentionally Defective Grantor Trusts (IDGTs) are not entitled to stepped-up basis. In April, the IRS issued Rev. Rul. 2023-02, partially addressing the senators' concerns expressed in the letter.
Leading up to the 2024 elections, with continuing gridlock in Congress, the Biden administration will rely increasingly on executive action to demonstrate progress on its priorities. The Treasury Department will be under pressure to address concerns raised by the senators. 




Tax Worldview

OECD Releases Draft Treaty on Pillar One Amount A; Yellen Signals United States Not Ready to Sign. On Oct. 11, the Organisation for Economic Co-operation and Development (OECD) published a draft multilateral convention, along with an overview and an impact assessment, to implement Amount A of the global profit reallocation plan. As part of the OECD’s larger Pillar One global tax regime, Amount A would affect companies with revenues above $21 billion and profit margins in excess of 10%, with some exceptions. OECD Director of the Centre for Tax Policy and Administration Manal Corwin stated that the treaty is not yet finalized, and that the publishing of the draft text represented an “intermediate step” that can serve as the basis for ongoing negotiations. The text was published despite reservations from some countries comprising the Inclusive Framework, citing issues like the convention’s treatment of withholding taxes and digital services taxes (DSTs). The OECD also announced plans to hold a technical briefing to resolve these issues and outline the specifics of the convention.
In conjunction with the OECD release, the Treasury Department announced a public request for comments on the draft text. Treasury Assistant Secretary for Tax Policy Lily Batchelder stated that the release represents “a key step forward in the Pillar One negotiations … reflect[ing] countless hours of discussions, across multiple U.S. administrations, and among hundreds of negotiators.” Batchelder also defended the Treasury Department’s role in the negotiations, stating that Treasury Department staff have worked to reach compromises with respect to the reallocation of taxing rights and the imposition of DSTs. Interested parties should submit comments electronically to the Treasury Department by Dec. 11.

For the treaty to come into effect once finalized, at least 30 countries comprising 60% of targeted global companies must agree to the deal, giving the United States, with its many tech companies, an effective veto over whether the treaty will enter into force. However, like the Pillar Two global minimum tax, the Pillar One regime faces stiff opposition by congressional Republicans, who argue that the reforms would threaten U.S. sovereignty and result in the forfeiture of billions of dollars of revenue to other countries claiming taxing rights under the proposed regime. Since any multilateral tax treaty would have to be ratified by the two-thirds of the U.S. Senate, the outlook for Pillar One is increasingly dim.
On Oct. 16, Treasury Secretary Janet Yellen confirmed that the United States will not be able to sign the Pillar One deal by the end of this year, citing matters important to American interests that have yet to be resolved. Yellen stated that negotiations on these issues would have to continue into 2024. The failure of Pillar One to enter into force by year-end may have broader global consequences, as it could unleash new and previously suspended DSTs, increasing trade tensions and potentially igniting a global trade war.
Finance Committee Leadership Urges USTR Ambassador Tai to Take Action on Threatened Canadian DST. On Oct. 10, Senate Finance Committee Chair Ron Wyden (D-OR) and Ranking Member Mike Crapo (R-ID) wrote a letter to United States Trade Representative (USTR) Ambassador Katherine Tai urging her to take immediate action on Canada’s pending adoption of a DST that the senators say would target American businesses. The letter follows a notice by the USTR that it would “examine all options” should Canada impose a DST. The Finance Committee letter states that the USTR should, at this point, use more stern language suggesting retaliatory action: “You must now make clear that your office will immediately respond using available trade tools upon Canada’s enactment of any DST.” The senators allege that Canada’s proposed DST “uses specific criteria” to target “the precise services where U.S. companies are leaders,” and that the U.S.-Canada trade relationship will be significantly strained should Canada move forward with this new tax.
Dutch Ministry of Finance Prepares for Implementation of OECD Two-Pillar Framework. On Oct. 2, Dutch State Secretary for Tax Affairs and Tax Administration Marnix van Rij published a letter to Dutch Speaker of the House of Representatives Vera Bergkamp which summarized discussions van Rij had with U.S. tax policymakers, including officials from the Treasury Department and the Internal Revenue Service (IRS), as well as with international organizations like the International Monetary Fund, World Bank and United Nations (UN).
According to press reports of the letter, during van Rij’s meeting with the Treasury Department, he emphasized the need for multilateral cooperation on Amounts A and B of the OECD Pillar One global tax regime, as a lack of a multinational agreement could lead to countries unilaterally imposing DSTs. He also stated that numerous parties have expressed concerns about the complexity of Pillar One rules. Regarding Pillar Two, van Rij announced that the Dutch Ministry of Finance has begun taking steps to implement the Pillar Two rules.
Van Rij’s discussion with the United Nations and Nigeria’s Permanent Representative to the UN included ongoing UN concerns over the lack of inclusivity in considering developing nations in the OECD’s current framework. Van Rij’s letter suggests that the UN efforts are not intended to overlap with the OECD global minimum tax nor to create a competing global tax standard. While he called for the consideration of the interests of developing countries, van Rij stated that modifications to the OECD Pillar Two regime would be preferable.



1111 Constitution Avenue

IRS Issues Guidance on Transferability of EV Credit. On Oct 6, the Internal Revenue Service (IRS) released Revenue Procedure 2023-33 concerning the transfer of tax credits for new and used electric vehicles (EVs) and other clean vehicles from the taxpayer to eligible entities. The credit, enacted in the IRA, allows taxpayers who received credits for placing clean vehicles into service to transfer their credit to an eligible entity, starting Jan. 1, 2024. This means that consumers who purchase eligible EVs after Jan. 1 would be able to claim their Section 30D or Section 25E credit immediately, as they could transfer their credit to the dealer they purchase their vehicle from at the point of purchase. The ability to transfer the credit is subject to rules and restrictions for both the dealer and the purchaser.
Following the released guidance, Treasury Chief Implementation Officer for the Inflation Reduction Act Laurel Blatchford stated that the rule would “reduce the up-front cost of a clean vehicle, expanding consumer choices and helping car dealers expand their businesses.” The guidance attempts to mitigate many lawmakers’ concerns that the EV credit was rewarding wealthier earners who could afford to purchase an EV, which are generally more expensive than gas-powered vehicles.
Automobile industry groups had mixed reactions to the issuance of the guidance: while some were optimistic that the guidance would mean that dealers could advertise the lower price in the showroom, which could increase sales of clean vehicles, others were concerned that the point-of-sale program does not provide a timeline for when dealers could expect repayment of the credit. The Treasury Department has previously stated that they expect to refund dealers within 72 hours of the transaction.
TIGTA Report Finds Methodological Flaws in IRS Report about Direct File Pilot Program; 13 States Eligible to Participate in Pilot. On Oct. 2, the Treasury Inspector General of Tax Administration (TIGTA) published an audit report in which they analyzed the content of an IRS report to Congress regarding the creation of an agency-run free and direct electronic-filing (“Direct File”) program, which is currently slated to pilot during the 2024 tax filing season.
TIGTA’s report revealed that a survey used by the IRS to gauge taxpayer interest in Direct File may have had design flaws that led to overstated taxpayer interest. Specifically, the TIGTA report discusses in detail the flaws in the overall survey design that led to potentially overstated taxpayer interest.
TIGTA found that taxpayers were unaware of the scope of the IRS Direct File Tool. Taxpayers may have been led to believe that the Direct File tool would include certain features, such as state tax return preparation services. Taxpayers may have been less interested in an IRS Direct File tool if they were aware of its limitations. This is further supported by information presented by the FFRDC in its study. Specifically, the FFRDC study found that 60% of simple tax return filers would choose their current paid software when state tax returns are excluded from a Direct File Tool.
In the IRS’s announced rollout of the Direct File project for the 2024 tax season, the agency noted that four states—Arizona, California, Massachusetts, and New York—have confirmed that they will participate in the IRS’s pilot program and integrate their state taxes into the Direct File Pilot. Taxpayers in nine other states that do not levy income taxes—Alaska, Florida, New Hampshire, Nevada, South Dakota, Tennessee, Texas, Washington and Wyoming—may also be able to participate in the pilot.
Additionally, a survey question asking taxpayers for their level of interest in the Direct File tool opted to use a four-point scale ranging from “not interested” to “very interested” and did not use a five-point scale that would have included a “neutral” or “no opinion” option. TIGTA noted that using a four-point “forced-choice” scale versus a five-point scale is a deviation from the IRS’s own standard operating procedures for conducting surveys and may lead to inaccurate responses. The survey results stated that 28% of taxpayers said they were “very interested” in the Direct File tool; 45% said they were somewhat interested; 17% said not very interested; and 11% said not interested. Should the IRS have included a “Neutral” option, TIGTA reasoned that there was a possibility that respondents who stated that they were somewhat interested may have instead opted to instead respond that they were neutral or had no opinion on the program.
Finally, TIGTA also noted that the IRS’s cost estimation is flawed. The IRA required the IRS to include “the cost (including options for differential coverage based on taxpayer adjusted gross income and return complexity) of developing and running a free direct e-file tax return system, including costs to build and administer each release [...].” The IRS based its cost estimations on only 5 million taxpayers using the tool. The agency also could not provide substantiation of costs associated with providing customer support, product development, labor costs, hosting fees and other facets of operating the Direct File program.



At a Glance

Smith, Schweikert Criticize IRS for Halting ERTC Claims Processing. On Oct. 3, House Ways and Means Committee Chair Jason Smith (R-MO) and Oversight Subcommittee Chair David Schweikert (R-AZ) sent a letter to IRS Commissioner Daniel Werfel expressing ongoing concerns over the agency’s implementation of the Employee Retention Tax Credit (ERTC) and its recent decision to temporarily halt the processing of ERTC claims. The letter states that the moratorium will exacerbate an already-large backlog of outstanding claims and delay legitimate claimants from receiving payments. The letter also states that the IRS has not yet developed a plan to both combat fraud and improve efficiency during the moratorium, stating, “it remains to be seen what changes will be made … to improve vetting measures for fraudulent claims while also making the processing time more efficient to lessen the backlog.” The letter requests that the IRS respond by Oct. 17 to inquiries regarding the current ERTC claims backlog, the agency’s plan to quicken processing times, and the fraud prevention measures the IRS will employ to combat ERTC fraud.

Treasury, IRS Looking to Revise Guidance on Exemption to Self-Employment Tax. The Treasury Department announced in the release of the 2023-24 Priority Guidance Plan (PGP) that it would revisit guidance issued on the limited partner exception to the Self-Employment Contributions Act (SECA) tax, an issue that was previously subject to a one-year congressional moratorium. The directive in the PGP is titled “Guidance under section 1402(a)(13)”—this section generally excluded a limited partner’s distributive share of partnership income or loss from SECA, with some exceptions. The section was enacted in 1977 but faced clashes in the 1990s over what constitutes limited partner status, with Congress imposing the moratorium in 1997. The inclusion of section 1402(a)(13) in the PGP may help to clear confusion, as SECA tax exemption claims have been the subject of numerous lawsuits, and the IRS has historically opted to pursue litigation instead of updating guidance.
Biden Administration Announces Funding for Hydrogen Hub Projects. On Oct. 13, President Biden and Energy Secretary Jennifer Granholm announced the recipients of a collective $7 billion in funding for projects that will accelerate the development and production of hydrogen. The seven projects selected, known as Regional Clean Hydrogen Hubs, also known as H2Hubs, will include projects in 16 states and is funded by the IIJA. President Biden stated that the projects would spur $40 billion in private investment, and that the projects are crucial to the administration’s push to achieve net-zero carbon emissions by 2050. The program, however, faces criticism from some environmental advocates who state that three of the projects rely on “blue-hydrogen”—hydrogen sourced from natural gas with carbon capture—and thus will be less effective at mitigating reliance on fossil fuels.
IRS Projects Tax Gap for 2021 Grows to $688 Billion. On Oct. 12, the Internal Revenue Service (IRS) released tax gap projections for tax years 2020 and 2021, and estimated the 2021 gross tax gap to have grown to $688 billion, an increase of $138 billion from revised tax gap projections for tax years 2017–2019. The tax gap estimates the difference between actual tax liabilities owed and the amount of tax paid on time, and a tax gap is created due to nonfiling or the underreporting and underpayment of taxes. Although the tax gap showed a significant increase from previous tax years, the voluntary compliance rate stayed relatively steady after taking IRS compliance efforts into account. Those efforts, along with late payments and IRS enforcement, generated $63 billion in 2021, bringing the net tax gap to $325 billion. The IRS noted that projections may not represent the full extent of noncompliance with the tax code, due to factors such as offshore activities and lack of accurate estimations for COVID-19 pandemic-era tax credits and digital asset transactions. In response to the projections, IRS Commissioner Daniel Werfel stated that the increased tax gap “underscores the importance of increased IRS compliance efforts on key areas” and that IRA funding is being used to increase compliance, especially with respect to high-income individuals and corporations.
Democratic Senators Urge IRS and Treasury Department to Implement Crypto Tax Reporting Rules. On Oct. 11, Sens. Elizabeth Warren (D-MA), Angus King (I-ME), Richard Blumenthal (D-CT), Bernie Sanders (I-VT), Sheldon Whitehouse (D-RI), Brian Schatz (D-HI) and Gary Peters (D-MI) wrote a letter to Treasury Secretary Janet Yellen and IRS Commissioner Daniel Werfel, criticizing the agencies’ decision to delay the implementation of previously outlined tax reporting rules for transactions of cryptocurrencies and other digital assets by two years. The letter states that while the senators are pleased with what is included in the released draft reporting guidance, they believe that delaying regulation of the digital asset industries runs counter to requirements laid out by the IIJA and would “cause the federal government to lose out on billions of dollars in tax revenue.” They also state that the delay means that cryptocurrency reporting requirements would remain misaligned with other financial industries in the United States with regard to tax reporting requirements. The letter urges the agencies to implement the reporting guidance as soon as possible and to provide a follow-up on their efforts to do so by Oct. 24.
IRS to Notify Victims of 2021 Tax Leak; Suspected Leaker Pleads Guilty. On Oct. 4, the Internal Revenue Service (IRS) announced that they would notify wealthy taxpayers whose sensitive data and information was leaked by an agency contractor in 2021, of which some were released to two news media outlets. This follows up on the Department of Justice (DOJ) formally charging the contractor, Charles Littlejohn, on Sept. 29 with one count of disclosing tax return information without authorization. The DOJ stated in a court filing that at least 152 taxpayers had their private tax return information leaked to the news media, including that of former president Donald Trump, and that thousands of more returns could potentially have been compromised. On Oct. 12, Littlejohn pled guilty to the charge. He faces a maximum of five years in prison, and sentencing is expected to occur in January.



Brownstein Bookshelf

IRS Issues Proposed Regulations on “Killer B” Reorganizations. On Oct. 5, the Internal Revenue Service (IRS) issued proposed regulations targeting so-called Killer B reorganizations, triangular reorganizations in which one or more of the parties involved in the reorganization is a foreign corporation. The proposed regulations also cover foreign corporations participating in certain inbound transactions. The regulations would adopt rules that the Treasury Department had outlined in 2016, which were designed to combat “exploitations” by businesses of previous rules governing triangular reorganizations and inbound transactions.
CBO September Report States ERTC As Partial Cause of Increased Deficit. On Oct. 10, the Congressional Budget Office (CBO) released the September 2023 Monthly Budget Review, in which they estimated that the federal budget deficit grew to $1.7 trillion in fiscal year 2023, and revenues declined by $455 billion. The CBO states that one factor that possibly contributed to the budget deficit increase was “higher-than-anticipated claims of the Employee Retention Tax Credit” (ERTC), which the report notes both reduces receipts (revenue) and increases outlays (spending) in instances where the ERTC is refundable.
TIGTA Report Urges IRS to Improve Audit Selection Process for EV Credit. On Oct. 11, the Treasury Inspector General for Tax Administration (TIGTA) released an audit report in which they analyzed the Internal Revenue Service’s (IRS) review of Qualified Plug-In Electric Drive Motor vehicle credit claims, following up on recommendations issued by TIGTA in a prior audit report. They found that while the IRS has addressed some recommendations by developing filters to identify potentially erroneous credit claims, some filter implementations have made issues worse; for instance, 74% of returns flagged by the filter to identify non-qualifying vehicle models instead erroneously flagged qualifying vehicle models.
IRS Chief Counsel Nominee Follows Up on Senators’ Queries. On Oct. 11, IRS Chief Counsel Nominee Marjorie Rollinson followed up on inquiries asked by senators and entered her responses into the Congressional Record during her Sept. 28 nomination hearing before the Senate Finance Committee. As she did during the hearing, Rollinson remained largely noncommittal to many of the questions Senators asked in the Congressional Record, stating that she will not be able to substantively answer questions until she is confirmed to her position and has the opportunity to investigate the issues raised.
IRS Further Postpones Filing Deadline for Most California Taxpayers. On Oct. 16, the IRS released IR-2023-189, announcing that they were further postponing the filing deadline for taxpayers in 55 of California’s 58 counties to Nov. 16. Earlier this year, the IRS had postponed the filing deadline to Oct. 16 for most California taxpayers due to natural disasters the state endured during the winter.
IRS Release Proposed Modifications to Rules Regarding Seized Property Sales. On Oct. 13, the IRS released RIN 1545-BQ34, which proposes modifications to rules to maximize returns from sales of property seized by levy, and gives more control to the agency on how to manage the seized property.



Hearings and Events

House Ways and Means Committee
The House Ways and Means Committee has no tax hearings scheduled for this week.
Senate Finance Committee
The Senate Finance Committee has no tax hearings scheduled for this week.