Tax legislative outlook

1. Tax legislative outlook Washington Council Ernst & Young March 2013

2. Congressional profile • House – 113th Congress • Senate – 113th Congress 55 Democrats 45 Republicans 232 Republicans 200 Democrats (Includes 2 Independents) • -Democrats gained/Republicans lost 2 votes compared to 112th Congress • -Rep. Tim Scott (R-SC) replaced Sen. DeMint • -Mo Cowan replaced Sen. Kerry (MA) • Republicans lost/Democrats gained 8 seats compared to 112th Congress • -3vacancies: Jackson Jr. (D-IL) , Scott (R-SC), Emerson (R-MO)

3. House Ways and Means Committee, 113th Congress 23/16 Republicans Democrats • New members: • Tim Griffin (R-AR) • Mike Kelly (R-PA) • Todd Young (R- IN) • Jim Renacci (R-OH) • Allyson Schwartz (D-PA) • Danny Davis (D-IL) • Linda Sanchez (D-CA)

4. Senate Finance Committee, 113th Congress 13/11 Democrats Republicans • New members: • Sherrod Brown (D-OH) Michael Bennet (D-CO) • Bob Casey (D-PA) • Johnny Isakson (R-GA) Rob Portman (R-OH) Pat Toomey (R-PA)

5. Senators up for re-election in 2014

6. Extension for Wind Energy & Modification of Section 45 for all eligible technologies Extension of Biodiesel/Renewable Diesel blenders credits Extension & Modification of Second Generation Biofuel PTC Extension of Alternative Fuel & Alternative Fuel Mixture Credits AFMC refundability repealed effective 1/1/2012. 112th Congress: Renewable Tax Provisions

7. A look at 2013 • MARCH 1 : Sequester took effect • MARCH27:Government funding expires, requiring new continuing resolution • APRIL 8: Tentative date for President to submit FY2014 budget proposal • APRIL 15 : Date under H.R. 325 (debt limit bill) by which the House and Senate each must agree to FY2014 budget resolutions or lawmakers’ salaries held in escrow • MAY 19: Date until which debt limit is suspended under H.R. 325 (extraordinary measures could extend until August) MARCH APRIL MAY JUNE JULYAUG SEPT OCT NOVDEC 2013

8. Fiscal deadlines Sequester took effect March 1 Government funding March 27 Debt limit kicks back in May 19 CLOSED for business?

9. Fiscal cliff bill - American Taxpayer Relief ActKey tax provisions • Income tax rates: Made permanent the 10%, 15%, 25%, 28%, 33% and 35% rates for families with $450,000 or less and individuals with $400,000 or less of taxable income. Taxpayers earning more are taxed at 39.6%, up from 35%. • Investment tax rates: Top capital gains and dividend rates remain at 15% for those below the $450,000/$400,000 income thresholds, and are increased to 20% for those with incomes above those amounts. • Note: The 3.8% tax on investment income under the Patient Protection and Affordable Care Act (2010) is applied to capital gains, dividends rates on AGI > $200,000 (single), $250,000 (couple) • Estate tax: The $5 million per-person estate tax exemption is made permanent and indexed for inflation; the tax rate is increased to 40% from 35%. • AMT: The individual alternative minimum tax is patched permanently, and indexed for inflation. • PEP and Pease: The personal exemption phase-out (PEP) and overall limit on itemized deductions (Pease) is reinstated for families with incomes over $300,000 and individuals with incomes over $250,000. • Roth retirement account conversions: Conversions from 401(k)s to Roth accounts prior to retirement are permitted, subject to ordinary income tax treatment. • Other credits: The American Opportunity Tax Credit, the enhanced Child Tax Credit, and the enhanced Earned Income Tax Credit are extended for five years. • Extenders: Business and other tax extenders are extended through 2013. These provisions include the R&D tax credit, the active financing exception under Subpart F, the CFC look-through rule, the IRA charitable rollover that allows for donations to be made from an IRA tax-free, and state and local sales tax deduction. The 50% bonus depreciation provision is also extended for one year.

10. Key business tax provisions extended through 2013 Source: Joint Committee on Taxation

12. Fiscal policy dashboard Fiscal cliff 1: • Expiring Bush tax cuts • Individual AMT patch • Payroll tax relief • Expanded unemployment benefits • Medicare physicians payment rate • Tax extenders Fiscal cliff 2: • Sequester • Federal government funding • Debt limit • Further deficit reduction • Tax reform Status: • Permanent extension (ATRA) • Permanent extension (ATRA) • Expired Dec. 31, 2012 • Extended through Dec. 31, 2013 • Extended through Dec. 31, 2013 • Extended through Dec. 31, 2013 • Triggered on March 1, 2013 • Spending resolution expires March 27, 2013 • Treasury borrowing authority extended through May 18 • TBD • TBD

13. BCA sequester: How did we end up here? 2011 debt limit debate The stand-off over increasing the debt limit in the summer of 2011 produced the Budget Control Act. The BCA produced spending caps and a select committee, with sequestration as a backstop to each. Supercommittee The Joint Select Committee on Deficit Reduction was tasked with producing at least $1.2 trillion in spending cuts for FY2013-2022, lest that level of savings be achieved through sequestration – a draconian mechanism meant to force a deal. Failure to replace sequester The expectation that the sequestration cuts would be replaced with less onerous savings never materialized, in part because of a stand-off over tax increases. The sequester was delayed for 2 months by the fiscal cliff bill, however. The BCA was structured so at least $2.1 trillion in deficit reduction is achieved/10 years: $917 billion over 10 yearsthrough a combination of statutory caps on discretionary spending for FY2012–2021 At least another $1.2 trillion in savings achieved through the “Supercommittee” or sequestration o achieve that level of savings FY2013-FY2021

14. BCA sequester: What does it really mean? $85 billion in spending cuts for fiscal year 2013, split between defense and non-defense spending • 7.8% reduction defense discretionary funding • Military programs, research, family housing, etc. • 5.0% reduction in nondefense discretionary funding • Includes funding for Congress, White House salaries and expenses • Agency budgets, including Treasury Department, Labor Department • e.g., IRS enforcement, business systems modernization • 2.0% reduction to Medicare • 5.1% reduction to other nondefense mandatory programs, such as • Section 1603 Grants for Specified Energy Property in Lieu of Tax Credits • Build America Bond Payments • Payments to issuers of New Clean Renewable Energy Bonds in total spending cuts FY2013-2021 $1.2 trillion

15. Sen. Levin Cut Unjustified Tax Loopholes (CUT) Act, Sen. Sanders Corporate Tax Fairness Act • tax immediately excess income to foreign affiliates receiving US intellectual property, limit income shifting • prevent “earnings stripping” • require foreign tax credits to be calculated on a pooled basis • treatment of foreign corporations managed and controlled in the United States as domestic corporations • stop “check-the-box” for foreign entities and “CFC look-through” • require multinationals to disclose their employees, revenues, and tax payments on a country-by-country basis • repeal deferral • apply foreign tax credit rules to large integrated oil companies which are dual capacity taxpayers • reinstitution of the per country foreign tax credit • treatment of foreign corporations managed and controlled in the United States as domestic corporations

16. CBO Budget and Economic Outlook: Fiscal Years 2013 to 2023 • Deficits shrinking and debt stabilizing over the next few years but swelling again towards the end of the decade – “high and rising debt” • Increase attributable to: aging population, rising health care costs, an expansion of federal subsidies for health insurance = higher outlays • Deficit: $845 billion for FY2013 but near the $1 trillion mark again by 2023 • Debt held by the public: 76% of GDP by the end of 2013, 77% of GDP by 2023 • Revenues: 16% of GDP in FY2012,17% in FY2013, ~19% of GDP for coming decade • Outlays: 22% of GDP in 2013, 23% by 2023

17. CBO: Deficit 2013-2023 Total deficit 2014-2023 = $6.96 trillion $Hundreds of billions $845b $616b $430b $476b $535b $605b $710b $798b $854b $957b $978b Source: CBO, “The Budget and Economic Outlook: Fiscal Years 2013 to 2023,” Feb. 5, 2013

18. Corporate tax rates in the top 30 economies, 2012 Percent Note: Includes both national and subnationalstatutory corporate tax rates. Source: Ernst & Young LLP, OECD, IMF.

19. Tax reform remains high on policy agenda • Obama Administration, Congress agree on need for reform but have different goals and focus • Issues driving reform: • Necessary component of fiscal stability and economic growth • International competitiveness • Mondernize/simplify the law • Many items still temporary • Lines are being drawn, but there’s still opportunity to engage

20. Sources of business tax reform proposals • President Obama tax reform framework • 28% corporate rate • Worldwide system • Minimum tax on foreign profits • Chairman Camp international tax discussion draft • 25% rate • Move towards territorial system • Ways and Means has established 11 working groups on tax reform • Sen. Enzi international reform bill • Territorial tax plan from Finance member • Senate Finance Committee • Chairman Baucus may produce reform options paper or other product

21. Three main buckets of tax reform Corporate International Individual • General consensus that many tax expenditures should be eliminated in favor of lower rate • Republicans target 25% • Democrats aim for 28% • Republicans pushing for territorial system • Democrats skeptical of territorial over base erosion concerns • Republicans also favor anti-base erosion provisions — making international tax reform revenue neutral • Republicans propose lowering top individual rate to 25%; only one other bracket of 10% • Rescinding individual tax expenditures among most politically risky elements of tax reform • Issues: • Impact on pass-through entities if expenditures eliminated, only corporate rate lowered? • Will large pass-through entities be taxed as corporations? • Can corporate rate be lowered enough to make losing tax expenditures worth it? • Will deductibility of interest be limited?

22. Ways and Means - tax reform working groups • 11 separate groups led by one Republican Member serving as Chair and one Democratic Member serving as Vice Chair • Groups will review current law, then identify, research, and compile feedback • JCT will prepare a report that will describe current law in each issue area and information gathered by the groups by May 6

23. Senate Finance – 10 subject areas for Member discussion • Simplification • Small business; corporate investment and innovation • Families, education, and opportunity • Infrastructure, energy, natural resources • Types of income, investment, tax structures • Economic security, health, retirement, and insurance • International competitiveness • Economic and community development • Tax exempt organizations and charitable giving • Non-income tax issues and related reforms

24. Challenges of corporate tax base broadening • Cutting tax expenditures to lower the rate • Roughly, a 1%-point reduction in the US corporate tax rate costs $100 billion-$110 billion/10 years • Thus, reducing the statutory corporate rate from 35% to 25% requires “base broadening” of up to $1.2 trillion/10 years • JCT memo on reducing corporate rate • October 2011 memo to Rep. Levin: reduction in corporate tax rate to 28% estimated to cost $717 billion/10 years • $634 billion derived from repealing expenditures for manufacturers: accelerated depreciation and domestic production deduction 1 2 • Top individual expenditures • Exclusion for employer-provided health care • Capital gains and dividend rates • Pension plans • State and local tax deduction • Mortgage interest deduction • Top corporate expenditures • Deferral • Tax exempt bond interest • Manufacturing activities deduction • Credit for low-income housing • Deferral of gain on non-dealer installment sales

25. The President’s Framework for Business Tax Reform: at a glance • Cut provisions to cut corp. rate • 28% corporate rate • No comprehensive list of provisions to be cut, but some highlighted: • LIFO, oil/gas, carried interest, jet depreciation • Depreciation, deductibility of interest expense should also be considered • Manufacturing Incentives • Cut effective rate for manufacturers to 25% by refocusing Sec. 199 manufacturing deduction • Increased to 10.7% • Permanent R&D credit • Energy incentives • International tax • Comes out against pure territorial system • US-based companies to pay an unspecified minimum tax on foreign earnings • Small business • Make tax filing simpler • Allow expensing up to $1 million in investments • Allow cash accounting on businesses with up to $10 million in gross receipts • Fiscal responsibility • Plan is revenue neutral, but $250 billion required to make permanent temporary provisions that are routinely extended, • Temporary provisions must be paid for or eliminated

26. Imprecise coordination of federal energy & tax policy (e.g. some eligible technologies have mandates , some don’t) Disparity between treatment of fossil fuels and renewables (oil & gas provisions are permanent); Temporary nature of renewable provisions limits their effectiveness Lack of Technology Neutrality results in winners & losers Smorgasbord of ITCs, PTCs, Blenders Credits, etc. Energy issues posed by current tax law

27. Move the national electrical grid to predictable, clean generation Lower motor vehicle GHG emissions Decrease US dependence on imported fossil fuels Reduce landfilling of wastes that can produce energy Increase domestic employment in high tech fields Energy Policy Objectives

28. Justifies need for existing or new incentive Simplifies credit mechanisms Equalizes benefits across technologies and sectors Aligns benefit amounts with public benefits Safeguards against unintended consequences Limitations: by facility; by taxpayer; by year; by provision Energy Tax Reform: Drafting Criteria

29. Offsetting the Revenue Loss • Transfer of revenue from within an omnibus bill • Repeal of Existing Oil & Gas Provisions • Termination of existing temporary energy tax provisions (doesn’t raise much revenue as most of these expire at the end of 2013) • Enactment of a Carbon Tax • Fees generated by enactment of a cap & trade program

30. Opportunities: Extend current law renewable electricity tax incentives Obtain a permanent tax incentive via comprehensive reform Reform current law to enhance availability to open-loop biomass Allow remaining 5-year trenche of credits for 2004 facilities; Set all credit levels at same rate; Encourage developers to refurbish existing facilities Vulnerabilities: Termination of existing tax preferences as part of Deficit Reduction. Revision of biomass definition to reflect anti-incineration Not clear that non-wind renewable energy tax incentives remain a top priority for the Administration Internal divisions with biomass energy community could possibly undermine Member support Federal Tax Policy Opportunities/Risks for Biofuels in the 112th Congress

31. Circular 230 disclaimer • Any US tax advice contained herein was not intended or written to be used, and cannot be used, for the purpose of avoiding penalties that may be imposed under the Internal Revenue Code or applicable state or local tax law provisions. • These slides are for educational purposes only and are not intended, and should not be relied upon, as accounting advice.