US IRS publishes additional interim guidance clarifying certain provisions of the corporate alternative minimum tax

The Notice clarifies several issues that will help Taxpayers in applying the corporate alternative minimum tax (CAMT) but leaves several other pressing issues unaddressed (such as certain international issues). The Notice expands the definition of applicable financial statement (AFS), which confirms that every Taxpayer is intended to have an AFS for CAMT purposes and, therefore, have adjusted financial statement income (AFSI). Section 9 of Notice 2023-64 includes the Tax Depreciation Section 481(a) Adjustment rule, which would reduce AFSI if a Taxpayer has a favorable (i.e., negative) IRC Section 481(a) adjustment for depreciation of IRC Section 168 property. The forthcoming proposed regulations are anticipated to be effective for tax years beginning on or after January 1, 2024. Taxpayers may rely on the interim guidance provided in Notices 2023-64, 2023-20, and 2023-7 for any tax year that begins before January 1, 2024.

In Notice 2023-64 (pdf), the IRS has published interim guidance that clarifies certain provisions of the CAMT, enacted under the Inflation Reduction Act of 2022. The IRS also announced that it plans to issue proposed regulations that are consistent with the guidance in the Notice and previously issued interim guidance in Notice 2023-7 and Notice 2023-20. See Tax Alerts 2023-0091 and 2023-0384.

Background

An "applicable corporation" is liable for the CAMT to the extent that its "tentative minimum tax" exceeds its regular US federal income tax liability plus its liability for the base erosion anti-abuse tax (BEAT). An applicable corporation's tentative minimum tax equals 15% of its AFSI less the CAMT foreign tax credit (FTC) for the tax year. AFSI means, with respect to any corporation for any tax year, the corporation's net income or loss as set forth on its AFS for that tax year, adjusted as provided in IRC Section 56A.

In general, applicable corporation means any corporation (other than an S corporation, regulated investment company, or real estate investment trust) whose average annual AFSI exceeds $1 billion for any three consecutive tax years ending after December 31, 2021, and which precede the tax year. For example, the three-tax-year period for a calendar-year corporation possibly subject to the CAMT for 2023 includes calendar years ending December 31, 2020, December 31, 2021, and December 31, 2022. For corporations (or a predecessor) existing less than three tax years, the number of years the corporation has existed is substituted for three. Additionally, any tax year less than 12 months must be annualized. In general, when determining a corporation's AFSI for the $1 billion qualification test, the AFSI of all persons considered a single employer with the corporation under IRC Section 52(a) or (b) is generally treated as AFSI of the corporation.

For a corporation that is a member of a foreign-parented multi-national group (FPMG), the three-year average annual AFSI must be (1) over $ 1 billion from all members of the FPMG, and (2) $100 million or more taking into account US corporation(s), a US shareholder's pro rata share of CFC AFSI, effectively connected income and certain partnership income. A FPMG means two or more entities if (1) at least one entity is a domestic corporation and another is a foreign corporation, (2) the entities are included in the same applicable financial statement, and (3) the common parent of those entities is a foreign corporation (or the entities are treated as having a common parent that is a foreign corporation).

Definition of taxpayer for purposes of Notice 2023-64

Notice 2023-64 defines "Taxpayer" as any entity identified in IRC Section 7701 and the regulations thereunder (including a disregarded entity (DRE) under Treas. Reg. Section 301.7701-3), regardless of whether the entity meets the Taxpayer definition in IRC Section 7701(a)(14).

EY insight: IRC Section 56A(c)(6) (adjustment for DREs) contemplates that in certain situations a regarded Taxpayer would need to adjust its AFSI to include the AFSI of a DRE not included in the regarded Taxpayer's AFS. Presumably, the clarification that a DRE can be a separate "Taxpayer" for CAMT purposes is to accommodate the IRC Section 56A(c)(6) adjustment.

Taxpayer's AFS determination

IRC Section 56A provides that an AFS with respect to any tax year means the AFS as defined in IRC Section 451(b)(3) or as specified in regulations or other guidance.

The guidance in Section 4 of Notice 2023-64 expands the definition of AFS provided in IRC Section 451(b)(3) and underlying regulations to include certain unaudited external financial statements and a Taxpayer's federal income tax return (i.e., the 4th and 5th bullets below). Specifically, Section 4 of the Notice provides that a Taxpayer's AFS for CAMT purposes is the financial statement listed below with the highest priority, including priority within a particular grouping:

1. Financial statements certified as prepared in accordance with the generally accepted accounting principles (GAAP) consistent with IRC Section 451(b)(3)(A) and Treas. Reg. Section 1.451-3(a)(5)(i)
2. Financial statements certified as prepared in accordance with international financial reporting standards (IFRS) consistent with IRC Section 451(b)(3)(B) and Treas. Reg. Section 1.451-3(a)(5)(ii)
3. Other government and regulatory statements (e.g., a financial statement (other than a tax return) filed with the Federal Government or any Federal agency, or a state government or agency) consistent with IRC Section 451(b)(3)(C) and Treas. Reg. Section 1.451-3(a)(5)(iii)
4. Unaudited external statements prepared for a non-tax purpose, and prepared using:

a. GAAP

b. IFRS or

c. any other accepted accounting standards that are issued by an accounting standards board charged with developing accounting standards for one or more jurisdictions

     5. Taxpayer's federal income tax or information return filed with the IRS

EY insight: This expanded definition confirms that every Taxpayer is intended to have an AFS for CAMT purposes and, therefore, have AFSI.

The Notice clarifies that a financial statement is a certified financial statement if:

1. An independent financial statement auditor certified the statement fairly presents the Taxpayer's financial position and results of the Taxpayer's operations in conformity with the relevant financial accounting standards.
2. The statement is subject to a qualified or modified opinion by an independent financial statement auditor that the statement fairly presents the Taxpayer's financial position and results of the Taxpayer's operations in conformity with the relevant financial accounting standards.
3. The statement is subject to an adverse opinion of an independent financial statement auditor but only if the auditor indicates the amount of the disagreement with the statement.

Section 4 of the Notice provides that a restated AFS takes priority over the original AFS if the Taxpayer restates its financial statement income for a tax year before filing its original Federal income tax return for that year. If a Taxpayer with different financial accounting and tax years must file both annual financial statements and periodic financial statements covering less than a 12-month period with a government or government agency, Notice 2023-64 requires the Taxpayer to prioritize the annual financial statements over the periodic financial statements.

If a Taxpayer's financial results are consolidated with other Taxpayers' financial results on a consolidated AFS, Section 4 of Notice 2023-64 generally establishes that the consolidated AFS is the Taxpayer's AFS consistent with the general rules in IRC Section 451(b) and underlying regulations. If the Taxpayer's results, however, also are separately reported on an AFS that has the same or higher priority to the consolidated AFS, the Taxpayer's AFS is the separate AFS, subject to the following exceptions:

• If the corporation is a member of a tax consolidated group, the corporation must use the AFS that includes the tax consolidated group, regardless of whether the corporation's financial results also are reported on a separate AFS that is of equal or higher priority to the consolidated AFS.

• If a Taxpayer is a member of a FPMG, the Taxpayer must use the FPMG's consolidated AFS, regardless of whether the Taxpayer's financial results also are reported on a separate AFS that is of equal or higher priority to the FPMG consolidated AFS.

EY insight: The Notice provides helpful clarifications for corporations that are members of a consolidated AFS group. It is not uncommon for a consolidated AFS group to include members that file a separate AFS of equal or higher priority to the consolidated AFS. Before this guidance, a consolidated AFS group may have been required to reference those members' separate AFS (in addition to the consolidated AFS) for CAMT purposes pursuant to the rules under IRC Section 451(b)(5) and underlying regulations. The exceptions to the separate AFS rule for tax consolidated groups and FPMGs should provide administrative relief, in particular to corporations determining applicable corporation status.

Determining AFSI

In general, AFSI means the Taxpayer's financial statement income (FSI) for such tax year, adjusted as provided in IRC Section 56A or regulations or other guidance issued under IRC Section 56A. Section 5 of the Notice clarifies that a Taxpayer otherwise may not make any adjustments to FSI in determining AFSI.

The Notice defines FSI generally as the net income or loss of the Taxpayer set forth on the income statement (sometimes referred to as the statement of earnings, the statement of operations, or the statement of profit and loss) included in the Taxpayer's AFS for the tax year. The Notice clarifies that FSI does not include amounts reflected elsewhere in the Taxpayer's AFS, including in equity accounts such as retained earnings and other comprehensive income.

EY insight: The clarification that FSI does not include equity accounts such as retained earnings and other comprehensive income is consistent with existing interpretations relying on the statutory language in IRC Section 56A and the congressional colloquies.

The Notice clarifies that FSI includes all the Taxpayer's items of income, expense, gain, and loss reflected in the net income or loss set forth on the AFS, regardless of whether such amounts are realized, recognized, or otherwise taken into account for US federal income tax purposes. For example, "FSI includes gain or loss reported on the income statement included in a Taxpayer's AFS for a [tax] year even if such gain or loss is deferred or not recognized for Regular Tax purposes (for example, gain on a like-kind exchange that qualifies for nonrecognition treatment under [IRC Section] 1031)." Notice 2023-64 also requires FSI to include "income reported on the income statement included in a Taxpayer's AFS for a [tax] year even if such income would not be taken into account as AFS revenue for that [tax] year under [Treas. Reg. Section] 1.451-3(b)(2)."

Similarly, the Notice clarifies that, except as otherwise provided in IRC Section 56A or IRC Section 59(k), regulations, or other guidance, a Taxpayer's AFSI includes all items reflected in a Taxpayer's FSI regardless of whether those amounts are realized, recognized, or otherwise taken into account for US federal income tax purposes.

EY insight: Notice 2023-64 clarifies this important point, which many taxpayers and practitioners have pondered. For instance, some have questioned whether fundamental principles of subchapter C (i.e., IRC Sections 301 through 385), which would include limiting situations in which asset basis may be marked to market for federal income tax purposes, had to be incorporated into the FSI and AFSI computation despite the lack of an express rule in the guidance provided to date. Notice 2023-64 provides interim guidance on this question, at the moment, in the negative by incorporating US federal income tax principles only to the extent reflected in AFS (or, presumably, through modifications implemented under the CAMT regulatory authority, such as the treatment of certain nonrecognition transactions under Section 3 of Notice 2023-7).

If a Taxpayer's AFS is a consolidated AFS, Notice 2023-64 requires the Taxpayer to determine its FSI by calculating its portion of the net income or loss of the AFS group reported on the income statement included in the consolidated AFS. Generally, the Taxpayer's portion of the consolidated FSI must be supported by the Taxpayer's separate books and records used to create the consolidated AFS and generally would equal the FSI the Taxpayer would have reported had it prepared a separate AFS. The Taxpayer "must maintain books and records sufficient to demonstrate how its FSI … reconciles to [c]onsolidated FSI."

EY insight: Before this Notice, certain consolidated AFS group members may have faced administrative challenges in determining their portion of consolidated FSI for purposes of determining AFSI. The clarifications in the Notice suggest that, if a taxpayer's FSI from its books and records is consistent with the FSI it would report had it issued a separate AFS (i.e., an AFS of equal or higher priority to the consolidated AFS), that taxpayer may be able to utilize the FSI in its books and records to compute AFSI. These clarifications are particularly helpful for a US applicable corporation that is a member of a FPMG consolidated AFS group, where that corporation may have faced administrative challenges in determining its FSI (and AFSI) from the consolidated FSI.

Notice 2023-64 clarifies that the taxpayer's FSI is determined without regard to the financial results of other Taxpayers that are members of the same AFS Group. Accordingly, if two or more Taxpayers are members of the same AFS group, one Taxpayer's loss may not be netted against the income of another Taxpayer for purposes of determining the FSI of either Taxpayer. This provision applies even if the amounts are reflected in consolidated FSI on a net basis. It also includes an example to illustrate these provisions.

The Notice also clarifies that the portion of consolidated FSI that is the Taxpayer's FSI is determined without regard to any AFS consolidation elimination entries. This would include entries that eliminate transactions between the Taxpayer and other regarded Taxpayers within the same group (intracompany transactions remain eliminated) and entries that eliminate FSI of the Taxpayer for its investment in another Taxpayer that is a member of the AFS Group (unless the investment is in a DRE).

In the case of a Taxpayer that has an investment in a partnership, the Notice clarifies that the Taxpayer's FSI for the investment must be determined as though the Taxpayer prepared a separate AFS in which it properly accounted for the investment under the relevant accounting standards for investments in other entities (e.g., under the equity method described in Accounting Standards Codification (ASC) 323), when the Taxpayer does not so account for the investment in its separate books and records used to prepare the consolidated AFS.

If an AFS consolidation entry relates to a Taxpayer that is not reflected on Taxpayer's separate books and records, the appropriate amount must be allocated to the Taxpayer and taken into account in Taxpayer's FSI.

EY insight: The Notice's clarifications around eliminations and other consolidation entries are generally consistent with existing interpretations of the rules in IRC Section 451 and underlying regulations, and are particularly relevant for an applicable corporation that is a member of a consolidated AFS group that files a stand-alone tax return. The treatment of eliminations and other consolidation entries, however, may be different when determining applicable corporation status under IRC Section 59(k), given the general requirement that a corporation apply aggregation rules under IRC Section 52 to determine applicable corporation status pursuant to IRC Section 59(k)(1)(D).

Determining a tax consolidated group's FSI, AFSI and tax

Notice 2023-64 includes rules for calculating a tax consolidated group's FSI. If a consolidated AFS only includes tax consolidated group members and any disregarded entities owned by those members, the tax consolidated group's FSI for the tax year is the consolidated FSI set forth in the tax consolidated group's consolidated AFS for the tax year. If a consolidated AFS includes tax consolidated AFS members and taxpayers that are not consolidated AFS members, the tax consolidated group's FSI for the tax year is determined from the consolidated AFS using the same rules described in Section 5 of the Notice (including the rules around elimination and other consolidating AFS entries). The Notice, however, treats the tax consolidated group as the "Taxpayer" and relatedly provides that a partnership wholly owned by the tax consolidated group is respected as a partnership despite being viewed as having a single owner for this purpose.

The Notice also clarifies a tax consolidated group's CAMT liability under IRC Section 55 is calculated based on the tax consolidated group's —

(1) Tentative minimum tax

(2) Regular consolidated tax liability, and

(3) Tax imposed by IRC Section 59A (under Treas. Reg. Section 1.1502-59A)

Notice 2023-64 also includes an example to illustrate these rules.

EY insight: Although not specifically reiterated in Notice 2023-64, the Notice suggests that a tax consolidated group should continue to be treated as a single entity for CAMT purposes consistent with the interim guidance provided in Notice 2023-7 (e.g., in instructing that the tax consolidated group that is an applicable corporation must compute its CAMT liability at the tax consolidated group level).

EY insight: Notice 2023-64 does not address various open issues related to tax consolidated groups, such as the consequences of CAMT attributes (e.g., the financial statement net operating loss), in the event a corporation joins or departs from a tax consolidated group, including the potential application of IRC Section 382 and similar limitation rules.

AFSI and foreign corporations

Under IRC Section 56A(c)(3), a Taxpayer that is a US shareholder of a controlled foreign corporation (CFC) must include in AFSI its pro rata share of the net income or loss set forth on the CFC's AFS (CFC Pro Rata Share Adjustment). However, if the CFC Pro Rata Share Adjustment would otherwise be negative (due to CFC losses), then no adjustment to the Taxpayer's AFSI is made, and the loss carries forward to potentially reduce the CFC Pro Rata Share Adjustment in future years.

The Notice clarifies that if a Taxpayer is a US Shareholder of multiple CFCs, it makes a single CFC Pro Rata Share Adjustment with respect to all CFCs of which it is a US shareholder. In other words, the Taxpayer's pro rata share of CFC net income is aggregated (including the netting of income and losses), to arrive at a single CFC Pro Rata Share Adjustment amount (which is carried forward to future years if negative in the aggregate).

The Notice also clarifies that, for purposes of computing the CFC Pro Rata Share Adjustment, if a CFC is a partner in a partnership or the owner of a DRE, the CFC's net income includes the CFC's distributive share of the partnership's AFSI as well as the FSI of any DREs.

IRC Section 56A(c)(4) provides that, in determining the AFSI of a foreign corporation, the principles of IRC Section 882 (i.e., the rules for determining income effectively connected with a US trade or business) apply (ECI Adjustment). Notice 2023-64 clarifies that if a foreign corporation qualifies for and claims the benefits of the business profits provisions of an applicable income tax treaty, the principles of those treaty provisions apply in determining the foreign corporation's AFSI.

Notice 2023-64 clarifies the interaction of the CFC Pro Rata Share Adjustment and the ECI Adjustment, providing that if a CFC is an applicable corporation, the CFC's net income for purposes of the CFC Pro Rata Share Adjustment is reduced by the amount of CFC's AFSI (i.e., the amount subject to CAMT at the CFC level).

AFSI adjustments

Federal and foreign income taxes

IRC Section 56A(c)(5) requires taxpayers to adjust AFSI to disregard federal and foreign income taxes taken into account on the Taxpayer's AFS. The Notice clarifies that the adjustment is required for all federal and foreign taxes, including both current and deferred tax expense, as well as income tax expense that is accounted for indirectly as an increase or decrease to other AFS accounts (such as adjustments to income from equity method investments). The requisite adjustments are made in the tax year in which the income tax increases or decreases the Taxpayer's FSI or are included as a component of an adjustment to AFSI to prevent certain duplications and omissions described in the Notice.

EY insight: The requirement to addback both current and deferred tax expense provided by the Notice is consistent with expectations. It, however, was less certain whether taxpayers would be required to make adjustments for income taxes embedded in other AFS accounts (such as income from equity investments). The Notice confirms that taxpayers will need to adjust FSI from equity method investments to account for income taxes. Taxpayers will need to ensure they have processes in place to identify and obtain the amount of the "indirect" taxes that are not reflected in their AFS tax expense accounts.

The Notice also provides needed guidance on the meaning of "taken into account on the Taxpayer's AFS." For purposes of both the AFSI adjustment and CAMT FTCs (discussed below), a federal or foreign income tax is considered "taken into account" on the Taxpayer's AFS if any journal entry has been recorded in the journal used to determine the amounts on the Taxpayer's AFS (or an AFS that includes the Taxpayer) for any year to reflect the income tax. This is the case even if the Taxpayer's FSI does not increase or decrease at the time of the journal entry. An income tax that is taken into account on a partnership's AFS is also considered "taken into account" on any AFS of its partners.

EY insight: The broad definition of "taken into account" (any journal entry in a journal supporting the AFS) adopted by the Notice is anticipated to apply in most cases for purposes of the AFSI adjustment, as any tax expense reported in the AFS is generally expected to be traceable to a journal entry.

IRC Section 168 property

IRC Section 56A(c)(13) requires taxpayers to adjust AFSI to take into account the depreciation of IRC Section 168 property. The Treasury Department and IRS previously released Notice 2023-7 in December 2022, which provided guidance for certain issues related to adjustments under IRC Section 56A(c)(13). Section 9 of Notice 2023-64 clarifies and modifies Section 4 of Notice 2023-7 related to AFSI adjustments for IRC Section 168 property. Taxpayers that choose to rely on the guidance on Section 4 of Notice 2023-7 on or after September 12, 2023, must apply the guidance in Section 4 as clarified and modified by Notice 2023-64.

Under Notice 2023-64, if a Taxpayer changes its tax accounting method for depreciation for any IRC Section 168 property, the Taxpayer must adjust the AFSI to reflect the IRC Section 481(a) adjustment "to prevent depreciation from being duplicated or omitted under [IRC Section] 56A(c)(13)." Notice 2023-64 reflects this new guidance by modifying multiple subsections in Section 4 of Notice 2023-7. Specifically, Section 9 adds a new defined term — "Tax Depreciation Section 481(a) Adjustment" — that is incorporated into the adjustments for depreciation and disposition of IRC Section 168 property set forth in Section 4 of Notice 2023-7. Generally, Section 9 of Notice 2023-64 includes the Tax Depreciation Section 481(a) Adjustment to the extent the IRC Section 481(a) adjustment is taken into account in computing taxable income for the tax year.

EY insight: The result of the Tax Depreciation Section 481(a) Adjustment rule is that Taxpayers with a favorable (i.e., negative) IRC Section 481(a) adjustment for depreciation of IRC Section 168 property would reduce AFSI by the favorable adjustment. Alternatively, a Taxpayer with an unfavorable (i.e., positive) IRC Section 481(a) adjustment that is required to take the adjustment into account over four tax years would also adjust its AFSI over four tax years. This rule also would appear to apply to AFSI calculations used to determine applicable corporation status in tax years pre-2023.

Additionally, the Notice clarifies that if the Taxpayer capitalizes tax depreciation and then recovers the amount capitalized through deductions, the Taxpayer must reduce AFSI by the deductions, even if the deductions are allowed under a Code provision other than IRC Section 167. Additionally, if the Taxpayer capitalizes tax depreciation to non-inventory property held for sale and recovers that amount as part of the calculation of gain or loss from the sale or exchange of the property in calculating taxable income, the Taxpayer must reduce the AFSI by that amount.

EY insight: The consequence of adjusting AFSI by the tax depreciation will likely require Taxpayers to identify the corresponding covered book depreciation expense or covered book expense to remove the book expenses for AFSI in the year recognized for book purposes. This may be in a tax year before the tax year that the tax depreciation adjusts AFSI.

Notice 2023-64 also requires a Taxpayer to adjust its AFSI if it takes a disposition loss into account in its FSI for IRC Section 168 property for a tax year that is earlier than the tax year in which the disposition occurs for regular income tax purposes. In that case, the Taxpayer must adjust the AFSI for the earlier tax year to disregard the book disposition loss included in the FSI. For AFSI purposes, the Taxpayer cannot take the disposition loss into account until the tax year in which the disposition occurs for regular income tax purposes.

For property not depreciated under IRC Sections 167 and 168, Notice 2023-64 clarifies that IRC Section 56A(c)(13) does not apply. The Notice also clarifies that IRC 56A(c)(13) does not include an AFSI adjustment "to apply nonrecognition or gain deferral provisions that apply for certain dispositions of [IRC] Section 168" property for regular income tax purposes. The Notice, however, points out that other provisions of IRC Section 56A or other guidance may allow an AFSI adjustment in certain situations. Therefore, if a Taxpayer recognizes gain or loss in its FSI from the disposition of IRC Section 168 property, the Taxpayer must recognize the gain or loss for AFSI purposes, regardless of whether the Taxpayer takes the gain or loss for regular income tax purposes. Notice 2023-64 includes examples to illustrate these rules in dispositions subject to the installment method under IRC Section 453 and like-kind exchanges under IRC Section 1031.

Qualified wireless spectrum

IRC Section 56A(c)(14) requires a Taxpayer to reduce AFSI by amortization deductions allowed under IRC Section 197 for qualified wireless spectrum during the tax year and disregard any amount of amortization expense that is taken into account on the Taxpayer's AFS for the qualified wireless spectrum. Section 10 of Notice 2023-64 covers the qualified wireless spectrum AFSI adjustment under IRC Section 56A(c)(14). Notice 2023-64 defines "qualified wireless spectrum" as wireless spectrum that "is used in the trade or business of a wireless telecommunications carrier, is an amortizable [IRC S]ection 197 intangible under [IRC Section] 197(c)(1) and (d)(1)(D), and was acquired after December 31, 2007, and before August 16, 2022." To adjust AFSI under IRC Section 56A(c)(14), Notice 2023-64 requires AFSI to be adjusted as follows:

1. Reduced by deductible tax amortization "but only to the extent of the amount allowed as a deduction in computing taxable income for the [tax] year"
2. Adjusted to disregard covered book amortization expense and covered book wireless spectrum expense
3. Reduced by the IRC Section 481(a) adjustment for negative amortization to the extent the IRC Section 481(a) adjustment for amortization is taken into account in calculating taxable income for the tax year
4. Increased by the IRC Section 481(a) adjustment for positive amortization to the extent the IRC Section 481 adjustment for amortization is taken into account in calculating taxable income for the tax year, and
5. Adjusted for other items as indicated in the regulations or other guidance

In applying the above adjustments, the example in Section 10 of Notice 2023-64 confirms that a Taxpayer is entitled to reduce AFSI by the deductible tax amortization for qualified wireless spectrum even if there is no book expense (i.e., covered book amortization expense or covered book wireless spectrum expense) for the qualified wireless spectrum.

Notice 2023-64 also clarifies that the adjustment under IRC Section 56A(c)(14) does not apply to property not subject to amortization under IRC Section 197. Additionally, Notice 2023-64 clarifies that a Taxpayer must adjust AFSI for the tax year in which it disposes of qualified wireless spectrum for regular income tax purposes to redetermine the gain or loss taken into account in the Taxpayer's FSI for the disposition. Although Section 10.05 includes the four adjustments, it is interesting to note that taxpayers would include IRC Section 481(a) adjustments, similar to IRC Section 168 property, upon the disposition.

Adjustments to prevent certain duplications and omissions

To prevent duplications or omissions, Section 11 of Notice 2023-64 requires the Taxpayer to adjust AFSI to take into account any cumulative adjustment to the Taxpayer's retained earnings on its AFS if the adjustment is the result of a change in financial accounting principle. Unless otherwise stated in regulations or other guidance, the Taxpayer must take an adjustment necessary to prevent a duplication of AFSI into account over four tax years beginning with the tax year "for which the change in financial accounting principle is implemented in the Taxpayer's AFS." For a duplication that is expected to occur over a different period, Notice 2023-64 allows the Taxpayer to adjust the AFSI ratably over that period (not to exceed 15 years) "beginning with the [tax] year for which the change in financial accounting principle is implemented in the Taxpayer's AFS." For an adjustment necessary to prevent an omission of AFSI that decreases AFSI, the Taxpayer must take the adjustment into account in AFSI "in full in the [tax] year for which the change in financial accounting principle is implemented in the Taxpayer's AFS" (adjustments necessary to prevent omissions that increase AFSI are taken into account in the same manner as duplications).

If the Taxpayer no longer engages in the trade or business that is the subject of the financial accounting principle adjustment, the Taxpayer "must take into account in AFSI for [the] tax year any portion of the adjustment not taken into account in AFSI for a previous [tax] year."

EY insight:Similar to the IRC Section 481(a) adjustment recognition rules for changes in method of accounting, Section 11 of Notice 2023-64 provides Taxpayers with favorable spread period rules for recognizing cumulative adjustments associated with certain financial statement changes in AFSI.

If the Taxpayer restates an AFS, resulting in the Taxpayer's FSI for the tax year being restated after the Taxpayer filed its original Federal income tax return for the tax year, Notice 2023-64 requires the Taxpayer to account for the restatement by adjusting its AFSI for the first tax year after the tax year for which the Taxpayer has not filed an original Federal income tax return as of the restatement date. If the Taxpayer files an amended return or administrative adjustment request (AAR) under IRC Section 6227 after it has restated the AFS for a tax year, the Taxpayer must use the restated AFS for determining AFSI on the amended return or AAR.

For adjustments disclosed in an auditor's opinion, Notice 2023-64 requires the Taxpayer to adjust AFSI to take into account the amounts disclosed in the auditor's opinion to the extent those amounts would have increased FSI had the Taxpayer reported those amounts in its AFS. The Taxpayer is not required to adjust AFSI if the disclosed amounts were included in FSI in a prior year.

Notice 2023-64 also requires AFSI to be adjusted for other items as set out in regulations and other guidance. Notice 2023-64 includes an example to illustrate these provisions.

Financial statement net operating loss carryover

A Taxpayer may carry forward financial statement net operating loss to the first tax year a corporation is an applicable corporation and subsequent tax years. The amount of financial statement loss the Taxpayer may carry forward is determined under IRC Section 56A(d)(2), regardless of whether the Taxpayer was an applicable corporation for any prior tax year. The Notice provides an example that illustrates this provision (including the generation and utilization of a financial statement net operating loss prior to 2023) and applies the 80% limitation in IRC Section 59A(d).

Determining applicable corporation status

In general, for purposes of determining whether a corporation is an applicable corporation, IRC Section 59(k)(1)(D) requires all AFSI of persons treated as a single employer with the corporation under IRC Section 52(a) (aggregating groups of corporations) or (b) (regulatory authority to apply similar principles to aggregate groups of trades or businesses without regard to whether the entities are incorporated) to be treated as AFSI of that corporation (IRC Section 52 Aggregation).

The Notice reiterates that, under IRC Section 52(a), corporations that are members of a controlled group of corporations under IRC Section 1563(a)(1), (2), or (3) are treated as a single employer and required to be aggregated for purposes of determining applicable corporation status. The Notice confirms that IRC Section 52(a) applies to controlled group members, not component members of a controlled group defined in IRC Section 1563(b). "In particular, [IRC Section] 1563(b)(1)(A) and (b)(2) do not apply to exclude certain corporate members from the controlled group, including foreign corporations subject to Federal income tax under [IRC Section] 881." Further, the Notice makes clear that the constructive ownership rules will apply to attribute ownership of a partnership's subsidiary to any greater-than-5% corporate partner to the extent of its share in the partnership.

The Notice emphasizes that, under IRC Section 52(b) and Treas. Reg. Section 1.52-1, certain trades or businesses that are partnerships, trusts, estates, corporations, or sole proprietorships under common control are treated as a single employer and required to be aggregated for purposes of determining applicable corporation status. The Notice clarifies that the constructive ownership rules under IRC Section 1563(d) and (e) also apply for purposes of IRC Section 52(b). In addition, similar to the rules for IRC Section 52(a), "an organization that is a foreign entity (such as a foreign partnership or foreign trust) may be aggregated under [IRC Section] 52(b) in determining whether it is a member of a controlled group that is treated as single employer under [IRC Section] 52(b) for purposes of applying [IRC Section] 59(k)(1)(D)."

EY insight: Unlike IRC Section 52(a), IRC Section 52(b) contains no substantive rules and instead merely authorizes regulations to apply principles similar to IRC Section 52(a) to aggregate groups that include non-corporate trades or businesses. The Notice does not emphasize this distinction but seems to suggest that forthcoming regulations may amend existing regulations and require application of constructive ownership rules when determining any aggregated group under IRC Section 52(b), consistent with the statutory provisions that already produce that result under IRC Section 52(a). Once effective, the amendment may apply for the many US federal income tax purposes that cross-reference IRC Section 52(b) and may result in larger aggregated groups not only for purposes of determining applicable corporation status but also for other federal income tax provisions/purposes outside the CAMT.

The Notice reiterates that S corporations, regulated investment companies (RICs) and real estate investment trusts (REITs) are excluded from the definition of an applicable corporation for purposes of IRC Sections 55 through 59. The Notice, however, confirms that the aggregation rules under IRC Sections 52(a) and (b) do not exclude S corporations, RICs or REITs from being members of a controlled group. Therefore, these organizations are taken into account in determining whether members of a controlled group are treated as a single employer under IRC Section 52 for purposes of applying IRC Section 59(k)(1)(D). As a result, a corporation may have to include the AFSI from S corporations, RICs, or REITs included in the controlled group when determining whether the corporation exceeds the AFSI threshold amounts and is an applicable corporation.

EY insight: This clarification is consistent with existing interpretations of IRC Sections 52(a) and (b), IRC Section 1563, and Treas. Reg. Section 1.52-1(b).

The Notice clarifies that, for the FPMG $1 billion qualification test, the AFSI of the corporation being evaluated for applicable corporation status (the tested corporation) includes (1) the AFSI of all other FPMG members (FMPG Aggregation), and (2) the AFSI of all persons treated as a single employer with the tested corporation under IRC Section 52 to the extent the AFSI is not AFSI of a FPMG member (Section 52 Aggregation). The Notice further clarifies that, in applying both the IRC Section 52 Aggregation and FPMG Aggregation for determining whether a tested corporation meets the FPMG $1 billion test, AFSI of all relevant persons is determined without regard to IRC Sections 56A(c)(2)(D)(i), (c)(3), (c)(4) and (c)(11).

EY insight: The Notice clarifies that for purposes of applying the FPMG $1 billion qualification test, the AFSI of relevant persons by reason of IRC Section 52 is determined without regard to IRC Sections 56A(c)(2)(D)(i) [partnership distributive share adjustment], (c)(3) [CFC adjustment], (c)(4) [ECI limitation], and (c)(11) [pension adjustment]. This means, for example, that income of a foreign corporation that is not a CFC and has no ECI may need to be included in the aggregate group's AFSI even if not in the FPMG AFS group.

Notice 2023-64 also clarifies Section 7 of Notice 2023-7 by establishing that a Taxpayer that is a partner in a partnership includes the FSI amount it reports for its partnership investment in its AFSI (as discussed previously), instead of its distributive share of the partnership's AFSI under IRC Section 56A(c)(2)(D)(i). The Taxpayer would not include the FSI amount it reports for its partnership investment in its AFSI if all the AFSI of the partnership is treated as the Taxpayer's AFSI under IRC Section 59(k)(1)(D) or 59(k)(2)(A).

EY insight: While prior interim guidance clarified that the partnership distributive adjustment under IRC Section 56A(c)(2)(D)(i) is "turned off" for all purposes of determining applicable corporation status, there were still questions around which amounts a partner should include in its AFSI for a partnership investment (in particular a minority interest in a partnership). The Notice answers those questions, providing that a partner, with respect to a partnership investment, should include in its AFSI its share of partnership FSI consistent with accounting for that investment under relevant accounting standards if that amount is not already included in its FSI from its AFS.

CAMT FTC

The CAMT FTC may reduce the CAMT (if the Taxpayer chooses to credit foreign income taxes for regular US federal income tax purposes). The CAMT FTC equals the sum of:

• The Taxpayer's pro rata share of foreign income taxes that are (i) paid or accrued by CFCs (for which the Taxpayer is a US Shareholder) and (ii) taken into account on the CFCs' AFS (CFC Taxes); or, if less, 15% of the adjustment to AFSI for CFC net income, as determined under IRC Section 56A(c)(3) (CFC FTC Limitation)

• The foreign income taxes paid or accrued by the Taxpayer and taken into account on the Taxpayer's AFS

In other words, creditable foreign income taxes paid or accrued by CFCs are limited to 15% of the Taxpayer's pro rata share of its CFCs' income. Creditable foreign income taxes paid or accrued by domestic corporations are not limited.

The Notice clarifies that a foreign income tax is eligible to be claimed as a CAMT FTC in the tax year in which it is paid or accrued for Federal income tax purposes by the applicable corporation or a CFC, provided the foreign income tax has also been "taken into account" on the AFS of the applicable corporation or CFC.

Importantly, consistent with the required adjustment to AFSI, the Notice provides that a foreign income tax is "taken into account" on an AFS for CAMT FTC purposes if any journal entry has been recorded in the journal used to determine the amounts on the Taxpayer's AFS (or an AFS that includes the Taxpayer) for any year to reflect the income tax.

EY insight: The clarification of when foreign income taxes are taken into account on an AFS will simplify the determination of when foreign income taxes are creditable for CAMT FTC purposes. As a result of the broad definition, foreign income taxes will generally be creditable in the tax year they are considered paid or accrued for federal income tax purposes (assuming all other requirements for creditability are met). While straightforward, this approach is likely to result in mismatches between when income is included in AFSI and when a Taxpayer is able to claim the associated CAMT FTC. Specifically, timing differences between the year in which income is reflected on the Taxpayer's AFS and when such income is recognized for federal income tax purposes will often result in foreign income taxes being paid or accrued (and thus eligible to be credited for CAMT) before or after the associated AFSI is reported. An approach, however, that seeks to ameliorate this misalignment through, for example, incorporating deferred tax accounting principles (as done by the OECD in the Pillar 2 Model Rules) would likely introduce significant complexity.

Similar to the adjustment to taxpayer AFSI for CFC net income, the Notice clarifies that both CFC taxes and the CFC FTC Limitation are determined on an aggregate basis. In other words, all of the CFC taxes of CFCs in which the Taxpayer is a US shareholder are totaled and then subject to a single CFC FTC Limitation, which is also computed based on the aggregate income of all CFCs of which the Taxpayer is a US shareholder.

The Notice clarifies that if an applicable corporation or a CFC is a partner in a partnership, then the partner is treated as having paid or accrued its share of the foreign income taxes paid or accrued by the partnership for purposes of the CAMT FTC.

EY insight: Taxpayers are likely to welcome the clarification that taxes paid or accrued by a partnership are treated as paid or accrued by a partner that is an applicable corporation or CFC. Absent this clarification, there was concern that taxpayers would be required to increase their AFSI for their distributive share of partnership AFSI without being allowed to claim a CAMT FTC for the foreign income taxes levied on the partnership AFSI.

The Notice further clarifies that a foreign income tax that is paid or accrued as a result of a foreign tax redetermination may only be claimed as a CAMT FTC in the tax year to which the foreign tax redetermination relates (Relation-Back Year), even if the tax is reflected in a journal entry on an AFS within a tax year that is later than the Relation-Back Year. Furthermore, the foreign income tax is only eligible to be claimed as a CAMT FTC if the Taxpayer is an applicable corporation in the Relation-Back Year.

Applicability dates

The forthcoming proposed regulations are anticipated to apply for tax years beginning on or after January 1, 2024. Taxpayers, however, may rely on the interim guidance for tax years ending on or before the forthcoming proposed regulations are published, as well as any tax year that begins before January 1, 2024 (regardless of when proposed regulations are published).

Comments

The IRS has requested comments on several provisions, including depreciation adjustments and qualified wireless spectrum adjustments. Comments may be submitted electronically through the Federal eRulemaking Portal or by mail to Internal Revenue Service, CC:PA:LPD:PR (Notice 2023-64), Room 5203, P.O. Box 7604, Ben Franklin Station, Washington, D.C., 20044.

Comments are due by October 12, 2023. The IRS, however, indicates that it will consider comments submitted after that date, if the consideration of those comments will not delay the issuance of the proposed regulations.

Implications

While Notice 2023-64 provides interim guidance and additional clarifications on several issues that will help Taxpayers in applying the CAMT, the Notice leaves several other pressing issues unaddressed (such as certain international issues). The Notice indicates that proposed regulations are anticipated to be effective for 2024 tax years and that Taxpayers may rely on the interim guidance issued in Notice 2023-64 (and prior interim guidance issued in Notices 2023-7 and 2023-30) for 2023 tax years. As the proposed regulations are not anticipated to be retroactive, Taxpayers are afforded flexibility in which rules they apply for 2023 tax years.

Contact Information

For additional information concerning this Alert, please contact:

National Tax – Accounting Periods, Methods, and Credits

• Scott Mackay

• Rayth Myers

• Dan Penrith

• Ken Beck

National Tax – International Tax & Transactional Services

• Colleen O’Neill

• Enrica Ma

• Jeshua Wright

• Craig Hillier

National Tax M&A Group - International Tax and Transaction Services

• Brian Peabody

• Lulu Ma

National Tax – Compensation and Benefits

• Stephen LaGarde

• Christa Bierma

Tax Accounting and Risk Advisory Services

• Angela Evans

Published by NTD’s Tax Technical Knowledge Services group; Jennifer A Brittenham, legal editor

For a full listing of contacts and email addresses, please click on the Tax News Update: Global Edition (GTNU) version of this Alert.