TCJA – Back Door for Roth Conversion

Under our tax code, individuals have the right to “convert” all or part of a traditional plan or IRA to a Roth IRA–at the cost of paying income tax currently on the converted amount. Throughout the 20-year existence of Roth IRAs, the Roth converter has been granted a unique privilege–the option to change his mind and reverse the conversion, right up until the extended due date of his tax return for the conversion year. (This was only for conversions to Roth IRAs; “in-plan conversions” have never been reversible.) The new tax law eliminates this right. For Roth IRA conversions in 2018 and later, there will be no option to recharacterize the conversion; all Roth conversions will be irrevocable.

What’s not clear yet is how the law impacts 2017 conversions. Under previous law, the 2017 conversion of a traditional plan or IRA to a Roth IRA would have been reversible (i.e., the converter would have been entitled to recharacterize it) until Oct. 15, 2018. The new law repeals that right for “taxable years” after 2017. Some hope this means that conversions that occurred in tax year 2017 can still be reversed by the October 2018 deadline, but the law could be read as accelerating the recharacterization deadline for 2017 conversions to Dec. 31, 2017.

On the bright side, the law’s final draft preserves recharacterization as a method for fixing some IRA contribution mistakes, unlike earlier versions of the bill that threw out the recharacterization-as-mistake-fixer baby along with the recharacterization-as-a-way-to-undo-a-Roth-conversion bath water.

More good news: Though not part of the law itself, the conference committee’s explanatory statement of the law explicitly blesses a popular technique that some had questioned, namely, the “back-door Roth contribution.” An individual who is younger than 70 1/2 and who has compensation income, but whose adjusted gross income is too high to permit her to make an annual-type contribution to a Roth IRA, can instead make her annual contribution to a traditional IRA, then convert that traditional IRA to a Roth (because there is no income limit applicable to conversions). Some had questioned the legality of such an indirect Roth IRA contribution, saying it might be illegal under the “step transaction doctrine.” The conference committee definitively answers that question: Back-door Roth contributions are legal. The explanatory statement states (four times!) that an individual who is legally permitted to contribute to a traditional IRA can contribute to a traditional IRA then convert the account to a Roth–under the prior law and the new one. This should put an end to skepticism about back-door Roth contributions.

Another change: An employee who gets a plan loan gets a new little break–if the plan terminates, or the employee’s employment terminates, the loan typically becomes due immediately in full. If the employee can’t pay it back, the outstanding loan balance is treated as a distribution to him. He can roll over that distribution to avoid being taxable on it, but until now the rollover deadline was the usual 60 days. Under the new law this particular type of distribution gets a longer rollover deadline–the extended due date of the employee’s tax return for the year of the distribution. Note this change will not help the employee who simply defaults on his regular plan loan repayments; that type of deemed distribution is still not eligible for rollover at all.

Now for some bad news that (hopefully) affects very few people. If you close out all your IRAs, or all your Roth IRAs, and the net amount thus distributed to you is less than your “basis” in those accounts (less than the amount of your after-tax contributions to the accounts, including conversion contributions, in the case of Roth IRAs), the IRS position is that the loss you have thus realized is deductible only under § 212, “Expenses for production of income.” As such, the loss is a “miscellaneous itemized deduction” subject to Code § 67(a), meaning that (until now) the loss was deductible only to the extent the total of such loss and your other § 67(a) “miscellaneous itemized deductions” exceeded 2% of your adjusted gross income. Under the new law such loss will not be deductible at all for the years 2018-2025. Someone might challenge the IRS classification and try to claim the loss under a different code section.

The new law may make qualified charitable distributions even more popular. § 408(d)(8) permits an individuals older than 70 1/2 to transfer up to $100,000 per year from their IRAs directly to most types of charities. This device allows IRA owners to satisfy their charitable giving and their RMDs without having either the income or the deduction appear on their tax returns. That effect has always meant that some individuals could use the standard deduction while also getting the benefit of the “charitable deduction” by virtue of excluding the QCD from their income. Presumably more people will take advantage of that effect now that the new law has substantially increased the standard deduction (and slashed/eliminated some other deductions).

Finally, here’s what’s not in the new law: Other retirement plan changes proposed in the original House version of the bill (e.g., lowering the age for in-service distributions from pension plans, easing rules on hardship distributions) did not make it into the final legislation. And, the new law does not eliminate the life expectancy payout method for retirement plan death benefits, nor does it impose lifetime RMD requirements on Roth IRAs. We’ve heard for years now that “everyone” in Washington supported both these changes, but there is no such provision in the new law.

Here is a summary of TCJA 2017

Tax Cuts and Jobs Act (TCJA) –  Deduction for Qualified Business

Income

 

Note: The deduction for qualified business income (a.k.a., “the passthrough break”) is effective for tax years beginning after December 31, 2017 and ending before January 1, 2026.

 

 

Description of the  Deduction

 

Item TCJA Provision
Description Sole proprietors, partners in partnerships, members in LLCs taxed  as partnerships (hereafter, “partners”), and shareholders in S corporations may qualify for a new deduction for qualified business income. The amount of the deduction is generally 20 percent of the taxpayer’s qualifying business income.
Claiming the Deduction The deduction for qualified business income is claimed by individual taxpayers on their personal tax returns. The deduction reduces taxable income. The deduction is not used in computing adjusted gross income. Thus, it does not affect limitations based on adjusted gross income.
Basic Example Example: In 2018,  Joe receives a salary of $100,000 from his job at XYZ Corporation and

$50,000 of qualified business income from a side business that he runs as a sole proprietorship. Joe’s deduction for qualified business income in 2018 is $10,000 (20 percent of

$50,000). Joe can be claim the deduction on his 2018 Form 1040 as a reduction to taxable income.

 

Qualified Trade or Business

 

Item TCJA Provision
Qualified Trade or Business

Defined

A qualified trade  or business means any trade  or business other than –

 

    a specified service trade  or business; or

   the trade  or business of being an employee.

 

The rule disqualifying specified service trade  or businesses (defined below) does not apply to taxpayers with taxable income below certain thresholds. The rule disqualifying employees, by contrast, is absolute – it applies to all employees regardless of the amount of their taxable income.

Specified Service Trade or

Business

A “specified service trade  or business” is defined as any trade  or business involving the performance of services in the fields of health, law, accounting, actuarial science, performing arts, consulting, athletics, financial services, brokerage services, including investing and investment management, trading, or dealing in securities, partnership interests, or commodities, and any trade  or business where  the principal asset of such trade  or business is the reputation or skill of one or more of its employees. Engineering and architecture services are specifically excluded from the definition of a specified service trade  or business.
Special Rule Where Taxpayer’s Income is Below a Specified Threshold. The rule disqualifying specified service trades or businesses from being considered a qualified trade  or business does not apply to individuals with taxable income of less than $157,500 ($315,000 for joint filers). After an individual reaches the threshold amount, the restriction is phased in over a range of $50,000 in taxable income ($100,000 for joint filers). If an individual’s income falls within the range, he or she is allowed a partial deduction. Once  the end of the range is reached, the deduction is completely disallowed.

 

 

Item TCJA Provision
Qualified Business Income (QBI) Defined Qualified business income means the net amount of qualified items of income, gain, deduction, and loss with respect to the qualified trade  or business of the taxpayer. QBI does not include any amount paid by an S corporation that is treated as reasonable compensation of the taxpayer, or any guaranteed payment (or other payment) to a partner for services rendered

with respect to the trade  or business.

 

Example: Charlotte is a partner in, and sales manager for, the XYZ partnership, a domestic business that is not a specified service trade  or business. During the tax year,  she receives guaranteed payments of $250,000 from XYZ for her services to the partnership as its sales manager. In addition, her distributive share of XYZ’s ordinary income (it’s only item of income or loss) was $175,000. Charlotte’s qualified business income from XYZ is $175,000.

“Domestic” Requirement Items are treated as qualified items of income, gain, deduction, and loss only to the extent  they are effectively connected with the conduct of a trade  or business within the United States.
Investment-Related Items

Excluded

Qualified items do not include specified investment-related income, deductions, or losses, such as capital gains and losses, dividends and dividend equivalents, interest income other than that which is properly allocable to a trade  or business, and similar items.
Loss Carryovers If the net amount of qualified business income from all qualified trades or businesses during the tax year is a loss, it is carried forward as a loss from a qualified trade  or business in the next

tax year (and reduces the qualified business income for that year).

 

Calculating the  Deduction

 

Item TCJA Provision
Calculating the Deduction The deductible amount for each qualified trade  or business is the lesser of –

 

(1) 20 percent of the taxpayer’s QBI with respect to the trade  or business; or

 

(2) the greater of 50 percent of the W-2 wages (defined below) with respect to the trade  or business or the sum of 25 percent of the W-2 wages with respect to the trade  or business and 2.5 percent of the unadjusted basis, immediately after acquisition, of all qualified property.

 

The amount in “(2)” is referred to hereafter as “the W-2 wage  limitation.”

 

W-2 Wage Limitation on the  Deduction

 

Item TCJA Provision
W-2 Wage Limitation  Explained The W-2 wage  limitation on the deduction for qualified business income is based on either W-2 wages paid, or W-2 wages paid plus a capital element. This limitation is phased in above a threshold amount of taxable income (see below). Specifically, the limitation is the greater of: (1)

50 percent of the W-2 wages paid with respect to the qualified trade  or business; or (2) the sum of 25 percent of the W-2 wages with respect to the qualified trade  or business plus 2.5 percent

of the unadjusted basis, immediately after acquisition, of all qualified property.

 

Example: Susan owns and operates a sole proprietorship that sells cupcakes. The business is not a specified service business and Susan’s filing status for Form 1040 is single. The cupcake business pays $100,000 in W-2 wages and has $350,000 in qualified business income. For the sake of simplicity, assume the business had no qualified property,  and that Susan has no other items of income or loss (putting her taxable income at a level where  she’s fully subject to the

W-2 wage  limitation). Susan’s deduction for qualified business income is $50,000, which is the lesser of (a) 20 percent of $350,000 in qualified business income ($70,000), or (b) the greater of (i) 50 percent of W-2 wages ($50,000) or (ii) 25 percent of W-2 wages plus 2.5 percent of qualified property  ($25,000) ($25,000 ($100,000 x 25 percent) + $0 (2.5 percent x $0)).

 

 

Item TCJA Provision
Observation: The first of the two ways of calculating the W-2 wage  limitation (50 percent of W-

2 wages) is the one that will apply to most business that have  employees. The second way (25 percent of W-2 wages plus 2.5 percent of qualified property)  will mainly apply to real estate

activities and other activities that have  an unusually high ratio of qualifying property  to employees.

Phase-in of W-2 Wage Limitation The W-2 wage  limitation does not apply to individuals with taxable income of less than

$157,500 ($315,000 for joint filers). After an individual reaches the threshold amount, the W-2 limitation is phased in over a range of $50,000 in taxable income ($100,000 for joint filers).

W-2 Wages Defined W-2 wages are the total wages subject to wage  withholding, elective deferrals, and deferred compensation paid by the qualified trade  or business with respect to employment of its employees during the calendar year ending during the tax year of the taxpayer. W-2 wages do not include any amount which is not properly allocable to the qualified business income as a qualified item of deduction. In addition, W-2 wages do not include any amount which was not properly included in a return filed with the Social Security Administration (SSA) on or before the

60th day after the due date  (including extensions) for such return.

 

Gray  Area: The language of new Code  Sec.  199A (which provides the rules for the deduction for qualified business income), appears to treat S corporation shareholders and partners in partnerships differently for the narrow purpose of calculating the W-2 wage  limitation. Reasonable compensation paid to an S corporation shareholder as wages appear to fall within the definition of W-2 wages for purposes of applying the limitation. By contrast, guaranteed payments to a partner appear not to fall within the definition.

Qualified Property Defined Qualified property  means tangible property  of a character subject to depreciation that is held by, and available for use in, the qualified trade  or business at the close of the tax year,  and which is used in the production of qualified business income, and for which the depreciable period has not ended before the close of the tax year.  The depreciable period with respect to qualified property  of a taxpayer means the period beginning on the date  the property  is first placed in service by the taxpayer and ending on the later of –

    the date  10 years after that date;  or

    the last day of the last full year in the applicable recovery  period that would apply to the property  under  Code  Sec.  168 (without regard to Code  Sec.  168(g)).

 

Example: Walter (who is subject to the limitation on the deduction for qualified business income) does business as a sole proprietorship conducting a widget-making business. The business buys a widget-making machine for $100,000 and places it in service in 2020.  The business has no employees in 2020. The W-2 limitation in 2020 is the greater of (a) 50 percent of W-2 wages, or $0, or (b) the sum of 25 percent of W-2 wages ($0) plus 2.5 percent of the unadjusted basis of the machine immediately after its acquisition: $100,000 x .025 = $2,500. The amount of the limitation on Walter’s deduction is $2,500.

In the case of property  that is sold, for example, the property is no longer available for use in the trade  or business and is not taken  into account in determining the limitation.

 

Determining the  Final  Amount of the  Deduction

 

Item TCJA Provision
Determining the Final Amount of the Deduction An individual taxpayer generally may deduct an amount equal to the sum of –

 

(1) the lesser of (a) the combined qualified business income amount for the tax year; or (b) an amount equal to 20 percent of the excess (if any) of taxpayer’s taxable income for the tax year over the sum of any net capital gain and qualified cooperative dividends, plus

(2) the lesser of 20 percent of qualified cooperative dividends for the tax year or taxable income

(reduced by net capital gain).

 

This sum may not exceed the taxpayer’s taxable income for the tax year (reduced by net capital gain).

 

 

Item TCJA Provision
Special Rules for Partnerships and S Corporations     In the case of a partnership or S corporation, the business income deduction applies at the partner or shareholder level.

    Each  partner takes into account the partner’s allocable share of each qualified item of income, gain, deduction, and loss, and is treated as having W-2 wages for the tax year equal to the partner’s allocable share of W-2 wages of the partnership. The partner’s allocable share of W-2 wages is required to be determined in the same manner as the partner’s share of wage  expenses. For example, if a partner is allocated a deductible amount of 10 percent

of wages paid by the partnership to employees for the tax year,  the partner is required to be allocated 10 percent of the W-2 wages of the partnership for purposes of calculating the

wage  limit under  this deduction.

 

   Similar rules apply to S corporation shareholders. Each  shareholder takes into account the shareholder’s pro rata share of each qualified item of income, gain, deduction, and loss, and is treated as having W-2 wages for the tax year equal to the shareholder’s pro rata share of W-2 wages of the S corporation.

Treatment of Trusts and Estates Trusts and estates are eligible for the 20-percent deduction. Rules similar to the rules under present-law Code  Sec.  199 (as in effect on December 1, 2017) apply for apportioning between fiduciaries and beneficiaries any W-2 wages and unadjusted basis of qualified property  under the limitation based on W-2 wages and capital.
Treatment of Agricultural and

Horticultural Cooperatives

    A deduction is allowed to any specified agricultural or horticultural cooperative equal to the lesser of (1) 20 percent of the cooperative’s taxable income for the tax year or (2) the greater of 50 percent of the W-2 wages paid by the cooperative with respect to its trade  or business or the sum of 25 percent of the W-2 wages of the cooperative with respect to its trade  or business plus 2.5 percent of the unadjusted basis immediately after acquisition of qualified property  of the cooperative.

   A specified agricultural or horticultural cooperative is an organization to which subchapter T applies that is engaged in (1) the manufacturing, production, growth, or extraction in whole or significant part of any agricultural or horticultural product,  (2) the marketing of agricultural or horticultural products that its patrons have  so manufactured, produced, grown, or extracted, or (3) the provision of supplies, equipment, or services to farmers or organizations described in the foregoing.

Qualified REIT Dividends, Cooperative Dividends, and Publicly Traded Partnership Income       A deduction is allowed for 20 percent of the taxpayer’s aggregate amount of qualified REIT dividends, qualified cooperative dividends, and qualified publicly traded partnership income for the tax year.

      Qualified REIT dividends do not include any portion of a dividend received from a REIT

that is a capital gain dividend or a qualified dividend.

      Qualified cooperative dividends refers to patronage dividends, per-unit retain allocations, qualified written notices of allocation, or any similar amount, provided it is includible in gross income and is received from either (1) a tax-exempt benevolent life insurance association, mutual ditch or irrigation company, cooperative telephone company, like cooperative organization, or a taxable or tax-exempt cooperative that is described in Code  Sec.  1381(a), or (2) a taxable cooperative governed by tax rules applicable to cooperatives before the enactment of subchapter T of the Code  in 1962.

      Qualified publicly traded partnership income means (with respect to any qualified trade  or business of the taxpayer), the sum of the (1) the net amount of the taxpayer’s allocable share of each qualified item of income, gain, deduction, and loss (that are effectively connected with a U.S. trade  or business and are included or allowed in determining taxable income for the tax year and do not constitute excepted enumerated investment-type income, and not including the taxpayer’s reasonable compensation, guaranteed payments for services, or (to the extent  provided in regulations) Code  Sec.  707(a)  payments for services) from a publicly traded partnership not treated as a corporation, and (2) gain recognized by the taxpayer on disposition of its interest in the partnership that is treated as ordinary income (for example, by reason of Code  Sec.  751).

 

Saved By The S Election

Bankruptcy Court Holds S Corporation Status Is Not Property for Bankruptcy Purposes

A bankruptcy court, in a case of first impression in the Fourth Circuit, held that a Chapter 11 debtor’s S corporation status was not property for bankruptcy purposes and that the shareholders’ pre-petition revocation of the S election could therefore not be avoided as a fraudulent transfer. The court found that the debtor’s S corporation status lacked all of the attributes of a property right except for the right to use it to pass through tax liabilities to shareholders and that feature alone was not sufficient for the S election to be treated as a property interest. Health Diagnostic Laboratory, Inc. vs. U.S., 2017 PTC 543 (Bankr. E.D. Va. 2017).

Background

Health Diagnostic Laboratory, Inc. (HDL) was a clinical laboratory services company based in Richmond, Virginia. HDL tested blood samples it received from physicians for cardiovascular disease, diabetes, and other illnesses. HDL would reimburse the physicians for the costs associated with collecting, processing, and handling the blood samples.

In 2013, federal authorities began investigating HDL’s physician reimbursements as potential violations of federal anti-kickback laws. A fraud alert was released in 2014 advising that the payment of processing and handling fees to referring physicians could violate those laws. The fraud alert led to negative publicity and lawsuits against HDL. In April 2015, HDL agreed to a multimillion dollar settlement for alleged violations of the False Claims Act. By then, HDL’s relationship with its lender had become severely strained. HDL eventually defaulted on its loan and its borrowing ability was discontinued.

HDL filed a petition under Chapter 11 of the U.S. Bankruptcy Code in June 2015. In September 2015, a bankruptcy court entered an order authorizing the sale of substantially all of HDL’s assets. In May 2016, the court confirmed the plan of liquidation and a liquidating trust was formed.

HDL elected to be classified as an S corporation in 2009. That year, it entered into an agreement with its shareholders that required it to make distributions to reimburse shareholders for their passthrough tax liability. HDL remained an S corporation until January 2015, when the shareholders decided to terminate the S election and revert to C corporation status. As of the filing of the bankruptcy petition, HDL was a C corporation subject to C corporation tax.

In June 2017, the liquidating trustee filed a complaint against the IRS seeking to avoid the revocation of HDL’s S election as a fraudulent transfer. The government filed a motion to dismiss on the grounds that HDL’s tax status was not property for the purposes of the fraudulent transfer rules in Bankruptcy Code Secs. 544(b) and 548.

The trustee argued that HDL had a property interest in its S corporation status as a result of the 2009 shareholder agreement. According to the trustee, the agreement showed that HDL and its shareholders intended for the S election to forever bind the shareholders, and the trustee asserted that they breached their covenant of good faith and fair dealing by revoking the election.

If the revocation of the S election could be avoided, HDL would be retroactively classified as an S corporation and would file an amended return for 2015 showing losses. The losses would pass through to the shareholders, who would then file their own amended returns to apply the losses against any income they claimed in 2015, resulting in refunds. The trustee intended to demand those refunds from the shareholders for the benefit of the liquidating trust.

Analysis

The bankruptcy court noted that a split existed among the circuits on whether an S election is the property of an S corporation in bankruptcy. In In re Majestic Star Casino, LLC, 2013 PTC 109 (3d Cir. 2013), the Third Circuit Court held that S corporation status is not property for bankruptcy purposes because the definition of property under the bankruptcy statute, although broad, did not encompass S corporation status. The bankruptcy court noted that all of the other courts that have addressed the issue had found S corporation status to be a property right in bankruptcy and that there was no binding precedent in the Fourth Circuit.

The bankruptcy court adopted the Third Circuit’s reasoning in Majestic Star Casino in holding that HDL’s S election was not property and that there was therefore no transfer that could be avoided under the fraudulent transfer rules. The court found that, under Fourth Circuit precedent, an interest constitutes property for federal tax purposes if it embodies essential property rights, which include (1) the right to use; (2) the right to receive income produced by the purported property interest; (3) the right to exclude others; (4) the extent to which the taxpayer can control the use of the property; (5) whether the purported property right is valuable; and (6) whether the purported right is transferable.

Applying these factors, the bankruptcy court determined that only one factor – HDL’s right to use its S corporation status to pass its tax liability through to its shareholders – leaned in favor of treating the S status as property. However, the court noted that the right to use is the weakest of the property rights’ factors because it fails to meaningfully denote ownership without the rights of control and disposition. HDL may have had the right to use its S corporation status, the court said, but it lacked the ability to control the use of its tax classification, and the right to use the classification existed only until it was terminated.

The court found that HDL’s tax classification was valuable but did not support a finding of a property right. The court agreed that the trustee’s intention to collect shareholders’ tax refunds in order to maximize returns to creditors could, if successful, create value for the estate. However, the court concluded that this value alone did not create a property right. Moreover, the court reasoned, Congress intended S corporation status to be of value to shareholders, not to the corporation.

The court concluded that the remaining factors also favored a finding that S corporation status does not constitute a property right under federal tax law. According to the court, the right to exercise control over an interest is an essential characteristic and HDL had very little control over its S corporation status. As the court pointed out, shareholders have the overwhelming ability to control a corporation’s tax status because the only permitted method of making an S election is a unanimous vote by the shareholders. Further, the corporation has no unilateral control over any of the events that cause the termination of S corporation status. In the court’s view, the fact that the S corporation itself must file an IRS form to implement the shareholders’ decision does not confer control over the S election.

 

Tax Bill 2017

The Senate passed the Tax Bill for 2017 on Tuesday-yesterday. After that a few more changes are made to the language. It is sent down to the House for voting on Wednesday-today. It is expected to pass.

Here is the analysis of the new Tax Bill.

 

 

Explanation of TCJA (Tax Cut & Job Act) Conference Report and Final Version of the Tax Bill

This article provides an in-depth explanation of the final legislative text (“Conference Bill”) of the Tax Cuts and Jobs Act. On Friday, December 15, 2017, the conference committee reconciling the House and Senate versions (“House Bill” and “Senate Bill”, respectively) of the bill reached agreement on a conference report that includes the final version of the tax bill and the committee’s explanation of its provisions. H.R. 1-Conference (December 15, 2017).

Introduction

With respect to individuals, some of the more notable items included in the Conference Bill are:

  • (1) the provision of seven tax brackets, with a top rate of 37 percent (the top rate under present law is 39.6 percent);
  • (2) a repeal of the personal exemption deductions and an increase in the standard deduction amounts to $24,000 for joint filers and surviving spouses, $18,000 for heads of household, and $12,000 for unmarried taxpayers and married filing separately (additional amounts for the elderly and blind are retained);
  • (3) a $10,000 limit on the deduction for state and local taxes, which can be used for both property taxes and income taxes (or sales taxes in lieu of income taxes);
  • (4) a $750,000 limit on the loan amount for which a mortgage interest deduction can be claimed by individuals, with existing loans grandfathered, and the repeal of interest deductions on home equity indebtedness;
  • (5) a repeal of miscellaneous itemized deductions subject to the 2 percent of adjusted gross income floor ;
  • (6) a repeal of the personal deduction for casualty and theft losses, except for losses incurred in presidentially declared disaster areas;
  • (7) an increase in the child tax credit to $2,000 ($1,400 is refundable) and an increase in the phaseout threshold amounts to $400,000 for joint filers and $200,000 for all others (the credit is $1,000 under present law and is fully refundable);
  • (8) an increase in the alternative minimum tax (AMT) exemption amounts and the adjusted gross income thresholds at which the exemption amount begins to phase out;
  • (9) a repeal of the deduction for alimony paid and corresponding inclusion in income by the recipient, effective for tax years beginning in 2019 (alimony paid under separation agreement entered into prior to the effective date is generally grandfathered);
  • (10) permanent repeal of the individual shared responsibility payment (individual healthcare mandate) enacted as part of the Affordable Care Act (ACA); and
  • (11) the expiration of most individual tax provisions after December 31, 2025.
  • The Conference Bill also provides a 20 percent deduction against qualified business income from passthrough business entities. The provision includes relatively relaxed rules for calculating qualified business income for individuals with taxable income below certain thresholds ($315,000 for joint filers, $157,500 for all others), and stricter ones that are phased in for individuals with taxable income above the thresholds.
  • The Conference Bill would reduce the corporate tax rate to 21 percent and fully repeals the corporate alternative minimum tax. Both changes would be effective for tax years beginning after December 31, 2017.

Other important business-related changes include (1) 100% bonus depreciation for qualified property placed in service before January 1, 2023; (2) a permanent increase in the Section 179 expensing limit to $1,000,000 (up from $500,000 under present law) and a permanent increase in the phase-out threshold amount to $2,500,000 (up from $2,000,000 under present law); (3) a reduction in the gross receipts amount under which a business can qualify to use the cash method of accounting; and (4) an exemption from the requirement to use inventories for certain taxpayers .

The Conference Bill also makes changes to certain partnership rules, including (1) the repeal of the technical termination of partnership rule in Code Sec. 708(b); (2) the recharacterization of certain gains in the case of partnership profits interests held in connection with the performance of investment services; (3) the modification of the definition of substantial built-in loss in the case of the transfer of a partnership interest; and (4) a modification of the basis limitation on partner losses to account for a partner’s distributive share of partnership charitable contributions and foreign taxes.

  1. Changes Affecting Individuals

Affordable Care Act (ACA) Individual Healthcare Mandate

Under the Conference Bill, the amount of the individual shared responsibility payment (aka, the “individual healthcare mandate”) enacted as part of the ACA would be reduced to zero, effective with respect to health coverage status for months beginning after December 31, 2018.

Individual Tax Rates and Brackets

The Conference Bill would replace the current set of seven individual tax rates with a different set of seven individual tax rates. Under the Conference Bill, the highest marginal tax rate is 37%, as compared to the top tax rate of 39.6% under present law. The current tax rates of 10%, 15%, 25%, 28%, 33%, 35%, 39.6% rates would be replaced with tax rates of 10%, 12%, 22%, 24%, 32%, 35%, and 37%.

Observation: The highest tax rate in the Conference Bill (37%) is lower than the top rates in either the House or Senate Bills (39.6% and 38.5%, respectively). The reduction was reportedly intended to offset the effect, for high income taxpayers, of capping the state and local tax deduction at $10,000.

The income tax bracket thresholds are all adjusted for inflation after December 31, 2018, and then rounded to the next lowest multiple of $100 in future years. Unlike present law (which uses a measure of the consumer price index for all-urban consumers), the new inflation adjustment uses the chained consumer price index for all-urban consumers.

This provision would be effective after December 31, 2017, and expire after December 31, 2025.

Estate and Trust Tax Rates and Brackets

Under the Conference Bill, the tax rate for estates and trusts would be 10% of taxable income up to $2,550, 24% of the excess over $2,550 but not over $9,150; 35% of the excess over $9,150 but not over $12,500; and 37% of the excess over $12,500.

This provision would be effective after December 31, 2017, and expire after December 31, 2025.

Simplification of Tax on Unearned Income of Children

The Conference Bill simplifies the “kiddie tax” by effectively applying ordinary and capital gains rates applicable to trusts and estates to the net unearned income of a child. Thus, taxable income attributable to earned income is taxed according to an unmarried taxpayer’s brackets and rates. Taxable income attributable to net unearned income is taxed according to the brackets applicable to trusts and estates, with respect to both ordinary income and income taxed at preferential rates. The child’s tax is no longer affected by the tax situation of the child’s parent or the unearned income of any siblings.

This provision would be effective after December 31, 2017, and expire after December 31, 2025.

Maximum Rates on Capital Gains and Qualified Dividends

The Conference Bill generally retains the present-law maximum rates on net capital gain and qualified dividends. The breakpoints between the zero- and 15-percent rates (“15-percent breakpoint”) and the 15- and 20-percent rates (“20-percent breakpoint”) are the same amounts as the breakpoints under current law, except the breakpoints are indexed using the Consumer Price Index for all Urban Consumers (C-CPI-U) in taxable years beginning after 2017. Thus, for 2018, the 15-percent breakpoint is $77,200 for joint returns and surviving spouses (one-half of this amount for married taxpayers filing separately), $51,700 for heads of household, $2,600 for estates and trusts, and $38,600 for other unmarried individuals. The 20-percent breakpoint is $479,000 for joint returns and surviving spouses (one-half of this amount for married taxpayers filing separately), $452,400 for heads of household, $12,700 for estates and trusts, and $425,800 for other unmarried individuals.

Observation: Therefore, in the case of an individual (including an estate or trust) with adjusted net capital gain, to the extent the gain would not result in taxable income exceeding the 15-percent breakpoint, such gain is not taxed. Any adjusted net capital gain which would result in taxable income exceeding the 15-percent breakpoint but not exceeding the 20-percent breakpoint is taxed at 15 percent. The remaining adjusted net capital gain is taxed at 20 percent.

As under current law, unrecaptured Code Sec. 1250 gain generally is taxed at a maximum rate of 25 percent, and 28-percent rate gain is taxed at a maximum rate of 28 percent.

This provision would be effective after December 31, 2017, and expire after December 31, 2025.

Increase in Individual AMT Exemption and Phaseout Amounts

The Conference Bill provides for increased AMT exemptions. For 2018, the exemptions would be $109,400 (up from $84,500 in 2017) in the case of a joint return or the return of a surviving spouse; $70,300 (up from $54,300 in 2017) in the case of an individual who is unmarried and not a surviving spouse; $54,700 (up from $39,375 in 2017) in the case of a married individual filing a separate return. Additionally, the Conference Bill would increase the alternative minimum taxable income limit where the exemptions begin to phase out. Under the Conference Bill, the exemption amount of any taxpayer is reduced by an amount equal to 25 percent of the amount by which the alternative minimum taxable income of the taxpayer exceeds $1,000,000 (up from $160,900 in 2017) in the case of a joint returns; and $500,000 for all others (up from amounts ranging from $80,450 to $120,700 in 2017).

This provision would be effective for tax years beginning after December 31, 2017.

Paid Preparer Due Diligence Requirement for Head of Household Status

The Conference Bill directs the Secretary of the Treasury to issue due diligence requirements for paid preparers in determining eligibility for a taxpayer to file as head of household. A penalty of $500 would be imposed for each failure to meet these requirements.

This provision would be effective after December 31, 2017, and expire after December 31, 2025.

Increase in Standard Deduction

The Conference Bill increases the basic standard deduction for individuals across all filing statuses. Under the provision, the amount of the standard deduction is increased to $24,000 for married individuals filing a joint return, $18,000 for head-of-household filers, and $12,000 for all other taxpayers. The amount of the standard deduction is indexed for inflation using the chained consumer price index for all-urban consumers for taxable years beginning after December 31, 2018. The additional standard deduction for the elderly and the blind is not changed by the provision.

This provision would be effective after December 31, 2017, and expire after December 31, 2025.

Repeal of the Deduction for Personal Exemptions

The Conference Bill repeals the deduction for personal exemptions.

In addition, the provision modifies the requirements for those who are required to file a tax return. In the case of an individual who is not married, such individual is required to file a tax return if the taxpayer’s gross income for the taxable year exceeds the applicable standard deduction. Married individuals are required to file a return if that individual’s gross income, when combined with the individual’s spouse’s gross income for the taxable year, is more than the standard deduction applicable to a joint return, provided that: (1) such individual and his spouse, at the close of the taxable year, had the same household as their home; (2) the individual’s spouse does not make a separate return; and (3) neither the individual nor his spouse is a dependent of another taxpayer who has income (other than earned income) in excess of $500 (indexed for inflation).

This provision would be effective after December 31, 2017, and expire after December 31, 2025.

Observation: Withholding rules under present law are based partly on the number of personal exemptions claimed by a taxpayer. Form W-4 and withholding tables would need to be changed to reflect the repeal of personal exemptions. The Conference Bill provides that the Secretary may, at his discretion, administer wage withholding in 2018 without regard to the repeal of the deduction for personal exemptions.

Repeal of Deduction for Alimony Paid

The Conference Bill repeals the deduction for alimony paid and the corresponding inclusion of alimony in income by the recipient. The provision is effective for any divorce or separation instrument executed after December 31, 2018, or for any divorce or separation instrument executed on or before December 31, 2018, and modified after that date, if the modification expressly provides that the amendments made by this section apply to such modification. Thus, alimony paid under a separation agreement entered into prior to the effective date is generally grandfathered.

Temporary Reduction in Medical Expense Deduction Floor

The Conference Bill provides special rules for medical expense deductions for years 2013 through 2018. For a tax year beginning after 2012 and ending before 2017, in the case of a taxpayer or a taxpayer’s spouse who has attained age 65 before the close of the year, and for a tax year beginning after 2016, and ending before 2019, in the case of any taxpayer, the adjusted-gross-income floor above which a medical expense is deductible is reduced from 10 percent to 7.5 percent.

Observation: The medical expense deduction is one of a few areas where the Senate and House Bills went in opposite directions. Whereas the Senate Bill retained the deduction and enhanced it for certain tax years (the provision discussed above that was included in the Conference Bill), the House Bill would have repealed it altogether.

Limitation on Deduction for State and Local Taxes

The Conference Bill limits the deduction for state and local property, income, war profits, and excess profits taxes to $10,000 ($5,000 in the case of a married individual filing a separate return), unless such taxes are paid or accrued in carrying on a trade or business or an activity described in Code Sec. 212 (relating to expenses for the production of income). The Conference Bill also repeals the deduction for foreign property taxes. As under current law, taxpayers may elect to deduct state and local sales taxes in lieu of state and local income taxes.

Observation: An earlier version of this provision that was included in both the House and Senate Bills, would have permitted only the deduction of state, local, and foreign property taxes within the $10,000 limit. The Conference Bill expanded the scope of the deduction to include state and local income taxes (or sales taxes in lieu thereof), as under current law, but eliminated the deduction for foreign property taxes.

Caution: The Conference Bill includes a provision blocking taxpayers from prepaying state and local income tax relating to the 2018 tax year in 2017 in order to circumvent the new limitation on the deduction. Specifically, the bill provides that, in the case of an amount paid in a tax year beginning before January 1, 2018, with respect to a state or local income tax imposed for a tax year beginning after December 31, 2017, the payment will be treated as paid on the last day of the tax year for which such tax is imposed for purposes of applying the provision limiting the dollar amount of the deduction.

This provision would be effective after December 31, 2017, and expire after December 31, 2025.

Limitation on Mortgage Interest Deduction

The Conference Bill provides that a taxpayer may treat no more than $750,000 as acquisition indebtedness ($375,000 in the case of married taxpayers filing separately) for purposes of the mortgage interest deduction. In the case of acquisition indebtedness incurred before December 15, 2017, the limitation is the same as it is under current law: $1,000,000 ($500,000 in the case of married taxpayers filing separately).

Observation: A provision in the House Bill, that was omitted from the Conference Bill, would have disallowed an interest deduction for debt used to acquire a second home. Thus, interest on such debt remains deductible within the overall limits that apply to the deductibility of acquisition indebtedness.

The Conference Bill repeals the deduction for home equity indebtedness.

This provision would be effective after December 31, 2017, and expire after December 31, 2025.

Modification to Deduction for Charitable Contributions

The Conference Bill make the following modifications to the deduction for charitable contributions –

(1) increases in the income-based percentage limit described in Code Sec. 170(b)(1)(A)for certain charitable contributions by an individual taxpayer of cash to public charities and certain other organizations from 50 percent to 60 percent;

(2) denies a charitable deduction for payments made in exchange for college athletic event seating rights; and

(3) repeals the substantiation exception in Code Sec. 170(f)(8)(D) for certain contributions reported by the donee organization.

The Conference Bill provisions that increase the charitable contribution percentage limit and deny a deduction for stadium seating payments would be effective for contributions made in taxable years beginning after December 31, 2017. The provision that repeals the substantiation exception for certain contributions reported by the donee organization would be effective for contributions made in taxable years beginning after December 31, 2016.

Partial Repeal of Deduction for Casualty and Theft Losses

The Conference Bill temporarily modifies the deduction for personal casualty and theft losses. Under the provision, a taxpayer may claim a personal casualty loss, subject to the applicable limitations in Code Sec. 165(h), only if such loss was attributable to a disaster declared by the President under Section 401 of the Robert T. Stafford Disaster Relief and Emergency Assistance Act.

The above-described limitation does not apply with respect to losses incurred after December 31, 2025.

Repeal of Miscellaneous Itemized Deductions Subject to the 2-Percent Floor

The Conference Bill repeals all miscellaneous itemized deductions that are subject to the two-percent of adjusted-gross-income floor.

This provision would be effective after December 31, 2017, and expire after December 31, 2025.

Increased Percentage Limitation for Charitable Contributions of Cash to Public Charities

The Conference Bill increases the income-based percentage limit described in Code Sec. 170(b)(1)(A)for certain charitable contributions by an individual taxpayer of cash to public charities and certain other organizations from 50 percent to 60 percent.

This provision would be effective after December 31, 2017, and expire after December 31, 2025.

Repeal of Charitable Deduction for Athletic Event Seating

The Conference Bill provides that no charitable deduction is allowed for any amount described in Code Sec. 170(l)(2), generally, a payment to an institution of higher education in exchange for which the payor receives the right to purchase tickets or seating at an athletic event.

This provision would be effective after December 31, 2017, and expire after December 31, 2025.

Repeal of Overall Limitation on Itemized Deductions

The Conference Bill repeals the overall limitation on itemized deductions.

This provision would be effective after December 31, 2017, and expire after December 31, 2025.

Relief for 2016 and 2017 Disaster Areas – Relaxation of Casualty Loss Deduction Rule s

The Conference Bill provides tax relief relating to a “2016 disaster area,” which is defined as any area with respect to which a major disaster was declared by the President under Section 401 of the Robert T. Stafford Disaster Relief and Emergency Assistance Act during calendar year 2016 and 2017. In the case of a personal casualty loss which arose after December 31, 2015, and before January 1, 2018, and was attributable to the events giving rise to the Presidential disaster declaration, such losses are deductible without regard to whether aggregate net losses exceed ten percent of a taxpayer’s adjusted gross income. Under the provision, in order to be deductible, the losses must exceed $500 per casualty. Additionally, such losses may be claimed in addition to the standard deduction.

Observation: While the Senate Bill originally applied only to calendar year 2016, the Conference Bill expanded the relief to 2017 without changing the description in the proposal as applying to the “2016 disaster area.”

The provision is effective on the date of enactment.

Relief for 2016 Disaster Areas – Relaxation of Retirement Plan Distribution Rules

The Senate Bill provides special rules for using retirement funds and taking a casualty loss deduction with respect to a “2016 disaster area.” The term “2016 disaster area” means any area with respect to which a major disaster has been declared by the President under Section 401 of the Robert T. Stafford Disaster Relief and Emergency Assistance Act during calendar year 2016. The term “qualified 2016 disaster distribution” means any distribution from an eligible retirement plan made on or after January 1, 2016, and before January 1, 2018, to an individual whose principal place of abode at any time during calendar year 2016 was located in 2016 disaster area and who has sustained an economic loss by reason of the events giving rise to the Presidential declaration which was applicable to such area.

Under the provision, the early withdrawal penalties under Code Sec. 72(t) do not apply to a qualified 2016 disaster distribution to the extent the amount withdrawn does not exceed $100,000 over the aggregate amounts treated as qualified 2016 disaster distributions received by such individual for all prior years. Amounts required to be included in income as a result of such distributions may be included ratably over a three-taxable year period. The provision also allows a casualty loss deduction with respect to a loss relating to a 2016 disaster area.

Although the Conference Bill’s relaxation of retirement plan distribution rules only applies to disasters occurring in 2016 (for which qualified retirement plan distributions can be made in either 2016 or 2017), victims of several major 2017 disasters were granted similar disaster relief by Pub. L. 115-63.

Rules for Exclusion of Gain from the Sale of a Principal Residence Unchanged

Both the House and Senate Bills included similar provisions tightening the rules for the exclusion of gain from the sale of a principal residence. Both bills would have made the exclusion available only if the taxpayer had owned and used the residence as a principal residence for at least five of the eight years (as opposed to two out of five years under current law) prior to selling it, and both would have allowed a taxpayer to benefit from the exclusion only once every five years (as opposed to once every two years under current law).

These provisions were not included in the Conference Bill. Thus, the rules for exclusion of gain from the sale of a principal residence under current law will remain in effect.

Repeal of Exclusion for Qualified Bicycle Commuting Reimbursement

The Conference Bill repeals the exclusion from gross income and wages for qualified bicycle commuting reimbursements.

This provision would be effective after December 31, 2017, and expire after December 31, 2025.

Repeal of Exclusion for Qualified Moving Expense Reimbursements

The Conference Bill repeals the exclusion from gross income and wages for qualified moving expense reimbursements except in the case of a member of the Armed Forces of the United States on active duty who moves pursuant to a military order.

This provision would be effective after December 31, 2017, and expire after December 31, 2025.

Repeal of Deduction for Moving Expenses

The Conference Bill repeals the deduction for moving expenses. However, under the provision, rules providing for exclusions of amounts attributable to in-kind moving and storage expenses (and reimbursements or allowances for these expenses) for members of the Armed Forces of the United States (or their spouse or dependents) are not repealed.

This provision would be effective after December 31, 2017, and expire after December 31, 2025.

Repeal of Certain Deductions Relating to Employee Achievement Awards

The Conference Bill prohibits a deduction for cash, gift cards, and other non-tangible personal property given to an employee as an achievement award, effective for amounts paid or incurred after December 31, 2017.

Repeal of Deductions for Living Expenses of Members of Congress

The Conference Bill repeals a provision which allows members of Congress to deduct up to $3,000 annually for certain living expenses, effective for tax years beginning after the date of enactment.

Modification to Gambling Losses

The Conference Bill clarifies the scope of “losses from wagering transactions” as that term is used in Code Sec. 165(d). The provision provides that this term includes any deduction otherwise allowable incurred in carrying on any wagering transaction.

The provision is intended to clarify that the limitation on losses from wagering transactions applies not only to the actual costs of wagers incurred by an individual, but to other expenses incurred by the individual in connection with the conduct of that individual’s gambling activity. The provision clarifies, for instance, an individual’s otherwise deductible expenses in traveling to or from a casino are subject to the limitation under Code Sec. 165(d).

Observation: This provision would reverse the result reached by the Tax Court in Mayo v. Comm’r, 136 T.C. 81 (2011). In that case, the court held that a taxpayer’s expenses incurred in the conduct of the trade or business of gambling, other than the cost of wagers, were not limited by Code Sec. 165(d), and were thus deductible under Code Sec. 162(a) as trade or business expenses.

This provision would be effective after December 31, 2017, and expire after December 31, 2025.

Reform of Child Tax Credit

The Conference Bill increases the child tax credit to $2,000 per qualifying child under the age of 17.

Observation: The Senate Bill would have increased the maximum age of a qualifying child 17. The Conference Bill retains the current law maximum age of 16 (i.e., “under the age of 17”).

The credit is further modified to provide for a $500 nonrefundable credit for qualifying dependents other than qualifying children. The provision generally retains the present-law definition of dependent.

Under the Conference Bill, the modified adjusted gross income threshold at which the credit begins to phase out is increased to $400,000 for joint filers and $200,000 for all other taxpayers. These amounts are not indexed for inflation.

The provision lowers the earned income threshold for the refundable child tax credit to $2,500 . The maximum amount refundable may not exceed $1,400 per qualifying child (up from $1,000 under present law). Under the provision, the maximum refundable amount is indexed for inflation with a base year of 2017, rounding up to the nearest $100. In order to receive the refundable portion of the child tax credit, a taxpayer must include a social security number for each qualifying child for whom the credit is claimed on the tax return.

This provision would be effective after December 31, 2017, and expire after December 31, 2025.

Increased Contributions to ABLE Accounts and Allowance of Contributions to be Eligible for Saver’s Credit

The Conference Bill increases the contribution limitation to ABLE accounts under certain circumstances. While the general overall limitation on contributions (the per-donee annual gift tax exclusion ($14,000 for 2017)) remains the same, the limitation is increased with respect to contributions made by the designated beneficiary of the ABLE account. Under the provision, after the overall limitation on contributions is reached, an ABLE account’s designated beneficiary can contribute an additional amount, up to the lesser of (1) the federal poverty line for a one-person household; or (2) the individual’s compensation for the taxable year. Additionally, the provision allows a designated beneficiary of an ABLE account to claim the saver’s credit for contributions made to his or her ABLE account.

The provision would be effective for tax years beginning after the date of enactment and would sunset after December 31, 2025.

Use of 529 Plan Distributions for Elementary or Secondary Schools

The Conference Bill modifies Section 529 plans to allow such plans to distribute not more than $10,000 in expenses for tuition incurred during the tax year in connection with the enrollment or attendance of the designated beneficiary at a public, private or religious elementary or secondary school. This limitation applies on a per-student basis, rather than a per-account basis. Thus, under the provision, although an individual may be the designated beneficiary of multiple accounts, that individual may receive a maximum of $10,000 in distributions free of tax, regardless of whether the funds are distributed from multiple accounts. Any excess distributions received by the individual would be treated as a distribution subject to tax under the general rules of Code Sec. 529.

The provision also modifies the definition of higher education expenses to include certain expenses incurred in connection with a homeschool. Those expenses are –

(1) curriculum and curricular materials;

(2) books or other instructional materials;

(3) online educational materials;

(4) tuition for tutoring or educational classes outside of the home (but only if the tutor or instructor is not related to the student);

(5) dual enrollment in an institution of higher education; and

(6) educational therapies for students with disabilities.

The provision would apply to distributions made after December 31, 2017.

Rollovers Between 529 Plans and Qualified ABLE Programs

The Conference Bill allows for amounts from qualified tuition programs (also known as Section 529 accounts) to be rolled over to an ABLE account without penalty, provided that the ABLE account is owned by the designated beneficiary of that Section 529 account, or a member of such designated beneficiary’s family. Such rolled-over amounts count towards the overall limitation on amounts that can be contributed to an ABLE account within a taxable year. Any amount rolled over that is in excess of this limitation will be includible in the gross income of the distributee in a manner provided by Code Sec. 72.

The provision would apply to distributions after December 31, 2017, and would sunset after December 31, 2025.

Extension of Time Limit to Contest IRS Levy

The Conference Bill extends from nine months to two years the period for returning the monetary proceeds from the sale of property that has been wrongfully levied upon. The provision also extends from nine months to two years the period for bringing a civil action for wrongful levy.

The provision would be effective with respect to: (1) levies made after the date of enactment; and (2) levies made on or before the date of enactment provided that the nine-month period has not expired as of the date of enactment.

Treatment of Certain Individuals Performing Services in the Sinai Peninsula of Egypt

The Conference Bill grants combat zone tax benefits to the Sinai Peninsula of Egypt, if as of the date of enactment of the provision any member of the Armed Forces of the United States is entitled to special pay under Section 310 of title 37, United States Code (relating to special pay; duty subject to hostile fire or imminent danger), for services performed in such location. This benefit lasts only during the period such entitlement is in effect.

The provision would generally be effective beginning June 9, 2015. The portion of the provision related to wage withholding would apply to remuneration paid after the date of enactment.

Treatment of Student Loans Discharged on Account of Death or Disability

The Conference Bill modifies the exclusion of student loan discharges from gross income, by including within the exclusion certain discharges on account of death or total and permanent disability of the student. Loans eligible for the exclusion under the provision are loans made by (1) the United States (or an instrumentality or agency thereof), (2) a state (or any political subdivision thereof), (3) certain tax-exempt public benefit corporations that control a state, county, or municipal hospital and whose employees have been deemed to be public employees under state law, (4) an educational organization that originally received the funds from which the loan was made from the United States, a State, or a tax-exempt public benefit corporation, or (5) private education loans (for this purpose, private education loan is defined in Section 140(7) of the Consumer Protection Act).

The provision applies to discharges of loans after December 31, 2017, and before January 1, 2026.

Deduction for Certain Educator Expenses Retained

The House Bill would have repealed the for the deduction of up to $250 for certain expenses of eligible educators. The Senate Bill would have doubled the current law deduction to $500. The Conference Bill adopted neither the House nor Senate Bill and instead keeps the current law $250 deduction .

Deduction for Student Loan Interest and the Exclusion for Graduate Student Tuition Waivers Retained

The Conference Bill omits provisions from the House Bill that would have repealed the above-the-line deduction for student loan interest and the exclusion from income of tuition waivers for graduate students, thereby retaining current rules for both provisions.

Business Loss Limitation Rules Applicable to Individuals

Under the Conference Bill, for taxable years beginning after December 31, 2017 and before January 1, 2026, excess business losses of a taxpayer other than a corporation are not allowed for the taxable year. Such losses are carried forward and treated as part of the taxpayer’s net operating loss (“NOL”) carryforward in subsequent taxable years. Under this provision, NOL carryovers generally are allowed for a taxable year up to the lesser of the carryover amount or 80 percent of taxable income determined without regard to the deduction for NOLs.

An excess business loss for the taxable year is the excess of aggregate deductions of the taxpayer attributable to trades or businesses of the taxpayer (determined without regard to the limitation of the provision), over the sum of aggregate gross income or gain of the taxpayer plus a threshold amount. The threshold amount for a taxable year is $250,000 (or twice the otherwise applicable threshold amount in the case of a joint return). The threshold amount is indexed for inflation after 2018.

In the case of a partnership or S corporation, the provision applies at the partner or shareholder level. Each partner’s distributive share and each S corporation shareholder’s pro rata share of items of income, gain, deduction, or loss of the partnership or S corporation are taken into account in applying the limitation under the provision for the taxable year of the partner or S corporation shareholder. Regulatory authority is provided to apply the provision to any other passthrough entity to the extent necessary to carry out the provision. Regulatory authority is also provided to require any additional reporting as the Secretary determines is appropriate to carry out the purposes of the provision.

The provision applies after the application of the passive loss rules.

For taxable years beginning after December 31, 2017, and before January 1, 2026, the present-law limitation relating to excess farm losses does not apply.

The Conference Bill provision would be effective for taxable years beginning after December 31, 2017.

  1. Estate and Gift Tax Changes

Increase in Estate and Gift Tax Exemption

The Conference Bill doubles the estate and gift tax exemption amount. This is accomplished by increasing the basic exclusion amount provided in Code Sec. 2010(c)(3) from $5 million to $10 million. The $10 million amount is indexed for inflation occurring after 2011.

The provision would be effective for decedents dying, generation-skipping transfers, and gifts made after December 31, 2017, and would expire for years beginning after December 31, 2025.

The Conference Bill omits a provision from the House Bill that would have repealed the estate and generation-skipping transfer tax beginning in 2025.

III. Deduction for Qualified Business Income of an Individual (Passthrough Break)

Under the Conference Bill, for taxable years beginning after December 31, 2017, and before January 1, 2026, an individual taxpayer generally may deduct an amount equal to the sum of –

(1) the lesser of (a) the combined qualified business income amount for the taxable year; or (b) an amount equal to 20 percent of the excess (if any) of taxpayer’s taxable income for the taxable year over the sum of any net capital gain and qualified cooperative dividends, plus

(2) the lesser of 20 percent of qualified cooperative dividends for the taxable year or taxable income (reduced by net capital gain).

This sum may not exceed the taxpayer’s taxable income for the taxable year (reduced by net capital gain).

Observation: As discussed below, trusts and estates are also eligible for this deduction.

Under the provision, the 20-percent deduction with respect to qualified cooperative dividends is limited to taxable income (reduced by net capital gain) for the year. The combined qualified business income amount for the taxable year is the sum of the deductible amounts determined for each qualified trade or business carried on by the taxpayer and 20 percent of the taxpayer’s qualified REIT dividends and qualified publicly traded partnership income.

The deductible amount for each qualified trade or business is the lesser of –

(1) 20 percent of the taxpayer’s qualified business income with respect to the trade or business; or

(2) the greater of 50 percent of the W-2 wages (defined below) with respect to the trade or business or the sum of 25 percent of the W-2 wages with respect to the trade or business and 2.5 percent of the unadjusted basis, immediately after acquisition, of all qualified property.

The 20-percent deduction is not allowed in computing adjusted gross income, and instead is allowed as a deduction reducing taxable income. Thus, for example, the provision does not affect limitations based on adjusted gross income.

Observation: This deduction is available to both nonitemizers and itemizers.

Qualified Trade or Business

For purposes of the deduction for qualified business income, the Conference Bill provides that qualified business income is determined for each qualified trade or business of the taxpayer. The term “qualified trade or business” means any trade or business other than –

(1) a specified service trade or business (defined below); or

(2) the trade or business of performing services as an employee.

Specified Service Trade or Business. A specified service trade or business means any trade or business involving the performance of services in the fields of health, law, consulting, athletics, financial services, brokerage services, or any trade or business where the principal asset of such trade or business is the reputation or skill of one or more of its employees or owners, or which involves the performance of services that consist of investing and investment management trading, or dealing in securities, partnership interests, or commodities. For this purpose, a security and a commodity have the meanings provided in the rules for the mark-to-market accounting method for dealers in securities (Code Sec. 475(c)(2) and Code Sec. 475(e)(2), respectively).

The rule disqualifying specified service trades or businesses does not apply to taxpayers with taxable income at or below specified threshold amounts and is phased in for taxpayers with taxable income above the thresholds (threshold amounts and phase-in provisions for specified service trades or businesses are discussed below).

Qualified Business Income

Qualified business income does not include any amount paid by an S corporation that is treated as reasonable compensation of the taxpayer. Similarly, qualified business income does not include any guaranteed payment for services rendered with respect to the trade or business, and to the extent provided in regulations, does not include any amount paid or incurred by a partnership to a partner who is acting other than in his or her capacity as a partner for services.

For any taxable year, qualified business income is the net amount of qualified items of income, gain, deduction, and loss with respect to the qualified trade or business of the taxpayer. The determination of qualified items of income, gain, deduction, and loss takes into account these items only to the extent included or allowed in the determination of taxable income for the year.

Example: During the taxable year, a qualified business has $100,000 of ordinary income from inventory sales, and makes an expenditure of $25,000 that is required to be capitalized and amortized over five years under applicable tax rules. Qualified business income is $100,000 minus $5,000 (current-year ordinary amortization deduction), or $95,000. The qualified business income is not reduced by the entire amount of the capital expenditure, only by the amount deductible in determining taxable income for the year.

If the net amount of qualified business income from all qualified trades or businesses during the taxable year is a loss, it is carried forward as a loss from a qualified trade or business in the next taxable year. Similar to a qualified trade or business that has a qualified business loss for the current taxable year, any deduction allowed in a subsequent year is reduced (but not below zero) by 20 percent of any carryover qualified business loss.

Example: Sean has qualified business income of $20,000 from qualified business A and a qualified business loss of $50,000 from qualified business B in Year 1. Sean is not permitted a deduction for Year 1 and has a carryover qualified business loss of $30,000 to Year 2. In Year 2, Sean has qualified business income of $20,000 from qualified business A and qualified business income of $50,000 from qualified business B. To determine the deduction for Year 2, Sean reduces the 20 percent deductible amount determined for the qualified business income of $70,000 from qualified businesses A and B by 20 percent of the $30,000 carryover qualified business loss.

Domestic Business Items

Items are treated as qualified items of income, gain, deduction, and loss only to the extent they are effectively connected with the conduct of a trade or business within the United States. In the case of a taxpayer who is an individual with otherwise qualified business income from sources within the commonwealth of Puerto Rico, if all the income is taxable under Code Sec. 1 (income tax rates for individuals) for the taxable year, the “United States” is considered to include Puerto Rico for purposes of determining the individual’s qualified business income.

Treatment of Investment Income

Qualified items do not include specified investment-related income, deductions, or loss. Specifically, qualified items of income, gain, deduction and loss do not include (1) any item taken into account in determining net long-term capital gain or net long-term capital loss, (2) dividends, income equivalent to a dividend, or payments in lieu of dividends, (3) interest income other than that which is properly allocable to a trade or business, (4) the excess of gain over loss from commodities transactions, other than those entered into in the normal course of the trade or business or with respect to stock in trade or property held primarily for sale to customers in the ordinary course of the trade or business, property used in the trade or business, or supplies regularly used or consumed in the trade or business, (5) the excess of foreign currency gains over foreign currency losses from Code Sec. 988 transactions, other than transactions directly related to the business needs of the business activity, (6) net income from notional principal contracts, other than clearly identified hedging transactions that are treated as ordinary (i.e., not treated as capital assets), and (7) any amount received from an annuity that is not used in the trade or business of the business activity. Qualified items under this provision do not include any item of deduction or loss properly allocable to such income.

Phase-in of Specified Service Business Limitation

There is an exclusion from the definition of a qualified business for specified service trades or businesses for certain taxpayers. This exclusion phases in for a taxpayer with taxable income in excess of a threshold amount. The threshold amount is $315,000 for joint filers and $157,500 for all other taxpayers (the “threshold amount”). The threshold amount is indexed for inflation. The exclusion from the definition of a qualified business for specified service trades or businesses is fully phased in for a taxpayer with taxable income in excess of the threshold amount plus $50,000 ($100,000 in the case of a joint return). For a taxpayer with taxable income within the phase-in range, the exclusion applies as follows.

In computing the qualified business income with respect to a specified service trade or business, the taxpayer takes into account only the applicable percentage of qualified items of income, gain, deduction, or loss, and of allocable W-2 wages. The applicable percentage with respect to any taxable year is 100 percent reduced by the percentage equal to the ratio of the excess of the taxable income of the taxpayer over the threshold amount bears to $50,000 ($100,000 in the case of a joint return).

Example: Tom, and unmarried taxpayer , has taxable income of $187,500 , of which $150,000 is attributable to an accounting sole proprietorship. Assume that the sole proprietorship’s W-2 wages are high enough that the W-2 wage limitation (see below) will not affect Tom’s deduction. Tom has an applicable percentage of 40 percent [$187,500 – $157,500 (Tom’s threshold amount) = $30,000 / $50,000 (phaseout range) = 60 percent; 100 percent – 60 percent = 40 percent]. In determining includible qualified business income, Tom takes into account 40 percent of $150,000, or $60,000. Because we’re assuming that the W-2 wage limitation doesn’t apply, Tom’s deduction for qualified business income is 20 percent of $60,000, or $12,000.

W-2 Wage Limitation on Deduction for Qualified Business Income

There is a limitation on the deduction for qualified business income which is based on either W-2 wages paid, or wages paid plus a capital element. This limitation is phased in above a threshold amount of taxable income (see below). Specifically, the limitation is the greater of (1) 50 percent of the W-2 wages paid with respect to the qualified trade or business, or (2) the sum of 25 percent of the W-2 wages with respect to the qualified trade or business plus 2.5 percent of the unadjusted basis, immediately after acquisition, of all qualified property.

Example: Susan owns and operates a sole proprietorship that sells cupcakes. The business is not a specified service business and Susan’s filing status for Form 1040 is single. The cupcake business pays $100,000 in W-2 wages and has $350,000 in qualified business income. For the sake of simplicity, assume the business had no qualified property, and that Susan has no other items of income or loss (putting her taxable income at a level where she’s fully subject to the W-2 wage limitation). Susan’s deduction for qualified business income is $50,000, which is the lesser of (a) 20 percent of $350,000 in qualified business income ($70,000), or (b) the greater of (i) 50 percent of W-2 wages ($50,000) or (ii) 25 percent of W-2 wages plus 2.5 percent of qualified property ($25,000) ($25,000 ($100,000 x 25 percent) + $0 (2.5 percent x $0)).

For purposes of this provision, qualified property means tangible property of a character subject to depreciation that is held by, and available for use in, the qualified trade or business at the close of the taxable year, and which is used in the production of qualified business income, and for which the depreciable period has not ended before the close of the taxable year. The depreciable period with respect to qualified property of a taxpayer means the period beginning on the date the property is first placed in service by the taxpayer and ending on the later of (1) the date 10 years after that date, or (2) the last day of the last full year in the applicable recovery period that would apply to the property under Code Sec. 168 (without regard to Code Sec. 168(g)).

Example: Walter (who is subject to the limitation on the deduction for qualified business income) does business as a sole proprietorship conducting a widget-making business. The business buys a widget-making machine for $100,000 and places it in service in 2020. The business has no employees in 2020. The limitation in 2020 is the greater of (a) 50 percent of W-2 wages, or $0, or (b) the sum of 25 percent of W-2 wages ($0) plus 2.5 percent of the unadjusted basis of the machine immediately after its acquisition: $100,000 x .025 = $2,500. The amount of the limitation on the Walter’s deduction is $2,500.

In the case of property that is sold, for example, the property is no longer available for use in the trade or business and is not taken into account in determining the limitation. The Conference Bill provides that the IRS must provide rules for applying the limitation in cases of a short taxable year of where the taxpayer acquires, or disposes of, the major portion of a trade or business or the major portion of a separate unit of a trade or business during the year. The IRS is required to provide guidance applying rules similar to the rules of Code Sec. 179(d)(2) to address acquisitions of property from a related party, as well as in a sale-leaseback or other transaction as needed to carry out the purposes of the provision and to provide anti-abuse rules, including under the limitation based on W-2 wages and capital. Similarly, the IRS must provide guidance prescribing rules for determining the unadjusted basis immediately after acquisition of qualified property acquired in like-kind exchanges or involuntary conversions as needed to carry out the purposes of the provision and to provide anti-abuse rules, including under the limitation based on W-2 wages and capital.

Reasonable Compensation and Guaranteed Payments

Qualified business income does not include any amount paid by an S corporation that is treated as reasonable compensation of the taxpayer. Similarly, qualified business income does not include any guaranteed payment for services rendered with respect to the trade or business, and to the extent provided in regulations, does not include any amount paid or incurred by a partnership to a partner who is acting other than in his or her capacity as a partner for services.

W-2 Wages

W-2 wages are the total wages subject to wage withholding, elective deferrals, and deferred compensation paid by the qualified trade or business with respect to employment of its employees during the calendar year ending during the taxable year of the taxpayer. W-2 wages do not include any amount which is not properly allocable to the qualified business income as a qualified item of deduction. In addition, W-2 wages do not include any amount which was not properly included in a return filed with the Social Security Administration on or before the 60th day after the due date (including extensions) for such return.

In the case of a taxpayer who is an individual with otherwise qualified business income from sources within the commonwealth of Puerto Rico, if all the income is taxable under Code Sec. 1 (income tax rates for individuals) for the taxable year, the determination of W-2 wages with respect to the taxpayer’s trade or business conducted in Puerto Rico is made without regard to any exclusion under the wage withholding rules for remuneration paid for services in Puerto Rico.

Phase-in of W-2 Wage Limitation

The application of the W-2 wage limitation phases in for a taxpayer with taxable income in excess of the following threshold amounts: $315,000 for joint filers and $157,500 for all other taxpayers, indexed for inflation. For purposes of phasing in the wage limit, taxable income is computed without regard to the 20 percent deduction.

The W-2 wage limitation applies fully for a taxpayer with taxable income in excess of the threshold amount plus $50,000 ($100,000 in the case of a joint return). For a taxpayer with taxable income within the phase-in range, the wage limit applies as follows. With respect to any qualified trade or business, the taxpayer compares –

(1) 20 percent of the taxpayer’s qualified business income with respect to the qualified trade or business; with

(2) the W-2 wage limitation (see above) with respect to the qualified trade or business.

If the amount determined under (2) is less than the amount determined (1), (that is, if the wage limit is binding), the taxpayer’s deductible amount is the amount determined under (1) reduced by the same proportion of the difference between the two amounts as the excess of the taxable income of the taxpayer over the threshold amount bears to $50,000 ($100,000 in the case of a joint return).

Qualified REIT dividends, cooperative dividends, and publicly traded partnership income A deduction is allowed under the provision for 20 percent of the taxpayer’s aggregate amount of qualified REIT dividends, qualified cooperative dividends, and qualified publicly traded partnership income for the taxable year. Qualified REIT dividends do not include any portion of a dividend received from a REIT that is a capital gain dividend or a qualified dividend. A qualified cooperative dividend means a patronage dividend, per-unit retain allocation, qualified written notice of allocation, or any similar amount, provided it is includible in gross income and is received from either (1) a tax-exempt benevolent life insurance association, mutual ditch or irrigation company, cooperative telephone company, like cooperative organization, or a taxable or tax-exempt cooperative that is described in Code Sec. 1381(a), or (2) a taxable cooperative governed by tax rules applicable to cooperatives before the enactment of subchapter T of the Code in 1962. Qualified publicly traded partnership income means (with respect to any qualified trade or business of the taxpayer), the sum of the (1) the net amount of the taxpayer’s allocable share of each qualified item of income, gain, deduction, and loss (that are effectively connected with a U.S. trade or business and are included or allowed in determining taxable income for the taxable year and do not constitute excepted enumerated investment-type income, and not including the taxpayer’s reasonable compensation, guaranteed payments for services, or (to the extent provided in regulations) Code Sec. 707(a) payments for services) from a publicly traded partnership not treated as a corporation, and (2) gain recognized by the taxpayer on disposition of its interest in the partnership that is treated as ordinary income (for example, by reason of Code Sec. 751).

Special Rules for Partnerships and S Corporations

The Conference Bill provides that, in the case of a partnership or S corporation, the business income deduction applies at the partner or shareholder level. Each partner takes into account the partner’s allocable share of each qualified item of income, gain, deduction, and loss, and is treated as having W-2 wages for the taxable year equal to the partner’s allocable share of W-2 wages of the partnership. The partner’s allocable share of W-2 wages is required to be determined in the same manner as the partner’s share of wage expenses. For example, if a partner is allocated a deductible amount of 10 percent of wages paid by the partnership to employees for the taxable year, the partner is required to be allocated 10 percent of the W-2 wages of the partnership for purposes of calculating the wage limit under this deduction. Similarly, each shareholder of an S corporation takes into account the shareholder’s pro rata share of each qualified item of income, gain, deduction, and loss, and is treated as having W-2 wages for the taxable year equal to the shareholder’s pro rata share of W-2 wages of the S corporation.

Treatment of Agricultural and Horticultural Cooperatives

For taxable years beginning after December 31, 2017, but not after December 31, 2025, a deduction is allowed to any specified agricultural or horticultural cooperative equal to the lesser of (1) 20 percent of the cooperative’s taxable income for the taxable year or (2) the greater of 50 percent of the W-2 wages paid by the cooperative with respect to its trade or business or the sum of 25 percent of the W-2 wages of the cooperative with respect to its trade or business plus 2.5 percent of the unadjusted basis immediately after acquisition of qualified property of the cooperative. A specified agricultural or horticultural cooperative is an organization to which subchapter T applies that is engaged in (1) the manufacturing, production, growth, or extraction in whole or significant part of any agricultural or horticultural product, (2) the marketing of agricultural or horticultural products that its patrons have so manufactured, produced, grown, or extracted, or (3) the provision of supplies, equipment, or services to farmers or organizations described in the foregoing.

Treatment of Trusts and Estates

The Conference Bill provides that trusts and estates are eligible for the 20-percent deduction. Rules similar to the rules under present-law Code Sec. 199 (as in effect on December 1, 2017) apply for apportioning between fiduciaries and beneficiaries any W-2 wages and unadjusted basis of qualified property under the limitation based on W-2 wages and capital.

Effective Date

The Conference Bill provision is effective for taxable years beginning after December 31, 2017, and does not apply to taxable years beginning after December 31, 2025.

  1. Business-Related Changes

Reduction in Corporate Tax Rate

The Conference Bill eliminates the graduated corporate rate structure and instead taxes corporate taxable income at 21 percent. It also eliminates the special tax rate for personal service corporations and repeals the maximum corporate tax rate on net capital gain as obsolete. For taxpayers subject to the normalization method of accounting (e.g., regulated public utilities), the Conference Bill provides for the normalization of excess deferred tax reserves resulting from the reduction of corporate income tax rates (with respect to prior depreciation or recovery allowances taken on assets placed in service before the date of enactment).

The Conference Bill proposals would be effective for taxable years beginning after December 31, 2017.

Reduction of Dividends Received Deductions to Reflect Lower Corporate Tax Rate

The Conference Bill reduces the 70 percent dividends received deduction available to corporations who receive a dividend from another taxable domestic corporation to 50 percent. It also reduces the 80 percent dividends received deduction for dividends received from a 20-percent owned corporation to 65 percent.

The Conference Bill proposals would be effective for taxable years beginning after December 31, 2018.

Corporate Alternative Minimum Tax

The Conference Bill repeals the corporate alternative minimum tax (AMT).

In the case of a corporation, the Conference Bill allows the AMT credit to offset the regular tax liability for any taxable year. In addition, the AMT credit is refundable for any taxable year beginning after 2017 and before 2022 in an amount equal to 50 percent (100 percent in the case of taxable years beginning in 2021) of the excess of the minimum tax credit for the taxable year over the amount of the credit allowable for the year against regular tax liability. Thus, the full amount of the minimum tax credit would be allowed in taxable years beginning before 2022.

The Conference Bill provisions would be effective for taxable years beginning after December 31, 2017.

Enhanced Expensing Through Bonus Depreciation

Bonus Depreciation. The Conference Bill extends and modifies the additional first-year (i.e., “bonus”) depreciation deduction through 2026 (through 2027 for longer production period property and certain aircraft). Under the Conference Bill, the 50-percent additional depreciation allowance is increased to 100 percent for property placed in service after September 27, 2017, and before January 1, 2023 (January 1, 2024, for longer production period property and certain aircraft), as well as for specified plants planted or grafted after September 27, 2017, and before January 1, 2023.

The 100-percent allowance is phased down by 20 percent per calendar year for property placed in service, and specified plants planted or grafted, in taxable years beginning after 2022 (after 2023 for longer production period property and certain aircraft). Thus, for property placed in service after December 31, 2022, and before January 1, 2024 (January 1, 2025, for longer production period property and certain aircraft), the bonus percentage is 80 percent; for property placed in service after December 31, 2023, and before January 1, 2025 (January 1, 2026, for longer production period property and certain aircraft), the bonus percentage is 60 percent; for property placed in service after December 31, 2024, and before January 1, 2026 (January 1, 2027, for longer production period property and certain aircraft), the bonus percentage is 40 percent; for property placed in service after December 31, 2025, and before January 1, 2027 (January 1, 2028, for longer production period property and certain aircraft), the bonus percentage is 20 percent. The general bonus depreciation percentages also apply to certain specified plants bearing fruits or nuts.

Observation: Under current law, the bonus depreciation is scheduled to end for qualified property acquired and placed in service before January 1, 2020 (January 1, 2021, for longer production period property and certain aircraft) and the 50-percent bonus depreciation amount is scheduled to be phased down for property placed in service after December 31, 2017, including certain specified plants bearing fruits or nuts planted or grafted after such date. Thus, the Conference Bill repeals the current-law phase-down of the additional first-year depreciation deduction for property placed in service after December 31, 2017, as well as the phase down also scheduled for certain specified plants bearing fruits or nuts planted or grafted after such date.

The Conference Bill also provides that the present-law phase-down of bonus depreciation is maintained for property acquired before September 28, 2017, and placed in service after September 27, 2017. Under the provision, in the case of property acquired and adjusted basis incurred before September 28, 2017, the bonus depreciation rates are as follows: 50 percent if placed in service in 2017 (2018 for longer production period property and certain aircraft), 40 percent if placed in service in 2018 (2019 for longer production period property and certain aircraft), 30 percent if placed in service in 2019 (2020 for longer production period property and certain aircraft), and zero percent if placed in service in 2020 (2021 for longer production period property and certain aircraft).

The Conference Bill maintains the bonus depreciation increase amount of $8,000 for luxury passenger automobiles placed in service after December 31, 2017.

Observation: Under current law, the $8,000 increase in depreciation for luxury passenger automobiles (as defined in Code Sec. 280F(d)(5)) is scheduled to be phased down to $6,400 and $4,800 for property placed in service in 2018 and 2019, respectively.

As a conforming amendment to the repeal of the corporate AMT, the Conference Bill repeals the election to accelerate corporate AMT credits in lieu of bonus depreciation.

The Conference Bill extends the special rule under the percentage-of-completion method for the allocation of bonus depreciation to a long-term contract for property placed in service before January 1, 2027 (January 1, 2028, in the case of longer production period property).

Qualified Property. The Conference Bill removes the requirement that, in order to qualify for bonus depreciation, the original use of qualified property must begin with the taxpayer. Thus, the provision applies to purchases of used as well as new items. To prevent abuses, the additional first-year depreciation deduction applies only to property purchased in an arm’s-length transaction. It does not apply to property received as a gift or from a decedent. In the case of trade-ins, like-kind exchanges, or involuntary conversions, it applies only to any money paid in addition to the traded-in property or in excess of the adjusted basis of the replaced property. It does not apply to property acquired in a nontaxable exchange such as a reorganization, to property acquired from a member of the taxpayer’s family, including a spouse, ancestors, and lineal descendants, or from another related entity as defined in Code Sec. 267, nor to property acquired from a person who controls, is controlled by, or is under common control with, the taxpayer. Thus, it does not apply, for example, if one member of an affiliated group of corporations purchases property from another member, or if an individual who controls a corporation purchases property from that corporation. The Conference Bill also removes computer equipment from the category of listed property (as defined in Code Sec. 280F(b)(2)), thus eliminating the depreciation limitation on such property.

The Conference Bill also expands the definition of qualified property eligible for the additional first-year depreciation allowance to include qualified film, television and live theatrical productions, effective for productions placed in service after September 27, 2017, and before January 1, 2023. For this purpose, a production is considered placed in service at the time of initial release, broadcast, or live staged performance (i.e., at the time of the first commercial exhibition, broadcast, or live staged performance of a production to an audience).

The Conference Bill excludes from the definition of qualified property certain public utility property, i.e., property used predominantly in the trade or business of the furnishing or sale of:

(1) electrical energy, water, or sewage disposal services;

(2) gas or steam through a local distribution system; or

(3) transportation of gas or steam by pipeline, if the rates for such furnishing or sale, as the case may be, have been established or approved by a state or political subdivision thereof, by any agency or instrumentality of the United States, or by a public service or public utility commission or other similar body of any state or political subdivision thereof.

The Conference Bill also excludes from the definition of qualified property any property used in a trade or business that has had floor plan financing indebtedness, unless the taxpayer which has such trade or business is not a tax shelter prohibited from using the cash method and is exempt from the interest limitation rules by meeting the small business gross receipts test of Code Sec. 448(c).

The Conference Bill proposals would generally apply to property placed in service after September 27, 2017, in taxable years ending after such date, and to specified plants planted or grafted after such date. A transition rule would provide that, for a taxpayer’s first taxable year ending after September 27, 2017, the taxpayer may elect to apply a 50-percent allowance.

Enhanced Expensing Through Section 179 Expense Deductions

Expansion of Code Section 179 Expensing. The Conference Bill increases the maximum amount a taxpayer may expense under Code Sec. 179 to $1,000,000, and increases the phase-out threshold amount to $2,500,000. Thus, the proposal provides that the maximum amount a taxpayer may expense, for taxable years beginning after 2017, is $1,000,000 of the cost of qualifying property placed in service for the taxable year. The $1,000,000 amount is reduced (but not below zero) by the amount by which the cost of qualifying property placed in service during the taxable year exceeds $2,500,000. The $1,000,000 and $2,500,000 amounts, as well as the $25,000 sport utility vehicle limitation, are indexed for inflation for taxable years beginning after 2018.

The Conference Bill expands the definition of Code Sec. 179 property to include certain depreciable tangible personal property used predominantly to furnish lodging or in connection with furnishing lodging.

Observation: Property used predominantly to furnish lodging or in connection with furnishing lodging generally includes, for example, beds and other furniture, refrigerators, ranges, and other equipment used in the living quarters of a lodging facility such as an apartment house, dormitory, or any other facility (or part of a facility) where sleeping accommodations are provided.

The Conference Bill also expands the definition of qualified real property eligible for Code Sec. 179expensing to include any of the following improvements to nonresidential real property placed in service after the date such property was first placed in service: roofs; heating, ventilation, and air-conditioning property; fire protection and alarm systems; and security systems.

The Conference Bill proposals would apply to property placed in service in taxable years beginning after December 31, 2017.

Modifications to Depreciation Limitations on Luxury Automobiles and Personal Use Property

The Conference Bill increases the depreciation limitations under Code Sec. 280F that apply to listed property. For passenger automobiles that qualify as luxury automobiles (i.e., gross unloaded weight of 6,000 lbs or more) placed in service after December 31, 2017, and for which the additional first-year depreciation deduction is not claimed, the maximum amount of allowable depreciation is $10,000 for the year in which the vehicle is placed in service, $16,000 for the second year, $9,600 for the third year, and $5,760 for the fourth and later years in the recovery period. The limitations are indexed for inflation for luxury passenger automobiles placed in service after 2018.

The Conference Bill removes computer or peripheral equipment from the definition of listed property. Such property is therefore not subject to the heightened substantiation requirements that apply to listed property.

The Conference Bill proposal would be effective for property placed in service after December 31, 2017.

Modifications of Treatment of Certain Farm Property

The Conference Bill shortens the recovery period from 7 to 5 years for any machinery or equipment (other than any grain bin, cotton ginning asset, fence, or other land improvement) used in a farming business, the original use of which begins with the taxpayer and is placed in service after December 31, 2017.

The Conference Bill also repeals the required use of the 150-percent declining balance method for property used in a farming business (i.e., for 3-, 5-, 7-, and 10-year property). The 150-percent declining balance method will continue to apply to any 15-year or 20-year property used in the farming business to which the straight line method does not apply, or to property for which the taxpayer elects the use of the 150-percent declining balance method.

The proposal in the Conference Bill would be effective for property placed in service after December 31, 2017.

Modification of Net Operating Loss (NOL) Deduction

The Conference Bill limits the NOL deduction to 80 percent of taxable income (determined without regard to the deduction). Carryovers to other years are adjusted to take account of this limitation, and may be carried forward indefinitely.

The proposal repeals the two-year carryback and the special carryback provisions in current law, but provides a two-year carryback in the case of certain losses incurred in the trade or business of farming. In addition, the Conference Bill provides a two-year carryback and 20-year carryforward for NOLs of a property and casualty insurance company.

The Conference Bill provision would apply to losses arising in taxable years beginning after December 31, 2017.

Modification of Like-Kind Exchange Rules

The Conference Bill modifies the provision providing for nonrecognition of gain in the case of like-kind exchanges by limiting its application to real property that is not held primarily for sale.

The Conference Bill proposal would generally apply to exchanges completed after December 31, 2017. However, an exception is provided for any exchange if the property disposed of by the taxpayer in the exchange is disposed of on or before December 31, 2017, or the property received by the taxpayer in the exchange is received on or before such date.

Modification of Alternative Depreciation System Recovery Period for Residential Rental Property

The Conference Bill shortens the alternative depreciation system (ADS) recovery period for residential rental property from 40 to 30 years. It also allows an electing real property trade or business to use the ADS recovery period in depreciating real and qualified improvement property.

Observation: The Senate Bill had shortened the recovery period for determining the depreciation deduction with respect to nonresidential real property from 39 years to 25 years and for residential rental property from 27.5 years to 25 years. Under the Senate Bill, such property placed in service before 2018 would have been treated as having a new placed-in-service date of January 1, 2018, if it resulted in more advantageous deductions. However, this provision was eliminated in the Conference Bill.

Elimination of Separate Definitions Relating to Qualified Leasehold Improvements, Qualified Restaurant, and Qualified Retail Improvement Property

The Conference Bill eliminates the separate definitions of qualified leasehold improvement, qualified restaurant, and qualified retail improvement property, and provides a general 15-year recovery period for qualified improvement property, and a 20-year ADS recovery period for such property. Thus, for example, qualified improvement property placed in service after December 31, 2017, is generally depreciable over 15 years using the straight line method and half-year convention, without regard to whether the improvements are property subject to a lease, placed in service more than three years after the date the building was first placed in service, or made to a restaurant building. Restaurant building property placed in service after December 31, 2017, that does not meet the definition of qualified improvement property is depreciable over 39 years as nonresidential real property, using the straight line method and the mid-month convention.

As a conforming amendment, the Conference Bill replaces the references in Code Sec. 179(f) to qualified leasehold improvement property, qualified restaurant property, and qualified retail improvement property with a reference to qualified improvement property.

The Conference Bill also requires a real property trade or business electing out of the limitation on the deduction for interest to use ADS to depreciate any of its nonresidential real property, residential rental property, and qualified improvement property.

The Conference Bill proposals would be effective for property placed in service after December 31, 2017.

Modification of Treatment of S Corporation Conversions to C Corporations

The Conference Bill provides that any Code Sec. 481(a) adjustment of an eligible terminated S corporation attributable to the revocation of its S corporation election (i.e., a change from the cash method to an accrual method) is taken into account ratably during the six-taxable-year period beginning with the year of change. An eligible terminated S corporation is any C corporation which (1) is an S corporation the day before the enactment of the Conference Bill, (2) during the two-year period beginning on the date of such enactment revokes its S corporation election under Code Sec. 1362(a), and (3) all of the owners of which on the date the S corporation election is revoked are the same owners (and in identical proportions) as the owners on the date of such enactment.

Under the provision, in the case of a distribution of money by an eligible terminated S corporation, the accumulated adjustments account shall be allocated to such distribution, and the distribution shall be chargeable to accumulated earnings and profits, in the same ratio as the amount of the accumulated adjustments account bears to the amount the accumulated earnings and profits.

The Conference Bill provision would be effective upon enactment.

Modification of Orphan Drug Credit

The Conference Bill reduces the Orphan Drug Credit rate to 25 percent (instead of current law’s 50 percent rate) of qualified clinical testing expenses, has reporting requirements similar to those required in Code Sec. 48C and Code Sec. 48D, and, would strike any base amount calculation and strike the limitation regarding qualified clinical testing expenses to the extent such testing relates to a drug which has previously been approved under Section 505 of the Federal Food, Drug, and Cosmetic Act.

The Conference Bill provision would apply to amounts paid or incurred in taxable years beginning after December 31, 2017.

Small Business Cash Accounting Method Reform and Simplification

The Conference Bill expands the universe of taxpayers that may use the cash method of accounting. Under the provision, the cash method of accounting may be used by taxpayers, other than tax shelters, that satisfy a gross receipts test, regardless of whether the purchase, production, or sale of merchandise is an income-producing factor. The gross receipts test allows taxpayers with annual average gross receipts that do not exceed $25 million for the three prior taxable-year period (the “$25 million gross receipts test”) to use the cash method. The $25 million amount is indexed for inflation for taxable years beginning after 2018.

The provision expands the universe of farming C corporations (and farming partnerships with a C corporation partner) that may use the cash method to include any farming C corporation (or farming partnership with a C corporation partner) that meets the $25 million gross receipts test.

The Conference Bill retains the exceptions from the required use of the accrual method for qualified personal service corporations and taxpayers other than C corporations. Thus, qualified personal service corporations, partnerships without C corporation partners, S corporations, and other passthrough entities are allowed to use the cash method without regard to whether they meet the $25 million gross receipts test, so long as the use of such method clearly reflects income.

The Conference Bill provisions to expand the universe of taxpayers eligible to use the cash method apply to taxable years beginning after December 31, 2017. The change to the cash method is a change in the taxpayer’s method of accounting for purposes of Code Sec. 481

Modification of Inventory Classification Rules for Small Businesses

The Conference Bill exempts certain taxpayers from the requirement to keep inventories. Specifically, taxpayers that meet the $25 million gross receipts test are not required to account for inventories under Code Sec. 471, but rather may use a method of accounting for inventories that either (1) treats inventories as non-incidental materials and supplies, or (2) conforms to the taxpayer’s financial accounting treatment of inventories.

The Conference Bill expands the exception for small taxpayers from the uniform capitalization rules. Under the provision, any producer or reseller that meets the $25 million gross receipts test is exempted from the application of Code Sec. 263A. The provision retains the exemptions from the uniform capitalization rules that are not based on a taxpayer’s gross receipts. Finally, the provision expands the exception for small construction contracts from the requirement to use the percentage-of-completion method. Under the provision, contracts within this exception are those contracts for the construction or improvement of real property if the contract: (1) is expected (at the time such contract is entered into) to be completed within two years of commencement of the contract and (2) is performed by a taxpayer that (for the taxable year in which the contract was entered into) meets the $25 million gross receipts test.

Under the Conference Bill, a taxpayer who fails the $25 million gross receipts test would not be eligible for any of the aforementioned exceptions (i.e., from the accrual method, from keeping inventories, from applying the uniform capitalization rules, or from using the percentage-of completion method) for such taxable year.

The Conference Bill provisions to exempt certain taxpayers from the requirement to keep inventories, and expand the exception from the uniform capitalization rules is a change in the taxpayer’s method of accounting for purposes of Code Sec. 481. Application of the exception for small construction contracts from the requirement to use the percentage-of-completion method is applied on a cutoff basis for all similarly classified contracts (hence there is no adjustment under Code Sec. 481(a) for contracts entered into before January 1, 2018).

The Conference Bill provisions to expand the universe of taxpayers eligible to use the cash method, exempt certain taxpayers from the requirement to keep inventories, and expand the exception from the uniform capitalization rules apply to taxable years beginning after December 31, 2017. The provision to expand the exception for small construction contracts from the requirement to use the percentage-of-completion method applies to contracts entered into after December 31, 2017, in taxable years ending after such date.

Exceptions to Using Uniform Capitalization Rules Expanded

The Conference Bill expands the exception for small taxpayers being subject to the uniform capitalization accounting method rules. Under the proposal, any producer or reseller that meets a $25 million gross receipts test is exempted from the application of Code Sec. 263A. In the case of a sole proprietorship, the $25 million gross receipts test is applied as if the sole proprietorship is a corporation or partnership. The proposal retains the exemptions from the uniform capitalization rules that are not based on a taxpayer’s gross receipts.

If a taxpayer changes its method of accounting because it is either no longer required or is required to apply Code Sec. 263A by reason of this proposal, such change is treated as initiated by the taxpayer and made with the consent of the Secretary.

The Conference bill proposal would apply to taxable years beginning after December 31, 2017. Application of these rules would be a change in the taxpayer’s method of accounting for purposes of Code Sec. 481.

Increase in Gross Receipts Test for Construction Contract Exception to Percentage of Completion Accounting Method

The Conference Bill expands the exception for small construction contracts from the requirement to use the percentage-of-completion accounting method. Under the proposal, contracts within this exception are those contracts for the construction or improvement of real property if the contract:

(1) is expected (at the time such contract is entered into) to be completed within two years of commencement of the contract; and

(2) is performed by a taxpayer that (for the taxable year in which the contract was entered into) meets the $25 million gross receipts test.

In the case of a sole proprietorship, the $25 million gross receipts test is applied as if the sole proprietorship is a corporation or partnership. The Conference Bill proposal would apply to contracts entered into after December 31, 2017, in taxable years ending after such date. Application of this rule would be a change in the taxpayer’s method of accounting for purposes of Code Sec. 481, but is applied on a cutoff basis for all similarly classified contracts (hence there is no adjustment under Code Sec. 481(a) for contracts entered into before January 1, 2018).

Modification of Accounting Method Rules Relating to Income Recognition

The Conference Bill revises the rules associated with the recognition of income. Specifically, the proposal requires a taxpayer to recognize income no later than the taxable year in which such income is taken into account as income on an applicable financial statement or another financial statement under rules specified by the Secretary, but provides an exception for long-term contract income to which Code Sec. 460 applies.

The proposal also codifies the current deferral method of accounting for advance payments for goods and services provided by the IRS under Rev. Proc. 2004-34. That is, the proposal allows taxpayers to defer the inclusion of income associated with certain advance payments to the end of the tax year following the tax year of receipt if such income also is deferred for financial statement purposes.

In addition, the proposal directs taxpayers to apply the revenue recognition rules under Code Sec. 451before applying the OID rules under Code Sec.1272.

Observation: Thus, for example, to the extent amounts are included in income for financial statement purposes when received (e.g., late payment fees, cash-advance fees, or interchange fees), such amounts generally are includable in income at such time in accordance with the general recognition principles under Code Sec. 451.

In the case of any taxpayer required by this proposal to change its method of accounting for its first taxable year beginning after December 31, 2017, such change is treated as initiated by the taxpayer and made with the consent of the Secretary.

The Conference Bill proposal would apply to taxable years beginning after December 31, 2017, and application of these rules would be a change in the taxpayer’s method of accounting for purposes of Code Sec. 481.

Changes to Interest Deduction Rules

Under the Conference Bill, in the case of any taxpayer for any taxable year, the deduction for business interest is limited to the sum of business interest income plus 30 percent of the adjusted taxable income of the taxpayer for the taxable year. There is an exception to this limitation, however, for floor plan financing, which is a specialized type of financing used by car dealerships and certain regulated utilities.

The Conference Bill also exempts from the limitation taxpayers with average annual gross receipts for the three-taxable year period ending with the prior taxable year that do not exceed $25 million. In addition, for purposes of defining floor plan financing, the Conference Bill modifies the definition of motor vehicle by deleting the specific references to an automobile, a truck, a recreational vehicle, and a motorcycle because those terms are encompassed in the phrase, “any self-propelled vehicle designed for transporting persons or property on a public street, highway, or road.”

At the taxpayer’s election, any real property development, redevelopment, construction, reconstruction, acquisition, conversion, rental, operation, management, leasing, or brokerage trade or business is not treated as a trade or business for purposes of the limitation, and therefore the limitation does not apply to such trades or businesses. The limitation also does not apply to certain regulated public utilities. Specifically, the trade or business of the furnishing or sale of (1) electrical energy, water, or sewage disposal services, (2) gas or steam through a local distribution system, or (3) transportation of gas or steam by pipeline, if the rates for such furnishing or sale, as the case may be, have been established or approved by a State or political subdivision thereof, by any agency or instrumentality of the United States, or by a public service or public utility commission or other similar body of any State or political subdivision thereof is not treated as a trade or business for purposes of the limitation.

The amount of any interest not allowed as a deduction for any taxable year may be carried forward indefinitely. The limitation applies at the taxpayer level. In the case of a group of affiliated corporations that file a consolidated return, it applies at the consolidated tax return filing level. A farming business, including agricultural and horticultural cooperatives, may elect not to be subject to this limitation if the business uses the alternative depreciation system to depreciate any property used in the farming business with a recovery period of 10 years or more. An electing real property trade or business may also elect out of the interest deduction limitation if the business also uses the alternative depreciation system to depreciate its property.

Business interest means any interest paid or accrued on indebtedness properly allocable to a trade or business. Any amount treated as interest for purposes of the Internal Revenue Code is interest for purposes of the proposal. Business interest income means the amount of interest includible in the gross income of the taxpayer for the taxable year which is properly allocable to a trade or business. Business interest does not include investment interest, and business interest income does not include investment income, within the meaning of Code Sec. 163(d).

By including business interest income in the limitation, the rule operates to limit the deduction for net interest expense to 30 percent of adjusted taxable income. That is, a deduction for business interest is permitted to the full extent of business interest income. To the extent that business interest exceeds business interest income, the deduction for the net interest expense is limited to 30 percent of adjusted taxable income.

Generally, adjusted taxable income means the taxable income of the taxpayer computed without regard to:

(1) any item of income, gain, deduction, or loss which is not properly allocable to a trade or business (but see below for special rules for tax years beginning after 2017 and before 2022);

(2) any business interest or business interest income;

(3) the 23 percent deduction for certain pass-through income; and

(4) the amount of any net operating loss deduction.

However, under the Conference Bill, for taxable years beginning after December 31, 2017 and before January 1, 2022, adjusted taxable income is computed without regard to deductions allowable for depreciation, amortization, or depletion. Additionally, because the Conference Bill repeals Code Sec. 199 effective December 31, 2017 (see discussion below), adjusted taxable income is computed without regard to such deduction.

The Conference Bill would authorize the IRS to provide other adjustments to the computation of adjusted taxable income.

Application to pass-through entities. In the case of any partnership, the limitation is applied at the partnership level. Any deduction for business interest is taken into account in determining the nonseparately stated taxable income or loss of the partnership. To prevent double counting, special rules are provided for the determination of the adjusted taxable income of each partner of the partnership. Similarly, to allow for additional interest deduction by a partner in the case of an excess amount of unused adjusted taxable income limitation of the partnership, special rules apply. Similar rules apply with respect to any S corporation and its shareholders.

Double counting rule. The adjusted taxable income of each partner (or shareholder, as the case may be) is determined without regard to such partner’s distributive share of the nonseparately stated income or loss of such partnership. In the absence of such a rule, the same dollars of adjusted taxable income of a partnership could generate additional interest deductions as the income is passed through to the partners .

Additional deduction limit. The limit on the amount allowed as a deduction for business interest is increased by a partner’s distributive share of the partnership’s excess taxable income. The excess taxable income with respect to any partnership is the amount which bears the same ratio to the partnership’s adjusted taxable income as the excess (if any) of 30 percent of the adjusted taxable income of the partnership over the amount (if any) by which the business interest of the partnership exceeds the business interest income of the partnership bears to 30 percent of the adjusted taxable income of the partnership. This allows a partner of a partnership to deduct additional interest expense the partner may have paid or incurred to the extent the partnership could have deducted more business interest. The Conference Bill requires that excess taxable income be allocated in the same manner as nonseparately stated income and loss.

Carryforward of disallowed business interest. The amount of any business interest not allowed as a deduction for any taxable year is treated as business interest paid or accrued in the succeeding taxable year. Business interest may be carried forward indefinitely. With respect to the limitation on deduction of interest by domestic corporations which are United States shareholders that are members of worldwide affiliated groups with excess domestic indebtedness, whichever rule imposes the lower limitation on the deduction of interest with respect to the taxable year (and therefore the greatest amount of interest to be carried forward) governs.

The trade or business of performing services as an employee is not treated as a trade or business for purposes of the limitation. As a result, for example, the wages of an employee are not counted in the adjusted taxable income of the taxpayer for purposes of determining the limitation.

The Conference Bill proposal would apply to taxable years beginning after December 31, 2017.

Repeal of Domestic Activities Production Deduction

Under the Conference Bill, the deduction in Code Sec. 199 for domestic production activities is repealed.

The Conference Bill provision applies to taxable years beginning after December 31, 2017.

Limitation on Deduction by Employers of Expenses for Fringe Benefits

The Conference Bill provides that no deduction is allowed with respect to –

(1) an activity generally considered to be entertainment, amusement or recreation;

(2) membership dues with respect to any club organized for business, pleasure, recreation or other social purposes; or

(3) a facility or portion thereof used in connection with any of the above items.

Thus, the proposal repeals the present-law exception to the deduction disallowance for entertainment, amusement, or recreation that is directly related to (or, in certain cases, associated with) the active conduct of the taxpayer’s trade or business (and the related rule applying a 50 percent limit to such deductions). The Conference Bill also disallows a deduction for expenses associated with providing any qualified transportation fringe to employees of the taxpayer, and except as necessary for ensuring the safety of an employee, any expense incurred for providing transportation (or any payment or reimbursement) for commuting between the employee’s residence and place of employment.

Taxpayers may still generally deduct 50 percent of the food and beverage expenses associated with operating their trade or business (e.g., meals consumed by employees on work travel). For amounts incurred and paid after December 31, 2017 and until December 31, 2025, the provision expands this 50 percent limitation to expenses of the employer associated with providing food and beverages to employees through an eating facility that meets requirements for de minimis fringes and for the convenience of the employer. Such amounts incurred and paid after December 31, 2025 are not deductible.

The Conference Bill proposal generally applies to amounts paid or incurred after December 31, 2017. However, for expenses of the employer associated with providing food and beverages to employees through an eating facility that meets requirements for de minimis fringes and for the convenience of the employer, amounts paid or incurred after December 31, 2025 are not deductible.

Repeal of Deduction for Local Lobbying Expenses

The Conference Bill disallows deductions for lobbying expenses with respect to legislation before local government bodies (including Indian tribal governments), effective for amounts paid or incurred on or after the date of enactment.

Limitation on Deduction Relating to FDIC Premiums

Under the Conference Bill, no deduction is allowed for the applicable percentage of any FDIC premium paid or incurred by certain large financial institutions. For taxpayers with total consolidated assets of $50 billion or more, the applicable percentage is 100 percent. Otherwise, the applicable percentage is the ratio of the excess of total consolidated assets over $10 billion to $40 billion. The proposal does not apply to taxpayers with total consolidated assets (as of the close of the taxable year) that do not exceed $10 billion. The provision applies to taxable years beginning after December 31, 2017.

Contributions to Capital

While the Conference Bill retains Code Sec. 118, a provision the House Bill had sought to repeal, it provides that the term “contributions to capital” does not include –

(1) any contribution in aid of construction or any other contribution as a customer or potential customer, and

(2) any contribution by any governmental entity or civic group (other than a contribution made by a shareholder as such).

The Conference Report states that the conferees intend that, as modified, Code Sec. 118, which under current law provides that the gross income of a corporation does not include any contributions to capital, will continue to apply only to corporations.

The Conference Bill provision will apply to contributions made after the date of enactment. However, the provision will not apply to any contribution made after the date of enactment by a governmental entity pursuant to a master development plan that has been approved prior to such date by a governmental entity.

Tax Credits

The Conference Bill modifies the rehabilitation credit in Code Sec. 47.

Observation: While both the House Bill and the Senate Bill would have repealed the deduction in Code Sec. 196 for certain unused business credits, the repeal of that provision did not make it into the Conference Bill.

Change in Determination of Cost Basis of Specified Securities

The Conference Bill does not include a controversial provision in the Senate Bill which would have required that the cost of any specified security sold, exchanged, or otherwise disposed of on or after January 1, 2018, generally be determined on a first-in first-out basis except to the extent the average basis method is otherwise allowed (as in the case of stock of a regulated investment company). The Senate’s proposal had included several conforming amendments, including a rule restricting a broker’s basis reporting method to the first-in first-out method in the case of the sale of any stock for which the average basis method was not permitted.

Repeal of Rollover of Publicly Traded Securities Gain into Specialized Small Business Investment Companies

The Conference Bill repeals the election that could be made by a corporation or individual to roll over tax-free any capital gain realized on the sale of publicly-traded securities to the extent of the taxpayer’s cost of purchasing common stock or a partnership interest in a specialized small business investment company within 60 days of the sale. The amount of gain that an individual could elect to roll over under this provision for a taxable year was limited to (1) $50,000 or (2) $500,000 reduced by the gain previously excluded under this provision. For corporations, these limits were $250,000 and $1 million, respectively.

The Conference Bill provision would apply to sales after December 31, 2017.

Certain Self-Created Property Not Treated as a Capital Asset

The Conference Bill amends Code Sec. 1221(a)(3), resulting in the exclusion of a patent, invention, model or design (whether or not patented), and a secret formula or process which is held either by the taxpayer who created the property or a taxpayer with a substituted or transferred basis from the taxpayer who created the property (or for whom the property was created) from the definition of a “capital asset.” Thus, gains or losses from the sale or exchange of a patent, invention, model or design (whether or not patented), or a secret formula or process which is held either by the taxpayer who created the property or a taxpayer with a substituted or transferred basis from the taxpayer who created the property (or for whom the property was created) will not receive capital gain treatment.

The Conference Bill proposal would apply to dispositions after December 31, 2017.

Repeal of Technical Termination of Partnerships

The Conference Bill repeals the Code Sec. 708(b)(1)(B) rule providing for technical terminations of partnerships. The provision does not change the present-law rule of Code Sec. 708(b)(1)(A) that a partnership is considered as terminated if no part of any business, financial operation, or venture of the partnership continues to be carried on by any of its partners in a partnership.

The Conference Bill provision would apply to partnership taxable years beginning after December 31, 2017

Recharacterization of Certain Gains in The Case of Partnership Profits Interests Held in Connection With Performance of Investment Services

The Conference Bill provides for a three-year holding period in the case of certain net long-term capital gain with respect to any applicable partnership interest held by the taxpayer. The Conference Bill clarifies the interaction of Code Sec. 83 with the provision’s three-year holding requirement, which applies notwithstanding the rules of Code Sec. 83 or any election in effect under Code Sec. 83(b). Under the provision, the fact that an individual may have included an amount in income upon acquisition of the applicable partnership interest, or that an individual may have made a Code Sec. 83(b) election with respect to an applicable partnership interest, does not change the three-year holding period requirement for long-term capital gain treatment with respect to the applicable partnership interest. Thus, the provision treats as short-term capital gain taxed at ordinary income rates the amount of the taxpayer’s net long-term capital gain with respect to an applicable partnership interest for the taxable year that exceeds the amount of such gain calculated as if a three-year (not one-year) holding period applies. In making this calculation, the provision takes account of long-term capital losses calculated as if a three-year holding period applies.

The Conference Bill provision would apply to tax years beginning after December 31, 2017.

Compensation and Benefits

Modification of Limitation on Excessive Employee Remuneration. The Conference Bill revises the definition of covered employee to include both the principal executive officer and the principal financial officer. Further, an individual is a covered employee if the individual holds one of these positions at any time during the taxable year. The proposal also defines as a covered employee the three (rather than four) most highly compensated officers for the taxable year (other than the principal executive officer or principal financial officer) who are required to be reported on the company’s proxy statement for the taxable year (or who would be required to be reported on such a statement for a company not required to make such a report to shareholders). The proposal would apply to tax years beginning after December 31, 2017. However, there is a transition rule which provides that the proposed changes do not apply to any remuneration under a written binding contract which was in effect on November 2, 2017, and which was not modified after this date in any material respect, and to which the right of the covered employee was no longer subject to a substantial risk of forfeiture on or before December 31, 2016.

Excise Tax on Excess Tax-Exempt Organization Executive Compensation . Under the Conference Bill, an employer is liable for an excise tax equal to 21 percent of the sum of the (1) remuneration (other than an excess parachute payment) in excess of $1 million paid to a covered employee by an applicable tax-exempt organization for a taxable year, and (2) any excess parachute payment (under a new definition for this purpose that relates solely to separation pay) paid by the applicable tax-exempt organization to a covered employee. Accordingly, the excise tax applies as a result of an excess parachute payment, even if the covered employee’s remuneration does not exceed $1 million. The proposal would apply to tax years beginning after December 31, 2017.

Treatment of Qualified Equity Grants. Under the Conference Bill, a qualified employee can elect to defer, for income tax purposes, the inclusion in income of the amount of income attributable to qualified stock transferred to the employee by the employer. An election to defer income inclusion (inclusion deferral election) with respect to qualified stock must be made no later than 30 days after the first time the employee’s right to the stock is substantially vested or is transferable, whichever occurs earlier. If an employee elects to defer income inclusion under the provision, the income must be included in the employee’s income for the taxable year that includes the earliest of (1) the first date the qualified stock becomes transferable, including, solely for this purpose, transferable to the employer; (2) the date the employee first becomes an excluded employee (as described below); (3) the first date on which any stock of the employer becomes readily tradable on an established securities market; (4) the date five years after the first date the employee’s right to the stock becomes substantially vested; or (5) the date on which the employee revokes her inclusion deferral election. Deferred income inclusion applies also for purposes of the employer’s deduction of the amount of income attributable to the qualified stock. The provision generally applies with respect to stock attributable to options exercised or RSUs settled after December 31, 2017.

Excise Tax on Stock Compensation in an Inversion Transaction. The Conference Bill increases the excise tax on stock compensation in an inversion transaction from 15 percent to 20 percent. The Conference Bill provision applies to corporations first becoming expatriated corporations after the date of enactment.

Partnerships

Tax Gain on the Sale of a Partnership Interest on a Look-through Basis. Under the Conference Bill, gain or loss from the sale or exchange of a partnership interest is effectively connected with a U.S. trade or business to the extent that the transferor would have had effectively connected gain or loss had the partnership sold all of its assets at fair market value as of the date of the sale or exchange. The proposal requires that any gain or loss from the hypothetical asset sale by the partnership be allocated to interests in the partnership in the same manner as nonseparately stated income and loss.

The Conference Bill also requires the transferee of a partnership interest to withhold 10 percent of the amount realized on the sale or exchange of a partnership interest unless the transferor certifies that the transferor is not a nonresident alien individual or foreign corporation. If the transferee fails to withhold the correct amount, the partnership is required to deduct and withhold from distributions to the transferee partner an amount equal to the amount the transferee failed to withhold.

The Conference Bill provision treating gain or loss on sale of a partnership interest as effectively connected income is effective for sales, exchanges, and dispositions on or after November 27, 2017. The portion of the provision requiring withholding on sales or exchanges of partnership interests is effective for sales, exchanges, and dispositions after December 31, 2017.

Modification of the Definition of Substantial Built-in Loss on Transfers of a Partnership Interest. The Conference Bill modifies the definition of a substantial built-in loss for purposes of Code Sec. 743(d), affecting transfers of partnership interests. Under the proposal, in addition to the present-law definition, a substantial built-in loss also exists if the transferee would be allocated a net loss in excess of $250,000 upon a hypothetical disposition by the partnership of all partnership’s assets in a fully taxable transaction for cash equal to the assets’ fair market value, immediately after the transfer of the partnership interest.

Example: ABC Partnership has three taxable partners (partners A, B, and C). ABC has not made an election pursuant to Code Sec. 754. The partnership has two assets, one of which, Asset X, has a built-in gain of $1 million, while the other asset, Asset Y, has a built-in loss of $900,000. Pursuant to the ABC partnership agreement, any gain on sale or exchange of Asset X is specially allocated to partner A. The three partners share equally in all other partnership items, including in the built-in loss in Asset Y. In this case, each of partner B and partner C has a net built-in loss of $300,000 (one third of the loss attributable to asset Y) allocable to his partnership interest. Nevertheless, the partnership does not have an overall built-in loss, but a net built-in gain of $100,000 ($1 million minus $900,000). Partner C sells his partnership interest to another person, D, for $33,333. Under the Senate’s proposal, the test for a substantial built-in loss applies both at the partnership level and at the transferee partner level. If the partnership were to sell all its assets for cash at their fair market value immediately after the transfer to D, D would be allocated a loss of $300,000 (one third of the built-in loss of $900,000 in Asset Y). The partnership does not have a substantial built-in loss, but a substantial built-in loss exists under the partner-level test, and the partnership adjusts the basis of its assets accordingly with respect to D.

The Conference Bill proposal would apply to transfers of partnership interests after December 31, 2017.

Charitable Contributions and Foreign Taxes Taken into Account in Determining Limitation on Allowance of Partner’s Share of Loss. The Conference Bill modifies the basis limitation on partner losses to provide that a partner’s distributive share of items that are not deductible in computing the partnership’s taxable income, and not properly chargeable to capital account, are allowed only to the extent of the partner’s adjusted basis in its partnership interest at the end of the partnership taxable year in which the expenditure occurs. Thus, the basis limitation on partner losses applies to a partner’s distributive share of charitable contributions and foreign taxes. A partner’s distributive share of loss takes into account the partner’s distributive share of charitable contributions and foreign taxes for purposes of the basis limitation on partner losses. In the case of a charitable contribution of property whose fair market value exceeds its adjusted basis, the basis limitation on partner losses does not apply to the extent of the partner’s distributive share of such excess.

The Conference Bill proposal would apply to partnership taxable years beginning after December 31, 2017.

Amortization of Research and Experimental Expenditures

Under the Conference Bill, amounts defined as specified research or experimental expenditures are required to be capitalized and amortized ratably over a five-year period, beginning with the midpoint of the taxable year in which the specified research or experimental expenditures were paid or incurred. Specified research or experimental expenditures which are attributable to research that is conducted outside of the United States are required to be capitalized and amortized ratably over a period of 15 years, beginning with the midpoint of the taxable year in which such expenditures were paid or incurred. Specified research or experimental expenditures subject to capitalization include expenditures for software development. Specified research or experimental expenditures do not include expenditures for land or for depreciable or depletable property used in connection with the research or experimentation, but do include the depreciation and depletion allowances of such property. Also excluded are exploration expenditures incurred for ore or other minerals (including oil and gas).

This rule would be applied on a cutoff basis to research or experimental expenditures paid or incurred in taxable years beginning after December 31, 2025 (hence there is no adjustment under Code Sec. 481(a) for research or experimental expenditures paid or incurred in taxable years beginning before January 1, 2026).

The Conference Bill proposal would apply to amounts paid or incurred in taxable years beginning after December 31, 2025.

Employer Credit for Paid Family and Medical Leave

This Conference Bill allows eligible employers to claim a general business credit equal to 12.5 percent of the amount of wages paid to qualifying employees during any period in which such employees are on family and medical leave (FMLA) if the rate of payment under the program is 50 percent of the wages normally paid to an employee. The credit would be increased by 0.25 percentage points (but not above 25 percent) for each percentage point by which the rate of payment exceeds 50 percent.

The Conference Bill proposal would generally be effective for wages paid in taxable years beginning after December 31, 2017.

Modify Tax Treatment of Alaska Native Corporations and Settlement Trusts

The Conference Bill addresses the tax treatment of Alaska Native Corporations and settlement trusts in three separate but related sections. The first section would allow a Native Corporation to assign certain payments described in the Alaska Native Claims Settlement Act (ANCSA) to a Settlement Trust without having to recognize gross income from those payments, provided the assignment is in writing and the Native Corporation has not received the payment prior to assignment. The Settlement Trust is required to include the assigned payment in gross income when received. The second section allows a Native Corporation to elect annually to deduct contributions made to a Settlement Trust. The third section of the proposal requires any Native Corporation which has made an election to deduct contributions to a Settlement Trust as described above to furnish a statement to the Settlement Trust containing: (1) the total amount of contributions; (2) whether such contribution was in cash; (3) for non-cash contributions, the date that such property was acquired by the Native Corporation and the adjusted basis of such property on the contribution date; (4) the date on which each contribution was made to the Settlement Trust; and (5) such information as the Secretary determines is necessary for the accurate reporting of income relating to such contributions.

The Conference Bill proposal relating to the exclusion for ANCSA payments assigned to Settlement Trusts would be effective to taxable years beginning after December 31, 2016. The proposal relating to the reporting requirement would apply to taxable years beginning after December 31, 2016.

Expansion of Qualifying Beneficiaries of an Electing Small Business Trust (ESBT)

The Conference Bill allows a nonresident alien individual to be a potential current beneficiary of an ESBT. The proposal would take effect on January 1, 2018.

Charitable Contribution Deduction for ESBTs

The Conference Bill provides that the charitable contribution deduction of an ESBT is not determined by the rules generally applicable to trusts but rather by the rules applicable to individuals. Thus, the percentage limitations and carryforward provisions applicable to individuals apply to charitable contributions made by the portion of an ESBT holding S corporation stock.

The Conference Bill proposal would apply to taxable years beginning after December 31, 2017.

Deductibility of Penalties and Fines for Federal Income Tax Purposes

The Conference Bill denies deductibility for any otherwise deductible amount paid or incurred (whether by suit, agreement, or otherwise) to or at the direction of a government or specified nongovernmental entity in relation to the violation of any law or the investigation or inquiry by such government or entity into the potential violation of any law. An exception applies to payments that the taxpayer establishes are either restitution (including remediation of property) or amounts required to come into compliance with any law that was violated or involved in the investigation or inquiry, that are identified in the court order or settlement agreement as restitution, remediation, or required to come into compliance. In the case of any amount of restitution for failure to pay any tax and assessed as restitution under the Code, such restitution is deductible only to the extent it would have been allowed as a deduction if it had been timely paid. Restitution or included remediation of property does not include reimbursement of government investigative or litigation costs.

The proposal applies only where a government (or other entity treated in a manner similar to a government under the provision) is a complainant or investigator with respect to the violation or potential violation of any law. An exception also applies to any amount paid or incurred as taxes due.

The Conference Bill proposal would be effective for amounts paid or incurred after the date of enactment, except that it would not apply to amounts paid or incurred under any binding order or agreement entered into before such date. Such exception does not apply to an order or agreement requiring court approval unless the approval was obtained before such date.

Aircraft Management Services

The Conference Bill exempts certain payments related to the management of private aircraft from the excise taxes imposed on taxable transportation by air, effective for amounts paid after the date of enactment.

Qualified Opportunity Zones

The Conference Bill provides for the temporary deferral of inclusion in gross income for capital gains reinvested in a qualified opportunity fund and the permanent exclusion of capital gains from the sale or exchange of an investment in the qualified opportunity fund. The proposal allows for the designation of certain low-income community population census tracts as qualified opportunity zones, where low-income communities are defined in Code Sec. 45D(e). The designation of a population census tract as a qualified opportunity zone remains in effect for the period beginning on the date of the designation and ending at the close of the tenth calendar year beginning on or after the date of designation. The proposal would be effective on the date of enactment.

Expensing of Certain Costs of Replanting Citrus Plants Lost by Reason of Casualty

The Conference Bill modifies the special rule for costs incurred by persons other than the taxpayer in connection with replanting an edible crop for human consumption following loss or damage due to casualty. Under the proposal, with respect to replanting costs paid or incurred after the date of enactment, but no later than a date which is ten years after such date of enactment, for citrus plants lost or damaged due to casualty, such costs may also be deducted by a person other than the taxpayer if (1) the taxpayer has an equity interest of not less than 50 percent in the replanted citrus plants at all times during the taxable year in which the replanting costs are paid or incurred and such other person holds any part of the remaining equity interest, or (2) such other person acquires all of the taxpayer’s equity interest in the land on which the lost or damaged citrus plants were located at the time of such loss or damage, and the replanting is on such land.

Denial of Deduction for Settlements Subject to a Nondisclosure Agreement Paid in Connection with Sexual Harassment or Sexual Abuse

Under the Conference Bill, no deduction is allowed for any settlement, payout, or attorney fees related to sexual harassment or sexual abuse if such payments are subject to a nondisclosure agreement. The proposal is effective for amounts paid or incurred after the date of enactment.

Repeal of Tax Credit Bonds

The Conference Bill prospectively repeals authority to issue tax-credit bonds and direct-pay bonds. The provisions would apply to bonds issued after December 31, 2017.

  1. Foreign-Related Changes

Deduction for Foreign-Source Portion of Dividends Received by Domestic Corporations from Specified 10-Percent Owned Foreign Corporations

The Conference Bill provides for an exemption for certain foreign income. This exemption is provided for by means of a 100-percent deduction for the foreign-source portion of dividends received from specified 10-percent owned foreign corporations by domestic corporations that are United States shareholders of those foreign corporations within the meaning of Code Sec. 951(b) (referred to as “DRD”). The proposal would be effective for distributions made (and for purposes of determining a taxpayer’s foreign tax credit limitation under Code Sec. 904, deductions in taxable years beginning) after December 31, 2017.

Special Rules Relating to Sales or Transfers Involving Specified 10-Percent Owned Foreign Corporations

The Conference Bill provides that In the case of the sale or exchange by a domestic corporation of stock in a foreign corporation held for one year or more, any amount received by the domestic corporation which is treated as a dividend for purposes of Code Sec. 1248, is treated as a dividend for purposes of applying the provision.

Solely for the purpose of determining a loss, the Conference Bill provides that a domestic corporate shareholder’s adjusted basis in the stock of a specified 10-percent owned foreign corporation (as defined in this provision) is reduced by an amount equal to the portion of any dividend received with respect to such stock from such foreign corporation that was not taxed by reason of a dividends received deduction allowable under Code Sec. 245A in any taxable year of such domestic corporation. This rule applies in coordination with Code Sec. 1059, such that any reduction in basis required pursuant to this provision will be disregarded, to the extent the basis in the specified 10-percent owned foreign corporation’s stock has already been reduced pursuant to section 1059.

The Conference bill also provides that, if for any taxable year of a controlled foreign corporation (CFC) beginning after December 31, 2017, an amount is treated as a dividend under Code Sec. 964(e)(1) because of a sale or exchange by the CFC of stock in another foreign corporation held for a year or more, then: (1) the foreign-source portion of the dividend is treated as subpart F income of the selling CFC for purposes of Code Sec. 951(a)(1)(A), (2) a United States shareholder with respect to the selling CFC includes in gross income for the taxable year of the shareholder with or within the tax year of the CFC ends, an amount equal to the shareholder’s pro rata share (determined in the same manner as under Code Sec. 951(a)(2)) of the amount treated as subpart F income under (1), and (3) the deduction under Code Sec. 245A(a) is allowable to the U.S. shareholder with respect to the subpart F income included in gross income under (2) in the same manner as if the subpart F income were a dividend received by the shareholder from the selling CFC.

In the case of a sale or exchange by a CFC of stock in another corporation in a taxable year of the selling CFC beginning after December 31, 2017, to which this provision applies if gain were recognized, rules similar to Code Sec. 961(d) apply.

Code Sec. 367 is amended to provide that in connection with any exchange described in Code Secs. 332351354356, or 361, if a U.S. person transfers property used in the active conduct of a trade or business to a foreign corporation, such foreign corporation shall not, for purposes of determining the extent to which gain shall be recognized on such transfer, be considered to be a corporation.

Under the Conference Bill, if a domestic corporation transfers substantially all of the assets of a foreign branch (within the meaning of Code Sec. 367(a)(3)(C)) as in effect before the date of enactment of TCJA) to a specified 10-percent owned foreign corporation with respect to which it is a U.S. shareholder after the transfer, the domestic corporation includes in gross income an amount equal to the transferred loss amount, subject to certain limitations.

The Conference Bill provisions relating to sales or exchanges of stock would apply to sales or exchanges after December 31, 2017. The provision relating to reduction of basis in certain foreign stock for the purposes of determining a loss would be effective for distributions made after December 31, 2017. The provisions relating to transfer of loss amounts from foreign branches to certain foreign corporations and to the repeal of the active trade or business would be effective for transfers after December 31, 2017.

Treatment of Deferred Foreign Income Upon Transition to Participation Exemption System of Taxation

The Conference Bill generally requires that, for the last taxable year beginning before January 1, 2018, any U.S. shareholder of a controlled foreign corporation, as well as all foreign corporations (other than PFICs) in which a U.S. person owns a 10-percent voting interest, must include in income its pro rata share of the undistributed, non-previously-taxed post-1986 foreign earnings of the corporation (“mandatory inclusion”). A special rule permits deferral of the transition net tax liability for shareholders of a U.S. shareholder that is an S corporation. The Conference Bill provision would be effective for the last taxable year of a foreign corporation that begins before January 1, 2018, and with respect to U.S. shareholders, for the taxable years in which or with which such taxable years of the foreign corporations end.

Current Year Inclusion of Global Intangible Low-Taxed Income by U.S. Shareholders

Under the Conference Bill, a U.S. shareholder of any CFC must include in gross income for a taxable year its global intangible low-taxed income (GILTI) in a manner generally similar to inclusions of subpart F income. GILTI means, with respect to any U.S. shareholder for the shareholder’s taxable year, the excess (if any) of the shareholder’s net CFC tested income over the shareholder’s net deemed tangible income return. The shareholder’s net deemed tangible income return is an amount equal to 10 percent of the aggregate of the shareholder’s pro rata share of the qualified business asset investment (QBAI) of each CFC with respect to which it is a U.S. shareholder. The proposal would be effective for taxable years of foreign corporations beginning after December 31, 2017, and for taxable years of U.S. shareholders in which or with which such taxable years of foreign corporations end.

Deduction for Foreign-Derived Intangible Income and Global Intangible Low-Taxed Income

The Conference Bill provides domestic corporations with reduced rates of U.S. tax on their foreign-derived intangible income (“FDII”) and global intangible low-taxed income (“GILTI”). GILTI is defined in new Code Sec. 951A, while a domestic corporation’s FDII is the portion of its intangible income, determined on a formulaic basis that is derived from serving foreign markets. For taxable years beginning after December 31, 2017, and before January 1, 2019, the effective tax rate on FDII is 21.875 percent and the effective U.S. tax rate on GILTI is 17.5 percent under the Senate amendment. For taxable years beginning after December 31, 2018, and before January 1, 2026, the effective tax rate on FDII is 12.5 percent and the effective U.S. tax rate on GILTI is 10 percent. For taxable years beginning after December 31, 2025, the effective tax rate on FDII is 15.625 percent and the effective U.S. tax rate on GILTI is 12.5 percent. The proposal would be effective for taxable years beginning after December 31, 2017.

Modifications of Subpart F Provisions

The Conference Bill would make the following modifications –

(1) eliminate the inclusion of foreign base company oil related income as a category of foreign base company income;

(2) repeal Code Sec. 955;

(3) amend the ownership attribution rules of Code Sec. 958(b);

(4) modify the definition of U.S. shareholder;

(5) eliminate the requirement that a corporation must be controlled for 30 days before subpart F inclusions apply;

(6) make permanent the exclusion from foreign personal holding company income for certain dividends, interest (including factoring income that is treated as equivalent to interest under Code Sec. 954(c)(1)(E)), rents, and royalties received or accrued by one CFC from a related CFC; and

(7) amend the requirement in subpart F that U.S. shareholders recognize income when earnings are repatriated in the form of increases in investment by a CFC in U.S. property to provide an exception for domestic corporations that are U.S. shareholders in the CFC either directly or through a domestic partnership.

Prevention of Base Erosion

The Conference Bill would make the following modifications –

(1) place limitations on income shifting through intangible property transfers;

(2) deny a deduction for any disqualified related party amount paid or accrued pursuant to a hybrid transaction or by, or to, a hybrid entity;

(3) provide rules that surrogate foreign corporations are not eligible for reduced rate on dividends; and

(4) modify the tax rate on base erosion payments of taxpayers with substantial gross receipts.

Modifications Related to Foreign Tax Credit System

The Conference Bill would (1) repeal the Code Sec. 902 indirect foreign tax credits and provide for the determination of Code Sec. 960 credit on current year basis; (2) require foreign branch income to be allocated to a specific foreign tax credit basket; (3) accelerate the effective date of the worldwide interest allocation rules to apply to taxable years beginning after December 31, 2017, rather than to taxable years beginning after December 31, 2020; and (4) allocate and apportion gains, profits, and income from the sale or exchange of inventory property produced partly in, and partly outside, the United States on the basis of the location of production with respect to the property.

Inbound Provisions

Under the Conference Bill, an applicable taxpayer is required to pay a tax equal to the base erosion minimum tax amount for the taxable year. The base erosion minimum tax amount means, with respect to an applicable taxpayer for any taxable year, the excess of 10-percent of the modified taxable income of the taxpayer for the taxable year over an amount equal to the regular tax liability of the taxpayer for the taxable year reduced (but not below zero) by the excess (if any) of credits allowed under Chapter 1 against such regular tax liability over the sum of: (1) the credit allowed under Code Sec. 38 for the taxable year which is properly allocable to the research credit determined under Code Sec. 41(a), plus (2) the portion of the applicable Code Sec. 38 credits not in excess of 80 percent of the lesser of the amount of such credits or the base erosion minimum tax amount (determined without regard to this clause (2)). For taxable years beginning after December 31, 2025, two changes would be made, (i) the 10-percent provided for above would be changed to 12.5-percent, and (ii) the regular tax liability would be reduced by the aggregate amount of the credits allowed under Chapter 1 (and no other adjustment made).

Modification of Insurance Exception to the Passive Foreign Investment Company Rules

The Conference Bill modifies the requirements for a corporation the income of which is not included in passive income for purposes of the PFIC rules. The proposal replaces the test based on whether a corporation is predominantly engaged in an insurance business with a test based on the corporation’s insurance liabilities. The requirement that the foreign corporation would be subject to tax under subchapter L if it were a domestic corporation is retained.

Repeal of Fair Market Value of Interest Expense Apportionment

The Conference Bill prohibits members of a U.S. affiliated group from allocating interest expense on the basis of the fair market value of assets for purposes of Code Sec. 864(e). Instead, the members must allocate interest expense based on the adjusted tax basis of assets. The provision would be effective for taxable years beginning after December 31, 2017.

  1. Retirement Plan-Related Changes

Partial Repeal of Special Rule Permitting Recharacterization of IRA Contributions

The Conference Bill partially repeals the special rule that allows IRA contributions to one type of IRA (either traditional or Roth) to be recharacterized as a contribution to the other type of IRA. Under the provision, the special rule that allows a contribution to one type of IRA to be recharacterized as a contribution to the other type of IRA does not apply to a conversion contribution to a Roth IRA. Thus, recharacterization cannot be used to unwind a Roth conversion. However, recharacterization is still permitted with respect to other contributions. For example, an individual may make a contribution for a year to a Roth IRA and, before the due date for the individual’s income tax return for that year, recharacterize it as a contribution to a traditional IRA.

An individual may still make a contribution to a traditional IRA and convert the traditional IRA to a Roth IRA, but the provision precludes the individual from later unwinding the conversion through a recharacterization.

The provision is effective for taxable years beginning after December 31, 2017.

Extended Rollover Period for the Rollover of Plan Loan Offset Amounts in Certain Cases

Under the Conference Bill, the period during which a qualified plan loan offset amount may be contributed to an eligible retirement plan as a rollover contribution is extended from 60 days after the date of the offset to the due date (including extensions) for filing the federal income tax return for the taxable year in which the plan loan offset occurs, that is, the taxable year in which the amount is treated as distributed from the plan. Under the provision, a qualified plan loan offset amount is a plan loan offset amount that is treated as distributed from a qualified retirement plan, a Code Sec. 403(b)plan or a governmental Code Sec. 457(b) plan solely by reason of the termination of the plan or the failure to meet the repayment terms of the loan because of the employee’s separation from service, whether due to layoff, cessation of business, termination of employment, or otherwise. As under present law, a loan offset amount under the provision is the amount by which an employee’s account balance under the plan is reduced to repay a loan from the plan. The provision applies to taxable years beginning after December 31, 2017.

Length of Service Award Programs for Bona Fide Public Safety Volunteers

The Conference Bill increases the aggregate amount of length of service awards that may accrue for a bona fide volunteer with respect to any year of service to $6,000 and adjusts that amount to reflect changes in cost-of-living for years after the first year the provision is effective. In addition, under the provision, if the plan is a defined benefit plan, the limit applies to the actuarial present value of the aggregate amount of length of service awards accruing with respect to any year of service. Actuarial present value is to be calculated using reasonable actuarial assumptions and methods, assuming payment will be made under the most valuable form of payment under the plan with payment commencing at the later of the earliest age at which unreduced benefits are payable under the plan or the participant’s age at the time of the calculation. The provision is effective for taxable years beginning after December 31, 2017.

If you have any question or  want to discuss how the new Bill affect your situation please contact our office at once by calling (951) 234 5175 Ext 3. Accurate Accounting.

Tiebreaker and IRS Flip Flop

IRS Flip Flops on Earned Income Credit linked to Tiebreaker rules

IRS Changes Position on Claiming Childless EIC ( Earned Income Credit) Which means Amended Returns May be in Order

The IRS issued proposed regulations which reflect a change in the IRS’s position on the interaction of the Code Sec. 152(c)(4) tiebreaker rules, which goes into effect when two or more people can claim a child as a qualifying child for tax purposes, with the Code Sec. 32 earned income credit rules. Under the revised position, if an individual is not treated as a qualifying child of a taxpayer after applying the tiebreaker rules in Code Sec. 152(c)(4), then the individual will not prevent that taxpayer from qualifying for the childless earned income credit. REG-137604-07 (1/19/17).

Background

Under Code Sec. 32, a taxpayer may claim an earned income credit (EIC) if the taxpayer:

(1) has earned income,

(2) has adjusted gross income not in excess of certain limits,

(3) does not have more than a specified amount of investment income,

(4) is a U.S. citizen or resident for the entire year,

(5) does not file as married filing separately,

(6) has a valid social security number, and

(7) does not claim the foreign earned income exclusion or the foreign housing exclusion or deduction.

The credit is available to taxpayers with a qualifying child or qualifying children, as well as taxpayers without a qualifying child, although different sets of rules apply.

Sometimes an individual meets the tests to be a qualifying child of more than one person. However, only one of these persons can treat the child as a qualifying child for EIC and other child-related tax benefit purposes (such as the child tax credit and the credit for child and dependent care expenses). The other person(s) cannot claim any of these benefits based on the qualifying child. A tiebreaker rules in Code Sec. 152(c)(4) determine who, if anyone, can claim the EIC when an individual is a qualifying child of more than one person.

A taxpayer who does not have a qualifying child for the tax year, but who meets the general requirements to claim the EIC, can claim the “childless EIC” under Code Sec. 32(c)(1)(A) and (B) if the taxpayer (1) is age 25 through 64, or files jointly with someone who meets this age test; (2) lives in the U.S. for more than half the tax year; (3) cannot be claimed as a dependent on another taxpayer’s return for the year; and (4) is not a qualifying child of another taxpayer for the year.

Proposed Regulations

Last week, the IRS issued proposed regulations dealing with the dependency exemption deduction, the EIC, and the tiebreaker rules. In the preamble to the proposed regulations, the IRS noted a problem with the tiebreaker rules in Code Sec. 152(c)(4) that determine who is eligible for the EIC where an individual is the qualifying child of more than one person. The problem, the IRS said, can be illustrated by the following example. Two sisters, Betty and Carol, live together and each of them is a low-income taxpayer. Neither has a child and each may claim the childless EIC. Later, Betty has a child and Betty’s child meets the definition of a qualifying child for both Betty and Carol. However, under the tiebreaker rules of Code Sec. 152(c)(4), the child is treated as the qualifying child of Betty and Betty may claim the EIC as an eligible individual with a qualifying child.

Although there is no regulatory guidance on this issue, the IRS had taken the position in Publication 596, Earned Income Credit, that if someone meets the definition of a qualifying child for multiple individuals, including the taxpayer, but is not treated as the qualifying child of a particular individual under the tiebreaker rules, the taxpayer is precluded from claiming the childless EIC. Thus, under the current rule, Carol would not be allowed to claim the childless EIC.

The IRS said that allowing Carol to continue to claim the childless EIC after the child is born is both equitable and consistent with the purpose of Code Sec. 32 to assist working low-income taxpayers. As a result, Prop. Reg. Sec. 1.32-2(c)(3) provides that, if an individual is not treated as a qualifying child of a taxpayer after applying the tiebreaker rules of Code Sec. 152(c)(4), then the individual will not prevent that taxpayer from qualifying for the childless EIC.

Effective Date

Prop. Reg. 1.32-2(c)(3) is effective when finalized. However, taxpayers can apply the proposed regulations to any open tax years. Thus, if the proposed regulation applies to a taxpayer who had been denied the EIC as a result of the IRS’s previous interpretation of the EIC tiebreaker rules, an amended return may be filed to obtain a refund. Generally, under Code Sec. 6511(a), a claim for refund must be filed within three years of the date the return was filed or two years from the date the tax was paid, whichever is later. If the taxpayer was not required to file a return for the prior year, the claim for refund must be filed within two years of the date the tax to be refunded was paid.

Caution: The White House has issued a moratorium on the implementation of regulations with effective dates after January 20. As a result, it is unclear whether these regulations may be immediately applied.

21 Century Cure Act

21st Century Cures Act Allows Small Employers to Offer Health Reimbursement Arrangements

 

On December 13, 2016, President Obama signed into law the 21st Century Cures Act. The legislation had overwhelmingly bipartisan support, passing the House by a vote of 392-26 and passing the Senate by a vote of 94-5. The Cures Act, which pays for cancer research, mental health treatments, the fight against opioid abuse, also creates a new type of employer-provided health care coverage – qualified small employer health reimbursement arrangements. Previously, such plans did not meet the stringent requirements of the Affordable Care Act (ACA), otherwise known as “Obamacare,” and were subject to hefty penalties. Now, under the new law, small businesses can offer stand-alone health care reimbursement plans to their employees. H.R. 34 (12/13/2016).

 

Background

The Internal Revenue Code, the Employee Retirement Income Security Act of 1974 (ERISA), and the ACA, impose various requirements with respect to employer-sponsored health plans (i.e., group health plans). Under the ACA, employers with 50 or more full-time employees are required to provide health insurance to their employees. An employer is generally subject to an excise tax of $100 a day per employee (or $36,500 per employee for a full year) if it sponsors a group health plan that fails to meet any of the applicable requirements.

 

In Notice 2013-2 and Notice 2015-17, the IRS stated that employer payment plans such as health reimbursement arrangements (HRAs), health flexible spending arrangements (health FSAs), and certain other employer healthcare arrangements, including arrangements under which an employer reimburses an employee for some or all of the premium expenses incurred for an individual health insurance policy, generally fail to comply with the ACA rules. This effectively prevented small businesses from providing these types of health benefits to its employees, which in turn affected such businesses ability to provide benefits competitive with those of larger employers required to provide health insurance to their employees under the ACA.

 

Qualified Small Employer Health Reimbursement Arrangements

 

Section 18001 of the 21st Century Cures Act amends the Code, ERISA, and the ACA to exempt qualified small employer health reimbursement arrangements (QSEHRAs) from certain requirements that apply to group health plans. As a result, such plans can now be offered to employees of small businesses. A QSEHRA is defined as an arrangement offered by an employer that has fewer than 50 full-time employees and that does not offer group health plans to any of their employees. In order to qualify as a QSEHRA, the arrangement must:

 

(1) be provided on the same terms to all eligible employees of the employer;

 

(2) be funded solely by the employer without salary reduction contributions;

 

(3) provide, after an employee provides proof of insurance coverage, for the payment or reimbursement of medical expenses of the employee and family members; and

 

(4) limit annual payments and reimbursements to specified dollar amounts ($4,950 per year for individuals, and $10,000 for families).

 

QSEHRAs that meet these requirements are not considered group health plans and are exempt from the various requirements that apply to group health plans. An arrangement does not fail to be provided on the same terms to all eligible employees merely because employees’ permitted benefits vary with the price of a health insurance policy in the individual insurance market based on the ages of the employee and family members or the number of family members covered by the arrangement, provided that the variation is determined by reference to the same insurance policy for all eligible employees.

 

Coverage and payments under QSEHRAs are excluded from gross income, unless the employee does not have minimum essential health insurance coverage for the month in which the medical care was provided. Employers offering a QSEHRA must notify employees in advance regarding permitted benefits. Additional information reporting is required, including the reporting of benefit information on W-2 forms.

When Goodwill Merges With Basis: Cost to IRS $206 Million

expert-witness
Expert Witness Omission Cost

On October 31, 2016 a very interesting case  was decided  that cost IRS more than $206 Million . The crust of the issue was when does the Goodwill and Going Concerns, some of the most common intangible costs, become an inherent part of the basis. Section 1603 cases are always huge ticket cases and this one is no exception.

One other interesting outcome of the case is the fact that the Rules of Evidence and admissibility of testimony of the expert witness are extremely granular.  One small emission intentionally or otherwise can cost the party to the lawsuit lot of money, may be in this case the whole $206 Million to IRS.

Plaintiffs are the owners of six wind farm facilities in the Alta Wind Energy Center near Los Angeles, California. They commenced these actions on June 14, 2013, alleging that the Government underpaid them by over $206 million when it made a grant to them pursuant to Section 1603 of the American Recovery and Reinvestment Act of 2009, Pub. L. No. 111-5, 123 Stat. 115 (“ARRA”). Congress passed the ARRA in the wake of the 2008 financial crisis to stimulate the United States economy. As part of this strategy, Section 1603 created a system whereby certain renewable energy facility owners became entitled to cash grants. Owners of “specified energy property” like Plaintiffs became entitled to grants equal to thirty percent of “the basis of such property.” Id. Sec. 1603(b)(1)- (2)(A).

And therein lies the dispute. Plaintiffs argue that “basis” means the purchase prices of their wind farm facilities, minus small allocations for ineligible property such as land and energy transmission lines. The Government maintains that basis really should be calculated from the value of each wind farm’s grant-eligible constituent parts and their respective development and construction costs, citing a myriad of factors that allegedly made the purchase prices an unfair measure of each wind farm’s value. To bolster its arguments, the Government maintains that the purchases were subject to Section 1060 of the Internal Revenue Code, which calls for the residual method of tax accounting. Using the residual method, the Government argues that a substantial portion of the wind farms’ purchase prices must be allocated to intangibles such as goodwill and going concern value.

The Court conducted a nine-day trial in this case from May 9 to May 23, 2016. At trial, the Court heard the testimony of eleven witnesses. Plaintiffs’ nine witnesses were, in the order presented: James Pagano, George Revock, James Spencer, Lance Markowitz, Damon Huplosky, Anthony Johnston, Donald Edward Settle, Dr. Edward Maydew, and Dr. Colin Blaydon. The Government’s witnesses were Ellen Neubauer and Judson Jaffe.

The Government sought to introduce expert testimony from Dr. John Parsons in the areas of economics, finance, and valuation. Parsons, Tr. 1889. Dr. Parsons is a Senior Lecturer at the Massachusetts Institute of Technology (“MIT”) Sloan School of Management, where he has worked since 2005. See Parsons Expert Report App’x 1, at 2. Previously, he worked at MIT in 1984-1990 as an Assistant Professor of Finance, before moving to the City University of New York, Baruch College in 1990-1993 as Associate Professor of Finance, and later to Columbia University, Graduate School of Business, in 1993-1995 as Visiting Associate Professor of Finance. From 1995-2005, Dr. Parsons worked for the consulting firm of Charles River Associates as Senior Associate, Principal, and Vice President. Id.

Dr. Parsons’ Curriculum Vitae lists forty-seven articles and publications that he authored or co-authored from 1985 to the present. Id. at 3-7. Rule 26(a)(2)(B)(iv) of the Court of Federal Claims (“RCFC”) requires an expert witness to list “all publications authored in the previous ten years.” On voir dire examination, Dr. Parsons confirmed that he had provided a complete listing, both at trial and in his earlier deposition, of all of his articles and publications-not only from the previous ten years, but also from 1985 to the present. Parsons, Tr. 1890-94.

Plaintiffs’ counsel also introduced Dr. Parsons’ March 10, 1997 expert report from another case, Babson-United Investment Advisors, Inc. v. Hulbert , No. 96 Civ. 11349-REK (D. Mass.). PX 804. Dr. Parsons included a list of his articles and publications in that report as well, pursuant to a requirement in the 1997 Federal Rules of Civil Procedure that an expert witness list “all publications authored by the witness within the preceding ten years.” Fed. R. Civ. P. 26(a)(2)(B) (1997); PX 807. The 1997 expert report contained a comparable listing of Dr. Parsons’ articles and publications for the period 1985-1995, which he confirmed was a complete list. Parsons, Tr. 1897-1908.

However, Dr. Parsons’ lists of articles both in this case and in Babson-United were not complete, as he attempted to conceal articles he wrote for Marxist and East German publications. Plaintiffs’ counsel confronted Dr. Parsons with the fact that his current Curriculum Vitae and his 1997 expert report in the Babson-United case omitted five published articles that he authored from 1986-1989.2 Dr. Parsons also was listed as an Editorial Board member of Science & Society in 1994-1995, see PX 810, and a contributing editor for the same publication from 1995 to 2010. See PX 810, 819. Science & Society touts itself as “A Journal of Marxist Thought and Analysis,” that is “the longest continuously published journal of Marxist scholarship in the world, in any language.” PX 809 at 1.

After Plaintiffs’ counsel revealed these glaring omissions in Dr. Parsons’ publication history, the Court had no choice but to exclude Dr. Parsons’ testimony. The Court found that Dr. Parsons failed to disclose his articles relating to Marxist and socialist economic thought, and thereby provided untruthful testimony under oath to the Court. It is reasonable to infer that when Dr. Parsons left academia in 1995 to join a private-sector consulting firm, he likely found it uncomfortable to have these articles associated with his name. The Court based its ruling to exclude Dr. Parsons’ testimony solely on the conclusion that he was untruthful under oath at trial and in his deposition, and not in any way on the substance of any articles he authored when he was a college professor. The Court simply could not rely on the substantive expert testimony of a witness who was untruthful in describing his background and qualifications. This outcome was especially dispositive here because Dr. Parsons’ untruthfulness related to his writing on economics topics, which was the area in which he was called to testify as an expert. As one court facing a similar situation noted:

The court cannot trust the word of an expert witness who would brazenly lie about her credentials and then further lie when caught. If she would lie about her academic credentials, there is no reason to believe that she would not provide erroneous and/or misleading valuation testimony if she believed it would benefit her client. The court, therefore, will not ascribe any weight to the evidence supplied by [this expert].

Contreras v. Sec’y of Health & Human Servs. , 121 Fed. Cl. 230, 240-41 (2015) (quoting In re WRT Energy Corp. , 282 B.R. 343, 371 (Bankr. W.D. La. 2011)).3

For these reasons, the Court excluded the expert testimony of Dr. Parsons. The Government did not identify any other experts on its pretrial list of witnesses, and therefore had no expert testimony to rebut Plaintiffs’ experts, Dr. Maydew and Dr. Blaydon, or to support the Government’s counterclaims. Therefore, the Government’s counterclaims fail for lack of evidence.

After weighing the evidence and applicable law, the Court finds in Plaintiffs’ favor. The Court holds that Plaintiffs’ basis in their wind farm facilities must be calculated according to the facilities’ purchase prices, minus reasonable allocations for land and other grant-ineligible property. Therefore, the Government underpaid Plaintiffs when it awarded them Section 1603 grants, and Plaintiffs are entitled to damages in amounts equal to the difference between the grants they received and the grants they were owed.

Findings of Fact

I. Developing Wind Power in the Tehachapi Region

This case centers on six of the wind farms that make up the Alta Wind Energy Center.4The Alta Wind Energy Center is the largest wind center in North America, and possibly in the world. Pagano, Tr. 50, 70-72. It is located in the Tehachapi Region, which is a hilly area west of the Mojave Desert about ninety miles north of Los Angeles. Pagano, Tr. 62; PX 10 at 8. The Tehachapi Region is uniquely suited to wind production. The Mojave Desert heats in the morning, which creates a thermal low pressure region. JX 12 at 13. Cool air then moves in from a high pressure region over the Pacific Ocean in the west. Id. ; DX 706 at 8-9. To get to the desert, this cooler air first must pass through the Tehachapi hills and valleys, and this effect generates substantial wind. Id. Moreover, the Tehachapi Region is at its windiest during the day-i.e. , during the time when people use the most energy. Pagano, Tr. 64-65, 72-73.

In short, if one were going to build a wind farm, this would be the ideal place to do it. Unsurprisingly, companies have been developing wind power facilities in the Tehachapi region since the early 1980s. PX 299 at 12 ¶ 14. By 2009, five percent of all wind power generation in the United States came from the Tehachapi Region. Id.

II. Developing and Constructing the Alta Wind Projects

Building and operating a wind farm requires many physical assets. For example, a wind farm requires turbines, foundations to support them, meteorological towers, roads, and interconnection and transmission equipment. See, e.g. , JX 67 at 11-12, 17; Markowitz, Tr. 927; Revock, Tr. 686. Beginning power production also requires navigating a maze of various contracts. For example, the wind farm must enter into a power purchase agreement (“PPA”) with a utility customer. See JX 67 at 11. It must also enter into transmission and interconnection agreements, which allow wind farms to access the wider electrical grid. See JX 67 at 11-12. Operation and maintenance contracts allow wind farm purchasers who do not intend to run the wind farms themselves to keep their purchased facilities running. See JX 67 at 11. Finally, shared facilities and wake impact agreements allow wind farms to share their resources and to offset a phenomenon known as “waking,” in which one wind farm blocks a certain amount of wind from another wind farm. JX 67 at 18. Naturally, wind farms also require adequate land, and their owners may acquire land outright or lease it from other owners.

The Alta Wind projects at the center of this lawsuit were developed in two stages. In the first stage, Oak Creek Energy Systems (“Oak Creek”) began the development process and partnered with Allco Wind Energy Management Pty. Ltd. (“Allco”) to finance the projects’ development. Stip. ¶ 5; 5 JX 1 at 7. In the second stage, Terra-Gen Power LLC (“Terra-Gen”) acquired the projects from Allco, completed developing and constructing them, and sold the finished products to Plaintiffs. Stip. ¶ 6. The finished product, the Alta Wind Energy Center, is made up of eleven wind farm facilities. See PX 221. These facilities are numbered sequentially from Alta I through Alta XI. Id. Altas I through VI are the subject of this lawsuit. The Energy Center was divided into eleven facilities essentially to facilitate their construction, sale, and development. Pagano, Tr. 96, 396. Still, an observer would not be able to tell where one facility ended and another began. Pagano, Tr. 82-83.

A. Oak Creek and Allco Begin Development and Construction

In December 2006, Southern California Edison (“SCE”) and a subsidiary of Oak Creek and Allco entered into a Master Power Purchase and Wind Project Development Agreement (the “Master PPA”). See JX 6. The Master PPA provided that the Oak Creek/Allco subsidiary would develop multiple wind facilities totaling an aggregate capacity between 1,500 and 1,550 Megawatts, with all of that output to be sold to SCE for a period of roughly 24 years. In return, SCE agreed to enter into a separate long-term PPA to purchase all electricity generated by each of these facilities, with the price to be set in accordance with a formula set forth in the Master PPA. JX 6 at 15, JX 12 at 26; Pagano, Tr. 388-90. The parties amended the Master PPA four times. See JX 9; JX 10; JX 21; JX 23.

Oak Creek and Allco completed development work on the promised wind facilities, but did not actually begin construction. See Pagano, Tr. 86. Specifically, by June 2008, they had (1) completed environmental studies; (2) secured key transmission and interconnection queue requests in the Tehachapi Renewable Transmission Project (a project designed to generate more electricity to customers in Southern California, see JX 12 at 18); (3) secured land rights; (4) begun the permitting process; (5) completed site analysis for turbines and other major equipment; (6) purchased GE turbines and executed turbine-related contracts; (7) constructed meteorological towers and collected wind data; and (8) secured the Master PPA with SCE. JX 12 at 10-26, JX 6; Stip. ¶ 15.

B. Terra-Gen Acquires Allco’s Assets

In July 2008, Terra-Gen acquired Allco’s U.S. wind energy business, including the Tehachapi Projects, for approximately $394 million. Stip. ¶ 6. In the transaction, Terra-Gen acquired development rights, transmission rights, some leased land, some land in fee simple, and an unrelated wind facility (Alite). Pagano, Tr. 119-21, 130; JX 14 at 17-39. Most of the land rights Terra-Gen acquired were unperfected; Allco had secured an option to lease the land, with the lease itself to be negotiated later. Pagano, Tr. 86-90, 457; JX 14 at 29-36; PX 223.

When Terra-Gen purchased Allco’s assets, it engaged Duff & Phelps (“Duff”), an appraisal firm, to perform an appraisal of all of these assets in July 2008. Stip. ¶¶ 9-13. Duff’s first appraisal report describes Duff’s estimation of the fair market value of the identifiable tangible and intangible assets acquired by Terra-Gen for the purpose of allocating the purchase price among the acquired assets. Stip. ¶ 9; JX 32; Pagano, Tr. 120. Duff allocated approximately $36 million of the $394 million purchase price to the Alite wind farm, $1.5 million dollars to land owned by Allco, as well as other assets. JX 32 at 7; Huplosky, Tr. 1136. Duff estimated that the remaining $350 million pertained to the Tehachapi Projects. Of that amount, $68 million of the purchase price reflected payments that Terra-Gen had made for GE turbines that would be used in what later became Alta I. JX 32 at 35; Huplosky, Tr. 1137-38. The remaining $282 million reflected the acquisition of certain rights and intangible assets for the Tehachapi Projects. JX 32 at 35. Duff determined that $272 million of this amount reflected the value of the development rights Terra-Gen had acquired from Allco (valued at $195 million) and power transmission rights (valued at $77 million). Stip. ¶¶ 11, 12; JX 32 at 45. Duff allocated both of these intangible asset values solely across Altas I through XI. See Stip. ¶ 14.

C. Terra-Gen Finishes Developing and Constructing the Alta Wind Energy Center

Even though Oak Creek and Allco had made valuable progress on developing what eventually became the Alta Wind Energy Center, much work remained to be done when Terra-Gen took over the project. Terra-Gen had to secure required permits, negotiate and enter into turbine and construction contracts, execute interconnection and crossings agreements, obtain additional land rights, obtain construction financing, and oversee and implement the actual construction of the Alta Wind Energy Center. Pagano, Tr. 110-15. Terra-Gen did all of these things, at a total cost of over $4 billion for the entire Alta Wind Energy Center (of which over $2 billion related to costs associated with Altas I through VI). See Pagano, Tr. 78-79; 115-16, 121. Terra-Gen developed the Energy Center at great risk, as it would have lost its entire $394 million investment if it had failed to obtain necessary real estate, permits, or other development requirements. See Pagano, Tr. 103- 04.

Several factors outside Terra-Gen’s control also increased the value of Altas I-VI during their development. First, California instituted and then increased its Renewable Portfolio Standards, which dictated that utilities were required to purchase a certain percentage of their electricity from renewable sources. Pagano, Tr. 73-74. Second, Section 1603 was passed during this development period. The grants available under the Section 1603 program were much more valuable than the preexisting tax credits that would have applied to the Alta projects. SeeHuplosky, Tr. 1192. Finally, SCE built the transmission lines that would carry power from the Alta projects. Pagano, Tr. 113-14.

D. Terra-Gen Sells Altas I-VI to Plaintiffs

After Terra-Gen had invested the necessary resources into the Alta projects, it began the process of selling them. Terra-Gen would have preferred to keep and continue to develop the Alta projects, but Section 1603 made this approach impractical. See Pagano, Tr. 157, 166. Under Section 1603, “pass-thru” entities are not eligible for cash grants if any “holder of an equity or profits interest” in the pass-thru entity is a nonprofit organization. ARRA Sec. 1603(g)(4). During the period relevant to this case, Terra-Gen was a pass-thru entity owned by ArcLight Capital and Global Infrastructure Partners, each of which had a small percentage of non-profit owners. Pagano, Tr. 53-54; 157, 166. Therefore, Terra-Gen could not take advantage of the Section 1603 cash grant program itself. Terra-Gen even sought a legislative solution to this problem, but to no avail. Pagano, Tr. 156-60; PX 1; PX 2. Terra-Gen could have established a C corporation blocker entity between itself and each individual Alta entity to become eligible for a Section 1603 grant, but this approach would have imposed a costly double layer of income taxation. Pagano, Tr. 161. Terra-Gen therefore decided to sell the Alta projects. It sold Alta VI in an outright sale, and sold Altas I-V in sale-leaseback transactions. Pagano, Tr. 166-67, 186.

The weight of the evidence demonstrates that all of the Alta I-VI transactions were negotiated by sophisticated parties at arm’s length. Specifically, Citibank, N.A. (“Citi”) and Google, Inc. negotiated the Alta II-V transactions, General Electric Capital Corporation (“GE”) and Union Bank of California (through UnionBanCal Corporation) (“UBOC”) negotiated the Alta I transaction, and Everpower Wind Holdings, Inc. (“EverPower”) negotiated the sale of Alta VI (all parties negotiated with Terra-Gen). The testimony at trial cumulatively showed that these parties extensively negotiated to achieve the best possible purchase prices.

1. Sale-Leaseback of Altas II-V

First, Terra-Gen sold Altas II-V to Citi and additional investors after an initial bidding process in a series of transactions that lasted from December 2010 to June 2011. See Stip. ¶¶ 18-21; Revock, Tr. 740, 771-72, 774. To facilitate the purchase transactions, Citi and Terra-Gen created multiple trusts (which are Plaintiffs in this case), each of which acquired an undivided percentage interest in the applicable Alta project. JX 225; JX 286; JX 344; JX 402.

Citi and Terra-Gen then individually closed all four project transactions, with Citi divesting some or all of its interest in each individual phase to other potential investors, either by recruiting a co-investor before closing (as with Google) or divesting its interest in an owner-lessor entity after closing. Revock, Tr. 740-41, 773-74, 707; PX 13. The agreements also leased Altas II-V back to Terra-Gen. Essentially, this meant that Terra-Gen would continue to operate Altas II-V while paying a steady income stream to Plaintiffs. This income stream was generated by the wind farms as integrated facilities, and reflected benefits derived from use of each entire wind farm. Revock, Tr. 735, 785. As Mr. Revock testified on behalf of Citi, the parties used a computer program to generate a leaseback transaction that optimized Plaintiffs’ income from the leaseback and met Terra-Gen’s objectives. Revock, Tr. 746, 747. In total, the purchase prices that Plaintiffs paid Terra-Gen in the Alta II-V transactions were (approximately): $440.25 million for Alta II, $444.5 million for Alta III, $288.8 million for Alta IV, and $488 million for Alta V. See Stip. ¶¶ 18-21; JX 225; JX 286; JX 344; JX 402. These purchase prices reflect only property that the parties deemed eligible for grants under Section 1603; the parties exchanged grant-ineligible property in separate agreements. SeeHuplosky, Tr. 1114; JX 225; JX 286; JX 344; JX 402.

2. Sale-Leaseback of Alta I

In December 2010, Terra-Gen closed a similar sale-leaseback transaction for Alta I. GE and UBOC formed a consortium to participate as equal co-investors in the sale-leaseback. Markowitz Tr. 925-27. To accomplish the deal, GE and UBOC formed trusts that became the owner-lessors in the leaseback (as with Altas II-V, these trusts are Plaintiffs in this case). Stip. ¶ 17. The overall transaction created a structure whereby Terra-Gen continued to operate Alta I, and Plaintiffs received an income stream from the cash flows Alta I generated. Markowitz, Tr. 989-90. The overall purchase price for Alta I was $560 million. Stip. ¶ 17; JX 212. In contrast to the sale-leaseback transactions of Altas II-V, the Alta I transaction conveyed both grant-eligible and ineligible property. JX 212.

3. Outright Sale of Alta VI

EverPower bought Alta VI from Terra-Gen in 2012 for $439.388 million. Mr. Spencer, on behalf of EverPower, testified that the purchase price reflected the fact that Alta VI was a complete facility with all of its necessary contracts and was capable of generating income. Spencer, Tr. 850. EverPower also acquired some project land free of charge in the transaction. Spencer, Tr. 895-97. Terra-Gen also required EverPower to change the name of Alta VI to “Mustang Hills.” Huplosky, Tr. 1211. The parties changed the name because they hoped Treasury would not lower the claimed Section 1603 grant amount for Alta VI (as Treasury had for the other Alta facilities). Id.

4. Section 1603 Indemnities

The parties to the Alta I-VI transactions also included indemnity provisions in their transactions. With the indemnities, Terra-Gen agreed to accept the risk that the Government would not pay the full amount Plaintiffs would claim under Section 1603, using the purchase price as basis. Specifically, the Alta II-V transactions provided that Terra-Gen would take the financial risk of any difference between the payments requested using the purchase price as the basis (as Plaintiffs argue basis should be calculated in this case) and any actual reduced payment, up to a certain amount. Revock, Tr. 723-24. In the Alta I transaction, Terra-Gen went even further: it agreed to indemnify the purchasers for any difference between the Government’s actual grant and a purchase price-basis grant with no upper limit on Terra-Gen’s liability. See, e.g. , JX 223. The Alta VI indemnity essentially guaranteed that EverPower would receive $87 million, regardless of the Government’s Section 1603 award (with any grant amount in excess of $87 million payable to Terra-Gen). See Spencer, Tr. 886. Thus, the Alta I-VI deals allowed Plaintiffs to apply for a Section 1603 grant using their purchase price as a basis, but protected them to a certain extent from any reduced grant award.

III. Plaintiffs’ Applications for Section 1603 Grants are Denied

A. Terra-Gen Creates and KPMG Certifies Purchase Price Allocations

Before Plaintiffs submitted Section 1603 applications, Terra-Gen first prepared cost schedules for the Alta projects that broke down the total development and construction costs into various components, including property that was eligible for a Section 1603 grant and property that was not. Huplosky, Tr. 1041-50, 1052-53. Terra-Gen “capitalized” the indirect costs into the hard assets-meaning that the indirect cost effectively becomes part of the hard asset. Huplosky, Tr. 1046-48. In some instances, indirect costs were entirely eligible-for instance, if they were associated with only eligible assets, such as permits for the wind turbines. Huplosky, Tr. 1049. In other instances, indirect costs were entirely ineligible, such as costs related solely to electricity transmission. Id. Finally, some indirect costs, like interest during construction, related to the entire Facility and were thus partially eligible and partially ineligible. Such indirect costs were apportioned pro rata among all of the direct costs. To illustrate, if the Facility’s eligible direct costs were twice as high as the Facility’s ineligible direct costs, then the indirect costs were spread among the direct cost items using the same 2:1 ratio. Huplosky, Tr. 1049-50. KPMG approved this method of allocating indirect costs. Huplosky, Tr. 1051, 1094.

Treasury required companies applying for a Section 1603 grant to provide an opinion from an independent auditor validating the claimed grant-eligible costs. Plaintiffs retained KPMG to examine, and prepare an opinion validating, Plaintiffs’ claimed eligible costs. Johnston, Tr. 1215-16. Terra-Gen and KPMG first evaluated the costs incurred by Terra-Gen to construct each component of the facility, and determined which of these costs were eligible and which were ineligible. Huplosky, Tr. 1038; see also JX 168 at 1-5. Terra-Gen relied on Treasury’s Section 1603 Guidance to determine what costs were eligible, and, in accordance with that guidance, classified as eligible the items that were necessary to create electricity, and classified as ineligible items that were not. Huplosky, Tr. 1041-44. Members of KPMG’s Fixed Assets team then reviewed these determinations. Johnston, Tr. 1229-30, 1282; Huplosky, Tr. 1044.

In addition to classifying costs as eligible or ineligible, KPMG also confirmed that the costs had actually been incurred, a process referred to as “vouching” the costs. Huplosky, Tr. 1202, 1282. KPMG vouched eighty percent or more of the construction costs for each Alta Wind lawsuit facility. Johnston, Tr. 1220, 1226-29; JX 86 at 3. Based on this vouching work, KPMG verified “that management’s assertion of the eligible cost basis” for each Facility with respect to Terra-Gen’s construction costs “is accurately stated.” Johnston, Tr. 1227-29.

Terra-Gen then prepared cost schedules that set forth Plaintiffs’ claimed allocations of the purchase price to eligible and ineligible property. Huplosky, Tr. 1079-80. Thus, for Altas I and VI, Plaintiffs submitted applications for Section 1603 grants that multiplied the percentage of construction costs that Terra-Gen deemed eligible for Section 1603 grants by the purchase price. Huplosky, Tr. 1080, 1117. Plaintiffs’ analysis deemed 93.1 percent of Alta I to be eligible property under Section 1603. Huplosky, Tr. 1080, 1100. Similarly, Plaintiffs deemed 96.9 percent of Alta VI to be eligible for a Section 1603 grant. See Huplosky, Tr. 1117-19. Terra-Gen performed no allocation for Altas II-V because those transactions were structured such that no ineligible property was transferred. In addition to certifying that Terra-Gen’s breakdown of the construction costs for the Alta Wind Lawsuit Facilities into eligible and ineligible components was reasonably stated, KPMG also issued a certification regarding the amount of the purchase price for each Alta Wind Lawsuit Facility that was eligible for a cash grant under Section 1603, using the pro rata methodology. These certifications are sometimes known as fair market value (or “FMV”) certifications. See Johnston, Tr. 1223; JX 194.

Plaintiffs’ expert, Dr. Maydew, testified that this allocation method was reasonable. Maydew, Tr. 1411-14, 1415-16; PX 326 at 27-28 ¶¶ 2-4. He also testified that at least three of the “Big 4” accounting firms have approved and used the pro rata allocation method to determine the basis of eligible property at wind power facilities. Maydew, Tr. 1418-19. Mr. Settle’s testimony further showed that both the industry and the National Renewable Energy Laboratory (“NREL”) accept, as a “rule of thumb,” that generally ninety-five percent of the construction costs of a wind farm are eligible. Settle, Tr. 1305- 06. Indeed, Mr. Settle noted that NREL “tested” this ninety-five-percent ratio “early on multiple projects and determined that a good representation is five percent nonqualifying, ninety-five percent eligible out of total project costs.” Settle, Tr. 1309-10, 1314. Thus, the 93.1 percent and 96.9 percent allocations for Altas I and VI would be within the range of this “rule of thumb.”

B. Plaintiffs Apply for Section 1603 Grants

Each Plaintiff timely applied to Treasury for a cash grant equal to thirty percent of the purchase-price basis of its eligible property. JX 195; Stip. ¶¶ 36-37. Treasury had entered into an interagency agreement with NREL, which performed a review of cash grant applications and completed an “application checklist” for each Plaintiff application. These application checklists confirmed that Plaintiffs had satisfied all statutory requirements to receive Section 1603 grants. Settle, Tr. 1306-07; PX 205; PX 132. Instead of paying Plaintiffs cash grants equal to thirty percent of their purchase price basis, the Government paid cash grants equal to thirty percent of Terra-Gen’s construction and development costs for each facility. See JX 196; Pagano, Tr. 418; see also Jaffe, Tr. 2014 (noting that all of the Alta awards were based on the schedule provided by Terra-Gen summarizing Terra-Gen’s construction and development costs). Therefore, Plaintiffs now seek reimbursement of the difference between the Government’s reduced grant award and a grant reward that is thirty percent of their claimed purchase price basis (after applicable allocations for ineligible property).

Discussion

ARRA Section 1603 allows owners of “specified energy property” to apply for grants. ARRA Sec. 1603(a). Wind facilities are one type of specified energy property, Id. Sec. 1603(d)(1); 28 U.S.C. Sec. 45(d)(1), and the parties do not dispute that Altas I-VI are wind facilities that qualify for grants under Section 1603. Section 1603 incorporates the definitions in Section 48 of the Internal Revenue Code (“IRC”), see Sec. 1603(h), which defines “qualified property” as “tangible property . . . used as an integral part” of grant-eligible facilities. 26 U.S.C. Sec. 48(a)(5)(D). Treasury guidance for the Section 1603 program excludes as qualified property “electrical transmission equipment, such as transmission lines and towers, or any equipment beyond the electrical transmission stage, such as transformers and distribution lines.” JX 126 at 11-12. Grants under Section 1603 therefore are calculated by taking thirty percent of the owner’s basis in this qualified property. See ARRA Sec. 1603(b)(2)(A).

The question in this suit has always been what the basis of Altas I-VI is. If the Court were to follow the Government’s approach in awarding the Section 1603 grants, basis would mean the development and construction costs of each Alta facility-i.e. , a grant predicated on the “cost method” of tax valuation. See Def. Post-Trial Br. at 111, Dkt. No. 118. Plaintiffs’ approach, on the other hand, would mean that the Alta Wind facilities’ purchase prices, minus reasonable allocations for ineligible property under Section 1603, would be used to calculate basis. See Pl. Post-Trial Br. at 40, Dkt. No. 158.

I. Plaintiffs’ Purchase Prices Determine Their Basis for Section 1603 Grants

Basis, as defined in the IRC, is the cost of property to its owner. See 26 U.S.C. Sec. 1012(a).6 Therefore, if someone built a wind farm facility, his development and construction costs would be his basis in the facility because this is what the cost of the facility is to him. Conversely, a buyer’s basis in a wind farm facility he purchases generally would be the facility’s purchase price, as this is the cost of the facility to the buyer. See Solitron Devices, Inc., v. Comm’r , 80 T.C. 1, 23 (1983), aff’d , 744 F.2d 95 (11th Cir. 1984) (“One of the verities of tax law is that the cost basis of property is equal to the amount of cash paid for such property.”).

There are exceptions to the general rule that purchase price determines basis, and the Government argues that several of them apply here. Essentially, the Government argues that the purchase prices cannot be Plaintiffs’ basis in the wind farm facilities because they do not capture the fair market value of the tangible property that is eligible for Section 1603 grants. The Government first points to the fact that the purchase prices included ineligible property to show that the fair market value of the eligible property is not ascertainable from the purchase prices. Next, the Government argues that Section 1060 of the IRC, and its accompanying “residual method” of tax valuation, applies because intangible goodwill or going concern value was included in the purchase prices. Finally, the Government argues that the purchase prices cannot serve as Plaintiffs’ basis because (a) the transactions were not “conducted at arm’s-length by two economically self-interested parties;” and (b) the transactions were “based upon ‘peculiar circumstances’ which influence[d] the purchaser to agree to a price in excess of the property’s fair market value.” Lemmen v. Comm’r , 77 T.C. 1326, 1348 (1981) (quoting Bixby v. Comm’r , 58 T.C. 757, 776 (1972)). The Court will address each of the Government’s arguments in turn.

A. Section 1060 of the IRC Does Not Apply to the Transactions

Both parties agree that the price Plaintiffs paid for Altas I-VI was higher than the mere cost of developing and assembling the facilities. Therefore, the question is whether some of this additional value constitutes goodwill or going concern value. If it does, then Section 1060 applies, and the parties would have to use the “residual method” promulgated under Section 338(b)(5) of the IRC to value the grant-eligible assets. The residual method allocates value on a waterfall basis among several categories of tangible and intangible assets, and the Government argues that much of the value in the Alta I-VI transactions would be allocated to ineligible intangibles (such as goodwill or going concern value) if the residual method applied.

Section 1060 applies to “applicable asset acquisitions.” 26 U.S.C. Sec. 1060(a). An applicable asset acquisition “means any transfer . . . of assets which constitute a trade or business, and with respect to which the transferee’s basis in such assets is determined wholly by reference to the consideration paid for such assets.” Id. Sec. 1060(c). The Treasury promulgated regulations that further elaborate on the circumstances in which assets constitute a trade or business. See 26 C.F.R. Sec. 1.1060-1(b)(2). Under that Regulation, assets constitute a trade or business within the meaning of Section 1060 if their “character is such that goodwill or going concern value could under any circumstances attach to such [assets].” Id. Sec. 1.1060-1(b)(2)(i)(B).7 “Goodwill is the value of a trade or business attributable to the expectancy of continued customer patronage.” Id. Sec. 1.1060-1(b)(2)(ii). “Going concern value is the additional value that attaches to property because of its existence as an integral part of an ongoing business activity.” Id. It “includes the value attributable to the ability of a trade or business . . . to continue functioning or generating income without interruption notwithstanding a change in ownership.” Id. Going concern value “also includes the value that is attributable to the immediate use or availability of an acquired trade or business . . . .” Id. To determine whether goodwill or going concern value could attach to a group of assets, “all the facts and circumstances surrounding the transaction are taken into account,” including:

(A) The presence of any intangible assets . . . ;

(B) The existence of an excess of the total consideration over the aggregate book value of the tangible and intangible assets purchased (other than goodwill and going concern value) as shown in the financial accounting books and records of the purchaser; and

(C) Related transactions, including lease agreements, licenses, or other similar agreements between the purchaser and seller . . . in connection with the transfer.

Id. Sec. 1.1060-1(b)(2)(iii).

There is a structural problem that becomes apparent when one tries to parse this Treasury Regulation. First, in subsection 1.1060-1(b)(2)(ii), the Regulation sets out specific definitions for goodwill and going concern value, which are presented as two distinct (if related) terms. Further, the definitions for goodwill and going concern value appear largely to incorporate the terms’ common law meanings. See, e.g. , Newark Morning Ledger Co. v. United States , 507 U.S. 546, 555 (1993) (citing “the shorthand description of good-will as ‘the expectancy of continued patronage'”) (citation omitted); UFE, Inc. v. Comm’r , 92 T.C. 1314, 1323 (1989) (“Going concern value is manifested in the business’ ability to resume business activity without interruption and to continue generating sales after an acquisition.”) (citing Computing & Software Inc. v. Comm’r , 64 T.C. 223, 235 (1975)).

In the next subsection, however, the Regulation enumerates situations in which both of these two concepts “could apply.” So, if one were to read the categories in subsection 1.1060-1(b)(2)(iii) as mandatory triggers for finding that either goodwill or going concern value could apply, then the definitions in the previous subsection-and, indeed, the body of case law that gave rise to them-would be meaningless. It is hard to believe the Treasury intended such a drastic result, particularly given the Regulation’s phrasing: “Factors to be considered include . . . .” 26 C.F.R. Sec. 1.1060-1(b)(2)(iii) (emphasis added). Therefore, it is more appropriate to view subsection 1.1060-1(b)(2)(iii) as a non-exhaustive list of factors that may mean goodwill or going concern value could apply. The Court must consider these factors along with the totality of the circumstances in the Alta transactions. As shown below, the Court finds that other factors are dispositive here.

1. No Goodwill Value Could Attach to the Alta Facilities

As noted above, goodwill is the “expectancy of continued patronage.” Newark Morning Ledger , 507 U.S. at 555. This is “a useful label with which to identify the total of all the imponderable qualities that attract customers to the business.” Id. (citation omitted); see also Lorvic Holdings, Inc. v. Comm’r , T.C. Mem. 1998-281, 1998 WL 437287, at *7 (1998) (“[G]oodwill is the aggregate value of the relationships and reputation developed by a business with its present and potential customers and associates over a period of time.”). Thus, goodwill is not a free-floating residual category to which one must allocate any value attached to a group of assets that exceeds the development and construction costs of those assets. Rather, goodwill is a distinct concept that represents the value a business acquires from its ability to attract and maintain customer relationships over time.

The Court is aware of authority that appears at first blush to contradict this view. See, e.g. , Coast Fed. Bank, FSB v. United States , 323 F.3d 1035, 1039 (Fed. Cir. 2003) (“Goodwill, an intangible asset, is the excess of cost over the fair value of the identifiable net assets acquired.”) (citation omitted); Deseret Mgmt. Corp. v. United States , 112 Fed. Cl. 438, 449 (2013) (same). However, this “residual goodwill” approach would completely eclipse authority and Treasury regulations that attach different and distinct meanings to goodwill and going concern value. If goodwill is all value over the fair value of identifiable assets, then going concern value is squeezed out as a concept. Furthermore, the IRS has found that Newark Morning Ledger “had the effect of rendering irrelevant the early depreciation cases in so far as they used the term ‘goodwill and going concern value’ as shorthand for any intangible that was nondepreciable.” IRS Tech. Adv. Mem. 0907024 (Feb. 13, 2009). Therefore, a more internally consistent approach differentiates between the goodwill and going concern value, and gives unique meaning to each. See UFE , 92 T.C. at 1323 (“While courts have blurred these distinctions between goodwill and going concern value, they are different conceptually.”).

With that definition in mind, there are a few Alta Wind-specific factors that deserve consideration here. When sold, Altas I-VI (1) were not yet operational, (2) had lined up only one long-term customer (SCE) to buy the entirety of their electricity output for the foreseeable future, and (3) were not capable of taking on any other customers. Thus, any “expectancy of continued patronage” would have to come from an expectancy that the Alta facilities would keep doing business with SCE, their sole customer.

It is true that goodwill may attach even where one customer purchases all of a business’s output “for a long series of years.” See Pfleghar Hardware Specialty Co. v. Blair , 30 F.2d 614, 617 & n.9 (2d Cir. 1929). Still, the fact that the Alta facilities-unlike the business in Pfleghar -were not yet operational when purchased is dispositive here. At the time of sale, SCE and Altas I-VI had not yet begun performing under the PPAs. After a period of performance under the contract during which the facilities were kept in good working order and SCE continued buying electricity, goodwill might accumulate in the form of an expectation that the parties would not breach the PPAs, or that the parties might renew the PPAs-i.e. , that Altas I-VI would keep “attracting” SCE’s business. This would be the “expectancy of continued patronage” to which the cases refer. Because both parties had not yet begun performance under the PPAs at the time of purchase, however, this expectancy could not have existed at that time, so goodwill could not have attached. See, e.g. , J & M Turner, Inc. v. Applied Bolting Tech. Prods., Inc. , No. CIV. A. 95-2179, 1998 WL 47379, at *11 (E.D. Pa. Jan. 30, 1998), aff’d , 173 F.3d 421 (3d Cir. 1998) (citing “cases that hold that goodwill cannot be fairly calculated for a business that is just starting up and has no record of earnings or profits”).

The Government’s argument that the location of Altas I-VI adds goodwill also fails. It is undisputed that the Alta facilities’ location added value to the wind farm facilities. However, the value of an asset’s permanent location is part of the basis of the asset itself, and is not goodwill or any other separate intangible asset. See, e.g. , IRS Tech. Adv. Mem. 9317001, 1993 WL 134598 (Apr. 30, 1993) (finding that a transponder’s physical location “is reflected in its value, and cannot be separated from the transponder itself”). Any other approach would not make sense, as it would mean that property values in places like New York City would be made up largely of goodwill as a separate intangible asset. Plaintiffs’ expert, Dr. Maydew, confirmed that this is not standard practice. See Maydew, Tr. 1450- 51, 1453. Therefore, no goodwill could have attached at the time of the Alta transactions.

2. No Going Concern Value Could Attach to the Alta Facilities

Going concern value, while related conceptually to goodwill, is a distinct form of value. See United States v. Cornish , 348 F.2d 175, 184 (9th Cir. 1965); UFE , 92 T.C. at 1323. Essentially, going concern value is the “special value inherent in a functioning established plant continuing to operate, to do business, and to earn money, with its staff and personnel.” Miami Val. Broad. Corp. v. United States , 499 F.2d 677, 682 (Ct. Cl. 1974). It “is manifested in the business’ ability to resume business activity without interruption and to continue generating sales after an acquisition.” UFE , 92 T.C. at 1323.

Here, there was no “functioning established plant” at any of the Alta facilities at the time of the Alta I-VI transactions. Altas I-VI were fully developed and constructed when Terra-Gen sold them, but they were not yet operational; therefore, they were not “established.” As noted above, performance under the PPAs had not yet begun, so there were no cash flows that would continue to be generated after an acquisition-these cash flows, at the time of the transactions, were prospective only. In short, there was no going concern value at time of the Alta transactions because there was not yet a going concern.

Because the Court finds that neither goodwill nor going concern value could have attached to Altas I-VI at the time of the transactions, the transactions were not “applicable asset acquisitions” within the meaning of Section 1060. Therefore, Section 1060 and its accompanying residual method do not apply to the transactions.

B. Altas I-VI had Turn-Key Value

Obviously, Altas I-VI had additional value over their development and construction costs because they were ready-to-use wind farm facilities located in the windy Tehachapi Region, not just collections of turbines lying on the ground somewhere. This is the real sticking point in this case. The Government argues that this value is goodwill or going concern value, but those labels do not capture the situation of Altas I-VI, as shown above. Rather, Altas I-VI had “turn-key” value because they were ready-to-use wind farm facilities.

Ready-built facilities may have value over and above the sum of their construction and development costs. Part of this value is turn-key value, which essentially describes value a facility has when it is ready for immediate use after purchase. Here, Miami Valley is instructive. In that case, the plaintiffs bought new radio station facilities that had already been “tested and coordinated.” 499 F.2d at 680. The court held that those facilities had turn-key value because they were ready for operation at the time of purchase, noting:

[F]air market value would take into account the fact that this buyer received (and was entitled under its contract to receive) a put-together plant in good all-round working shape, not a congeries of uncoordinated physical assets liable as not to fail to work as a unit. The ‘turnkey’ product was worth more than the sum of the untested and uncoordinated parts, even though they were all constructed and installed in place. Normally a buyer would pay an increment for such an assurance that the plant and equipment would all work together without need of costly and time-consuming adjustments and coordination.

499 F.2d at 680. It is important to note that turn-key value is not the same thing as “going concern” value. In a turn-key transaction, the buyer is not purchasing an operating business; rather, he is purchasing a put-together facility that is ready for operation. See id. at 681-82. This distinction is important because turn-key value, unlike going concern value or goodwill, is considered part of the tangible assets in a transaction rather than a separate intangible asset. See, e.g. , IRS Tech. Adv. Mem. 0907024, 2009 WL 356169 (“[C]ase law supports a conclusion that it is appropriate to value interrelated assets in the aggregate and that the synergistic value of a collection of assets is attributable to those assets rather than a conceptually distinguishable goodwill or going concern value element.”).

Altas I-VI were ready-to-operate wind farm facilities at the time of purchase. Terra-Gen had completed the necessary development and permitting work before the purchase. Therefore, the wind farm facilities had turn-key value, and their tangible assets were more valuable than they would have been if the wind farm facilities were not ready to operate. This value was part of the fair market value of Altas I-VI.

C. No “Peculiar Circumstances” Counsel Against Using the Purchase Prices as Basis

Even when Section 1060 does not apply to a transaction, the Tax Court historically has looked to other measures of a property’s fair market value if evidence shows that a “transaction [was] not conducted at arm’s-length by two economically self-interested parties or where a transaction is based upon ‘peculiar circumstances’ which influence the purchaser to agree to a price in excess of the property’s fair market value.” Lemmen , 77 T.C. at 1348 (quoting Bixby , 58 T.C. at 776). The Court finds this approach sensible. At bottom, “peculiar circumstances” exist if the parties appear to be unduly manipulating the purchase price by entering into separate agreements at or near the time of purchase, causing the purchase price to be highly inflated. For example, in Lemmen , the parties agreed to transfer herds of cattle. Id. at 1348. In addition to the herd purchase contracts, the parties also entered into several “maintenance contracts” at the time of purchase. Id. The transactions, taken together, were peculiar because the herd purchase prices were “highly inflated above the market value of the animals,” while the maintenance contracts had below-market prices. Id. at 1348-49. This was especially true because the seller was selling “managed breeding herds to investors,” so maintenance was an integral part of the transaction. Id. at 1349.

Further, it is important to note that the Court should disregard the purchase price as basis only if the evidence shows that peculiar circumstances have highly inflated the purchase price. For example, in Lemmen , the herd’s price had been inflated by nearly 500 percent. Id. at 1348. In another case, the evidence failed to prove “that the facts stand for anything other than an elaborate tax-avoidance scheme.” Bixby , 58 T.C. at 777.

As stated above, the Court finds that all of the Alta transactions occurred at arm’s length between sophisticated and self-interested parties. Therefore, the only question remaining is whether any peculiar circumstances were present in the Alta transactions that highly inflated the Alta facilities’ purchase prices. The Government argues that there were such peculiar circumstances, citing the sale-leaseback transactions for Altas I-V, several side-agreements between the parties to the transactions, and Terra-Gen’s agreements to indemnify Plaintiffs’ Section 1603 payments.

1. The Sale-Leaseback Transactions did not Create Peculiar Circumstances

The parties to the Alta I-V transactions entered into sale-leaseback transactions in which Terra-Gen sold its facilities to Plaintiffs but immediately leased the facilities in order to operate them itself. See Findings of Fact, supra Point II.D.1-2. The structure of the sale-leaseback transactions does not mean that these transactions created peculiar circumstances. A sale-leaseback is “a commercially acceptable device which affords significant advantages to both purchaser-lessor and seller-lessee.” In re San Francisco Indus. Park, Inc. , 307 F. Supp. 271, 276 (N.D. Cal. 1969). Indeed, the guidance for the Section 1603 grant program explicitly envisioned sale-leaseback structures. See JX 0126.009.

Therefore, to create peculiar circumstances, there must be some indication that the parties to the transactions adjusted various aspects of the sale and leaseback prices in order to highly inflate the purchase prices, as in Lemmen . The Government did not present evidence at trial to show that this occurred. The purchase prices paid for Altas I-V, which were sold in sale-leaseback transactions, were essentially the same on a per-kilowatt basis (after adjusting for differences in electrical generating capacity). Furthermore, they were essentially the same on a per-kilowatt basis as the prices paid for the outright purchase of Alta VI (Mustang Hills). Blaydon, Tr. 1596-97, 1601; Pagano, Tr. 173-76; PX 281. Moreover, all six of those purchase prices were essentially the same on a per-kilowatt basis as the purchase prices paid for two Alta Wind Energy Center facilities that are not involved in this litigation. Those two non-lawsuit facilities (Altas VIII and IX) were the subject of outright-purchase transactions in January and November 2012, respectively, by unrelated third parties. PX 299 at 33 ¶ 57; PX 154.

Other factors also show that the leasebacks did not fundamentally alter the Alta I-V transactions. First, the Alta II-V leasebacks were negotiated after Citi and Terra-Gen had separately agreed on a per-kilowatt purchase price. For example, Mr. Revock testified that “the value [sale price] is determined separately in advance of running the lease profile” in these sale-leaseback transactions. Revock, Tr. 809-10. Further, in the Alta I transaction, a competing bidder-Brookfield Renewable Power, Inc.-made a last-minute bid for an outright purchase of Alta I that was less than two percent lower than the price UBOC and GE eventually paid. SeePagano, Tr. 325-26; see also PX 299 at 27. Moreover, all of the Alta I-V sale-leaseback transactions closely tracked an independent analysis of the Alta facilities’ fair market values by DAI Management Consultants that did not take the leaseback transactions into account. See JX 112 at 13 (Alta I appraisal); JX 59 at 12 (Alta II appraisal); JX 62 at 12 (Alta III appraisal); JX 60 at 12 (Alta IV appraisal); JX 61 at 12 (Alta V appraisal). In sum, the evidence demonstrates that the leaseback portion of the sale-leaseback transactions did not highly inflate the purchase prices for Altas I-V.8

The rent prepayments in the sale-leaseback transactions also did not create peculiar circumstances. The purpose of such prepayments was merely to reduce the periodic rent payments due under the lease agreements, as this helps ensure that the project cash-flows will be enough to cover Terra-Gen’s rent payments to Plaintiffs. See Pagano, Tr. 527. Lowering the periodic rent payments through an up-front prepayment gives the lessee some breathing room in case, for example, the wind does not blow as strongly in a particular month. Again, there is simply no evidence that these prepayments inflated the purchase price in any way. Therefore, because the weight of the evidence demonstrates that the facilities sold in sale-leaseback transactions had similar capacity-adjusted prices-per-kilowatt, the sale-leasebacks did not create peculiar circumstances.

2. The Various Side-Agreements Between Terra-Gen and Plaintiffs did not Create Peculiar Circumstances

The Government points to land agreements and indemnification for certain financial obligations such as “wake payments” to show that the Alta I-VI transactions contained peculiar circumstances. However, there is nothing in the agreements to which the Government refers that would lead to a “highly inflated” purchase price for the Alta facilities. See Lemmen , 77 T.C. at 1348.

First, Terra-Gen obligated itself during the construction and development phase to make wake payments from Alta VI to the other Alta facilities. These wake payments compensated facilities that were downwind of Alta VI for the disruption in wind-flow that Alta VI caused. In other words, facilities downwind of Alta VI could not generate as much electricity because they were in Alta VI’s wake. Terra-Gen itself-not Alta VI-therefore took on the obligation to make wake payments to the downwind facilities because it was the developer of all six facilities. See Pagano, Tr. 414; 534-35; Spencer, Tr. 911. Because Terra-Gen took on this responsibility, it did not pass the obligation to make wake payments on to Plaintiffs when it sold Alta VI, so it did not effectively refund part of the purchase price by making these wake payments on Plaintiffs’ behalf. Therefore, the wake payments cannot be construed as a peculiar circumstance that inflated the purchase price.

Second, it is undisputed that Terra-Gen conveyed some fee land to Plaintiffs at no charge, and that it also transferred leased land to Plaintiffs as part of the Alta transactions. However, Plaintiffs have accounted for the fee land in their Section 1603 allocation. As shown below, the Court finds this allocation for land to be reasonable. Because Plaintiffs acknowledge that the land’s value cannot be part of their basis in Altas I-VI, there is no reason to believe that Plaintiffs are attempting to highly inflate their basis by including ineligible fee land value.

Further, the evidence shows that the lease terms on the leased land that Plaintiffs acquired during the Alta transactions were not more favorable than other similar leases during the same time period. See Pagano, Tr. 408-09. Terra-Gen did not own all of the land in the Alta projects; rather, it had an obligation to make royalty payments to certain landowners based on the output of each wind farm facility. It transferred this obligation to Plaintiffs. If the royalty rates due under the land lease agreements were better than market rates at the time of the Alta transactions, then Plaintiffs would have gained a benefit when they acquired the leases. Because the weighted average of these royalty rates was 5.37 percent and other Terra-Gen leases had royalty rates of about five percent, however, these royalty rates were worse than market rate and could not have added value to the Alta facilities. See id ; Maydew, Tr. 1466. While the Government takes issue with Plaintiffs’ evidence on this point (for example, Mr. Pagano’s reliance on a “weighted average” for all of the facilities) it cannot point to evidence that favorable leases “highly inflated” the value of the Alta transactions.

In sum, no evidence demonstrates that the value of wake payments or grant-ineligible land highly inflated the Alta I-VI purchase prices. Therefore, these agreements do not constitute peculiar circumstances.

3. The Section 1603 Indemnities did not Create Peculiar Circumstances

Terra-Gen indemnified Plaintiffs for the difference between their claimed Section 1603 grant amounts and lower grant amounts they might receive. Still, this is not a peculiar circumstance. One of the reasons Terra-Gen sold, and Plaintiffs bought, the Alta facilities was the existence of the Section 1603 cash grant program. Both Terra-Gen and Plaintiffs believed the facilities to be worth as much as they would be worth had the Government awarded a Section 1603 grant using the purchase price as basis. Nothing about this enhanced value estimate is peculiar; rather, “[w]hen examining a transaction, the reality that the tax laws affect the shape of most business transactions cannot be ignored.” Tanner v. Comm’r , T.C. Mem. 1992-235, 1992 WL 79077 (April 21, 1992) (citing Frank Lyon Co. v. United States , 435 U.S. 561, 576-80 (1978)). Further, the weight of the evidence confirmed that similar tax-related indemnities are common in complex commercial transactions like this one. For example, Mr. Revock testified that tax indemnities were in every lease agreement he worked on. Revock, Tr. 724. Thus, the indemnities simply confirmed the fair market value of the facilities once expected grant amounts were taken into account, and did not give rise to peculiar circumstances.

D. Plaintiffs’ Pro-Rata Allocations are Reasonable

In the absence of peculiar circumstances that highly inflated the Alta I-VI purchase prices, the Court looks to these purchase prices to determine basis for purposes of Section 1603. See Solitron Devices , 80 T.C. at 23. Section 1603’s divisions between grant-eligible and grant-ineligible property, however, mean that part of the purchase price cannot be counted as basis in the transactions that transferred both eligible and ineligible property: those involving Altas I and VI. To solve this problem, Plaintiffs used a pro-rata allocation method in which they (1) noted the percentage of construction and development costs that applied to eligible property, and (2) applied that percentage to Altas I and VI’s purchase prices to determine the eligible basis for those facilities.9 The Government objects to this allocation method, but did not present evidence at trial to show that it was unreasonable. Instead, the Government challenges the sufficiency of Plaintiffs’ evidence underlying the allocations.

Courts allow pro-rata allocations where they are necessary to determine the percentage of a purchase price that should be allocated to a particular asset. For example, in Washington Mutual, Inc. v. United States , 996 F. Supp. 2d 1095 (W.D. Wash. 2014), the court faced an analogous situation. It held that, “[i]n transactions where one lump-sum purchase price is paid for a conglomeration of assets . . . the cost of each asset must be determined by apportioning the purchase price among the assets according to each asset’s relative fair market value at the time of the acquisition.” Id. at 1104 (citing Bixby , 58 T.C. at 785; see also Victor Meat Co. v. Comm’r , 52 T.C. 929, 931 (1969) (“[W]hen a taxpayer buys a mixed aggregate of assets for a lump sum, an allocation of the purchase price will be made to the separate items upon the relative value of each item to the value of the whole.”).

Plaintiffs appear to have made such an allocation here for Altas I and VI (the transactions in which the parties conveyed both eligible and ineligible property). Their auditor, KPMG, prepared certifications of the fair market value of eligible and ineligible property in Altas I-VI. See JX 194. After the Treasury awarded reduced Section 1603 grants, KPMG reviewed its work and recertified its allocations. See Johnston, Tr. 1252- 54, PX 120. For Alta I, KMPG found that 93.1 percent of total construction costs related to grant-eligible assets, so Plaintiffs claimed 93.1 percent of the purchase price as the basis for Alta I. Huplosky, Tr. 1095-1100. For Alta VI, 96.9 percent of construction costs related to grant-eligible assets, so Plaintiffs claimed this percentage of the Alta VI purchase price as basis. See Huplosky, Tr. 1117-19. These two values appear reasonable, particularly because Mr. Settle testified that both the industry and NREL use a “rule of thumb” that treats ninety-five percent of wind farm construction costs as grant-eligible. Settle, Tr. 1305-06. This rule of thumb indicates that it is reasonable to allocate ninety-five percent of a purchase price to eligible property.

Plaintiffs’ expert witnesses also endorsed KPMG’s allocations. Dr. Maydew testified to the reasonableness of KPMG’s pro-rata allocation work. See Maydew, Tr. 1411-16; PX 326 at 27-28 ¶¶ 2-4; PX 329 at 6-7 ¶¶ 6-7. Dr. Blaydon also testified that the pro rata methodology is a “common rule that is generally used in this industry.” Blaydon, Tr. 1605-07, 1719-20; PX 299 at 86-87 ¶ 167.

Further, Plaintiffs’ analysis takes into account the value of the fee land conveyed in the Alta transactions free of charge. This value is just over $4 million, which is about two-tenths of one percent of the total Alta I-VI purchase price. Blaydon, Tr. 1625; PX 219; PX 218; PX 299 at 92-93 ¶¶ 180-82. The Court finds that the value attributed to land-which is essentially de minimis, given its value compared to the overall value of the Alta transactions-is reasonable, and that Dr. Blaydon properly deducted this value in performing his damages calculations. SeeBlaydon, Tr. 1625-26.

The Government argues that the KPMG allocation documents and related testimony are inadmissible as expert testimony under Rules 701 and 702 of the Federal Rules of Evidence. See Def. Post-Trial Br. at 96-98, Dkt. No. 163. However, the Government did not object on these grounds at trial, so this objection is waived. See Fed. R. Evid. 103(a)(1) (noting that objections to admission of evidence must be timely); Commercial Contractors, Inc. v. United States , 154 F.3d 1357, 1367 (Fed. Cir. 1998) (“CCI argues first that the . . . declarations are hearsay, and that the court erroneously admitted them into evidence . . . . CCI waived that argument, however, by not objecting to the admission of the declarations on that ground at trial.”). Additionally, the Government’s objection to the KMPG allocation documents is waived because the Government moved these documents into evidence as joint exhibits. See Ronickher, Tr. 10 (moving KPMG documents into evidence as joint exhibits); Ohler v. United States , 529 U.S. 753, 755-56 (2000) (“[A] party introducing evidence cannot complain on appeal that the evidence was erroneously admitted).

The Government further argues that Plaintiffs’ allocation fails to account for the PPAs, which it maintains are intangible, ineligible property. The Government argues that PPAs must be classified as “customer-based intangibles” within the meaning of 26 U.S.C. Sec. 197(d)(2)(A)(iii). However, the Court finds Plaintiffs’ treatment of the PPAs more persuasive. Plaintiffs’ approach treats the PPAs like land leases. A land lease is not considered a separate asset from the underlying land, even if the land lease terms are better than market. See Schubert v. Comm’r, 33 T.C. 1048, 1053 (1960), aff’d , 286 F.2d 573 (4th Cir. 1961). As with land leases-which relate only to the specific parcel of land leased-the PPAs each relate only to their specific wind farm facilities and are not transferable or assignable. Maydew, Tr. 1439; Pagano, Tr. 393-94; PX 326 at 19 ¶ 1c. Dr. Maydew found that these characteristics mean the PPAs may not be viewed as separate assets from their underlying facilities from a tax accounting perspective. Maydew, Tr. 1438; PX 326 at 18 ¶ 1. Therefore, the close nexus between the wind farm facilities and their respective PPAs means that the PPAs cannot be viewed as separate intangible assets.10

Many of the Government’s arguments essentially boil down to an attack on the logic behind any pro-rata allocation method Plaintiffs could possibly use in this case. However, because the Court finds that the purchase price is the best measure of the Alta facilities’ fair market value (and, therefore, basis), a pro-rata allocation method appears on the evidence to be the most reasonable solution to the problem Section 1603 presents. Under Section 1603, the value of certain property is ineligible as basis for a grant. In the real world, this grant-ineligible property is hopelessly intertwined with grant-eligible property. Having both types of property in one place makes a wind farm valuable as a wind farm generating cash flows, and not just as a disjointed collection of random assets. See PX 328 at 20 ¶ 40. Therefore, any pro-rata allocation method will necessarily involve extrapolation based on the construction and development costs of the grant-eligible property under Section 1603, and the Court finds Plaintiffs’ allocations to be reasonable.

II. Plaintiffs are Entitled to Damages

In sum, the Court finds that applying the Government’s preferred valuation approach, which would value the Alta facilities solely based on their construction and development costs, improperly excludes value from Plaintiffs’ basis in these facilities in a way that is not supported under Section 1603 or the IRC. If Congress had intended some other definition of “basis” to apply in situations like this, then it should have said so when it drafted the statute. In the absence of such guidance, the Court finds that Plaintiffs have calculated the basis of their wind farm assets in the least imperfect way possible.

The Court finds that the Government should have used Plaintiffs’ purchase prices, subject to reasonable allocations in the cases of Altas I and VI (and with de minimis deductions for land conveyed in fee simple), as basis in calculating Plaintiffs’ grants under Section 1603. Therefore, the Court awards Plaintiffs damages in amounts equal to the shortfall between the grant amounts to which Plaintiffs were entitled and the amounts the Government awarded. In total, the Court awards Plaintiffs damages of $206,833,364. The following table shows the damages each Plaintiff is awarded:

Plaintiff            Basis of                      Cash Grant to         Cash Grant          Damages

                           Eligible                  Which Plaintiff            Paid by              Awarded

                           Property                  was Entitled                Treasury

Alta I Owner       $130,300,750       $39,090,225       $29,974,983      $9,115,242

Lessor C

Alta I Owner       $130,300,750       $39,090,225       $29,974,983      $9,115,242

Lessor D

Alta II Owner      $110,043,250       $33,012,975       $22,791,621     $10,221,354

Lessor A

Alta II Owner      $110,043,250       $33,012,975       $22,791,621     $10,221,354

Lessor B

Alta II Owner       $88,034,600       $26,410,380       $18,233,297      $8,177,083

Lessor C

Alta II Owner       $66,025,950       $19,807,785       $13,674,973      $6,132,812

Lessor D

Alta II Owner       $66,025,950       $19,807,785       $13,674,973      $6,132,812

Lessor E

Alta III Owner     $110,993,750       $33,298,125       $23,093,966     $10,204,159

Lessor A

Alta III Owner     $110,993,750       $33,298,125       $23,093,966     $10,204,159

Lessor B

Alta III Owner     $110,993,750       $33,298,125       $23,093,966     $10,204,159

Lessor C

Alta III Owner     $110,993,750       $33,298,125       $23,093,966     $10,204,159

Lessor D

Alta IV Owner       $72,058,000       $21,617,400       $15,482,478      $6,134,922

Lessor A

Alta IV Owner       $72,058,000       $21,617,400       $15,482,478      $6,134,922

Lessor B

Alta IV Owner       $72,058,000       $21,617,400       $15,482,478      $6,134,922

Lessor C

Alta IV Owner       $72,058,000       $21,617,400       $15,482,478      $6,134,922

Lessor D

Alta V Owner       $121,860,750       $36,558,225       $25,649,674     $10,908,551

Lessor A

Alta V Owner       $121,860,750       $36,558,225       $25,649,674     $10,908,551

Lessor B

Alta V Owner       $121,860,750       $36,558,225       $25,649,674     $10,908,551

Lessor C

Alta V Owner       $121,860,750       $36,558,225       $25,649,674     $10,908,551

Lessor D

Mustang Hills      $418,774,000      $125,632,200       $86,905,263     $38,726,937

CONCLUSION

The Clerk is directed to enter final judgment against the Government in the amount of $206,833,364. Pursuant to RCFC 54(d), the Court awards reasonable costs to Plaintiffs.

IT IS SO ORDERED.

s/Thomas C. Wheeler

THOMAS C. WHEELER

Judge

Footnotes

1 The Court issued this decision under seal on October 24, 2016, and invited the parties to submit proposed redactions of any proprietary, confidential, or other protected information on or before October 31, 2016. Neither party proposed any redactions. Thus, the Court reissues the opinion in full. Additionally, the Court has corrected three typographical and citation-related errors.

2 These articles are: (1) Bubble, Bubble, How Much Trouble? Financial Markets, Capitalist Development and Capitalist Crises , 52 Sci. & Soc’y 260-89 (Fall 1988), PX 808; (2) Forms of GDR Economic Cooperation With the Nonsocialist World , 29 Ass’n of Comp. Econ. Stud. 7-37 (Summer 1987), PX 813; (3) Plan and Market in the Marxist Imagination: Changing of the Guard Among GDR Economists , 17 German Pol. and Soc’y 39-49 (Summer 1989 Special Issue on “The GDR at Forty”), PX 812; (4) Which Road to Oz? New Thinking in East Germany About the World Economy and the Course of Socialism ,) Working Paper No. 2045-88, Leopold Classic Library (Jan. 1989), PX 818; and (5) Credit Contracts in the GDR: Decentralized Investment Decisions in a Planned Economy , 20 Econ. of Planning 28-51 (1986), PX 817.

3 There is ample precedent for the trial court to exclude the testimony of an expert witness deemed not credible. See, e.g. , Contreras , 121 Fed. Cl. 230, 240-41 (2015) (finding expert witness who perjured himself as to his qualifications should have been excluded); In re Unisys Savings Plan Litig. , 173 F.3d 145, 156-57 (3d Cir. 1999) (excluding expert who provided testimony on voir dire inconsistent with his deposition testimony as unreliable).

4 These six wind farms will be referred to herein as “Alta I” through “Alta VI.” As noted below, Alta VI was renamed “Mustang Hills.”

5 References to “Stip. ¶ __” are to the parties’ April 15, 2016 joint Stipulation of Facts (Dkt. No. 115).

6 Ms. Neubauer, the Section 1603 Program Director, agreed that concepts such as “cost basis” “come from the Internal Revenue Code.” Neubauer, Tr. 1771-72, 1777-78.

7 Assets also constitute a trade or business if “[t]he use of such assets would constitute an active trade or business under section 355” of the IRC. Id. Sec. 1.1060-1(b)(2)(i)(A). The Government does not make any substantive argument that Altas I-VI constitute an active trade or business under Section 355.

8 Although the Government elicited testimony in which certain witnesses acknowledged that it was possible to manipulate the leaseback and sale prices, no witness testified that Plaintiffs and Terra-Gen had actually used these techniques to inflate the purchase prices.

9 Plaintiffs used the same allocation approach when they purchased Altas II-V from Terra-Gen. See Revock, Tr. 729. The difference between these transactions is that Plaintiffs purchased only the eligible property from Terra-Gen in the Alta II-V transactions. Because the Court finds Plaintiffs’ allocations to be reasonable, the Court also agrees that only eligible property was transferred in the Alta II-V purchases.

10 The Government also argues that transmission agreements associated with the Alta facilities are intangible and thus ineligible. See Def. Post-Trial Br. at 64-65, Dkt. No. 163. However, Plaintiffs treated these agreements as part of the (ineligible) transmission lines for allocation purposes. See Huplosky, Tr. 1073-75. Therefore, the point appears to be moot.