Minimum Tax Proposal Would Create Complications for Investors and Companies, Tax Experts Say

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A Democratic proposal to tie taxes for big companies more closely to their financial accounting could distort public financial disclosures, inject politics into accounting rule-making and complicate financial reporting for large companies, according to accounting and tax experts and investors.

The proposal, which passed the House by a seven-vote margin on Friday, is intended to prevent major companies from reporting sizable profits to investors while paying little or nothing in federal taxes. It would impose a 15% minimum tax on the biggest U.S. companies, based on the pretax income they publicly report to investors, and is among several corporate-tax policy changes designed to help fund spending on education, healthcare and climate-change initiatives.

The proposal’s sponsors hope to raise nearly $319 billion in tax revenue over a decade and ensure that companies with at least $1 billion in pretax income pay taxes in profitable years, without reducing their income for tax purposes with a range of credits and deductions. Its backers reason that linking the minimum tax to publicly reported financial results will discourage companies from artificially reducing profits, because companies likely won’t risk disappointing investors by engineering smaller profits or even losses to avoid a tax bill.

“The most profitable companies in the world simply don’t want to pay anything,” Sen. Ron Wyden (D., Ore.) said in a statement. “Our corporate minimum tax is a backstop to ensure that the most profitable megacorporations are not paying no taxes at all while reporting record profits to their shareholders.”

The legislation’s sponsors say the measure would affect about 200 companies, mostly the biggest publicly traded corporations. A Wall Street Journal analysis of S&P 500 results found about 236 companies met the pretax income threshold last year, and more than 60 reported effective tax rates below 15% in 2019 or 2020.

Under the minimum tax, companies would continue to benefit from a range of general business tax deductions and credits. The most affected companies would likely be in capital-intensive industries, where financial and tax income often diverge more.

Critics call the proposal a recipe for earnings manipulation and confusion. Companies say it will raise costs and reduce business spending. Accounting experts warn that the measure will thrust financial accounting into new territory and risks giving companies an incentive to distort their financial results to reduce their tax burden.

With Friday’s vote, the legislation heads to the Senate, with about $2 trillion in spending and tax cuts, along with a similar amount in offsetting taxes and budgetary savings. Republicans are expected to oppose the package, leaving Democrats unable to lose a single vote in the evenly divided Senate.

Chicago communications-equipment supplier Motorola Solutions Inc., which meets the income threshold and reported effective tax rates of 18.8% in 2020 and 13% in 2019, sees any minimum tax as adding work and costs, said Helen Carlier, the company’s global head of tax. But starting with the company’s taxable income base instead of book income would be easier, she said. Book income is the income companies disclose to shareholders, while taxable income is the amount on which companies are taxed after making any allowable revenue deductions.

“You’re building from ground up if you’re going with the book income base as opposed to a variation of a taxable income model, which is remodeling an existing structure,” she said.

Houston utility CenterPoint Energy Inc. said the proposal could force it to cut back on infrastructure investment by reducing the tax benefit of making big equipment and other capital purchases, Chief Financial Officer Jason Wells said. That’s because there is a timing difference for book and tax purposes on capital expenses.

Companies’ financial statements are generally designed to inform shareholders and allow comparisons across firms, while tax rules collect revenue and can incentivize good behavior, said Michelle Hutchens, assistant accounting professor at the University of Illinois at Urbana-Champaign.

Accountants and investors said U.S. accounting rules leave companies more room to lower income than inflate it—the usual concern of investors—through a variety of estimates ranging from loan-loss and litigation reserves to accounts-receivable allowances and warranty estimates. That means companies could push results down in order to reduce their exposure to the minimum tax, said Jack Ciesielski, owner of R.G. Associates Inc., an investment research firm and portfolio manager.

This is just another incentive, I guess, to even use that much more non-GAAP.

— David Zion, Zion Research Group

And if they could, at least some probably will, said David Zion, head of Zion Research Group, an accounting and tax research firm. Companies likely will emphasize nonstandard financial measures to investors, effectively encouraging the markets to look past their formal results.

Such “pro-forma” results have become more widespread in recent decades, with 91% of S&P 500 companies using at least one measure not defined under U.S. generally accepted accounting principles, or GAAP, this year through Thursday, according to MyLogIQ, a data provider.

“This is just another incentive, I guess, to even use that much more non-GAAP,” Mr. Zion said.

The measure’s supporters counter that company auditors, financial-accounting rule-makers and ultimately the Securities and Exchange Commission—which polices public-company disclosure—would all limit companies’ ability to mislead investors and tax authorities.

Motorola’s Ms. Carlier said she isn’t concerned that large public companies would manipulate financial results to reduce their exposure to the minimum tax. “We have external auditors to make sure something like that doesn’t happen,” she said.

Sen. Ron Wyden in a thicket of recorders in the U.S. Capitol building. The senator said he is confident in the ability of the Financial Accounting Standards Board to maintain its independence despite corporate lobbying.

Photo: Samuel Corum/Getty Images

Tying taxes more closely to financial accounting also risks undermining the independence of the Financial Accounting Standards Board, which sets GAAP, critics argue. FASB could face political pressure to focus on raising tax revenue instead of its stated mission of ensuring that companies accurately inform investors, Chairman Rich Jones said last week. “It would be an additional pressure, there’s no doubt, on our mission and what we do,” he said.

Others note that the nonprofit body already comes under pressure from lawmakers periodically, including recently over new rules on estimating loan losses, which went into effect for large public companies in early 2020.

“There are strict rules around financial accounting, and the Financial Accounting Standards Board has had a long history of objective independence in the face of constant corporate lobbying,” Sen. Wyden said. “I’m very confident that work will continue.”

Write to Mark Maurer at mark.maurer@wsj.com and Theo Francis at theo.francis@wsj.com

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