ACLI Update
By Sarah Lashley, Mandana Parsazad, and Regina Rose
TAXING TIMES, October 2022
Inflation Reduction Act Tax Provisions
On Aug. 2, after 10 months of intra-party negotiations, the Democrat-led U.S. Senate placed the Budget Reconciliation Bill (H.R.5376) on its calendar and passed it on Aug. 7 with a 50-50 vote with Vice President Harris breaking the tie. The House considered and passed the bill with no changes from the Senate version on Aug. 12 and the President subsequently signed it into law on Aug. 16. The bill formerly known as the Build Back Better Act has been pared back substantially since its passage in the House in November 2021 is now named “The Inflation Reduction Act of 2022.” Progressive Democrats who had previously raised concern about a pared-back bill ultimately supported its passage.
Although many of the revenue provisions that were in the Nov. 19, 2021 House-passed Build Back Better Act have been removed, including most notably a provision that would have increased the corporate income tax rate, two provisions which we covered in the December 2021 “ACLI Update Column” in TAXING TIMES will impact many life insurance companies. Those include a minimum tax on book income and an excise tax on corporate stock repurchases.
Corporate Alternative Minimum Tax on Book Income
H.R.5376 (The Bill) would subject corporations with an average “adjusted financial statement income” (AFSI) greater than $1 billion, calculated over a three-year period, in any of the previous three years to a 15 percent minimum tax on AFSI. For U.S. companies that are part of a group of foreign-owned companies, the minimum tax applies if the worldwide group has average AFSI greater than $1 billion, calculated over a three-year period, in any of the previous three years and the U.S. members of the group have consolidated AFSI of over $100M during that same three-year period. The minimum tax would be creditable and a portion of general business credits against the tax would be allowed.
The provision is estimated to raise approximately $223 billion in revenue over 10 years. Since the release of the bill by the Senate late last year, the minimum tax was modified to provide an exemption of depreciation tax deductions, lowering the amount of revenue initially expected from the provision. The provision becomes effective for taxable years ending after Dec. 31, 2022.
There is extensive authority provided to Treasury to interpret and implement this provision. ACLI and its member companies will engage with Treasury officials to request changes to alleviate complexities caused by the unique tax rules for life insurers which complicate the application and administration of the book minimum tax for our industry.
Corporate Stock Repurchases Excise Tax
The Bill would impose a 1 percent surcharge on corporate buybacks of stock. The tax would be based on the value of any publicly traded American company’s stock that is repurchased during the tax year. There are several exceptions provided in the proposal that would not be subject to the excise tax, including transactions by regulated investment companies (which affect retirement accounts). The provision is estimated to raise $74 billion over ten years.
Tax Treatment of Non-coordinated Benefits
In its General Explanations of the Administration’s Fiscal Year 2023 Revenue Proposals (Greenbook), the U.S. Treasury Department (Treasury) stated that excess reimbursements from supplemental health insurance policies known as non-coordinated benefits (NCBs) are wages if the premiums paid for the policy are attributable to employer contributions. Treasury and the Internal Revenue Service (IRS) had not previously stated that NCB claims payments are wages. A requirement for insurers to apply wage treatment to NCB claims would be costly and in administrable for companies.
NCBs, referred to by Treasury as “fixed indemnity health policies,” are supplemental health insurance policies that are excepted benefits under the Health Insurance Portability and Accountability Act of 1996 (HIPAA).[1] Typical NCBs include cancer-only, critical illness, and hospital indemnity insurance, which are designed to pay for extraordinary medical expenses not covered by major medical insurance, like copays, deductibles, and travel for medical care. The policies pay a fixed dollar amount on the occurrence of a medical event, regardless of the medical expenses the insured incurs. Under state laws based on NAIC model regulations, NCB claims cannot be coordinated with other medical insurance because doing so could cause a reduction in the benefits the insured receives from other insurers that the NCB policy is intended to supplement.[2]
Tax Treatment
Inclusion of Claims Payments in Gross Income
If an individual pays premiums using after-tax dollars, NCB claims payments are excluded from gross income, regardless of the amount.[3] If premiums are attributable to employer contributions, claims payments are taxable to the extent they exceed the associated medical expenses.
Inclusion in Wages
Payments made “on account of” medical expenses are excluded from the definition of wages for purposes of payroll taxes.[4] However, there is no guidance explicitly addressing whether excess reimbursements are wages for payroll tax or income tax withholding purposes. NCB payments by insurers do not fit the plain meaning of the term “wages” since they are not made by an employer or employer’s agent, their amount is not contingent on an employee’s length of service or seniority, and payments do not vary depending on the amount of time an employee is absent from work.[5]
IRS Publications and Guidance
Until 2016, IRS publications and guidance implied that excess reimbursements were subject to income tax, but not includable as wages. IRS Publication 502 and PLR 9546016 supported income inclusion as nonwage income.
In 2017, the IRS issued two Chief Counsel Advice memoranda (CCAs) covering an arrangement in which an employer sponsored wellness plan paid a fixed benefit amount, like NCBs.[6] However, unlike NCBs, which charge arm’s-length premiums and only cover extraordinary medical events, employees were guaranteed to receive benefits that were nearly equal to the employer contributions to the plan, thus avoiding employment taxes on those benefits. The CCAs only addressed plans not qualifying as insurance for tax purposes and did not address the tax treatment of NCB insurance policies. It was not until the recent Greenbook proposal that the government publicly indicated their view that excess reimbursements for employer-paid NCB insurance policies were wages.
Consequences of Categorization as Wages
If NCB excess reimbursements are determined to be wages, then not only the excess reimbursement, but the entire amount of claims payments would likely be required to be reported as subject to payroll taxes and reportable on Form W-2.[7] Nonwage payments are not subject to payroll taxes and are reported on Form 1099 when required.[8] If NCBs are treated as wages, issuers would be responsible for withholding the employee portion of any FICA tax on these claim payments, paying payroll taxes, and reporting the payments on a Form W-2. Complexities would arise since NCBs are legally prohibited from being coordinated with other insurance, leaving issuers of NCBs without access to information necessary to determine the portion of an NCB claim payment which may be subject to payroll tax.[9] As a result, insurers would have to treat the entire claim payment as wages, which would reduce the value of the benefit to policyholders and increase the cost of offering the policy. As a result, NCBs, which provide financial protection for extraordinary medical expenses, will become much less affordable.
OECD’s Base Erosion and Profit Shifting Project—Pillars One and Two: Latest for Insurers
Significant developments continue regarding the Base Erosion and Profit shifting (BEPS) project of the Organization for Economic Cooperation and Development (OECD). The project, comprised of two pillars, is designed to address the global tax challenges arising from the digitalization of the economy and was endorsed by 136 of 140 OECD members in October of 2021.
Pillar One
Pillar One’s scope includes multinational companies with more than €20 billion annual revenues and before-tax profit margins of at least 10 percent.[10] There are two “amounts” subject to taxation under Pillar One. Amount A creates a new taxing right over residual profits and allocates them formulaically to market jurisdictions. Amount B applies arm’s-length principles to in-country pricing.
It was the insurance industry’s understanding that regulated financial services, including insurance companies, would be exempt from Amount A. However, earlier this year we learned that the scope may be broadened to include parts of the financial services industry, including reinsurance. To address this possibility, ACLI advocated for the exclusion of reinsurance from Amount A through the Global Federation of Insurance Associations (GFIA), emphasizing the critical role of reinsurance in management of insurance companies’ risk and capital.
On July 11, a Progress Report on Amount A (Progress Report)[11] was released which provides details on the exemption provided to regulated financial services. Schedule C of the Progress Report excluded reinsurance from Amount A by the same standards set for direct insurance.[12] Schedule C also excluded asset management entities from Amount A and sets forth the criteria for their exclusion.[13] As of the date of publication, GFIA is planning to submit comments to reiterate the need for exclusion of reinsurance.
Pillar Two
As described in the March 2022 “ACLI Update Column” in TAXING TIMES, Pillar Two Model Rules apply to members of multinational corporations with annual revenues of more than €750 million on a consolidated basis in at least two of the four fiscal years immediately preceding the fiscal year at issue.
Pillar Two creates the right for countries to impose a top-up tax based on an entity’s effective tax rate (ETR). An entity’s ETR is based on the ratio of “covered taxes” to financial accounting income.[14] Covered taxes include income taxes and “[t]axes imposed in lieu of a generally applicable corporate income tax.”[15] In anticipation of publication of detailed rules, ACLI members conducted a preliminary analysis of state insurance premium tax statutes to identify the state insurance premium taxes that may be treated as covered taxes under Pillar Two.
On March 14 the OECD released Commentary[16] to the OECD Pillar Two model rules with Examples.[17] ACLI engaged with GFIA to develop a comment letter on the Pillar Two Commentary. The comment letter included a recommendation by ACLI and member companies that state premium taxes, which may not conclusively fall within the definition of taxes paid in lieu of an income tax, be treated as covered taxes under Pillar Two.
Impact of U.S. tax credits on Pillar Two ETR
The business community has become increasingly concerned about the effect U.S. nonrefundable domestic tax credits, such as low-income housing credits, renewable energy credits, and research and experimentation credits have on arriving at the effective tax rate used to determine tax liability under the Pillar Two minimum tax rules. The current tax treatment effectively penalizes U.S. taxpayers under the OECD rules that follow U.S. tax policy goals by engaging in investment activities that produce tax credits which directly lower a taxpayer’s tax liability. Several trade associations and coalitions have communicated their concerns. The Biden Administration seems to have acknowledged the issue in its FY 2022–2023 Greenbook proposal “Adopt the Undertaxed Profits Rule (UTPR),” stating
the proposal would provide a mechanism to ensure U.S. taxpayers would continue to benefit from U.S. tax credits and other tax incentives that promote U.S. jobs and investment.
It is unclear how this may be done without modifying the Pillar Two Model Rules, though equity accounting has been suggested as a possible solution where the credits arise from an equity investment. Uncertainty remains regarding double taxation for tax credits or incentives to which equity accounting cannot be applied.
Effective Dates
Although Pillars One and Two were intended to proceed in tandem, roadblocks to the progression of Pillar Two implementation by Poland and Hungary have impeded the progress in the European Union where tax directives need to be supported unanimously. The fate of Pillar One also is in question in the U.S. Pillar One implementation will require congressional action, whether as a ratified treaty or legislation. Pillar Two presents many nonconformity issues which, at a minimum, will require complex reallocation and computation. Meanwhile the effective dates appear to have been pushed to 2024.
Statements of fact and opinions expressed herein are those of the individual authors and are not necessarily those of the Society of Actuaries, the editors, or the respective authors’ employers.
Sarah Lashley is assistant vice president, Taxes and Retirement Security, for the American Council of Life Insurers and may be reached at sarahlashley@acli.com.
Mandana Parsazad is vice president, Taxes and Retirement Security, for the American Council of Life Insurers and may be reached at mandanaparsazad@acli.com.
Regina Rose is senior vice president, Taxes and Retirement Security, for the American Council of Life Insurers and may be reached at reginarose@acli.com.