Congress Considering Retroactive Tax Change as Reconciliation Payfor that Could Cost Altaba Millions

By Stuart E. Leblang, Michael J. Kliegman and Amy S. Elliott

Just over 19 months ago, we issued a report (which is appended) ¹ warning that a retroactive technical correction to the 2017 Tax Cuts and Jobs Act (TCJA) under consideration by Congress could, if enacted, cost Altaba Inc. (trades over-the-counter as 021ESC017) (Altaba) a couple hundred million dollars.  That risk increased significantly when, yesterday, the House Ways and Means Committee released text of legislative proposals containing various tax changes to pay for budget reconciliation. ²  Buried among the proposals is a $451 million payfor ³ that would retroactively repeal TCJA’s broad downward attribution change that benefitted Altaba.

As a quick reminder, in 2017, Congress enacted a new 10.5 percent tax on certain foreign profits of U.S. corporations (the tax on global intangible low-taxed income or GILTI).  While Altaba is a U.S. corporation, its operations—to the extent it has any—are in the United States, so one would think it would not have foreign profits subject to GILTI.  However, TCJA also required a 10-percent shareholder of a controlled foreign corporation (CFC) to pick up its shares of the CFC’s GILTI, if there was any.  A CFC is generally a foreign corporation that is more than 50 percent owned by U.S. persons that each own at least 10 percent.  We think Altaba took the position that one or more foreign subsidiaries of Alibaba Group Holding Limited (NYSE:  BABA) (Alibaba) (of which Altaba at one time owned more than 10 percent) were CFCs, requiring Altaba to pick up its share of those CFCs’ GILTI (by way of a deemed income inclusion) and pay tax on that income (although Altaba may have used foreign tax credits to zero out the tax hit).

This matters because the position Altaba took with respect to GILTI also allowed it to substantially increase Altaba’s tax basis in its Alibaba shares (an increase that could have amounted to about $1.29 billion in 2019), ⁴ saving it taxes.  For every $1 of GILTI basis step-up in Altaba’s Alibaba shares, the company saved 21 cents in federal taxes when it sold the shares (a potential 2019 federal tax savings of about $271 million).

Altaba was only able to secure this benefit because it took the position that it was a 10 percent U.S. shareholder of a CFC (even though it did not actually have control over Alibaba’s foreign subsidiaries).  That position was possible because TCJA turned off Internal Revenue Code (IRC) Section 958(b)(4), causing the constructive stock ownership attribution rule in Section 318(a)(3) to turn on for purposes of determining whether there is a CFC.

After TCJA’s enactment, some in Congress expressed regret that the change was too broad, creating too many CFCs (which, in most cases is a nuisance to taxpayers, not a benefit, as in Altaba’s case), and legislation was introduced to “limit the scope of downward attribution rules to 50 [percent] of stock ownership in applying constructive ownership rules to controlled foreign corporations.” ⁵ 

The legislation would have created new Section 951B and would have only turned off Section 958(b)(4) if a person (Altaba, in this case) owned more than 50 percent (not 10 percent or more) by value of the stock in a corporation (Alibaba, in this case).  The legislation proposed the change be made retroactive to TCJA, which would have entirely wiped out Altaba’s GILTI basis step-up.

Thankfully (maybe), the proposal that the Ways and Means Committee released yesterday ⁶ provides an election out, implicitly acknowledging that some taxpayers benefitted from the TCJA change and that it would arguably be unfair (if not, as some have posited, unconstitutional) to retroactively take that away from them years after the fact.

The problem is that it is not entirely clear that Altaba can squarely rely on the election out.  We are still parsing the language, but below are a few phrases that could cause problems for Altaba:

• The election “shall be effective only if made by the foreign corporation and by all United States shareholders of such foreign corporation.” Does this mean Alibaba has to cooperate to make the election?
• According to the Joint Committee on Taxation, “[t]he election is binding on the current U.S. shareholders and all future U.S. shareholders of the foreign corporation.” ⁷ Will Alibaba be okay with making an election that binds all of its future U.S. shareholders?
• The election will not be effective “if the [Treasury] Secretary determines that treatment of such foreign corporation as a controlled foreign corporation for such purpose would be inconsistent with the purposes of this subchapter.” What are the purposes and would Altaba’s tax savings resulting from the election be inconsistent with them?

Additionally, the election is not self-effectuating, meaning that just because the statute (assuming this gets enacted) references the election, a taxpayer cannot actually make it until regulations or other guidance specify that elections can be made “at such time and in such manner as the [Treasury] Secretary may provide.” Altaba does not have an infinite amount of time to sort this out.  Its statutorily prescribed three-year winding up period ⁸ is set to run out on or around October 4, 2022, absent an extension.

One interesting aspect of the proposal is that it no longer seems to be framed as a TCJA technical correction (which some would argue should not raise revenue). ⁹  It is not purely retroactive (due to the election out), and the Joint Committee on Taxation estimated that it will raise $451 million over 10 years.

When the change was enacted by TCJA, it was believed to raise revenue (the provision was designed to target so-called de-control transactions that enabled U.S. taxpayers to avoid subpart F tax, although the exact amount of revenue it was estimated to raise is not clear, as it was lumped together with another provision). ¹⁰ 

So how can repealing it (in part) also raise revenue, especially given that it is offering an election out for taxpayers who would otherwise be harmed?  One might think the government is almost setting itself up for a whipsaw situation.  The only way that we can think of that this proposal might generate revenue is if certain taxpayers that would otherwise be harmed by it (such as Altaba) might not be able to make the election out.

^{[1] The report is “Could Potential Tax Change Reduce Amount Altaba Shareholders Are Expecting as a Liquidating Distribution?” (Feb. 11, 2020).  We also addressed the issue in our earlier report “Could Alibaba Be GILTI of Owning a U.S. Subsidiary?  If So, There Is a Potential Unexpected Tax Benefit for Altaba” (Jan. 31, 2019).}

^{[2] Press Release, Chairman Neal Announces Additional Days of Markup of the Build Back Better Act, House Ways and Means Committee (Sept. 13, 2021) (https://waysandmeans.house.gov/media-center/press-releases/chairman-neal-announces-additional-days-markup-build-back-better-act); for a section-by-section summary of the tax changes (Subtitle I), see https://waysandmeans.house.gov/sites/democrats.waysandmeans.house.gov/files/documents/SubtitleISxS.pdf; for the legislative text, see §138128 at https://waysandmeans.house.gov/sites/democrats.waysandmeans.house.gov/files/documents/NEAL_032_xml.pdf}

^{[3] JCX-42-21 (September 13, 2021) (https://www.jct.gov/publicati JCX-42-21 (September 13, 2021) (https://www.jct.gov/publications/2021/jcx-42-21/).ons/2021/jcx-42-21/); see “Deduction for foreign source portion of dividends limited to controlled foreign corporations, etc.”}

^{[4] According to “Complaint to Reduce Tax Liabilities to Judgment,” filed June 16, 2020 (Case No. 1:20-cv-00811-UNA), the IRS sought to disallow all of Altaba’s claimed GILTI items in 2019, including $1,292,078,828 for a GILTI basis step-up under 26 U.S.C. § 951A.}

^{[5] See S. 2586 from the 116th Congress (https://www.congress.gov/bill/116th-congress/senate-bill/2589?r=1&s=2).}

^{[6] See §138128, Deduction for Foreign Source Portion of Dividends Limited to Controlled Foreign Corporations, Etc. found on page 576 of the legislative text.}

^{[7] https://www.jct.gov/publications/2021/jcx-43-21/}

^{[8] The dissolution period will last at least three years from the time the certificate of dissolution is filed (as required by Delaware General Corporate Law (DGCL)), but the period can be extended either at the direction of the judge or automatically for the resolution of pending claims.}

^{[9] “For some, there is an understanding that technical corrections are provisions that are generally noncontroversial changes to the text of already enacted tax legislation to ensure that the law as enacted is consistent with Congress’s original intent.  What some might consider a true ‘technical correction’ would also not affect revenue,” as written by Molly F. Sherlock and Jane G. Gravelle “Technical Corrections” to Tax Reform, Congressional Research Service, Oct. 9, 2019 (https://www.everycrsreport.com/files/20191009_IN11175_90ac34c057d87fd0cfeba28c773552fd1218eec9.pdf).}

^{[10] See Modification of stock attribution rules for determining status as a controlled foreign corporation (https://www.jct.gov/publications/2017/jcx-67-17/).}