Following are a few important issues our accounting professionals wanted to briefly share with you. As always, should you desire more in-depth information please feel free to contact us.
LEASING ACCOUNTING UPDATE
Early this month, the International Accounting Standards Board (IASB) released a statement of their intent to diverge from the Financial Accounting Standards Board (FASB) on the treatment and presentation of leases on a lessee’s income statement.Convergence of Generally Accepted Accounting Principles (GAAP) and International Financial Reporting Standards (IFRS) has been an overarching goal of FASB and IASB for nearly a decade. The IASB first released a Discussion Paper on the treatment of leases in 2009, and while both Boards have agreed that companies must recognize most leases on their Balance Sheets, they do not agree on the proper presentation of leases on the Income Statement.Following a year of discussion with stakeholders, the IASB announced it will pursue a single presentation and recognition model for all leases, while the FASB has embraced a dual-model which recognizes the difference between financing leases and operating leases.
The IASB’s tentative model will require all lessees to recognize on their income statement any interest and amortization corresponding to the leases they’ve recognized on their balance sheet. The FASB’s dual model retains the existing distinction between finance leases (leases that are, in substance, purchases) and operating leases.
Adopting the IASB model would cause all leases to be recognized as “financings,” which means companies would recognize a “right of use” asset and amortize it over time. The FASB, which has rejected this approach in favor of a dual-model, would allow the financing option, as well as a straight-line expensing of certain leases (such as store rental payments).
The divergence stems from the differing responses the IASB and FASB received since releasing an Exposure Draft of the lease treatment a year ago. The IASB model recognizes the need for investors to be able to better compare dissimilar companies, while the FASB maintained that financing leases (commonly used with real estate transactions) are fundamentally different economic transactions than operating leases and should be recognized as such.
“While the push for total convergence has achieved many agreements, it is clear that there will remain significant differences between the two Boards,” remarked Weinberg Managing Director Corey Fischer. “In this case, each side listened to its stakeholders and came up with different solutions.”
CRACKDOWN ON TAX INVERSIONS
A recent wave of corporate tax inversions has drawn the ire of some leaders in Washington, who have denounced the practice as “unpatriotic.” President Obama recently condemned the practice, calling inversion companies “corporate deserters,” and urging them to “pay their fair share.” The Treasury Department responded, announcing that it is exploring a broad range of administrative actions to curb the practice.The term corporate tax inversion, is used to describe the relocation of a corporation’s headquarters to a lower-tax nation or corporate haven, usually while retaining its significant operations in the higher tax country of origin.The outrage stems from what some in Washington say is a tactic to dodge U.S. taxation without any significant change in the underlying business.
“In recent months there have been reports of a number of corporate inversion transactions designed to change the tax domicile of a U.S.-based multinational firm with minimal change in its business operations,” commented Treasury Secretary Jacob Lew. “These transactions involve the purchase of a foreign corporation [generally in a country with a much lower corporate tax rate and generous rules for shifting income between countries], the transfer of tax domicile to the foreign firm’s country of incorporation, and the shifting of tax liability for the combined firm to the new foreign tax domicile.”
While the inversion tactic became popular in the 1990s, 2014 has seen a spike in the number of pending or attempted inversions, including: Medtronic, Pfizer, Mylan, AbbVie, and Chiquita Brands. Walgreens is pursuing an acquisition of U.K. based Alliance Boots Holdings, Ltd., but has since stated that it does not plan on moving its tax address.
The U.S. corporate tax rate of 35% is one of the highest in the developed world, and U.S. tax authorities claim a rare global taxing authority over U.S. citizens’ worldwide income. With hopes for corporate tax reform fading, inversion represents an opportunity for companies to lower their tax bill while still keeping operations, and even top executives, in the United States.
For their part, congressional leaders have proposed legislation to halt the practice, including the Stop Corporate Inversions Act of 2014, introduced by Sen. Carl Levin (D-Mich). However, believing that the congressional environment is generally deadlocked, the Obama administration is pursuing regulatory options.
“While there has been much talk of legislative actions to curtail inversions, the same Congress that failed to produce meaningful corporate tax reform is unlikely to come to an agreement on inversion legislation,” commented Weinberg Tax Director Jeffrey Engler. “It will be interesting to see how far the Obama administration can go to limit the practice solely through executive powers.”
IRS REDEFINES “REAL ESTATE”
While the fight over corporate inversions has been making headlines, a new method may soon be available for some companies seeking a lower tax bill without having to relocate headquarters to Ireland, the Cayman Islands, or other tax-preferred locales.Windstream Holdings Inc., an Arkansas telecom company, won an IRS ruling that allowed it to classify miles of its fiber-optic and copper cable as “real estate.” It is estimated that the subsequent spin-off of these assets into a tax-favored Real Estate Investment Trust (REIT) will save the company more than $100 million per year.Windstream argued that its telecom cables, which cannot be moved and which generate income, should be considered a form of real estate. The IRS agreed. Beyond the tax advantages, the move has been characterized by Windstream as an opportunity to bolster its dividend culture: in order for the REIT to maintain its tax-favored status, it must distribute 90% of its taxable income as shareholder dividends.
Predictably, the ruling has caused telecom stocks to spike.
In a recent legal ruling by the California Franchise Tax Board (FTB) (Legal Ruling 2014-01) the tax agency asserts that it has far-reaching taxing jurisdiction over entities that are members of California Limited Liability Companies (LLCs) classified as partnerships for tax purposes.The FTB, known for taking a liberal view of what constitutes “doing business” in California, is going after out-of-state members of LLCs.The legal ruling states that an LLC’s tax treatment is derived by the LLC’s own election to be treated as a partnership or corporation. When the LLC chooses to conduct business as a partnership, the FTB maintains that the business of the partnership is the business of each partner wherever a partnership does business. The activities of the partnership are thus attributed to each partner, with the consequence that in geographic locations where the partnership is “doing business,” the partners are also “doing business.” This is true, according to the FTB, because a partner is recognized as deriving a share of partnership income and loss from the place where the partnership transacts its business.
In short, the FTB contends that if an LLC is treated as a partnership for tax purposes, both the LLC and its members are subject to the same legal principles applicable to any partnership. Consequently, if the LLC is “doing business” in California, the members are themselves “doing business” in California.
Further, the FTB contends that its taxing authority “is not affected by whether or not members participate in the management of an LLC or appoint a manager to do so because the members’ rights to participate in the management of the business arise out of the statutory relationship between an LLC and its members.”
The FTB’s policy may be curtailed by the outcome of a civil claim currently in Fresno County Superior Court, filed by Swart Enterprises, Inc. against the FTB. Swart operates a farm in Iowa and has no connection to California other than as a non-managing investor in a California LLC. The company is seeking a refund of the taxes, penalties, and interest assessed by the FTB, and paid under protest.
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Weinberg & Company is a leading, international, full service, multi-office CPA firm serving clients throughout the United States and the Pacific Rim. Founded over two decades ago, the practice groups include: Assurance and Audit, Tax and Accounting, and Advisory Services. Weinberg has a depth of knowledge and experience to meet the needs of both public and privately held companies, high net worth individuals, entrepreneurs, family offices, and can provide customized business management services. www.weinbergla.com
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