Bad debt tax deduction method proposed for financial institutions

Executive summary

Are you in finance or tax management at a bank or insurance company? Would you like to simplify your tax accounting for credit losses? Doing so is optional. Read about the opportunity provided under recently proposed tax regulations.


Opportunity for credit loss deductions

Many banks, insurance companies and other financial companies now have an opportunity to simplify their tax accounting and deduct their book debt charge-offs on their tax returns. This opportunity is available for tax years ending on or after Dec. 28, 2023 under recently released proposed regulations.

Basing the tax charge-off amounts on the financial statement amounts can provide a tax computation that is simplified and has greater certainty. It may also provide acceleration of bad debt deductions. As a trade-off, applying this method can lessen tax-specific flexibility and judgment.

Who is eligible?

Not every financial company is eligible to apply credit loss book-tax accounting conformity under the proposed regulations.

Banks, bank holding companies, savings and loans, federal home loan banks, and farm credit institutions generally are eligible. However, credit unions and U.S. branches of foreign banks are not.

Regulated insurance companies are eligible; other insurance companies are not. Generally, a regulated insurance company is defined as a corporation:

  1. Organized in the United States;
  2. Subject to tax as an insurance company under the U.S. Tax Code;
  3. Licensed, authorized or regulated by one or more States to sell insurance, reinsurance or annuity contracts to unrelated persons; and
  4. Engaged in an insurance business.

Subsidiaries of eligible banks, insurance companies (and other companies descried above) may be eligible as well.

Which financial accounting standards could apply for tax?

The proposed regulations authorize all eligible taxpayers to apply generally accepted accounting principles (GAAP). The currently effective GAAP standard is commonly known as the current expected credit losses (CECL). CECL became effective for some companies for fiscal years beginning after Dec. 15, 2019, and became generally effective for all companies for years beginning after Dec. 15, 2022.

For insurance companies that do not produce GAAP financial statements, financial statements prepared under Statements of Statutory Accounting Principles (SSAP) standards would apply.

For a company applying the proposed regulations, a credit loss that meets the GAAP standard would be conclusively presumed correct for federal income tax purposes. Also, for insurance companies that do not produce GAAP financial statements, the credit losses recorded under SSAP principles would be presumed correct.

Would this rule apply to all debt instruments?

The proposed regulations would apply to debt instruments governed by section 166 of the Tax Code. They would not apply to certain corporate debt and government debt – debt meeting the definition of a “security” in section 165(g)(2)(C).

What about recoveries on previously written-off debt?

The proposed regulations do not require or permit book-tax conformity for recoveries on previously written-off debt. Companies conforming to financial accounting for charge-offs would still need to apply tax standards to their recoveries.

Conclusion

Applying the book-tax conformity provided in the proposed regulations can provide simplicity and greater certainty of tax computation. It may also provide acceleration of bad debt deductions. It is anticipated that many taxpayers would like to apply this recently-authorized tax accounting method. The IRS is expected to issue a Revenue Procedure providing details for this tax accounting method change.

Let’s Talk!

Call us at (325) 677-6251 or fill out the form below and we’ll contact you to discuss your specific situation.

  • Topic Name:
  • Should be Empty:

This article was written by Stefan Gottschalk, Adam Gonsiewski and originally appeared on 2024-02-12.
2022 RSM US LLP. All rights reserved.
https://rsmus.com/insights/services/business-tax/bad-debt-tax-deduction-method-proposed-financial-institutions.html

The information contained herein is general in nature and based on authorities that are subject to change. RSM US LLP guarantees neither the accuracy nor completeness of any information and is not responsible for any errors or omissions, or for results obtained by others as a result of reliance upon such information. RSM US LLP assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect information contained herein. This publication does not, and is not intended to, provide legal, tax or accounting advice, and readers should consult their tax advisors concerning the application of tax laws to their particular situations. This analysis is not tax advice and is not intended or written to be used, and cannot be used, for purposes of avoiding tax penalties that may be imposed on any taxpayer.

RSM US Alliance provides its members with access to resources of RSM US LLP. RSM US Alliance member firms are separate and independent businesses and legal entities that are responsible for their own acts and omissions, and each is separate and independent from RSM US LLP. RSM US LLP is the U.S. member firm of RSM International, a global network of independent audit, tax, and consulting firms. Members of RSM US Alliance have access to RSM International resources through RSM US LLP but are not member firms of RSM International. Visit rsmus.com/about us for more information regarding RSM US LLP and RSM International. The RSM logo is used under license by RSM US LLP. RSM US Alliance products and services are proprietary to RSM US LLP.