TCJA Tax Quiz |

Quiz: Tax Cuts and Jobs Act Impact on Valuation of C-corps

The Tax Cuts and Jobs Act (TCJA) was signed into U.S. federal law on December 22, 2017, and it is the most significant change to the tax environment for C-corporations (and taxpayers in general) in 30 years. Take the following 10-question quiz prepared by Adamy Valuation to assess your knowledge level of the TCJA’s impact on the business valuation of your company, subsidiary, reporting unit, or subject interest.

The following ten multiple-choice questions are intended to test your knowledge of how the TCJA affects the business valuation of a hypothetical company that is a C-corp. The questions are written from Adamy Valuation’s perspective as a provider of valuation opinions and other financial advisory and consulting services. Please choose the best answer.

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Quiz on Tax Cuts and Jobs Act Impact on Valuation of C-corps

1: Immediately after the TCJA was instituted the weighted average cost of capital (i.e., WACC or cost of capital) of a C-corp with interest-bearing debt has ___________: [based solely on the decrease in the income tax for C-corps to a flat rate of 21.0 percent, and if all else is equal]*

A: Increased

B: Decreased

C: Not changed

D: Need more information

Correct

Incorrect

Correct answer: A

Due to the lowering of the U.S. federal income tax rate for C-corps, the value of the tax shield from the deduction of interest expense is also reduced, thereby increasing the company’s after-tax cost of debt and thus increasing the company’s WACC. (The result of the TCJA on the equity risk premium is unclear at this time.)

2: The TCJA includes a limitation on the deductibility of interest for companies with annual gross receipts greater than or equal to $25.0 million, but any limited amount can be carried forward indefinitely. For such companies with interest expense in excess of the limitation, the effect of the limitation will decrease the value of the company, via:*

A: A lower after-tax cost of debt in the WACC

B: Lower post-tax cash flows on a discounted to present value basis

C: A higher equity risk premium

D: Both a and b

Correct

Incorrect

Correct answer: B

A is incorrect, as the interest expense limitation increases your after-tax cost of debt. C is incorrect as this it has no direct relationship with the deductibility of interest expense.

3: Which of the following is true with regard to the TCJA treatment of net operating losses (NOLs):*

A: There is no change in the carry-forward deduction of NOLs generated prior to tax years beginning in 2018.

B: The ability to carryback NOLs for tax years beginning in 2018 and thereafter has been eliminated.

C: Utilization of NOLs generated in tax years beginning in 2018 and thereafter are limited to 80% of taxable income, but any limited amount can be carried forward indefinitely.

D: All of the above.

Correct

Incorrect

Correct answer: D

4: Deductibility of research and development expenses will change under the TCJA starting in tax years beginning after 2021, requiring:*

A: Deduction over a 5-year period for expenditures incurred domestically

B: Deduction over a 15-year period if conducted outside of the U.S.

C: Includes expenses for software development and exploration expense

D: All of the above

Correct

Incorrect

Correct answer: D

5: The TCJA provides for 100 percent bonus depreciation deduction of Section 167(k) property (e.g., machinery & equipment), for:*

A: Purchases of such property placed in service after September 27, 2017, in typical cases

B: Purchases of such property, both new and used

C: None of the above

D: Both a & b

Correct

Incorrect

Correct answer: D

6: If all else is equal, the effect of 100 percent bonus depreciation of Section 167(k) property, in merger/acquisition transactions of targets with significant Section 167(k) property, is likely to:*

A: Increase the likelihood of structuring mergers/acquisitions as stock deals

B: Increase the likelihood of structuring mergers/acquisitions as asset deals

C: Have no effect on how mergers/acquisitions are structured

D: None of the above

Correct

Incorrect

Correct answer: B

Given a buyer will be able to immediately deduct 100 percent of the target’s qualifying Section 167(k) property, buyers are likely to push even harder to structure mergers/acquisitions as asset deals. A stock deal would result in the acquired Section 167(k) property being depreciated on a carry-over basis (i.e., no bonus depreciation, and as with any traditional stock deal, no step-up).

7: The TCJA includes favorable and unfavorable provisions to the C-corp taxpayer regarding taxation of a controlled foreign corporation (“CFC”). Which of the following is an unfavorable provision of the TCJA:*

A: GILTI – Global Intangible Low-Taxed Income

B: BEAT – Base Erosion Anti-Abuse Tax

C: Mandatory deemed repatriation tax on foreign earnings

D: All of the above

Correct

Incorrect

Correct answer: D

8: The TCJA made changes to Section 162(m), regarding compensation for certain senior and highly compensated executives at certain SEC registrants. Which of the following is or are true as a result of the change made to Section 162(m), for an affected SEC registrant company with compensation for covered employees over the $1.0 million limit, per covered employee?*

A: The company is likely to restructure covered employees’ compensation to be more performance-based

B: The company’s compensation expense will increase

C: The company’s effective tax rate will increase

D: All of the above

Correct

Incorrect

Correct answer: C

The company’s effective tax rate will increase because income tax expense will increase but pre-tax income is un-changed. Answer a is incorrect because the TCJA eliminated the exception/carve out for performance-based compensation. Answer b is incorrect, as due to more compensation falling under Section 162(m), arguably it is more likely for executive compensation to be reduced, not increased, due to the reduced tax deductibility.

9: If all else is equal (other than the passage of the TCJA), prospective financial information (PFI) of a C-corp. prepared in 2018 is more likely to be:*

A: Quite similar to the PFI prepared in 2017

B: Different than the PFI prepared in 2017 due to increases in capital expenditures

C: Different than the PFI prepared in 2017 due to increases in compensation expense

D: Both b and c

Correct

Incorrect

Correct answer: D

B is true because the tax advantage of 100 percent bonus deprecation on Section 167(k) property incentivizes investment in capital expenditures. Additionally, the 100 percent bonus depreciation provision begins sunsetting in 2023, and is eliminated in 2028. Answer C is also true because employers may want to provide participation in the benefits from the increase in the after-tax cash flow due to the lower U.S. federal income tax rate (for C-corps) under the TCJA. Many public companies have already announced one-time bonuses.

10: The TCJA moves to a territorial system of income taxation. As such, a U.S. corporation’s foreign derived earnings & profits (E&P) are no longer taxed by the U.S. The effect of this change on a U.S. company’s effective tax rate, if all else is equal, for a subject company with substantial repatriated foreign derived E&P, could be one of the following scenarios:*

A: Higher in 2018 than 2017 – assuming mandatory deemed repatriation tax is incurred

B: Higher in 2019 than 2017 – due to GILTI and/or BEAT

C: Lower in 2019 than 2017 – due to no U.S. taxation of foreign E&P in 2019 but foreign E&P taxed in 2017 because it was in fact repatriated, and not fully offset by GILTI and/or BEAT

D: All of the above.

Correct

Incorrect

Correct answer: D

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Adamy Valuation and its affiliates do not provide tax, legal or accounting advice. This material has been prepared for informational purposes only, and is not intended to provide, and should not be relied on for, tax, legal or accounting advice. You should consult your own tax, legal and accounting advisors before engaging in any transaction.