Tax Reform 2017: Capital Issues As of December 12, 2017 (This is a preliminary analysis of the tax reform bills and could change, based on the final law, further ABA analysis, and any regulatory action) aba.com |1-800-BANKERS

Background U.S. House and Senate have approved bills lowering corporate tax rates. President is expected to sign the final bill in 2017. Accounting Standards Codification (ASC) Topic 740 (Income Taxes) provides guidance when income tax rates change.

Income Tax Rate Changes are Recognized Immediately ASC 740-10-25-47  The effect of a change in tax laws or rates shall be recognized at the date of enactment. ASC 740-10-35-4  Deferred tax liabilities and assets shall be adjusted for the effect of a change in tax laws or rates. A change in tax laws or rates may also require a reevaluation of a valuation allowance  for deferred tax assets. Conclusion: If a law is signed in December, deferred taxes are accounted for in 2017.

Tax Reform Capital Concerns: 2017 If a law is signed in December, deferred tax assets (DTAs) and deferred tax liabilities (DTLs) are accounted for in 2017 financial statements to reflect the new rates. Delay of corporate rates in the Senate bill will require estimates on the timing of which year the items are settled. In addition to DTAs/DTLs, tax credit/benefit investments may need revaluation. Changes to DTAs/DTLs in AOCI are also recorded through net income. Recommendation With very limited timing at year end to review the final bill, calculate adjustments and adjust dividend and other capital planning, bankers are advised to analyze the potential impacts prior to the year end closing process for accounting.

Tax Reform Capital Concerns: 2018 and ongoing Elimination of loss carrybacks will have capital implications. 10%/15% DTA limitations may cause immediate charge. 25% limitation proposed by regulators may alleviate the impact. Capital sensitive items such as MSAs Tax rate decline increases risk weighting/capital requirements because of higher net MSA. Under the Senate bill, decrease in tax rates does not occur until 2019.  “Base-broadening” provisions begin in 2018 This potentially causes an increase in the effective tax rate for 2018. In stress testing scenarios, both the carryback and DTA/DTL issues will likely be present for all banks. This could provide a significant change in approach to capital calculations and related capital plans.