Only one month in to the new federal administration, tax reform is already a tangible possibility and proposals from both President Trump and the House GOP are under consideration.
Although the plans are still in their early stages, both the president’s proposal and the House GOP’s plan, “A Better Way,” would reduce individual and business tax rates. Despite changes being under way, congressional commentators are uncertain about the exact timing and whether new legislation will be effective for 2017, or even 2018.
At a glance, both proposals reduce top individual tax rates from 39.6 percent to 33 percent, while the 3.8 percent net investment income tax (NII) and the 0.9 percent additional Medicare surcharges on high incomers will be repealed. Both plans also provide for greater expensing of all business property, while eliminating the deduction for business interests if the company is permitted to elect 100 percent expensing of equipment.
Trump’s most substantial tax reduction will be on business income, dropping tax rates from 35 percent to 15 percent, with the catch that income be retained in the business. The plan does not specify how partnerships can retain profits subject to the 15 percent rate, yet profits distributed to partners will be subjected to the higher individual rates of up to 33 percent.
Meanwhile, the House GOP plan includes a 20 percent C corporation rate and a 25 percent rate on all other pass-through entities including partnerships, LLCs and S corporations. The plan stipulates that these entities pay reasonable compensation to their owners, who will be subjected to rates of up to 33 percent.
Trump’s plan also caps itemized deductions for the married filed jointly taxpayers (MFJ) at $200,000. This is however likely to be replaced with the House GOP provision that eliminates all itemized deductions except for home mortgage and charitable contributions, meaning that residents high-tax states like California and New York, will face a tax increase with the absence of lower individual rates in these proposals.
20% import tax
The House GOP has pitched a 20 percent import tax proposal to help rectify the reduced tax revenue due to the lower individual and business tax rates. The implications of this tax for differing industries is under evaluation.
President Trump has been quoted as saying this tax is “too complicated.” However, his aides say he is warming to the proposal.
Repeal the estate and gift taxes?
Trump’s plan does not state clearly whether there will be just a carryover basis or a capital gains tax determined at death for estates greater than $10 million, or some combination.
Estate and trust legal advisors suggest that fiexible planning to account for this uncertainty and any future modifications.
Who benefits from the proposals?
Generally, high income taxpayers residing in states with low income rates will benefit most from any reduction of individual tax rates, including the repeal of the NII 3.8 percent tax and 0.9 percent Medicare surcharge. How middle- and low-income taxpayers will benefit will remain unclear until legislation is finalized.
On the other hand, all businesses that retain profits will greatly benefit from the lower rates of 15 percent, 20 percent and 25 percent, as well as from the provisions that allow for 100 percent current expensing of equipment.
High-net-worth individuals with estates greater than $10 million will benefit tremendously from the repeal of the estate and gift taxes. Only the wealthiest taxpayers — less than 1 percent of the population — currently pay the estate tax. In 2015, about 5,000 estates filed and paid $17 billion in taxes with most of this tax coming from a few hundred estates with assets greater than $50 million.
Michelle Crosbie, CPA, director tax, BPM, has extensive expertise, primarily in tax, across a variety of industries including financial services, manufacturing and agriculture.
Joseph Kitts, partner, tax, is a specialist in the planning of estates and trusts, tax planning and compliance for business entities, with particular emphasis on business transactions and buy/sell agreements.