By Matthew Adams, MBA
The House of Representatives released details this week of their tax reform proposal, which would offer nearly $1.5 trillion of tax breaks over the next decade. There are still a lot of difficult choices for Congress to ponder, but the main challenge to tax reform stems from their efforts to offset the proposed corporate tax cuts, estate tax repeal, and tax code simplification with enough revenue sources and “pay-fors” to not materially add to the ongoing (and growing) Federal debt of now over $20 trillion dollars.
Summary of Tax Cuts & Simplification
- The corporate tax rate is proposed to be cut from 35% to 20%, bringing that tax in line with the corporate tax rates of other developed countries. It's intended to spur hiring domestically, encourage capital expenditures at home, promote global competitiveness, and invigorate economic growth from the more recent norm of 2% to the long term historic average of nearly 3% GDP growth.
- There would be a 12% tax on repatriated cash-equivalent foreign earnings, which would further encourage corporations to consolidate assets back to the United States and presumably hire and spend more on cap expenditure. However, if history is any guide (2005), these repatriated earnings might very well be directed by companies at share buyback programs instead of hiring or capital expenditure as was the case in the American Jobs Creation Act of 2004 where repatriation rates were dropped to 5.25%.
- There would be simplification of the tax code as there would only be 3 tax brackets of 12%, 25%, and 35%. There is some discussion about maintaining the 4th tax bracket at 39.6% as it is currently, but it is unknown at what level of income that tax would be assessed. Some have speculated that $1,000,000 or more of earned income would be the threshold on this highest income bracket.
- The bill proposed by the House would repeal the Alternative Minimum Tax, which would simplify the tax code significantly.
- The estate tax exemption would be immediately doubled and then phased out over six years. This would immediately exempt estates under ~$22 million in 2018.
Tax Deductions Eliminated/Changed & Revenue Sources Added
- Tax reform has thus far revolved around simplification of itemized deductions. Front and center to that discussion has been “SALT” and to what extent State And Local Taxes should be eligible for deduction against Federal tax liability.
- The details of today’s plan would call for the elimination of a good portion of the SALT itemized deductions. State taxes would no longer be eligible for deduction. The property tax deduction would be preserved, but only at a $10,000 maximum deduction. Also, mortgage interest deduction would be reduced from $1,100,000 to $500,000, but there is some talk about grandfathering in existing mortgage debt.
- Conversely, the child tax credit would increase from $1,000 to $1,600, and a credit for $300 would be given for each child and non-child dependent. The standard deduction is also doubled from $12,700 (for couples filing jointly) to $25,400 per year for a married couple filing jointly.
- As a source of potential revenue, the House proposed bill would tax university endowments at 1.4% if assets are greater than $100k per student.
We view this week’s tax reform details as a working framework from which further negotiation will almost certainly evolve. Many elements to this proposal would be helpful to our clients, but more burdensome in other ways. Our research sources indicate a roughly 65% chance that this legislation will pass in its current form and the time table for finalization of tax reform is estimated to be early 2018.
As the details of tax reform continue to evolve, our Client Advisor team will be in touch to discuss how these changes specifically impact your family.