Proposed changes to the federal tax code have been receiving significant attention following the national elections this past November. Now that President Trump has been inaugurated and the new Congress has convened, people are anxious to see which of the proposals will actually be enacted and how soon.
The Republican side of the House of Representatives presented their ideas last summer in a blueprint called “A Better Way: Our Vision for a Confident America.” President Trump’s ideas were laid out during his campaign and consolidated on his campaign’s website: donaldjtrump.com. Reducing financial and regulatory burdens on the country’s citizens and businesses represents a major part of his vision to spur economic and job growth as quickly as possible. The Republicans intend to avoid increasing tax burdens or changes to total tax receipts while achieving three related goals:
- Fuel job creation and deliver opportunity to all Americans;
- Simplify the tax code, making it fairer and less burdensome; and
- Transform the IRS into a customer service focused agency.
With so many similarities between the legislative and executive concepts, political prognosticators are advising that changes could be made quickly enough to possibly affect the 2017 tax year retroactively. Others believe the difficulty in making any significant changes will slow legislation, but they still expect to see changes before the end of 2018.
Regardless of timing, knowing the different proposals and the goals of the changes will help to make the latest news stories more understandable as policies are formed, discussed, and finalized. Naturally, the first concern of most people is how these changes will affect them personally. New tax rates and changes to deductions and exemptions will affect everyone, from the basic 1040-EZ return to the complex ones with interwoven investment and business interests.
Tax Rates
Both proposals desire to reduce the number of tax brackets from seven to three (12%, 25%, and 33%). Though the President’s plan suggests slightly different cutoffs for the different brackets, both plans generally propose that the 12% bracket replaces the current 10% and 15% brackets, the 25% bracket replaces the 25% and 28% brackets, and the 33% rate replaces the 33%, 35%, and 39.6% brackets.
Furthermore, the legislative blueprint would only tax half of the interest and capital gains from investments and savings, deducting the remainder, while the President’s plan would retain the current treatment of interest as ordinary income and capital gains taxed at reduced rates. However, the President would prefer to tax carried interest as ordinary income rather than capital gains as it is today.
The alternative minimum tax (AMT) would be repealed with both plans seeking to relieve taxpayers from the burden of having to calculate their taxes under two different methods.
Affordable Care Act (ACA)
Both plans target the ACA for repeal and replacement. Beyond that general goal, the President only mentions the resulting repeal of the 3.8% additional tax on net investment income as a benefit for taxpayers. The House plan specifically calls for the repeal of each additional tax imposed by the ACA: the mandatory healthcare (which was deemed a tax by the Supreme Court); the additional 3.8% net investment income tax; the additional 0.9% Medicare tax on wages above $200,000; and the tax on medical devices.
Deductions and Exemptions
Existing tax laws provide for personal exemptions for taxpayers and their dependents plus either a standard rate deduction or itemized deductions for a variety of special interest items. The Republican plan would significantly increase the standard deductions while eliminating the personal exemptions. All itemized deductions would be eliminated except for mortgage interest payments and charitable contributions. Their expectation is that most people will have simpler returns because fewer will choose to itemize.
Similarly, President Trump’s plan would roll the personal exemptions into an even greater standard deduction. While all itemized deductions would still be allowed, they would be capped at $100,000 for individuals and $200,000 for married filing jointly. His plan would also remove the head of household filing status.
| 2017 Current Law | House Republicans | President Trump | |
| Personal Exemption | $4,050 | — | — |
| Standard Deduction | |||
| Individual | $6,350 | $12,000 | $15,000 |
| Head of Household | $9,350 | $18,000 | — |
| Married Filing Jointly | $12,700 | $24,000 | $30,000 |
Children and Elderly
To partially offset the elimination of the dependent exemption, the House blueprint proposes to increase the child credit from $1,000 to $1,500 with the first $1,000 continuing to be refundable. It also introduces a $500 non-refundable credit for non-child dependents.
President Trump proposes three benefits for taxpayers with children or elderly dependents.
- Taxpayers could deduct childcare expenses for children under 13 equal to the state average for the age of the child and eldercare for older dependents. These deductions would phase out for high income earners.
- The Earned Income Tax Credit would be increased with a rebate of 7.65% of eligible childcare expenses but capped at an amount equal to half of the payroll taxes paid by the parent or the lower-earning parent in a two-income household.
- $2,000 per year could be contributed pre-tax to Dependent Care Savings Accounts established for the individuals. The government would provide a 50% match to parental contributions for lower-income families to encourage saving.
Estate and Gift Taxes
Both plans expect to repeal the estate tax, commonly referred to as the “death tax” by its detractors. Under current law, the first $5.49 million of a taxpayer’s wealth is exempt from tax when transferred at death. Additionally, property receives a tax free increase, or “step up” in basis, to its current value for the new owner. While the House plan would do away with this tax completely, the President’s proposal would tax the increase to current value for property in estates valued over $10 million but with an exception for small businesses and family farms.
Although neither proposal looked to change the basic gift tax regulations, the Republican blueprint does seek to abolish the generation-skipping transfer tax (GST) when a taxpayer gives a gift to descendants who are not their children.
Business Taxes
The sheer number of changes proposed for individual taxpayers exceeds those applicable to businesses, but the significance of the business tax changes are expected to increase total tax revenues considerably. Both proposals envision that a larger tax base will offset the lower individual revenue streams and maintain, or even increase, total revenue. Lower rates expect to encourage investment and economic growth while also promoting repatriation of capital held overseas, thus generating new tax revenue.
The big headline news that the corporate tax rate would be reduced from 35% to 15% (President Trump) or 20% (Republican blueprint) is less important to most small businesses where the profits and losses flow directly to the owners through partnerships and subchapter S corporations. The good news for these pass-through entities is that the blueprint would cap the tax rate on business profits at 25%, lower than the higher maximum rate of 33%.
Currently all profits are taxed at the owners’ individual rates in the year earned whether distributed or not. The President’s plan would tax any profits retained by pass-through companies at 15% similar to corporations, thus creating a double layer of tax for these type businesses.
Like the individual AMT, both plans would do away with the corporate alternative minimum tax.
To encourage businesses to invest, the House’s plan would allow full expensing of capital investments at the time of purchase, except for land. Businesses would reap an immediate reduction in net income rather than having to capitalize the investments and depreciate the expenses over a period of time. President Trump’s plan would allow manufacturing companies to make a similar election to expense capital investment rather than deduct the interest expense. Companies making such an election would have up to three years to change their minds after which the election would be irrevocable.
The House’s blueprint also would change how interest expenses are handled. Interest expenses would be netted against current interest income. Carrybacks would be eliminated, and excess interest expense could be carried forward indefinitely.
Here for you
Despite this tax turmoil, your financial advisors and tax team at Moneta Group and Tax Strategies will continue to evaluate how these changes may impact you and your financial future. Be sure to contact us if you have any questions. We are here to serve you.
