On September 27, 2017, the Trump Administration, the House Committee on Ways and Means, and the Senate Committee on Finance released a long-awaited tax proposal, titled the Unified Framework for Fixing Our Broken Tax Code (the “Framework”).
As with prior proposals, the Framework paints in broad policy strokes and is short on actual detail, leaving it up to Congressional committees to work out the specifics – particularly how to pay for the proposed tax cuts.
The Framework rests on the premise that tax changes will spur sufficient economic growth to offset the loss of revenue. It promotes these changes as a way to modernize U.S. business taxation, spur the economy, and make the United States more competitive in the international playing field.
Below is a look at some of the more interesting proposals in the Framework.
Lowers Rates for Individuals and Families
The Framework shrinks the current seven tax brackets into three brackets at 12%, 25% and 35%. However, there is no indication where the bracket lines will be drawn, which makes a big difference to most taxpayers.
The Framework indicates that an additional top rate may be added which would apply to the highest-income taxpayers to ensure the reformed tax code is at least as progressive as the existing tax code. Some economists indicate this is a poor idea, as the current tax code is the most progressive in the developed world and needs to become less so to stimulate growth.
Doubles the Standard Deduction and Enhances the Child Tax Credit, While Eliminating Most Itemized Deductions; Retains Certain Critical Provisions for Middle Class
The Framework roughly doubles the standard deduction so typical, middle-class families will keep more of their paycheck. It also significantly increases the Child Tax Credit.
To provide simplicity and fairness, the Framework eliminates many itemized deductions that are primarily used by the wealthy (including state and local tax deductions) but retains tax incentives for home mortgage interest and charitable contributions, as well as tax incentives for work, higher education, and retirement security.
Repeals the Estate Tax and Alternative Minimum Tax (AMT)
The Framework repeals the Estate Tax and substantially simplifies the tax code by repealing the existing individual AMT, which requires taxpayers to do their taxes twice under separate tax regimes. The Estate Tax is paid only by people who have paid significant taxes already (on gross estates exceeding the exemption amount of $5.49 Million in 2017).
Creates a New Lower Tax Rate and Structure for Small Businesses
The Framework limits the maximum tax rate for small and family-owned businesses to 25% (including LLCs, Partnerships and S-Corporations). This rate is significantly lower than the top rate that these types of businesses pay today as pass-through entities. However, it is not clear how this change will be implemented; and the Framework specifically contemplates “that the committees will adopt measures to prevent the re-characterization of personal income into business income to prevent wealthy individuals from avoiding the top personal tax rate.”
Lowers the Corporate Tax Rate
The Framework reduces the corporate tax rate to 20%, below the 22.5% average of the industrialized world. This change will promote competitiveness for American businesses.
Allows “Expensing” of Capital Investments
The Framework allows (for at least five years) businesses to immediately write off (or “expense”) the cost of new capital investments, which along with the reduction in corporate tax rates will provide an economic boost in both the short and long term. However, “depreciation” often makes more sense than “expensing”; so once again, the details will be critical to understanding the impact of this change.
Reforms Taxation of International Corporations
The Framework ends the incentive to offshore jobs and keep foreign profits overseas. However, the details are absent. It brings home profits by imposing a one-time, low tax as an incentive to facilitate repatriation of profits earned overseas to the United States. Prospectively, there will be no income tax on dividends paid by foreign subsidiaries to U.S. parent companies. The Framework provides for a transition to that system, but the description of the transition mechanism is too vague to evaluate.
Overall, the concepts of the Framework are generally good; however, important details remain to be filled in. It is not clear whether those in Congressional leadership have agreed on these details. At this point, it is impossible to say what (if anything) will ultimately pass.
Our firm will continue to keep you updated on this and other tax proposals that could impact your planning.