What’s going on with tax reform?
May 22, 2017
By Randy Mihm, CPA, JD, Partner
:: UPDATE AS OF JUNE 28, 2017 ::
The Senate released their version of the AHCA on June 22, but it has received some push-back from various Senators and has been delayed until after the July 4 recess. In terms of overall tax reform, the President’s proposals and the tax provisions of the House-passed AHCA are still a basis for significant reform. The current goal of the administration is to provide a lower tax rate on business income, including pass-through income taxed to individuals. However, given that half of 2017 has passed, it is unlikely that any reform will be made retroactive to the beginning of 2017.
The biggest question fielded in the industry today is what is going to happen with tax reform now that the new administration has settled into office. President Trump’s campaign promised tax simplification, tax reduction and tax reform. It is apparent that any potential tax law changes to address these promises would be made in two separate legislative efforts: the replacement of the Affordable Care Act (ACA) and a tax reform bill, of which plans have been released for both and one has moved through the House of Representatives.
While the ACA’s replacement, the American Health Care Act (AHCA), passed the House May 4 , it still must pass the Senate. The version of the bill passed by the House had a few key tax changes within:
1. The AHCA would repeal two taxes passed to fund the ACA: the 0.9% tax on earned income over $250,000 for married filing joint taxpayers and 3.8% on investment income for taxpayers with greater than $250,000 of income. These would likely be effective for tax years after 2017.
2. The AHCA would eliminate the individual and employer mandates and create new health care tax incentives, potentially retroactive Jan. 1, 2017, but not yet verified.
3. There would be a new refundable credit of $2,000 to $4,000 (dependent on age) for health insurance coverage as well as expanded limits on Health Savings Accounts (HSAs).
The administration’s proposal for tax reform, 2017 Tax Reform for Economic Growth and American Jobs, outlined goals including economic and job growth, tax code simplification, tax relief for middle-income American families, and lowering the business tax rate. The one-page release contained minimal details, however, the largest impacts include lowering the federal business tax rate to 15% and reducing the number of individual tax brackets from seven to three. Under current law, the highest corporate rate is 35%, and business income taxed to the individual owners can be taxed at rates of up to 39.6% (and rates of up to 43.4% for taxpayers subject to the net investment income tax). Reducing the number of individual tax brackets would decrease the highest individual rate from 39.6% to 35%. Keeping both of those points in mind, although not explicitly addressed in the one-page release, it is likely the 15% rate is intended to apply to income taxed to the entity as well as income taxed to the individuals (due to their ownership in a pass-through entity).
Additionally, a major component of the administration’s proposed tax reform includes the repeal of the estate tax. Currently, individuals can transfer $5,490,000 by gifts and bequest without any federal estate tax. As such, a married couple can transfer $10,980,000 by lifetime and death-time transfers with no federal estate or gift tax. There are also annual exclusions of $14,000 per recipient. If the lifetime/death-time limit is exceeded, the current rate of estate and gift tax is 40%.
Other key points of the proposed reform document include:
1. Maintenance of the deductions for charitable contributions and mortgage – While not explicitly addressed, the deductions for state and local income taxes, and possibly property tax on nonbusiness assets, may be eliminated.
2. Repeal of the alternative minimum tax which is a tax system requiring the addback of tax preferences and the imposition of tax at rates of up to 28%.
3. Doubling of the standard deduction, which is currently $12,700 for married filing joint return taxpayers – There would also be expanded (but yet undefined) benefit for dependent care expenses.
Elements still in question include:
1. Deductions for businesses expenses – The tax reform proposal does not mention changes to the limits under Sec. 179 for first-year expensing of equipment purchases or bonus depreciation.
2. Meaning of ‘eliminate targeted tax breaks that mainly benefit the wealthiest taxpayers’ – The suggestion has been made that many tax credits which benefit renewable energy, research and experimentation, and other incentives are under review and may be repealed.
As these proposed changes continue to move through the legislative process, it is important to be aware but to also be flexible. Avoid any hastily-made decisions such as changing entities or other classifications in an attempt to get ahead of the potential reform, as these moves could possibly backfire. These proposals still have a way to go and could be subject to major edits or elimination. Practice proactive awareness and consult with your accountant on any potential moves surrounding tax reform.