Tax Reform Update
On 11/9/17, Senate Republicans unveiled
details of its tax reform legislation in an outline. While there are some similarities to the House Ways
and Means-approved tax reform bill that it released on 11/2/17 (as detailed below), the Senate Finance Committee's bill
takes a different approach to tax reform.
Senate's Different Approach To Tax Reform
Most notably, the Senate proposal would delay the corporate tax rate
cut to 20 percent until 2019 and offers seven rates on the individual
side of taxation: 10, 12, 22.5, 25, 32.5, 35 and 38.5 percent. The House
bill offers four individual rates, at 12, 25, 35 and 39.6 percent.
Income thresholds for each bracket were not yet designated in the
Additionally, the Senate bill would maintain the mortgage interest
deduction cap at $1 million; the House proposes a cap of $500,000.
Further, the Senate measure would completely eliminate the state and
local tax (SALT) deduction. This proposal in the House’s bill has drawn
criticism from both Democrats and Republicans hailing from high-tax
states. And while the Senate bill retains the estate tax, unlike the
House’s proposed phaseout of the tax, it doubles the threshold for
The Senate Finance Committee is expected to begin markup of its bill
on November 13, 2017. Republicans hope to pass tax reform legislation
House Ways and Means Draft Tax Reform issued 11/2/17
The House Ways and Means Committee released draft tax reform legislation on 11/2/17. The Tax Cuts and Jobs Act, H.R. 1, incorporates many of the provisions listed in the Republicans’ September tax reform framework while providing new details.
The bill features new tax rates, a lower limit on the deductibility of home mortgage interest, the repeal of most deductions for individuals, and full expensing of depreciable assets by businesses, among its many provisions.
Tax rates: The bill would impose four tax rates on individuals: 12%, 25%, 35%, and 39.6%, effective for tax years after 2017. The current rates are 10%, 15%, 25%, 28%, 33%, 35%, and 39.6%. The 25% bracket would start at $45,000 of taxable income for single taxpayers and at $90,000 for married taxpayers filing jointly.
The 35% bracket would start at $200,000 of taxable income for single taxpayers and at $260,000 for married taxpayers filing jointly. And the 39.6% bracket would apply to taxable income over $500,000 for single taxpayers and $1 million for joint filers.
Standard deduction and personal exemption: The standard deduction would increase from $6,350 to $12,200 for single taxpayers and from $12,700 to $24,400 for married couples filing jointly, effective for tax years after 2017. Single filers with at least one qualifying child would get an $18,300 standard deduction. These amounts will be adjusted for inflation after 2019. However, the personal exemption would be eliminated.
Deductions: Most deductions would be repealed, including the medical expense deduction, the alimony deduction, and the casualty loss deduction (except for personal casualty losses associated with special disaster relief legislation). The deduction for tax preparation fees would also be eliminated.
However, the deductions for charitable contributions and for mortgage interest would be retained. The mortgage interest deduction on existing mortgages would remain the same; for newly purchased residences (that is, for debt incurred after Nov. 2, 2017), the limit on deductibility would be reduced to $500,000 of acquisition indebtedness from the current $1.1 million. The overall limitation of itemized deductions would also be repealed.
Some rules for charitable contributions would change for tax years beginning after 2017. Among those changes, the current 50% limitation would be increased to 60%.
The deduction for state and local income or sales taxes would be eliminated, except that income or sales taxes paid in carrying out a trade or business or producing income would still be deductible. State and local real property taxes would continue to be deductible, but only up to $10,000. These provisions would be effective for tax years beginning after Dec. 31, 2017.
Credits: Various credits would also be repealed by the bill, including the adoption tax credit, the credit for individuals over age 65 who have retired on disability, the credit associated with mortgage credit certificates, and the credit for plug-in electric vehicles.
The child tax credit would be increased from $1,000 to $1,600, and a $300 credit would be allowed for non-child dependents. A new “family flexibility” credit of $300 would be allowed for other dependents. The $300 credit for non-child dependents and the family flexibility credit would expire after 2022.
The American opportunity tax credit, the Hope scholarship credit, and the lifetime learning credit would be combined into one credit, providing a 100% tax credit on the first $2,000 of eligible higher education expenses and a 25% credit on the next $2,000, effective for tax years after 2017. Contributions to Coverdell education savings accounts (except rollover contributions) would be prohibited after 2017, but taxpayers would be allowed to roll over money in their Coverdell ESAs into a Sec. 529 plan.
The bill would also repeal the deduction for interest on education loans and the deduction for qualified tuition and related expenses, as well as the exclusion for interest on U.S. savings bonds used to pay qualified higher education expenses, the exclusion for qualified tuition reduction programs, and the exclusion for employer-provided education assistance programs.
Other taxes: The bill would repeal the alternative minimum tax (AMT).
The estate tax would be repealed after 2023 (with the step-up in basis for inherited property retained). In the meantime, the estate tax exclusion amount would double (currently it is $5,490,000, indexed for inflation). The top gift tax rate would be lowered to 35%.
Pass-through income: A portion of net income distributions from pass-through entities would be taxed at a maximum rate of 25%, instead of at ordinary individual income tax rates, effective for tax years after 2017. The bill includes provisions to prevent individuals from converting wage income into pass-through distributions. Passive activity income would always be eligible for the 25% rate.
For income from nonpassive business activities (including wages), owners and shareholders generally could elect to treat 30% of the income as eligible for the 25% rate; the other 70% would be taxed at ordinary income rates. Alternatively, owners and shareholders could apply a facts-and-circumstances formula.
However, for specified service activities, the applicable percentage that would be eligible for the 25% rate would be zero. These activities are those defined in Sec. 1202(e)(3)(A) (any trade or business involving the performance of services in the fields of health, law, engineering, architecture, accounting, actuarial science, performing arts, consulting, athletics, financial services, brokerage services, or any trade or business where the principal asset of such trade or business is the reputation or skill of one or more of its employees), including investing, trading, or dealing in securities, partnership interests, or commodities.
II Business provisions
A flat corporate rate: The bill would replace the current four-tier schedule of corporate rates (15%, 25%, 34%, and 35%, with a $75,001 threshold for the 34% rate) with a flat 20% rate (25% for personal services corporations). The corporate AMT is repealed along with the individual AMT.
Higher expensing levels: The bill would provide 100% expensing of qualified property acquired and placed in service after Sept. 27, 2017, and before Jan. 1, 2023 (with an additional year for longer-production-period property). It would also increase tenfold the Sec. 179 expensing limitation ceiling and phase-out threshold to $5 million and $20 million, respectively, both indexed for inflation.
Cash accounting method more widely available: The bill would increase to $25 million the current $5 million average gross receipts ceiling for corporations generally permitted to use the cash method of accounting and extend it to businesses with inventories. Such businesses also would be exempted from the uniform capitalization (UNICAP) rules. The exemption from the percentage-of-completion method for long-term contracts of $10 million in average gross receipts would also be increased to $25 million.
NOLs, other deductions eliminated or limited: Deductions of net operating losses (NOLs) would be limited to 90% of taxable income. NOLs would have an indefinite carryforward period, but carrybacks would no longer be available for most businesses. Carryforwards for losses arising after 2017 would be increased by an interest factor. Other deductions also would be curtailed or eliminated:
Instead of the current provisions under Sec. 163(j) limiting a deduction for business interest paid to a related party or basing a limitation on the taxpayer’s debt-equity ratio or a percentage of adjusted taxable income, the bill would impose a limit of 30% of adjusted taxable income for all businesses with more than $25 million in average gross receipts.
The Sec. 199 domestic production activities deduction would be repealed.
Deductions for entertainment, amusement, or recreation activities as a business expense would be generally eliminated, as would employee fringe benefits for transportation and certain other perks deemed personal in nature rather than directly related to a trade or business, except to the extent that such benefits are treated as taxable compensation to an employee (or includible in gross income of a recipient who is not an employee).
Like-kind exchanges limited to real estate: The bill would limit like-kind exchange treatment to real estate, but a transition rule would allow completion of currently pending Sec. 1031 exchanges of personal property.
Business and energy credits curtailed: Offsetting some of the revenue loss resulting from the lower top corporate tax rate, the bill would repeal a number of business credits, including:
The work opportunity tax credit (Sec. 51).
The credit for employer-provided child care (Sec. 45F).
The credit for rehabilitation of qualified buildings or certified historic structures (Sec. 47).
The Sec. 45D new markets tax credit. Credits allocated before 2018 could still be used in up to seven subsequent years.
The credit for providing access to disabled individuals (Sec. 44).
The credit for enhanced oil recovery (Sec. 43).
The credit for producing oil and gas from marginal wells (Sec. 45I)
Other credits would be modified, including those for a portion of employer Social Security taxes paid with respect to employee tips (Sec. 45B), for electricity produced from certain renewable resources (Sec. 45), for production from advanced nuclear power facilities (Sec. 45J), and the investment tax credit (Sec. 46) for eligible energy property. The Sec. 25D residential energy-efficient property credit, which expired for property placed in service after 2016, would be extended retroactively through 2022 but reduced beginning in 2020.