On November 8, Donald Trump was elected as the 45th U.S. President. Trump is scheduled to take office on January 20, 2017, and he has announced tax reform as a top legislative item on his 100-day action plan. Given the strong support for tax reform among congressional Republicans, we expect the new year to bring with it significant changes to the tax code. Specific legislative language has not yet been proposed and, while there are some policy differences between the House’s “Tax Blueprint” and Trump’s plan, it is clear that tax reform will be both a congressional and a presidential priority.
We have outlined Trump’s key tax proposals below and noted where Trump’s plan and the House’s Tax Blueprint converge, as tax reform on these items may be the most likely in 2017.
- The business tax rate for all businesses would drop from 35 percent to 15 percent, and the corporate alternative minimum tax (AMT) would be eliminated. The Tax Blueprint diverges from the Trump plan with respect to active business income from sole proprietorships and pass-through entities, capping it at 25 percent (although compensatory income would be taxed at up to the 33 percent rate). Subchapter C corporations would be taxed at a flat 20 percent rate.
- Corporate profits held offshore as of the date as of the date of enactment would be “deemed repatriated” and subject to a one-time 10 percent tax.
- Many corporate tax deductions and credits (although not the research and development credit) would be eliminated. Manufacturers would be allowed to expense capital investments, but would lose the deductibility of corporate interest expense.
- In the Tax Blueprint, net operating losses would be carried forward indefinitely and increased by an inflation factor (but not carried back). In addition, the Tax Blueprint would implement more sweeping changes with respect to cross-border taxation, shifting the U.S. to a destination-based system under which the taxing jurisdiction for business income would be based on the location of consumption (where the goods are sold or the services are performed) instead of the location of production. The current system of taxing U.S. persons on their worldwide income would be replaced with a territorial tax system, and businesses would be entitled to a 100 percent exemption for dividends received from foreign subsidiaries.
Individual Income Tax:
- Both the Trump plan and the Tax Blueprint follow the same individual rate reductions, and reduce the current seven tax brackets to three. Individual income tax would be 12 percent for married joint filers with taxable incomes below $75,000, 25 percent for taxable incomes between $75,000 and $225,000, and 33 percent thereafter (with income thresholds reduced by half for single filers).
- The standard deduction for joint filers would be increased to $30,000 ($15,000 for single filers) under the Trump plan ($24,000 for married filers under the Tax Blueprint). Personal exemptions and “head of household” filing status would be eliminated. The Trump plan provides that itemized deductions would be capped at $200,000 for joint filers and $100,000 for single filers. The Tax Blueprint would eliminate all itemized deductions other than those for home mortgage interest and charitable contributions.
- The shares of profits that the general partners of private equity and hedge funds receive as compensation for investment management and fund oversight (generally referred to as “carried interests”) would be taxed as ordinary income under the Trump plan (the Tax Blueprint provides that an amount equal to “reasonable compensation” would be taxed as ordinary income). The Trump plan would not change the current system for taxing capital gains with a maximum rate of 20 percent, while the Tax Blueprint would make more significant changes. For instance, under the Tax Blueprint the 20 percent capital gains tax rate would be eliminated, and instead individuals would be able to deduct 50 percent of their net capital gains, dividends, and interest income.
- The 3.8 percent tax on net investment income that was enacted as part of the Affordable Care Act would be repealed.
- New Dependent Care Savings Accounts would be established, with annual contributions of up to $2,000 per year, as would other new benefits for families with children and joint incomes under $500,000 (or individuals under $250,000). The Tax Blueprint also would offer enhanced child and dependent care tax credits.
- The AMT would be repealed.
Estate and Gift Tax:
- Federal estate and gift taxes would be repealed, although Trump’s plan would impose capital gains taxes on assets held at death and valued at over $10 million. Contributions of appreciated assets to a private foundation established by the decedent (or relatives of the decedent) will no longer be recognized.
Tax reform has been gaining momentum among congressional Republicans in recent years, and is likely to continue to make headlines under a Trump presidency and Republican-controlled Congress. The scope of reform may be affected based upon whether the Republicans seek bipartisan support for permanent changes to the tax code or opt to pursue reform under budget reconciliation procedures, which would avoid the risk of filibuster but also require that the provisions expire at the end of the budget window.