Overview

Different U.S. political parties have controlled the White House, the Senate and the House of Representatives in 44 out of the last 72 years. Since 1945, only 14 times (28 years) in modern political history have both branches of Congress and the U.S. Presidency been controlled by the same party. Remarkably, three of 14 times have been since the 2000 elections (George W. Bush in 2003 and 2005 and Donald J. Trump in 2017), which makes the results of the recent election less of a recent phenomenon than one would think. Interestingly, in the 14 times over 28 years, the Democrats have held this advantage more often than Republicans (11 to three).

Starting next year, with Republicans in control of the Executive Branch as well as both bodies of Congress, all indications point to significant tax legislation for 2017 and beyond. It is likely we will see tax reform at a level and scope that has not occurred since the Reagan administration in the 1980s. Specifically, this refers to the landmark Tax Reform Act of 1986, which lowered the-then top tax rate of 50 percent to 28 percent, and consolidated tax brackets from 15 levels of income to four; changed the alternative minimum tax; imposed new passive loss/tax shelter limitations; and added thousands of pages of complexity to the-then tax code.

Aside from possible Democratic filibusters, it appears that almost nothing may prevent significant tax reform in 2017.

What’s on the Agenda – The First 100 Days

Although the road to tax reductions under President-elect Trump may take many twists and turns and encounter some slippery slopes (e.g., finding a way to pay for the tax cuts), the key points of Trump’s tax plan, and his immediate tax reform goals for his first 100 days in office, are:

  • Repeal of the Affordable Care Act and associated tax penalties for lack of minimum coverage, which would include the elimination of the additional Medicare tax, the net investment income surtax, the medical device excise tax and the Cadillac tax on certain high-cost health plans.

However, in the weeks following the election, it has been mentioned that certain provisions related to preexisting conditions and coverage for children under their parents’ policies until age 26 may be retained. Trump also favors health savings accounts and the ability to purchase health insurance nationwide, without restriction to resident state “marketplaces.”

  • Repeal of the estate tax while taxing estates’ unrealized appreciation above $10 million.
  • Capping the capital gains tax rate at 20 percent, while taxing carried interest as ordinary income.
  • A reduction of individual income tax rates through the creation of three tax brackets to 12 percent, 25 percent and 33 percent from the current graduated tax rates, ranging from 10 percent to 39.6 percent plus the 3.8-percent net investment income surtax and 0.9-percent Medicare tax.
  • A reduction of the corporate income tax rate from 35 percent to 15 percent.
  • A one-time 10-percent tax on repatriated offshore corporate profits.

The Devil Is in the Details – What Are the Potential Impacts?

Although most taxpayers would welcome some level of tax relief, a key concern with the proposed tax reductions is the absence of accompanying methods for neutralizing tax revenue losses that are likely to occur with the implementation of major tax cuts. Some economists project the current deficit of $19 trillion would increase by at least $9 trillion over the next 10 years as a result of the proposed tax cuts. Therefore, the desire to neutralize tax revenue losses will unquestionably impact any tax revenue proposals once President-elect Trump takes office in 2017. Below are a few significant elements of Trump’s proposed tax plan.

Potential Individual Implications

Individual Income Tax Brackets and Tax Rates

The current seven tax bracket system, culminating in a top tax rate of 39.6 percent for high-income taxpayers (exclusive of the net investment income tax of 3.8 percent and 0.9-percent Medicare tax), would be reduced to three brackets, which would tax ordinary income at 12 percent, 25 percent and 33 percent. The new brackets as outlined in the Trump plan will tax ordinary income at the levels indicated in the table below.

Current Ordinary Income Tax Rates

“Trump” Ordinary Income Tax Rates

Single Taxpayers Under the Trump Blueprint

Married Filing Joint Taxpayers Under the Trump Blueprint

Capital Gains Rates (Unchanged Under Trump’s Plan)

10% & 15%

0% & 12%

$0 to $37,650

$0 to $75,300

0%

25% & 28%

25%

$37,651 to $190,150

$75,301 to $231,450

15%

33%, 35% & 39.6%

33%

$190,151+

$231,451+

20%

When compared to the current brackets, a high-income family at the maximum tax rate could enjoy an approximate 24-percent tax cut, and high-income taxpayers could enjoy a maximum tax rate of 33 percent instead of the current 39.6 percent, inclusive of the 3.8-percent net investment income tax (which Trump proposes to repeal).

Standard Deduction/Personal Exemptions/Head-of-Household Filing Status

In addition to the tax rate cuts, Trump has proposed more than doubling the standard deduction for single taxpayers and joint filers, to $15,000 (from $6,300) and $30,000 (from $12,600), respectively, while eliminating personal exemptions and the head-of-household filing status. For high-income taxpayers, elimination of personal exemptions would have no impact due to current income limitations. Eliminating the head-of-household (HOH) filing status, which is available to those unmarried taxpayers who care for another individual, as well as qualifying single parents, would negatively impact those filers since they currently receive a larger standard deduction and are subject to expanded tax brackets.

Alternative Minimum Tax/Itemized Deductions

Trump also proposes eliminating the alternative minimum tax and the institution of a cap on itemized deductions, to $100,000 and $200,000, for single and joint filers, respectively, both of which could be consequential.

Carried Interest

It is interesting to note that Trump proposes taxing carried interest, which is the allocable share of profit that private equity partners earn as part of compensation, at ordinary income rates instead of preferential long-term capital gains rates, effectively resulting in a tax increase for these highly compensated individuals.

Dependent Tax Credits

For individual taxpayers, Trump has expressed an interest in implementing a child and dependent care deduction to replace the existing credit that is limited for many taxpayers due to income limitations.

Repeal of the Estate Tax

Trump’s proposed plan calls for repeal of the federal estate and gift tax, which, for 2017, applies to estates valued at $5,490,000 and $10,980,000 for single and married couples, respectively. For estates in excess of these values, the tax rate is a significant 40 percent. If the estate tax is repealed, the current law requiring a step up in basis to date of death value (which eliminates having to pay both estate tax and income tax on the same dollars) will also disappear, according to Trump’s plan. Trump proposes taxing (at capital gains rates) only the appreciation in asset value for assets inherited from estates valued in excess of $10 million. The tax would apply only when the assets are ultimately sold.

Potential Business Implications

Corporate Income Tax Rates

Along with the reduction of the corporate tax rate from 35 percent to 15 percent for C corporations and the elimination of the corporate alternative minimum tax, Trump has called for the elimination of almost all business deductions, including ratable depreciation deductions over multiple tax periods corresponding to the life of business assets, with the replacement of a deduction for the cost in the year of asset purchases, without a deduction for interest expense. He intends to increase the annual Section 179 expensing deduction cap from $500,000 to $1 million. Presently, the only corporate tax deduction not on the radar for elimination is the research and development credit.

Pass-through Entities

Under Trump’s plan, pass-through entity owners (i.e., partnerships and S-corporations whose income is passed through from these entities and taxed at the individual’s income tax rates), could make an election to have their pass-through income taxed at a flat and lower rate of 15 percent, with large pass-through entities subject to the 20-percent dividend tax rate on undistributed earnings.

Overseas Income

Trump’s plan to tax the billions of dollars of income earned by foreign divisions of U.S. companies—and escaping U.S. tax under current regulations—calls for a one-time 10-percent “repatriation” tax, payable over 10 years, on accumulated earnings and profits, while taxing future profits in the year earned.

Obamacare-Related Taxes

Although Trump has not mentioned this specifically, repeal of the Affordable Care Act would also presumably include repeal of the net investment income surtax, the “Cadillac tax” on high-end health insurance plans currently scheduled to go into effect in 2020, along with the assumption that the medical device tax would also be repealed.

TAG’s Perspective

At this point in time, all are guessing at what the tax law may be and its possible effects on your tax position for 2017 and beyond. While it is challenging to predict new tax legislation with any degree of reasonable certainty, especially when such tax changes would increase the deficit, we believe with a reasonable degree of confidence that large-scale changes are likely.