On April 26, 2017, President Trump’s tax proposals for individuals and businesses were unveiled. An essential goal of President Trump’s proposal is that targeted tax breaks that mainly benefit the wealthiest taxpayers and tax breaks for special interest groups would be eliminated.
This article will outline some of President Trump’s tax proposals beginning with proposals for individual taxpayers followed by proposals for small businesses and corporations. Further, a comparison of President Trump’s proposals with those provided by House Republicans ‘A Better Way’ will also be made.
The income of individual taxpayers is currently progressively taxed among seven rates ranging from 15 to 39.6 percent. The President’s proposal calls for replacing and lowering the current individual tax rates with a three bracket range of 10, 25, and 35 percent. The House’s Better Way plan proposes rates of 12, 25, and 33 percent. The income levels for which the proposed tax rates would apply have not yet been provided for in either proposal as of this writing. However, while campaigning as a presidential candidate, President Trump proposed married filing jointly taxable income breakpoints of $75,000, $225,000 and more than $225,000 respectively for the 10, 25, and 35 percent tax brackets. The taxable income breakpoints for single filers would be expected to be half of these amounts.
President Trump’s proposal would restore a top investment rate of 20 percent for capital gains and qualified dividends by repealing the 3.8 percent net investment income tax enacted as part of the Affordable Care Act (legislation to repeal the 3.8 percent tax is also presumed in the House’s proposal and such legislation was passed in the House and is currently under consideration in the Senate). Additionally, the House plan provides for reduced tax on investment income by allowing taxpayers to deduct 50 percent of their net capital gains, dividends, and interest income resulting in rates of 6, 12.5, and 16.5 percent on such investment income depending on the taxpayer’s tax bracket.
Both President Trump’s and the House’s proposals call for roughly doubling the standard deduction (currently $6,350 and $12,700 for single and married taxpayers respectively) as well as eliminating nearly all of the individual credits, deductions, and exemptions with the exception of the mortgage interest and charitable contribution deductions.
The President’s proposal calls for unspecified tax relief for families with child and dependent care expenses. The Better Way proposal consolidates both the child credit and personal exemptions for dependents into an increased credit of $1,500. The earned income tax credit (EITC) is not mentioned in the President’s proposal, however the Better Way proposal will continue to work to reform the EITC to reduce fraud and erroneous payments.
Both President Trump’s and the Better Way plan propose to repeal the estate and generation-skipping transfer taxes and replace the estate tax with a carryover basis rule under which beneficiaries must use the decedent’s basis in inherited assets rather than their date-of-death values.
President Trump’s and the Better Way proposals both vow to abolish the individual alternative minimum tax (AMT) and the estate tax.
Owners of S corporations, partnerships, and sole proprietorships pay tax at their current individual rates, with the highest rate being the 39.6 percent as previously noted above. President Trump’s proposal calls for a 15 percent tax rate on pass-through income and while not specifically addressed in the Trump Administration’s April 26th outline, candidate Trump’s campaign materials indicated that a second layer of tax would be imposed similar to how dividends are now taxed to C corporation shareholders, which can range from 0% on up to 20% for qualified dividends and are taxed at the taxpayer’s ordinary income rates for non-qualified dividends.
The House’s Better Way plan would limit the tax rate applied to small business and pass-through income to the proposed 25 percent bracket. The 33 percent bracket will not apply to the active business income of sole proprietorships and pass-through entities. Businesses will pay or be required to pay reasonable compensation to their owner-operators. Such compensation would be deductible by the business and will be subject to the graduated individual income tax rates reflected in the House’s proposal.
Another difference between President Trump’s plan and the House’s Better Way plan concerns the tax treatment of fixed assets. The President’s proposal does not specifically address bonus depreciation or small business expensing while under the Better Way plan, businesses would be able to immediately expense their capital investments rather than depreciate them over a number of years.
Lastly, President Trump’s proposal for small businesses does not address interest expense, while under the House’s Better Way plan, businesses will only be allowed to deduct interest expense against interest income; meaning there will be no current deduction allowed for net interest expense. Any net interest expense can be carried forward indefinitely and allowed as a deduction against net interest income in future years.
The income of corporate taxpayers is currently taxed among eight rates ending at 35% on income in excess of $18,333,333. Both President Trump’s and the Better Way proposals respectively seek to lower the maximum corporate rate to 15 percent and 20 percent. Similar to the proposals for individual taxpayers, the AMT for corporations would be abolished under both tax plans.
Both President Trump’s and the Better Way plans propose eliminating or modifying nearly all of the special-interest deductions and credits in favor of the lower proposed tax rates. Some of the deductions and credits mentioned for elimination or modification include the domestic production (i.e. ‘Section 199’ deduction) as well as the research and development ‘R&D’ credit.
Another significant change suggested by both President Trump and the House’s Better Way is to switch to a territorial tax system from the current worldwide tax approach. Under the territorial tax system, U.S. companies would no longer be subject to taxation on their worldwide income, instead businesses would only be taxed on income earned within a country’s borders.
The House’s Better Way proposal would also enact a border adjustment. Companies would no longer be required to pay income taxes to the U.S. on their income from exports because those products would be considered not sold in the United States. Under a border adjustment, the income tax would apply to the goods produced and sold in the United States and good produced in foreign countries and sold in the United States. This may be accomplished with direct duties or by denying the United States income tax deduction to U.S. companies for the cost of the goods imported into the United States.
The border adjustment proposed by the Better Way plan is currently not supported by the Trump Administration. There is currently disagreement between the House’s and the Trump Administration on the border adjustment issue which will need to be reconciled between the two proposals.
The proposed treatment of fixed assets and interest expense for corporations is the same as it is for small businesses as mentioned previously above.
Both House and Senate Republican leaders have cautioned that any final tax reform legislation will need to be revenue neutral. It is important to note that permanent tax reform legislation that increases federal budget deficits in future decades would need to clear a 60 vote point to pass the U.S. Senate. Absent 60 votes, measures would have to be taken to prevent the future federal budget deficits. However, temporary tax legislation which loses revenue within the period covered by the budget reconciliation procedures (typically 10 years) requires a simple 51 vote majority.
Both tax proposals from President Trump and the House Republicans Better Way plan aim to reduce tax rates, streamline the tax code, and expand the tax base for individuals and businesses alike. With Republicans having majorities in both the House of Representatives and Senate, as well as the executive branch, significant tax reform is a stated near-term goal for the Trump Administration. While both plans have similarities there are differences in tax rates and treatment of other tax items which will need to be agreed upon. Further, both plans still need to be scored by the Congressional Budget Office to determine any impact on future deficits.