By TIMOTHY McHALE and ED McWILLIAMS //
Finally, after months of fanfare and blueprints (and endless requests from our managing partner, Ken Cerini, to put out content on what a potential Republican tax plan would mean for our clients), the House Ways and Means Committee has released the Tax Cuts and Jobs Act.
While previously released frameworks offered few details, the TCJA comes in at a robust 429 pages – worthy of a seismic shift in tax law, more so than anything released in the past 30 years.
Our Tax and Business Advisory team has now had some time to read and digest the proposal, and as the TCJA prepares to make its way through the legislative process, it is our opinion that the plan will not pass in its current form.
The bill introduced is still in its early stages, requiring revisions in the House of Representatives, a trip through the U.S. Senate and a presidential signature. The general consensus is that this bill will look to be passed without input and support of the Democratic Party, thereby limiting the margin of error and dissension within the ranks of the Republican Party.
And as a result, compromises will need to be made in some of the more controversial areas, such as State and Local Tax deductions and pass-through taxation.
The TCJA overall contains 117 sections covering a broad array of topics. The initial draft is very dense, and with each read-through and continued analysis, more and more information comes to light as to what changes are on the table.
The intentions of these changes were twofold: to help simplify taxation for many Americans and to reduce the burden on businesses.
Early analysis of the bill has indicated a clear focus on helping business enterprises. Of the proposed cuts, it has been estimated that nearly two-thirds of the $1.5 trillion will be targeted toward business initiatives. Even with this focus, there still is uncertainty on how this bill in its current form will affect our clients, as each tax situation can be dependent on many factors.
The loss of SALT deductions certainly stings, but with new brackets, a repeal of the Alternative Minimum Tax, enhanced tax credits and a change in pass-through taxation, the plan may very well result in more favorable tax situations for many of our clients.
Of these changes, we feel the changes to the pass-through taxation and the SALT deduction will have the most impact on our clients. Pass-through taxation will now be split into two separate taxable categories: income from labor and income from capital. This split is assumed to be 70/30. Income from labor will be taxed as in the past at ordinary income rates; income from capital will now be subject to a new, flat 25 percent rate.
Passive income is considered to be entirely from capital, and therefore only subject to the 25 percent rate. Professional services are considered to have no capital component, and not split into two categories.
With the repeal of the AMT, many of our clients would have seen tax relief stemming from the ability to fully deduct SALT. However, the proposed plan eliminates the deduction for SALT and has a $10,000 cap on property taxes.
These two provisions are ones that we will be monitoring most closely. We see a lot of potential opportunities for planning.
The Republican proposal also includes major changes to estate and gift taxation, the taxation of deferred compensation, net operating losses, tax treatment of contributed capital, like-kind exchanges, and taxation of fringe benefits.
As mentioned, the bill is incredibly dense. In the coming weeks and months, as more time passes, we will have time to further dissect this bill in smaller, more manageable pieces and analyze the best way forward.
Many game-changing reforms have died on the floor of Congress. We find it best to not overreact until the law is passed in its final form. It is still far too premature to begin making business plans based on this proposal becoming law. However, this bill provides insight as to where likely changes in the tax code may be coming, and has given us an opportunity to begin formulating strategies to best be in a position to act when the final bill has passed, even if that’s not until 2018.
We will continue to monitor the situation as time goes on so that we can be agile and prepared in late 2017 and early 2018 to begin to take advantage of any planning opportunities that may arise. Stay tuned – there will certainly be updates over the horizon.
McHale and McWilliams are both CPAs with Bohemia accounting firm Cerini & Associates LLP. McHale is the partner in charge of the firm’s Tax Practice. McWilliams is a manager in the firm’s Tax and Business Advisory Practice.