With the election of Donald J. Trump as the 45th President of The United States of America on November 8th along with GOP control of both the House of Representatives and the Senate, our country is now in a position with an aligned party to eliminate gridlock (possibly?). While tax reform has been a major goal for politicians over the past decade, government gridlock has left us with mere “extenders” agreed upon late in each year.
When the 115th Congress convenes in January 2017, the House Republicans Blueprint for Tax Reform, (“Blueprint”) released on June 24, 2016 can be expected to be the starting point for future House Republican tax reform efforts. The Blueprint proposes to reduce tax rates for individuals and businesses and to move the U.S. tax system to a system similar to a consumption-based tax system through revisions to the income tax rules (without providing a value added tax or national sales tax). The Blueprint is the most recent proposal of several proposals released as part of House Speaker Paul Ryan’s “A Better Way” initiative, which overlaps with Trump’s tax reform plan.
Proposed changes applicable to individuals include measures to:
*As described in the Tax Reform Blueprint, the new standard deduction is larger than the current-law standard deduction and personal exemptions combined. This in effect, creates a larger 0% bracket. As a result, it is anticipated that taxpayers who are currently in the 10% bracket are likely to pay lower taxes than under current law. Additionally, the Blueprint will create a new business tax rate for small businesses that are organized as sole proprietorships or pass-through entities, which means that small business income will no longer be subject to the top individual tax rate, likely leading to a maximum tax rate of 25% on small business income.
*As described in the Tax Reform Blueprint, these proposed changes will simplify tax filings for families. The Tax Reform Blueprint aims to reduce the number of taxpayers who itemize their deductions from approximately 33% under current law to approximately 5% under the proposed simpler and fairer tax system.
Today, businesses operated through C corporations are subject to corporate tax at a statutory rate of 35 percent. This stands in stark contrast to what our major trading partners have done over the past 30 years, whereby the average statutory rate has dropped to 24.8 percent. Additionally, the income earned through a C corporation today is subject to double taxation, with a second layer of tax imposed on such income at the shareholder level through the individual tax on dividends and capital gains recognized on disposition of corporate shares. Finally, corporations today face the added burden of the corporate AMT.
The U.S. tax system arguably places U.S. multinationals at a competitive disadvantage with foreign-based multinationals with income from low-tax countries because U.S. companies must pay the difference between the U.S. tax rate and foreign tax rates when they repatriate profits from their foreign affiliates. In contrast, most foreign countries have exemption systems that allow their resident multinationals to pay only the foreign-tax rate on their overseas profits. Additionally, the U.S. controlled foreign corporation (“CFC”) rules tax some forms of foreign-source income of U.S. multinationals as it accrues in their foreign subsidiaries. Consequently, the current Code encourages businesses to move overseas because it imposes one of the highest corporate tax rates in the world.
Congress has proposed a variety of serious ideas for pro-growth tax reform with the Tax Reform Blueprint being the most recent proposal.
Proposed changes applicable to businesses include measures to:
Territorial Tax System for Businesses with International Operations
Treatment of Cross-border Sales, Services, and Intangibles for Businesses with International Operations
Besides the WTO compliance concerns, the following important questions are also raised:
It remains to be seen if the tax reform plans achieve revenue neutrality and attract support from any Democrats next year. Republicans may turn to the budget reconciliation process to circumvent the 60-vote filibuster threshold in the Senate, if sufficient support from Democrats is not garnered.
The chances for the enactment of comprehensive tax reform however, are perhaps greater than at any time over the past decade. A unified Republican Government makes the process of achieving significant tax reform much more manageable next year. Furthermore, a great deal of work has already been completed on tax reform in the Congress. What had been lacking in the past was the political dynamic and leadership needed to make reform a reality, which is no longer the case.
Overall, the economic realities of these potential changes will remain unknown for some time. While some of the proposals may be viewed as catering to “the one-percenters,” others, such as lowering the individual income tax rates and increasing the standard deduction may be viewed as governing for the lower and middle class of our society.
As we delve into a new administration and updates occur, True Partners will continue to keep you apprised of further developments.
Alexis Bergman, Director - International Tax
Bob Gordon, Managing Director and Assistance General Counsel
Jim Hedderman, Managing Director - Federal Tax