House and Senate Republicans successfully approved a FY 2018 budget resolution that sets the stage for the tax-writing committees to introduce tax reform legislation that provides for a 10-year net tax cut of up to $1.5 trillion. This legislation will move as part of the budget reconciliation process which provides for approval with a simple majority vote in the Senate. The Senate approved the budget resolution on October 19th by a vote of 51-49, and the House approved the Senate version on October 26th by a vote of 216-212. The legislation took effect once it was approved in both chambers, as the President’s signature is not required.
There were significant differences between the original House budget resolution and the Senate version including the House requirement that tax reform be revenue neutral and instructions that called for spending cuts with the goal of a balanced budget at the end of the 10-year budget window. House Republicans agreed to the Senate version of the budget resolution because of the desire to move tax reform legislation quickly, since the issue is seen as a critical priority for the mid-term 2018 elections. GOP Congressional leaders are hoping that individual Republicans will not want to viewed as the ones who stopped tax reform especially going into an election year in 2018.
No Democrats supported the budget resolution in either chamber, and in the House, Republicans lost 20 votes, primarily from a group of members who are opposed to the current tax reform framework’s inclusion of a repeal of the state and local tax (SALT) deduction but also from some hard-line conservatives who supported the inclusion of spending cuts.
House Republicans are expected to release their tax package on November 2nd and Senate Republicans may follow suit with their own version the next week.
In September, the President struck a deal with Congressional Democratic leaders which resulted in a short-term agreement on the debt limit and government funding set to expire on December 8th. During the negotiations, Republican leaders successfully retained the Treasury authority that allows the use of extraordinary measures to continue to allow the government to pay its bills, including redeeming certain investments in federal pension programs and suspending new investments in those programs. This authority has been used in recent years to avoid exceeding the official debt limit while Congress works to increase the debt limit. The Bipartisan Policy Center has estimated that this would extend the date necessary to increase the debt limit to sometime this spring, although the exact timing is uncertain. Congress will still have to deal with legislation to fund the government for the rest of FY 2018 during December, but likely will defer the debt ceiling decisions until early in 2018.
After the failure of legislation to “repeal and replace” the Affordable Care Act (ACA) in September, Senators Lamar Alexander (R-TN) and Patty Murray (D-WA) announced that they had reached agreement on a bipartisan bill that would fund a key insurance subsidy program under the ACA, which would help to stabilize the health insurance market while a broader agreement to reform the ACA is worked out. Senate Majority Leader McConnell (R-KY) has stated that he will bring the bill to the Senate Floor for a vote if President Trump states that he will sign it. Senate Minority Leader Schumer (D-NY) has said that the bill has support from a majority of the Senate, and he urged the Senate Majority Leader to bring it the floor immediately.
President Trump announced that he intends to name Treasury Assistant Secretary for Tax Policy David Kautter to serve as acting IRS Commissioner after current IRS Commissioner John Koskinen’s term ends in November. Treasury Secretary Mnuchin stated in a press release that Kautter would provide leadership during the wait for confirmation of a permanent commission (although the President has not yet nominated a permanent replacement), and that he would continue to work on tax reform as part of his assistant secretary duties. Some observers has questioned whether Kautter’s dual role may be cause for concern.
The IRS and Treasury issued their 12-month guidance plan covering the period from July 1, 2017 to June 30, 2018. The 29-page outline lists the regulatory and guidance projects that will be focused on and presumably completed during the one-year period. The plan reflects the regulatory review that was directed by Executive Order 13789 mandating the removal and revision of regulations identified as overly burdensome rather than the issuance of new regulations. The four parts of the plan include: (1) a focus on the eight regulations from 2016 that were identified recently for repeal or replacement; (2) projects that have been identified as burden-reducing and that can be completed in the months remaining in this plan year; (3) projects related to the implementation of the new partnership audit regime which goes into effect on January 1, 2018; and (4) specific projects by subject area that will be a focus of work.
The IRS issued proposed regulations changing the requirements for electing to adjust the basis of partnership property under Code section 754. The only remedy for failing to make a proper section 754 election is to request “9100 relief” allowing a late election either: (1) through automatic relief, if the error is discovered within 12 months or (2) through a private letter ruling request. Specifically, the proposed rules would remove the signature requirement to eliminate a regulatory burden caused by a number of requests for 9100 relief for unsigned returns, many of which were electronically filed.
The IRS issued Revenue Procedure 2017-58, which makes several annual inflation adjustments to tax brackets, deductions, exemptions and other tax-related benefits. Some of the changes included are: (1) the standard deduction for married taxpayers filing jointly will increase by $300 to $13,000; for single/married individuals filing separately by $200 to $6,500; and for heads of households by $200 to $9,550; (2) the personal exemption increases to $4,150; (3) the limit for itemized deductions of individuals will begin with incomes of $266,700 or more ($320,000 for married couples filing jointly); (4) the penalty for not maintaining minimum essential health coverage remains at $695; and (5) the annual gift exclusion increases by $1,000 to $15,000.
The IRS announced changes to its guidelines for processing requests for private letter rulings (PLRs) on certain issues that have produced favorable rulings in the past but are now under review. Pending the outcome of the review, the IRS will process ruling requests under new guidelines with respect to certain transactions including: (1) worthless stock losses under Code section 165(g)(3)(B); (2) certain delayed distributions in connection with a Code section 355 distribution; (3) “drop-spin-liquidate” transactions; and (4) reorganizations that result in transfers of a portion of a subsidiary’s assets to its corporate shareholder. Private letter rulings issued in the past on these issues are not affected.
The IRS and Treasury issued Notice 2017-57 stating that they intend to amend the regulations under Code section 987 related to income and currency gain or loss with respect to a qualified business unit which will defer by one year the applicability date of the final regulations under Code section 987 and certain provisions of the temporary regulations. For taxpayers whose first taxable year after Dec. 7, 2016 began January 1, 2017, the final and temporary regulations will apply beginning January 1, 2019. A taxpayer may choose to apply the final regulations and the related temporary regulations to taxable years beginning after Dec. 7, 2016, if the taxpayer applies the regulations consistently.
The OECD announced it would hold two public consultations on transfer pricing issues on November 6th and 7th in Paris. The meeting on November 6th will focus on the discussion draft on revising guidance on profit splits, and the meeting on November 7th will focus on the discussion draft on attribution of profits to permanent establishments.
The OECD released a 2017 progress report on preferential regimes as part of its BEPS Inclusive Framework. The report includes details on the outcome of peer reviews undertaken of 164 preferential tax regimes identified among the more than 100 jurisdictions participating in the Inclusive Framework. All Inclusive Framework members have committed to implementing minimum standards relating to preferential tax regimes where a peer review is undertaken to identify features of such regimes that can facilitate base erosion and profit shifting, thereby having the potential to unfairly affect the tax base of other jurisdictions.
The OECD took an additional step in implementing country-by-country (CbC) reporting in accordance with BEPS Action 13 minimum standard by activating automatic exchange relationships under the Multilateral Competent Authority Agreement on the exchange of CbC reports. More than 1000 automatic exchange relationships have been established among jurisdictions committed to exchanging CbC reports as of mid-2018.
The European Commission (EC) announced in a Directive released October 10th that the European Council had approved a new system for resolving double taxation disputes between member states. The Directive strengthens the mechanisms used to resolve disputes that arise from the implementation of agreements on the elimination of double taxation and will give taxpayers more certainty when it comes to seeking resolution to their interpretation of tax treaties or double taxation problems.
The OECD released public comments on a discussion draft providing guidance under BEPS Action 7 (Additional Guidance on Attribution of Profits to Permanent Establishments). The OECD also released public comments (part 1 and part 2) on a discussion draft providing guidance under BEPS Action 10 (Revised Guidance on Profit Splits).
The European Commission (EC) announced plans for a far-reaching reform of the European Union (EU) VAT system due to the conclusion that a significant amount of VAT is lost every year with much of that a result of cross-border fraud. The press release states that the EC proposes to fundamentally change the current VAT system by taxing sales of goods from one EU country to another in the same way as goods are sold within individual member states. The new system is intended to tackle fraud while increasing simplicity and consistency. The proposal also introduces the idea of a “certified taxable person” – a category of trusted business that will benefit from simpler rules. The proposal will be sent to the member states in the European Council for agreement and to the European Parliament for consultation.
Timeline and the Budget Reconciliation Process
With the approval of the FY 2018 budget resolution, Ways & Means Committee Chair Brady announced that tax reform legislation will be released on November 2nd with a committee markup to begin on November 6th and continue for several days. The plan is to brief House Republican members on the bill on the day it is released. The budget resolution sets November 13th as the non-binding target for the Committee to report its tax reform bill. He said that he expects a static revenue estimate from the Congressional Budget Office and the Joint Committee on Taxation before the markup begins and has requested a dynamic scoring revenue estimate after the markup concludes that would reflect macroeconomic feedback from the proposed tax reform changes.
Although Speaker Ryan (R-WI) suggested in a recent interview that he believes some Democrats may ultimately support the tax reform legislation, he does not expect it to be a widely bipartisan bill. Ways & Means Ranking Democrat Neal (D-MA) has stated certain principles that must be included for Democratic support, but appears to be willing to work on a bipartisan bill if given the chance. Senate Minority Leader Schumer (D-NY) stated that Senate Democrats will oppose a Republican-only bill but will be willing to work on a bipartisan compromise should a GOP tax reform bill fail initially in the Senate.
The budget resolution sets non-binding revenue and spending targets and directs the tax-writing committees to report tax reform legislation that is expedited under the budget reconciliation process. This legislation cannot be filibustered in the Senate, it requires only a simple majority vote for passage, and non-germane amendments are not allowed.
Current plans are reportedly to have both the House and Senate approve tax reform legislation before the Thanksgiving recess with the conference committee negotiations to take place in December. The House is currently scheduled to adjourn for the year on December 14th (with the Senate adjourning on December 15th), but Speaker Ryan has stated that he will keep the House in session late into December if necessary to complete the tax reform bill. He stated, “We want to wake up on New Year’s Day with a new tax system.”
Ways & Means Committee/Senate Finance Committee
With the release of a Ways & Means draft bill imminent, it is clear that a number of issues are still being discussed with no details about firm decisions. Those issues include the fate of the state and local tax (SALT) deduction, changes to 401(k) programs, the addition of a 4th tax bracket for high-income individuals, the inclusion of anti-abuse rules related to the lower rate for income of pass-throughs, changes to the business interest deduction, and the taxation of foreign companies operating in the US.
SFC Member Patrick Toomey (R-PA) has stated that a Senate bill would be released during the week of November 6th, but House Republicans have stated that the Senate Finance Committee will consider tax reform the week of November 13th. Chair Hatch has not confirmed either schedule, with a spokeswoman stating that Chair Hatch “intends to lay down a mark for the committee to advance in the coming weeks. Details will be released when finalized.”
Reports have circulated that SFC Chair Hatch will retire in 2018 when his current 6-year term expires, but he has continued to state that he will make a decision on whether to run for reelection by the end of 2017. Chair Hatch continues to actively work on advancing tax reform in his committee and frequently provides editorial content to news organizations on the importance of this effort and his views on its progress.
Reports are that one of the proposed revenue offsets would be changes to the amount that individuals can contribute to traditional 401(k) plans, which allows contributions with pre-tax funds, tax deferral on accumulated earnings, and imposition of tax when withdrawals are made in retirement. Restrictions on traditional 401(k) accounts would arguably create more interest in “Roth” style accounts where contributions are made with after-tax funds and distributions are paid out tax-free in retirement. Under current law, annual contributions to either type of account are capped at $18,000 or $24,000 for taxpayers over 50. Rumors of limits ranging from $2400 to $9000 have circulated with such proposals raising revenue in the near-term to offset the cost of tax cuts.
President Trump, however, rejected these proposed changes by announcing on Twitter that there would be no changes to 401(k) accounts. Chair Brady, however, commented that changes to the retirement account provisions remain part of the discussion, and SFC Chair Hatch (R-UT) also stated that his committee will consider changes to the retirement plan rules. Chair Brady commented that “tax-free savings is critical” but he stated that they are taking a “fresh look” at the programs.
State and Local Tax (SALT) Deduction
One of the popular deductions that appears to be targeted as part of the GOP Unified Framework is the repeal of the state and local tax (SALT) deduction, which resulted in strong and immediate opposition from a group of House Republicans who represent districts in states where taxes are high, such as New York, California and New Jersey, with some of those members voting against the budget resolution to show their opposition. A compromise has been discussed, and Chair Brady announced on Oct. 28th that there will be some sort of itemized property tax deduction, but that may not be enough to make the opponents of the repeal stand down from their position since it would not cover the incometax deduction.
The result of this change, however, reportedly altered plans for the addition of a homeowner’s tax credit prompting the National Association of Home Builders to announce their opposition to the Republican tax plan.
Corporate Tax Rate – Phase-In
The Unified Framework includes a decrease in the corporate tax rate to 20%, and Chair Brady has confirmed to reporters that the Committee is considering a phase-in of this reduction possibly over three or five years, which would help lower the cost of this change in the short term but would most likely not be welcomed by the business community. The Administration continues to express support for lowering the corporate rate even further to 15% but that position has not been embraced by Congressional tax-writers.
Individual Rates – Taxing the Wealthy
House Speaker Ryan has told reporters that the Ways & Means tax reform bill will include a fourth tax bracket to ensure that high-income earners do not receive a tax cut as a result of tax reform. Both the Administration and Congressional leadership have stated that the middle class will be helped by the tax reform plan and adding this top bracket helps to maintain the progressivity of the tax code.
Robert M. Gordon
Managing Director &
Assistant General Counsel