Will Tax Reform Be the Nation’s Gift This Holiday Season?

The Senate passed its “Tax Cuts and Jobs Act” bill in the wee hours of the morning Saturday, December 2nd. Will this be our biggest holiday gift (or a lump of coal) this year? That is yet to be determined as the Senate and House reconcile their bills into final legislation.

The Senate redrafted many provisions of its bill to fashion the House bill in an attempt to have more common ground between the Congressional chambers. The hope is to speed up the legislative process so the President will be in a position to sign the new tax bill before the end of the year if not before Christmas.

Below we have highlighted certain provisions from the latest bills passed December 2nd (the Senate’s) and November 16th (the House’s).

Individuals

• Seven Individual tax rates. The tax rates would be: 10%, 12%, 22%, 24%, 32%, 35% and 38.5%. This would be effective for a period of 8 years beginning in 2018. (The House version has four tax rates: 12%, 25%, 35% and 39.6%.)
• Increased standard deduction. The standard deduction would increase to $24,000 for a joint return, $18,000 for an unmarried individual with at least one qualifying child, and $12,000 for single filers. This would be effective beginning in 2018. (The House version was slightly higher at $24,400, $18,300 and $12,200 respectively.)
• Elimination of personal exemptions. The bill would suspend the personal exemption deduction for a period of 8 years, beginning in 2018. (The House version would suspend the deduction permanently.)
• Alternative Minimum Tax (AMT). The AMT exemption would be increased for tax years 2018-2025. The exemption phase-out would also be increased for the same period. (The House version would repeal AMT altogether.)
• Medical expense deduction. The bill would reduce the medical expense deduction floor to 7.5% of your adjusted gross income. (The House version would eliminate the deduction for medical expenses.)
• Mortgage interest deduction. The mortgage interest deduction would be allowed for debt up to $1,000,000. The deduction for home equity interest would be suspended. This would be effective for a period of 8 years beginning in 2018. (The House version would reduce the deduction limitation to $500,000 for debt incurred after Nov. 2, 2017.)
• State and local tax deduction. This deduction would be suspended for both the House and Senate for the period 2018-2025.
• Real estate tax deduction. This would be allowed up to $10,000 for joint filers and $5,000 for single filers from 2018-2025. The real estate deduction would still be allowed for trade or business income, such as a rental property. (The House version is the same.)
• Charitable contribution limitations would be increased on cash contributions. The current deduction is limited to 50% of your adjusted gross income and this would be increased to 60% of your adjusted gross income. This would be effective for tax years 2018-2025.
• Miscellaneous itemized deductions. These deductions, normally subject to 2% of your adjusted gross income, would be suspended for a period of 8 years, beginning in 2018. (The House version did not directly address all itemized deductions but would eliminate the deduction for tax preparation fees and miscellaneous employee expenses.)
• Alimony payments. The Senate bill did not address any changes to the alimony deduction. The House bill would eliminate the current above-the-line deduction for alimony payments and make alimony payments non-taxable by the payee.
• Enhanced child tax credit. The Senate bill would increase the child tax credit to $2,000. The bill would also increase the age limit for a qualifying child by one year and increase the AGI thresholds for claiming the credit. (The House version would increase the child tax credit to $1,600.)
• Family Tax Credit. The bill would provide a new family tax credit of $500 for each dependent (other than a qualifying child). (The House version allows a new credit of $300 for each non-child dependent.)
• Gain on the sale of your primary residence exclusion. The current law allows a couple filing a joint return a $500,000 gain exclusion as long as the home was the primary residence for 2 of the past 5 years. This timing would be changed to 5 of the past 8 years.
• Estate tax exemption would be increased. Currently the federal estate and gift tax exemption is $5.49 million per person. This would be increased to $10 million (with inflation adjustments) effective for decedents dying and gifts made after 2017. (The House version is similar but would eliminate the estate tax after 2024.)
• Individual health care mandate. The individual penalty for not having health insurance would be reduced to zero effective after December 31, 2018.
• Pass-through deduction of 23% added for owners of certain pass-through entities. (Different rules apply for the House with a reduced tax rate of 25% on select pass-through income.)

Businesses

• Eliminates graduated rate structure and taxes corporate taxable income at flat 20% rate after 2018 and eliminates the special tax rate for personal service corporations. Currently, graduated rates are 15%, 25%, 34%, and 35%, and the personal service corporate rate is 35%. (The House bill, which would go into effect after 2017, reduces the personal service corporate rate to 25%.)
• Expands bonus depreciation to temporarily permit 100% first year depreciation for qualified property placed in service after September 27, 2017 through December 31, 2022 (Senate and House). After this period, the Senate bill keeps bonus depreciation, gradually reducing the percentage, through December 31, 2026. Both bills also modify the definitions of qualified property. Currently, 50% bonus depreciation is permitted through 2017 and decreases to 40% for 2018 and 30% for 2019.
• Increases Section 179 expense and investment limitations to $1,000,000 and $2,500,000. (The House bill increases these limitations to $5,000,000 and $20,000,000 for tax years 2018 through 2022.) The Senate bill also expands the definition of qualified real property.
• Limits interest expense deduction to 30% of adjusted taxable income, business interest income, and floor plan financing interest. The Senate bill exempts businesses with average annual gross receipts of $15 million or less. (The House plan limits the deduction based on 30% of business adjusted taxable income and exempts businesses with average annual gross receipts of $25 million or less.)
• Modifies depreciable lives for nonresidential and residential real property to 25 years and qualified improvement property to 10 years. Currently, these are generally depreciated over either 39 or 15 years. (The House bill does not address.)
• Repeals the domestic production activity deduction, which is consistent between both bills. The effective date is for tax years beginning after December 31, 2018 for the Senate’s bill; for entities other than C corporations, the effective date is for tax years beginning after December 31, 2017. (The House’s bill is effective for tax years beginning after 2017.)
• Repeals Alternative Minimum Tax after 2017 (House bill only). (The Senate bill does not repeal corporate AMT.)
• Keeps the research and development credit (Senate and House).
• Modifies allocation of interest expense amongst members of U.S. affiliated group to adjusted tax basis of assets. Currently, the allocation is based upon fair market value. (The House bill does not address).
• Adds 100% deduction for foreign-sourced dividends paid to U.S. corporations received from certain foreign corporations owned over 10% by the U.S. corporation. The Senate requires a one-year holding period. (The House requires a six month holding period.)
• Imposes mandatory tax on certain accumulated foreign earnings held in cash or illiquid assets of 14.5% and 7.5%. (The House’s bill taxes these at 14% and 7%, respectively.)

The bills must be reconciled between the Senate and the House and, finally, signed into law by the President. Therefore, we expect additional changes to these highlights as the process unfolds.

We will continue to monitor the progress and will provide updates as soon as they are available.