The United States has a new president-elect. Regardless of personal opinions one thing is certain; change is coming to the Internal Revenue Code. Exactly what the changes will be remains to be seen. However these changes are expected to be big. What changes are anticipated and how will they affect you?
Individual Income Taxes
Income Tax Rates: There are currently seven income tax brackets for ordinary income. The rates range from 10% to 39.6%. This does not take into account the 3.8% surcharge paid on net investment income on the highest income earners which is imposed by Obamacare. Trump’s plan will reduce the current seven brackets to three with rates ranging from 12% to 33%.
Qualified Dividends and Long Term Capital Gain: Qualified dividends and long-term capital gains are currently taxed at 15% for most taxpayers and at 20% for the highest income earners. The Trump plan would maintain the 15% and 20% tax rates for qualified dividends and long-term capital gain, but would repeal the 3.8% surcharge on net investment income.
Alternative Minimum Tax: Certain high income taxpayers are able to reduce their tax debt as the result of using benefits provided by law. The alternative minimum tax applies to limit these benefits in order to ensure that these taxpayers pay at least a certain minimum amount of tax. Under the Trump plan the alternative minimum tax would be eliminated.
Deductions: Individuals are entitled to deduct from income the higher of the standard deduction or itemized deductions (subject to limits). In addition, individuals are entitled to a personal exemption deduction for themselves and their dependents (subject to phaseout). The standard deduction is based on the filing status (single, married or head of household).
Under the Trump plan the head of household status will be eliminated. The standard deduction will be increased for joint filers from $12,600 to $30,000 and for single filers from $6,300 to $15,000. The personal exemption, currently $4,050 per person, will also be eliminated. Itemized deductions will be capped at $200,000 for joint filers and $100,000 for single filers.
There are some provisions in Trump’s plan for deductions for child care for children under age 13 and for the care of elderly dependents.
I will not go into details involving numbers as I know how most everyone feels about math, but the elimination of the head of household status, the deductions and the increase in the lowest tax bracket from 10% to 12% will greatly affect a large number of low income taxpayers, not to mention single parents. One study calculates that these changes will result in an increase to the tax bills of 7.8 million low income taxpayers.
Under current law there is no estate tax if the value of a decedent’s estate is below $5.45 million. Estates above the $5.45 million pay an estate tax of 40% on the value over the $5.45 million. The beneficiaries receive the assets from the estate with a step up in basis which is generally the fair market value on the date of decedent’s death.
Under Trump’s plan the estate tax would be eliminated. However, for estates valued in excess of $10 million the appreciation in the assets would be taxed when sold by the beneficiary. It appears that small businesses and farms would be exempt from this provision. Additionally, contributing appreciated assets to a private charity by either the decedent or the beneficiaries in an effort to avoid the tax upon sale would not be allowed.
Tax Rate: Corporate income tax is currently 35%. Under Trump’s plan this rate would be decreased to 15% and the corporate alternative minimum tax would be eliminated. In exchange for the lower tax rate most business deductions would be eliminated except the research and development credit.
The view is that should Trump’s plan succeed there would not be much incentive for qualifying corporations to elect S status. The reason for electing S status is largely to avoid double taxation when dividends are distributed. However, with a corporate tax rate of 15% and a maximum qualified dividend rate of 20% the effective rate of taxation would be 35% which is almost the same as the highest individual bracket (33%).
Deduction vs. Depreciation: Under current law, and under certain conditions, a limited amount of the purchase cost of business assets may be fully deducted in the year of purchase. If the purchase does not qualify for this deduction then, basically, the asset is depreciated meaning that its cost is divided over the life of the asset and a deduction taken each year.
Under Trump’s plan, entities engaged in manufacturing in the United States may elect to deduct the cost of purchased assets. If the entity makes this election it would lose the right to deduct corporate interest expense. If the election to deduct is made it can only be revoked within the first three years of the election. After three years the election is irrevocable. If the election is timely revoked then the returns for previous years must be amended to reflect the revision from deduction to depreciation.
Offshore Profits: Trump’s plan offers entities with profits held offshore to repatriate the profits at a one-time rate of 10%. In essence, the plan offers corporations, such as Burger King, who have fled the United States, the opportunity to return home and repatriate the profits at 10%.
There are also provisions in Trump’s plan regarding the credit for on-site child care expenses.
The Tax Policy Center estimates that Trump’s plan will reduce federal tax revenue by $6.2 trillion over the next ten years. Close to 50% of those tax cuts will go to the richest 1%. Just do the math.
I do not know about you, but since I am not in the top 1% I do not anticipate any tax relief now or any time soon.
Feel free to contact me if you would like to know more about the tax effects of Trump's plan.