The House Ways and Means Committee passed its version of tax reform by a party line vote. The bill (highlighted in my last article) was amended prior to passage by Chairman Kevin Brady (R-TX) in a few areas impacting individuals and businesses noted below:
Adds a new 9% tax rate on business income of pass-through entities like partnerships, S Corporations and LLCs, phasing up to 12% at income greater than $225,000. The 9% rate is phased in over 5 years to reduce the revenue cost to the government.
Requires amortization of certain research and development expenditures over 5 years.
Requires a three-year holding period for capital gain treatment of partnership profits related to investment services commonly known as carried interest.
Current law permitting nonqualified deferred compensation plans is preserved, reversing an earlier House draft eliminating these plans.
House Republicans plan to take the bill to the House floor before Thanksgiving. One of the major sticking points in rounding up the 218 votes needed to pass the bill is the limit on the state property tax deduction to $10,000. There are many House Republicans from high property tax states. I’m confident House leaders will find the votes to pass the bill—the important first step in a three-act play.
Overall, what does the House bill mean for middle and upper income taxpayers? According to the Joint Committee on Taxation, the official government scorekeepers, the House bill overall reduces tax rates to 19.4% from 20.7% when averaging the rate reductions across all income levels. Taxpayers earning between $200,00-$500,000 would see an average tax rate of about 25.3% under the House proposal. This represents a 1.1 percentage point drop in average tax rate for earners in these income levels.
Act Two starts with the introduction of the Senate’s version of tax reform by the Republicans on the Senate Committee on Finance. Act Three starts when the House and Senate reconcile the differences (called the “conference committee”) in the bills, which are expected to be significant. As I noted in my last article, the final bill will shade heavily toward the Senate’s version assuming it gets that far in the process. The provisions common to both the House and Senate bills will provide the basis of a House-Senate compromise assuming the respective bills continue to advance through the legislative process.
The Senate Committee on Finance tax reform bill (“Bill”) proposes the following tax cuts related to individual and business taxes:
Includes seven tax rate brackets with a top rate of 38.5% vs. 39.6% in the House bill.
Doubles the standard deduction for married couples to $24,000 and single filers to $12,000—same as House bill.
Permits larger cash contributions to charities by increasing the amount that can be deducted against income.
Fully eliminates all state and local and property tax deductions. The House bill preserves the state property tax deduction up to $10,000.
Preserves the home mortgage interest deduction for existing homes and increases the deduction for newly purchased homes to $1 million. The House bill limits newly purchased home indebtedness to $500,000.
Repeals the alternative minimum tax like the House bill.
Maintains the estate and gift tax but doubles the estate value exempt from the tax to $10 million. The House bill repeals the estate and gift tax in 2023 and like the Senate Bill doubles the exclusion amount until its repealed.
Lowers the corporate tax rate to 20% beginning in 2019. The effective date of the House bill is 2018.
Provides a special tax rate for “pass through” entities like partnerships, S Corporations, LLCs that is higher than the 25% top rate provided in the House bill.
Provides for full expensing of new equipment and Section 179 business expenses for a limited number of years. The House bill includes a similar provision.
Permits the deduction of interest expense by small businesses up to 30% of the company’s earnings before interest and taxes. The House bill includes a similar provision.
Maintains the research and development tax credit similar to the House bill.
Includes a provision that taxes foreign earnings of American multinational companies (“repatriation of earnings”). The House bill includes a similar provision.
The Senate bill does not propose significant changes to the 401(k) system other than eliminating the $5,000 401(k) catch up contribution for age 50+ savers who earn over $500,000.
The bill includes significant limits on nonqualified deferred compensation plans similar to an earlier House provision that was eliminated by the House in the final bill.
It is expected the Senate bill will not provide capital gains treatment for carried interest. The House bill provides capital gains treatment if the property is held at least three years.
As you review the House and Senate bills, there are more similarities than differences. That is the good news. The bad news is the second and third acts of our tax reform play are the most difficult. Finding 50 votes in the Senate and then negotiating a compromise that can pass the House and Senate in December when the politics of the two houses of Congress are very different is going to be extremely difficult. It will definitely test and strain the limits of our political system over the next two months. Stay tuned, more to come after the Senate acts.
Boston Private is pleased to announce a partnership with Doug Fisher, a Washington Policy expert, who will offer a series of insights into a number of reform proposals making their way through Congress in 2017. Doug is Director of Retirement Policy at the American Retirement Association. In this role, Doug works with the ARA membership to protect, advise and grow their businesses through ideation and advocacy in the benefits area. Before joining ARA, Doug led Fidelity's legislative policy and thought leadership development teams involving retirement, health and welfare benefit plans. Doug has advised many Fortune 1,000 companies on the impact of legislation and regulation on the design and delivery of benefits. Before joining Fidelity, Doug served as tax counsel to the U.S. Senate Finance Committee and was involved in writing the pension, health and insurance provisions of the Small Business Job Protection Act of 1996; the Balanced Budget Act of 1997, including the Roth IRA, Simple retirement plan, medical savings account (predecessor to the health savings account); and the Health Insurance Portability and Accountability Act of 1996 (HIPAA).
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