Six Critical Aspects of Trump’s Tax Proposal
This week, lawmakers continue to meet behind closed doors to discuss, debate, and refine a major tax overhaul bill. And while details of the latest developments are hard to come by, it all revolves around the general outline for reform that Donald Trump released on September 27th.
So rather than talking about whether the proposed changes are “right” or “wrong” … politically palatable or not … or even passable or not … I’d just like to highlight six of the most important aspects of the original outline that could affect our bottom lines, our portfolios, and our future liabilities to Uncle Sam.
That way you can use this information as a starting point to follow the conversation as it moves forward, and also have plenty of time to think about how you might plan for any of these possible changes.
Idea #1: Lowering Corporate Income Tax Rates
Trump wants to lower the existing corporate tax rate from 35% to 20%. He had originally proposed 15%, and received flak from both sides of the aisle.
In addition to that relatively straightforward tax cut, Trump also wants to encourage companies to bring back money they currently have parked overseas.
Under current law, U.S. companies taxed as corporations owe Federal taxes on their worldwide income. If they pay foreign income taxes, that amount gets deducted, but they still owe Uncle Sam the difference.
However, if they leave the money overseas, they can pretty much keep avoiding the bill in perpetuity.
This is precisely why U.S. corporations have more than $2.5 trillion parked overseas at the moment.
Trump has suggested a one-time tax break holiday for companies to bring that money back into the U.S. Although a specific rate hasn’t been established, many expect it to be around the 10% mark.
If any (or all) of this happens, I would expect upside for many of the companies with large hordes of cash overseas, along with increased share buyback programs, dividend payments, and other shareholder-friendly developments.
One other major part of the corporate tax overhaul that a lot of media outlets are missing is Trump’s desire to cap the tax rate paid by small business owners, including people who earn income on a “pass-through” basis as sole proprietors, LLCs, or S corporations.
Essentially, all that income could end up getting taxed at no higher than 25%. You’ll see why that is advantageous right after we review …
Idea #2: Lowering Personal Income Tax Rates
There are currently seven existing tax brackets — 10%, 15%, 25%, 28%, 33%, 35%, and 39.6%.
Trump’s proposal calls for boiling them down to three – 12%, 25%, and 35%.
It is possible that a fourth bracket will remain in place at 39.6% or some other number “to ensure that the reformed tax code is at least as progressive as the existing tax code and does not shift the tax burden from high-income to lower- and middle-income taxpayers.”
The critical missing piece here is what specific income ranges will go under each tax bracket. Until we know that, it’s impossible to evaluate how any of us might fare.
But, if you look at what I said above about a 25% cap on pass-through income, you can now see that some self-employed people could end up enjoying a substantial break vs. regular employees earning the same amounts. I suspect some folks would consider forming their own companies or going contract to take advantage of this disparity.
Idea #3: Almost doubling the standard deduction (while eliminating personal exemptions)
Under current law, we have the choice of either itemizing our deductions on Schedule A or taking the so-called standard deduction.
In 2017, the latter will be worth $6,350 for single filers and $12,700 for married couples filing jointly.
Under Trump’s outline, the numbers would almost double to $12,000 and $24,000, respectively.
That’s good news for anyone who chooses the standard deduction, which a majority of Americans do. It may also spur other people to stop itemizing altogether … especially in light of other possible changes that I’ll get to in a minute.
First, however, it’s worth pointing out that the benefit of increased standard deductions could be partially offset by Trump’s desire to remove personal exemptions.
Those are the little boxes you check at the top of your 1040 form – the ones that correspond to you, a spouse, and dependents.
For each box checked, you currently get $4,050.
That means a family of four would actually lose out on this particular combination of changes – since four times $4,050 gives them $16,200 in personal exemptions or MORE than the $11,300 in extra standard deductions.
There is some talk of expanding child tax credits to somewhat move the needle back in the other direction for families though.
The upshot is that you may win a bit or lose a bit here. It will depend on whether you currently itemize … how much those deductions will be worth in future years … the size of your household … and other factors.
Idea #4: Eliminating many current itemized deductions
If you opt for Schedule A over the standard deduction, three of the biggest tax breaks you might claim are:
- State and local taxes – you can deduct EITHER state income taxes paid OR state sales taxes paid PLUS property taxes
- Charitable donations – you can deduct the value of money or property given to qualified organizations, up to 50% of your adjusted gross income in most cases (20% or 30% limits sometimes apply)
- Mortgage interest – married taxpayers filing jointly can deduct the interest paid on up to $1 million in money borrowed on a home (or multiple homes); single filers can deduct interest on up to $500,000.
Originally, some experts thought Trump wanted to do away with all of these, and there were at least indications that mortgage interest was on the chopping block.
It now sounds like only local taxes could end up getting the boot. That would have a greater impact on higher earners as well as residents of higher-tax states.
However, there are also indications that lawmakers might compromise a bit further – perhaps preserving the deduction for all but the highest-income households. For example, one current proposal would retain the deduction for households with adjusted gross income under $465,000 a year.
Idea #5: Eliminating estate taxes
This one is pretty simple.
Under current law, a federal “death tax” of 40% is applied to individual estates worth more than $5.49 million or double that for married couples.
Under Trump’s plan this goes away, along with another related “generation skipping” tax on estates.
It currently sounds like gift taxes, which apply to money transfers among the living, would remain in place.
Idea #6: Eliminating the Alternative Minimum Tax (AMT)
Under Trump’s plan, the AMT would also go away.
In case you are unfamiliar with it, the Alternative Minimum Tax was created to make sure ultra-wealthy Americans couldn’t use loopholes and deductions too aggressively. It is basically a second tax code that runs parallel to the standard set of rules as a check and balance.
But over the last couple decades, it has essentially become a labyrinth of twists and turns that is ensnaring more and more taxpayers … including many upper-middle income households.
This is partly because it wasn’t indexed for inflation until 2013 and also because it doesn’t reflect developments that have taken place since the last major overhaul in 1982.
As I said, there are still a lot of moving parts and a lot of tweaks going on behind closed doors.
But now you have a frame of reference to start with as more details emerge. And I will certainly do my part to get you that information as it’s released over the next couple weeks.
To a richer life,
for The Rich Life Roadmap