Senate Republicans have released a tax reform proposal that includes some key differences from the plan currently under consideration in the House. Keep in mind that all provisions are subject to change and new provisions could still be added as the Senate Finance Committee begins to mark up its bill, and the House bill moves to the floor for debate next week. Here are our key takeaways.
Key differences for individuals
The Senate plan:
- Includes seven income tax brackets for individuals — 10, 12, 22.5, 25, 32.5, 35, and 38.5 percent — as opposed to four brackets of 12, 25, 35, and 39.6 percent in the House plan. Both plans have the top rate kicking in at $500,000 of income for single taxpayers and $1 million for married taxpayers.
- Increases the child tax credit to $1,650, up from $1,000 under current law. The House proposed a $1,600 credit. The Senate would permit taxpayers with up to $1 million income to claim this credit where the House phases out the credit at $230,000 of income.
- Repeals all state and local tax deductions for individuals except for sales taxes and property taxes incurred in a business. The House proposal repeals the deduction for state and local income and sales taxes but does allow a deduction of up to $10,000 for state property taxes. The House plan is unclear on deductions for taxes associated with business income.
- Maintains current rules for mortgage interest that limit the deduction to interest on up to $1 million of mortgage debt, but it would disallow any deduction for interest on home equity loans. The House plan would limit deductibility to up to $500,000 of debt, only allow deductions for debt on a primary residence, but similarly repeal the deduction of home equity loan interest.
- Preserves some deductions that the House proposed to eliminate, most notably the deduction for medical expenses and education expenses for graduate students.
- Eliminates “catch-up” contributions to retirement plans for employees who receive wages of $500,000 or more in the preceding year.
- Doubles the current estate and gift tax exemption level to $11.2 million as does the House plan; however, it does not provide for the elimination of the estate tax in 2024 as proposed by the House.
The Senate plan includes seven income brackets for individuals ranging from 10 to 38.5 percent, as opposed to four income brackets ranging from 12 to 39 percent as proposed by the House.
Key similarities for individuals
The Senate and House plans both:
- Repeal the alternative minimum tax.
- Nearly double the standard deduction and repeal personal exemptions.
- Preserve and enhance the charitable contribution deduction, repeal most itemized deductions not previously discussed, and repeal the overall phase-out of itemized deductions.
- Make the home sale exclusion more restrictive.
Key differences for businesses
The Senate plan:
- Creates a flat 20 percent rate for corporate taxpayers, which is the same as the House plan; however, it’s not effective until 2019, a one-year delay compared to the House plan.
- Creates a new deduction for pass-through business income. Partners, S corporation shareholders, and sole proprietors would get to deduct 17.4 percent of domestic business income, but the deduction would be limited to 50 percent of the W-2 wages of the taxpayer. This deduction would apply at all income levels creating effective tax rates ranging from 8.3 percent to 31.8 percent for pass-through income.
Rather than creating a new deduction, the House bill proposes reducing the tax rate on business income to a maximum of 25 percent and provides a 9 percent rate for business income of taxpayers with taxable income of less than $150,000. The House would generally define business income as 100 percent of passive business income but only 30 percent of active business income, creating maximum effective tax rates on pass-through income ranging from 25 percent to 35.2 percent.
Income from professional services is generally excluded from these benefits by both plans except that the House plan would permit the 9 percent rate to apply to professional services income.
- Retains the work opportunity tax credit and the new markets tax credit while modifying the historic rehabilitation credit and orphan drug credit. The House plan repeals each of these credits.
- Permanently increases Section 179 expensing to $1 million with a phase-out beginning when acquisitions exceed $2.5 million. The House plan would increase the expensing limit to $5 million with a phase-out beginning at $20 million, but only through 2022 at which point, it would revert back to current rules.
- Permits 100 percent bonus depreciation through 2022 for new assets. The House plan would also make used assets eligible for bonus depreciation.
- Limits deductibility of business interest expense to the amount of business interest income plus 30 percent of adjusted taxable income. While the House plan would do the same, the measurement of adjusted taxable income is more restrictive in the Senate plan. The Senate plan would permit an unlimited carryforward of any excess interest while the House plan would only permit a five-year carryforward.
- The depreciable life of all real property would be reduced to 25 years from the current 27.5 or 39 years. The depreciable life of real property improvements would be reduced to 10 years. The House plan does not change the depreciable life of real property.
The Senate plan creates a flat 20 percent rate for corporate taxpayers — but it’s not effective until 2019.
Key similarities for businesses
The Senate and House plans both:
- Repeal the corporate alternative minimum tax.
- Repeal net operating loss carrybacks and limit net operating loss carryforward deductions to 90 percent of taxable income.
- Repeal the domestic production activities deduction.
- Retain the research tax credit.
- Maintain the current rules on the self-employment tax, the net investment income tax, and the Medicare surcharge.
- Reduce the corporate dividends received deduction to maintain the previous effective tax rate on dividends received by corporations.
- Repeal the deduction for business entertainment expenses.
Key differences for international activity
The Senate plan:
- Moves to a territorial system, and any untaxed deferred foreign profits would be subject to a tax of 10 percent for profits held in liquid assets and 5 percent for illiquid assets. The House plan would apply 14 and 7 percent rates, respectively. Both plans permit payment of this tax over eight years, but the Senate plan would backload payments more heavily into later years.
- Includes a base erosion minimum tax of the excess of 10 percent of modified taxable income over an amount equal to regular tax liability. The House plan base erosion limitations include taxing 50 percent of excess returns earned in foreign jurisdictions and a 20 percent excise tax on certain payments made to foreign related parties.
These proposals are a long way from being enacted into law, and the House and Senate face a difficult path in reconciling the many differences between their plans. Stay tuned for additional updates as the Senate and House bills progress and, as always, feel free to reach out to us with questions.