In light of the recent election results there are many opinions on how President-Elect Donald Trump’s presidency will impact the United States, as well as the world. The central question for the business community is: “How will President Trump’s economic and tax policies impact jobs, the stock markets and the federal deficit?
During the campaign, Trump continuously claimed to be an advocate for the working class and one of the pillars of his political platform was major personal and business tax reform, probably the most extensive we will have seen since the Reagan Administration. The main questions we are left with is: How is President Trump going to pay for these massive tax cuts, as well as other new and expanded federal programs?
The economic ramifications resulting from Trump’s tax cuts could take an already dire situation and make it worse. As of November 15, 2016 the national deficit was in the neighborhood of $19,821,226,000,000 (that is nearly $20 TRILLION!) with annual Federal Tax Revenue coming in around $3,294,188,700,000 – far short of annual expenditures. When Obama took office in 2009 the national debt was sitting at $10,626,877,048,913. It is fairly obvious we are not headed in the right direction when it comes to the national debt but will Trump’s tax and economic plan really get us headed in the right direction? Trump’s economic stimulus plan relies on creating jobs through rebuilding infrastructure somewhat similar to the “New Deal” in the Great Depression-era and bringing manufacturing jobs back to the United States. How this economic stimulus plan will be paid for is yet to be seen. Trump claims that the increase in jobs and overall economic growth with be more than enough to make up for the spending and tax cuts.
While we can anticipate some federal funds being freed up as a result of the Trump Administration identifying and correcting the oft-mentioned “waste, fraud and abuse”, other pools of funds may include taxes related to overall increases in business and personal profits, new or increased duties and custom fees, as well as fees associated with new immigration policies.
It is very possible that some of the credits and deductions we have come to know and love might see their final on December 31, 2016, but we will need to wait and see which sacred cows Congress decides to save. For now, we can only assume that Trump will be able to accomplish a fair amount with the Republicans in control of both the House and Senate. However, we suspect that deficit control/ reduction may “trump” getting the full tax reductions implemented and Congress will water down certain aspects of the Trump tax proposals.
In summary, Donald Trump is proposing a massive tax reduction package that is estimated to reduce federal revenue by $7 to $10 trillion in the first decade, followed by an additional $15 trillion reduction in years 11 – 20. The majority of the tax reductions would flow to individual taxpayers, but approximately a third would benefit businesses. Concerns about the Trump plan involve the impact on the national debt as a result of the lower tax collections. Dramatic government cuts would likely be needed to avoid a ballooning federal debt; however, economic stimulus via the tax reductions (please refer to economist Art Laffer, the Laffer Curve and Reagan-era “Supply Side Economics”) could increase overall tax collections even with the lower rates.
For Individual taxpayers, Trump would reduce the current seven individual rate brackets – ranging from 10% to 39.6% down to three brackets of 12%, 25% and 33% (which would kick in at $225,000 of taxable income for joint filers). He would increase the standard deduction to $25,000 for single filers and 50,000 for joint filers (thereby exempting tens of millions of lower-income taxpayers from filing), and would scale back the itemized deductions for wealthy taxpayers. He would repeal the individual and business AMT and the 3.8% Obamacare Net Investment Income Tax, as well as the federal estate and gift taxes. He plans on eliminating personal exemptions and the “Head-of-Household” filing status. He also plans on phasing out certain itemized deductions, other than home mortgage interest and charitable contributions, for higher income taxpayers. He would allow taxpayers to take a deduction for childcare relating to children under the age of 13, limited to 4 children per taxpayer, as well as for dependent eldercare. The child/ eldercare exclusion will be available for taxpayers that have total income under $500,000 for joint filers and $250,000 for single filers.
On the business side, he plans on eliminating most corporate incentives and credits with the exception of research and development, and reducing the corporate tax rate to 15% from the current 35/36% rates, and also will limit individual taxes on flow-thru income from S corps., LLC’s/partnerships to 15% - thereby benefiting small business owners. He would also offer an attractive 10% tax for international companies that bring foreign profits back onshore to the U.S.
Donald Trump’s proposal, with the much lower rates, larger standard deductions and personal exemption amounts would reduce taxes (and filing requirements) on lower income taxpayers and result in only an estimated 14% of taxpayers itemizing their deductions on Schedule A after the aforementioned changes.
As a result of the inevitable 2017 tax changes, year-end tax planning will be critically important this year for both business and personal taxpayers. With Trump’s broad tax cuts, savvy taxpayers should consider accelerating deductions into 2016 and delaying income until 2017 in order to take advantage of the lower rates.
Some examples of year-end strategies include:
1. Income Deferral
- Since 2017 business income will likely be taxed at lower rates – 15% to 20% (rather than 35% to 43.4%) - deferring business income into 2017 will likely lower overall federal taxes.
- Delaying the sale of appreciated stocks, real estate, and other investments until 2017 when long-term capital gains rates may drop from 23.8% to 16.5%.
- Entering into Section 1031 gain deferral and other statutory deferral transactions if a taxpayer is selling appreciated real estate or other business/ investment assets at a gain and planning to immediately re-invest the proceeds.
- Manufacturers and distributors of larger ticket items such as machinery and equipment may want to include language in their year-end invoices that the buyer is entitled inspect and return the items within a short period after year-end, in which case the profit can generally be deferred.
2. Expense Acceleration
- Consider accelerating various personal and business deductions into 2016, since Trump is considering eliminating or scaling back the deductibility of certain items – particularly itemized deductions for high income (greater than $200,000) taxpayers. However, if you might be subject to AMT in 2016, care must be taken to ensure that the accelerated item will actually produce a benefit.
- Purchasing depreciable assets prior to year-end in order to accelerate depreciation. New assets are eligible for 50% “Bonus Depreciation” plus the normal statutory depreciation in the year placed in service. Section 179 “expensing” on up to $500,000 of new or used equipment is also allowed up to the remaining taxable income of the taxpayer. Note that the limitations may increase in 2017.
- Purchasing a new SUV weighing 6,000 or more pounds (i.e. Gross Vehicle Weight) for business purposes can yield a first-year write-off of approximately 70% of the total cost, regardless of your down payment during 2016.
- Commercial real estate owners should evaluate securing a Cost Segregation Study in order to accelerate depreciation on certain components of the building – e.g. special electrical, plumbing, ventilation, flooring, loading docks, hardscape and landscape – all of which have depreciable lives ranging from 3 years to 15 years vs. the normal 27.5 to 39 year life for residential rental and other buildings, respectively.
- Write-off wholly or partially worthless bad debts that are uncollectible.
- Write-down inventory items that are worth less than your tax cost in those cases where you have offered them for sale at a lesser price within 30 days of year-end (before or after).
- Pay employee bonuses prior to year-end if you are a cash basis business, or by March 15th, 2017, if you use the accrual method of tax reporting.
3. Other Planning Issues
- If you are involved in a business that has hired employees and/ or acquired assets during the year, you should discuss with your tax preparer possible credits and other incentives you may be entitled to.
- The aforementioned changes will also generally necessitate taxpayers updating their wills, trusts and other estate planning documents.
- Lower tax rates on ordinary, capital gain and other types of income will also impact the relative attractiveness, or unattractiveness of certain types of investments, such as municipal bonds, real estate, and domestic vs. foreign income.
- Therefore, a careful look at investors’ entire holdings will be necessary as the specifics on the tax bill get finalized next year.
Of course, taxpayers should not let the tax tail wag the dog and must make rational short and long-term decisions based on economics, rather than just the tax implications of certain decisions.
Blake is a Tax Partner and Paige Pribble is an intern in the Park City, Utah office of HCVT, a top 40 national CPA firm with deep expertise in personal and business tax planning. HCVT has offices in California, Utah and Texas. For more information on HCVT, including career opportunities, please log on to www.hcvt.com.