On December 22, 2017, the Tax Cuts and Jobs Act (the “Act”) was signed into law. The impact of the Act will be immediate and far-reaching on all sectors of the economy.
The below summary provides a brief outline of some of these changes on individuals and U.S. businesses. Look for future Client Alerts from Parker McCay in the coming weeks discussing specific provisions of the Act in greater detail.
A. Corporate Tax Rate Reduction, Expensing Changes and Depreciation
- Corporate Tax Rate. Beginning in 2018, C corporations will be taxed at a flat 21% rate. Previously the rate was graduated based on taxable income, with a highest rate of 35%.
- Dividends Received Deduction. Corporations that receive dividends from other corporations are generally allowed to deduct a percentage of that dividend depending on the percentage of ownership held. The deduction has been reduced from 80% to 65% for corporations that hold at least 20% of the corporation’s stock, and from 70% to 50% for corporations that hold less than 20% of another corporation’s stock.
- Corporate Alternative Minimum Tax (AMT). Prior to the passage of the Act, corporations with average gross receipts equal to or in excess of $7.5 million over the preceding three tax years were subject to the AMT, a second computation for determining tax liability. The corporate AMT is repealed for the tax years beginning after December 31, 2017.
- Net Operating Losses (NOLs). Historically, NOLs could be carried back two (2) years and carried forward twenty (20) years. Under the Act, NOLs for most businesses can no longer be carried back but can be carried forward indefinitely. The Act also limits the NOL deduction to 80% of taxable income. For property and casualty insurance companies, NOLs may be carried back two years and carried forward 20 years to offset 100% of taxable income.
- Section 179 Expensing. Businesses may expense $1,000,000 (subject to adjustment for inflation) for the cost of any Section 179 property placed in service. Section 179 property includes most types of business equipment (e.g., machinery, tangible personal property, business vehicles, computers, and office furniture). This allowance will begin to be phased out in 2022, and will be eliminated entirely by 2026.
- Business Interest Deductibility. The Act limits the deduction for net interest expenses incurred by a company to 30% of the business’ adjusted taxable income. Adjusted taxable income is defined as business taxable income without regard for taxes, interest, amortization, depreciation and depletion. Not subject to the limitation are businesses with less than $25,000,000 in annual gross receipts. Businesses in the development, construction and operation of real property can elect out of this provision if Alternative Depreciation System is used.
- Bonus Depreciation. The Act increases the first-year depreciation deduction for qualified depreciable personal property from 50% to 100% for property placed in service after September 27, 2017, and before 2023. After 2022, the bonus depreciation percentage is phased-down until it is completely eliminated in 2028.
B. Pass-Through Rate Deduction
Beginning in 2018, taxpayers may deduct up to 20% taxable income from a pass-through entity (e.g., partnerships, limited liability companies or S corporations). For taxpayers in the highest tax bracket, this could result in a reduction in the effective tax rate on pass-through income to 29.6%. This deduction is subject to several limitations including:
i. Taxpayers are not permitted to use the deduction for income received from specified service businesses including law, accounting, health, consulting, athletics, financial services, brokerage services, and any trade or business where the principal asset of such trade or business is the reputation or skill of one or more of its employees or owners. However, taxpayers with taxable income of less than $315,000 for joint filers ($157,500 for single filers) are not subject to this exclusion for specified service businesses.
ii. The deduction only applies to the “qualified business income” which does not include investment income like investment interest income or capital gains.
iii. For taxpayers filing jointly with taxable income over $315,000 ($157,500 for single filers), the deduction is limited to the greater of: (a) 50% of the W-2 wages paid with respect to the qualified trade or business, or (b) the sum of 25% of the W-2 wages paid with respect to the qualified trade or business plus 2.5% of the unadjusted basis, immediately after acquisition, of all qualified property.
C. Changes for Individuals
- Reduction in Tax Rates. Beginning in the 2018 tax year, the seven individual income brackets were reduced as follows: 10%, 12%, 22%, 24%, 32%, 35%, and 37%. These new reduced rates are currently set to expire after 2025. Taxpayers in the highest tax bracket may see the biggest reduction in rates, as they will taxed at a 37% rate for income over $600,001 for married taxpayers filing jointly ($500,000 for single individuals). Capital gains and qualified dividends rates are unchanged.
- Standard Deductions. In 2017 the standard deduction was $6,350 for single individuals and married individuals filing separate returns and $12,700 for married individuals filing a joint return. Under the Act, this standard deduction is doubled to $12,000 for single filers and $24,000 for joint returns.
- Personal Exemptions. Deductions for personal exemptions are no longer permitted under the Act.
- State and Local Tax Deductions. Deductions for state and local sales, income and property taxes are capped at $10,000 a year for joint filers ($5,000 for individuals).
- Mortgage Interest Deductions. The Act (i) limits the deduction for interest incurred on debt used to acquire, construct or improve a principal residence to interest on up to $750,000 of debt (down from $1,000,000) and (ii) eliminates the deduction for interest on home equity debt.
Please note that the above-described changes authorized by the Act are a summary of the changes and are not inclusive of every change specifically provided for respectively therein. Accordingly, we recommend that you contact our firm to review the full scope of changes presented in the Act.
The content of this post is for informational purposes only and should not be construed as legal advice or legal opinion. You should consult a lawyer concerning your specific situation and any specific legal question you may have.