tax cuts and jobs act

Article Dean Dorton

In our second installment on the new tax law, we will focus on depreciation-related provisions.

Many of you may have previously benefited from bonus depreciation and Section 179 expensing — tax incentives that have allowed businesses to accelerate deductions quicker than regular depreciation. The new law has increased, extended and modified these tax incentives.

Most of the changes are effective for years beginning after December 31, 2017, but there are some changes that are retroactive to September 27, 2017.

Changes to bonus depreciation

For qualified property acquired and placed in service after September 27, 2017, the new law increases the amount eligible to be immediately expensed to 100% of the purchase price. Additionally, the definition of qualified property is expanded to include used property. Note that used property is eligible for bonus depreciation only if it is the taxpayer’s first use of the property. Meaning, if a business purchases a used piece of equipment, and it is the first use of that piece of equipment for the acquiring business, then the property would qualify for bonus depreciation.

For most qualified property, bonus depreciation will begin phasing-down from 100% expensing starting on January 1, 2023. The phase-down schedule is as follows:

  • 100% for property placed in service after Sept. 27, 2017 and before Jan. 1, 2023
  • 80% for property placed in service during calendar year 2023
  • 60% for property placed in service during calendar year 2024
  • 40% for property placed in service during calendar year 2025
  • 20% for property placed in service during calendar year 2026

It is important to note qualified property that was acquired on or before September 27, 2017, but placed in service after this date will not qualify for 100% expensing under the new law. Property won’t be treated as acquired after September 27, 2017 if a written binding contract was entered into for its acquisition on or before this date. Instead, the pre-Tax Cuts and Jobs Act law on bonus depreciation will be applicable.

Both the old law and new law allow for businesses to elect out of bonus depreciation and depreciate qualified property under regular depreciation rules. For a taxpayer’s first taxable year ending after September 27, 2017, a taxpayer may also elect to use the 50% bonus depreciation rate instead of 100%.

Changes to Section 179 expensing

For taxable years beginning after December 31, 2017, Section 179 expensing is increased to $1,000,000 on up to $2,500,000 of qualifying purchases. Section 179 expensing begins phasing out dollar for dollar for each qualifying purchase over $2,500,000. Unlike bonus depreciation, Section 179 expensing is limited to net trade or business income which means it cannot create a tax loss.

Property eligible for Section 179 expensing includes tangible personal property, computer software and qualified real property. Under the new law, qualified real property has been expanded and includes:

  • Qualified improvement property (defined below)
  • Certain structural improvements made to nonresidential real property placed in service after the date such property was placed in service including:
    • Roofs
    • Heating, ventilation and air-conditioning property (HVACs)
    • Fire protection and alarm systems
    • Security systems

Changes to depreciation provisions for nonresidential real property

In an effort to simplify the tax code, the new tax law condenses the improvement categories (leasehold, retail, and restaurant) which were eligible for special depreciation deductions under the old law into one category called “qualified improvement property”. Qualified improvement property is defined as any improvement to an interior portion of a building which is nonresidential real property if such improvement is placed in service after the date such building was first placed in service. The definition excludes the enlargement of the building, any elevator or escalator, or the internal structural framework of the building.

Qualified improvement property qualifies for a 15 year recovery period using the straight-line method for regular depreciation and is eligible for both bonus depreciation and Section 179 expensing.

The changes noted above are effective for property placed in service after December 31, 2017.

Other changes

There are many more changes made to depreciation-related provisions under the new tax law that we will not detail in this article. Some of these changes include:

  • An increase in the annual caps on luxury automobiles depreciation
  • Specific changes to depreciation of farm property:
    • 200% declining balance method can be used for certain farm property, and
    • farm equipment is now eligible for a 5-year cost recovery period
  • Shorter ADS recovery period for residential rental property
  • Limitations on the use of bonus depreciation for certain businesses with floor plan indebtedness

All of these noted changes are effective after December 31, 2017.

Read Previous Article: Employee Benefits

Article Dean Dorton

What is Changing?

Over the coming weeks, we will be sending out more details relating to the new tax law. Given the volume of changes, we will be releasing a more detailed review of a few specific topics at a time.

There are a few employment-related changes in the new tax bill which could require companies to rework internal policies or accounting immediately in 2018.

NEW: Credit for employers providing paid family and medical leave

For tax years beginning after 12/31/17, an employer that offers at least two weeks of annual paid family and medical leave, as described by the Family and Medical Leave Act (FMLA), to all “qualifying” full-time employees (proportionate for non-full-time employees) will be entitled to a tax credit. The paid leave must provide for at least 50% of the wages normally paid to the employee. “Family and medical leave” does not include leave provided as vacation, personal leave, or other medical or sick leave.

A “qualifying employee” is an employee who has been employed by the employer for at least one year, and whose compensation for the preceding year did not exceed 60% of the compensation threshold for highly compensated employees (i.e., compensation did not exceed $72,000).

The credit will be equal to 12.5% of the amount of wages paid to a qualifying employee during such employee’s leave, increased by 0.25% for each percentage point the employee’s rate of pay on leave exceeds 50% of the wages normally paid to the employee (but not to exceed 25% of the wages paid).

Time to repay employer-sponsored retirement loans

Old Law: Retirement plan loans were generally immediately due and payable when the plan terminated or the participant terminated employment. If the loan was not repaid, the plan would offset the loan against the participant’s account. This loan offset may be rolled over by making an equivalent contribution to an IRA or another qualified plan, but this had to be done within 60 days of the date of the offset.

New Law: For tax years beginning after 12/31/17, the period to roll over a loan offset is extended to the individual’s due date for the tax return for the year in which the offset occurred (including extensions).

What does this mean? You should review your company retirement plan loan distribution paperwork and determine whether any prospective modifications need to be made.

Moving/relocation expenses

Old Law: An employer could exclude qualified moving expense reimbursements from an employee’s wages for both income and employment tax purposes. Likewise, employees could claim a deduction for qualified moving expenses.

New Law: For tax years beginning after 12/31/17, qualified moving expense reimbursements are no longer excluded from wages except for Armed Forces on active duty, and are no longer deductible by the employee.

What does this mean? You should review your company policies relating to moving/relocation expenses and adjust them accordingly. Any reimbursements of these expenses to employees or direct payments of moving expenses on behalf of employees (e.g. payments directly to a moving company) should be treated as taxable compensation to the employee going forward.

Employee achievement awards

Old Law: An employer could deduct up to $400 (or up to $1,600 in the case of certain written nondiscriminatory achievement plans) of the value of certain employee achievement awards for length of service or safety. The employee receiving such award can exclude the award from income to the extent that the value of the award does not exceed the employer’s deduction.

New Law: For expenses beginning 1/1/18, the employee’s exclusion and employer’s deduction for employee achievement awards will not apply to cash and so-called “cash equivalents” (gift coupons/certificates, vacations, meals, lodging, tickets to sporting or theater events, securities, and other similar items). However, an employee can still exclude (and an employer can still deduct) the value of other tangible property and gift certificates that allow the recipient to select tangible property from a limited range of items pre-selected by the employer. The prior law annual amounts still apply.

What does this mean? You should review your company policies relating to employee achievement awards. If your company chooses to continue providing cash or cash equivalents, these should be treated as taxable compensation to the employee going forward. Alternatively, you can adjust your company policy to provide only non-cash/cash equivalents achievement awards going forward.

Employer deduction for entertainment, amusement, and recreation provided to employees

Old Law: An employer could fully deduct expenses for recreational, social, or similar activities primarily for the benefit of non-highly compensated employees, provided such activities directly relate to the active conduct of the employer’s business.

New Law: For expenses beginning 1/1/18, this deduction is fully disallowed.

What does this mean? You should segregate these expenses in your accounting system so that they can be appropriately treated under the new law. You should consider your company policy related to these expenses and assess whether prospective changes need to be made.

Employer deduction for meals, food, and beverages provided to employees

Old Law: An employer could fully deduct any food and beverage expense that can be excluded from an employee’s income as a de minimis fringe benefit.

New Law: For expenses beginning 1/1/18, there will be a 50% limitation on the deduction for food and beverages that qualify as a de minimis fringe benefit, including expenses for the operation of an employee cafeteria located on or near the employer’s premises.

What does this mean? You should segregate these expenses in your accounting system so that they can be appropriately treated under the new law. You should consider your company policy related to these expenses and assess whether prospective changes need to be made.

Employer deduction for meals and entertainment provided to customers

Old Law: An employer could deduct 50% of the cost of meals and entertainment expenses paid on behalf of customers provided they were directly related to the active conduct of that trade or business.

New Law: For expenses beginning 1/1/18, all entertainment, amusement, recreation expense, membership dues for business, recreation and social clubs, and related facility expenses are 100% disallowed regardless of whether or not directly related to the active conduct of a trade or business. However, the 50% deduction for food and beverages associated with the active conduct of a trade or business is retained.

What does this mean? You should segregate these expenses in your accounting system so that they can be appropriately treated under the new law. You should consider your company policy related to these expenses and assess whether prospective changes need to be made.

Employer deduction for qualified transportation fringe benefits

Old Law: An employer could deduct the cost of certain transportation fringe benefit provided to employees (i.e., parking, transit passes, and vanpool benefits), even though such benefits are excluded from the employee’s income.

New Law: For expenses beginning 1/1/18, the employer deduction for qualified transportation fringe benefits is fully disallowed. In addition, except as necessary for ensuring the safety of an employee, the employer deduction for providing transportation or any payment or reimbursement for commuting to work is disallowed.

What does this mean? You should segregate these expenses in your accounting system so that they can be appropriately treated under the new law. You should consider your company policy related to these expenses and assess whether prospective changes need to be made.

Disclaimer

The information presented is not intended to be a full and exhaustive explanation of the tax bills referenced as there are many more provisions. Please consult with your tax advisor regarding the policies that might be applicable to your specific situation.

Article Dean Dorton

By Allison Carter, CPA

The current bill for the Tax Cuts and Jobs Act, which was signed by President Trump on Friday, has several provisions impacting tax-exempt organizations. Below is a brief overview of the highlights of those provisions.

Highlights of the Provisions

  • Require tax-exempt organizations to calculate unrelated business taxable income (UBTI) separately for each trade or business carried on — in effect prohibiting deductions relating to one business from offsetting income derived from another business. This provision is effective for tax years beginning after December 31, 2017. This could be a big deal for exempt organizations that have been using losses from one activity to offset income from another. Importantly, net operating losses from prior years will continue to be available to offset net income, regardless of the source of the loss.
  • Require tax-exempt organizations to increase UBTI by the amount of certain fringe benefits, such as qualified transportation and on-premise athletic facilities, provided to their employees, effective for amounts paid or incurred after December 31, 2017.
  • Repeal the exclusion from gross income for interest on a bond issued to advance refund another bond for bonds issued after December 31, 2017.
  • Repeal the authority to issue tax credit bonds and direct-pay bonds issued after December 31, 2017.
  • Private activity bonds, which were on the chopping block in the House version of the bill, remain intact, for now – there is continuing discussion in Congress on returning private activity bonds to the purposes for which they were originally intended.
  • Impose a 1.4% excise tax on net investment income on private colleges and universities (and their related organizations) that: (1) have at least 500 students; (2) have at least 50% of their students located within the United States; and (2) have assets (other than assets used directly in carrying out the institution’s educational purpose) with an aggregate fair market value of at least $500,000 per full-time student at the end of the preceding year. The assets and net investment income of related organizations would be included in determining the applicability and amount of the tax if the assets and income are available to the educational institution. The tax will be effective for tax years beginning after December 31, 2017. Harvard has estimated that, had this provision been in place last year, its tax bill would have been $43 million.
  • Impose an excise tax of 21% on compensation, plus any parachute payment in excess of $1,000,000, paid to any of a tax-exempt organization’s five highest compensated employees for the year and any employee who was one of the organization’s five highest paid employees in any tax year beginning after 2016. The tax would apply to W-2 wages, not including designated Roth contributions, but including amounts included under 457(f). In addition, payments to medical professionals for providing medical or veterinary services would be exempted from the definition of “compensation” for purposes of the tax. The tax would be effective for tax years beginning after 2017. This provision applies to both public and private organizations and includes compensation from any related or governmental entity. So, paying a senior executive or coach $6mm will cost the organization an additional $1,050,000.

While the itemized deduction for charitable donations was not repealed, the Act does disallow certain other itemized deductions and increase the standard deduction for individuals, thus removing the benefit of a charitable deduction for many. A 2017 study by the Indiana University Lilly Family School of Philanthropy suggests that charitable giving may drop by up to $13 billion annually. For fundraisers, we’re suggesting focusing more on the good you do and less on deductibility, at least for smaller donors.

Also keep in mind that while the increased standard deduction and lowering of itemized deductions is expected to result in only 5% of taxpayers itemizing deductions, before the change only about 30% itemized — so even before this change, 70% of taxpayers got no benefit from charitable contributions and yet, many contributed anyway.

Disclaimer

The information presented is not intended to be a full and exhaustive explanation of the tax bills referenced. Please consult your tax advisor regarding the policies that might be applicable to your specific situation.

Article Dean Dorton

By Jen Shah, CPA · Equine Industry Team Leader

Federal tax reform is upon us and, while most provisions in the current bill are effective for calendar years beginning in 2018, there may be some year-end planning items that horse and farm owners should consider prior to December 31, 2017.

As I am writing this article, both the Senate and the House have passed (and re-passed) the current bill and it is widely expected to be signed into law by the President today. While Dean Dorton has previously provided general information regarding what is included in this bill, this article addresses selected items that are specific to horse and farm owners. Unless otherwise noted, the bill is effective for years beginning after December 31, 2017 (so, 2018 for calendar year filers). Most of these provisions apply for a period of time and then revert back to current treatment, but this article focuses on when these items become effective versus the time period for which they are effective.

Depreciation Provisions

Under current law, bonus depreciation (50%) may be claimed on new tangible property purchased and placed in service. The current bill increases the amount eligible to be immediately expensed to 100% of the purchase price and expands the definition of new to include the taxpayer’s first use of the property. So, if I purchase a broodmare, I may now expense 100% of her purchase price, as long as I had not previously owned her. Yearlings, racing prospects, farm equipment and office equipment, land improvements, and barns, to name a few, continue to qualify for this write-off as long as they have not been owned previously by the purchaser. This provision is effective for assets purchased after September 27, 2017.

Increased Section 179 depreciation of $1,000,000 on up to $2,500,000 of qualifying purchases is included with this bill. The bill also expands the definition of qualified property to include HVACs. As a reminder, in order to claim Section 179, there needs to be a net business profit. This is calculated first at the pass-through entity level and then again at the individual level.

Those in the farming business have been required to use 150% declining balance versus the standard 200% declining balance for federal depreciation. This bill removes the requirement to use 150% declining balance so 200% declining balance may be used going forward, which will accelerate depreciation deductions in the first few years. In addition, farm equipment that is currently seven-year life property becomes five-year life property so may be written off over a shorter period of time.

The three-year recovery period for depreciation on yearlings is not included in this bill. So, while the three-year recovery period still applies to racehorses when placed in service after the two-year anniversary of the foaling date, yearlings revert back to a seven-year recovery period. This is effective for years beginning after December 31, 2016, so make sure to update 2017 federal depreciation for this.

Federal Income Tax Rate Provisions

The top income tax rate for individuals will be 37% (versus 39.6% currently). For those who conduct horse operations via partnerships, S corporations, or sole proprietorships, there is a new 20% deduction available against qualified business income but there are many limitations and hurdles to meet in order to qualify for this deduction. This 20% deduction does not reduce an individual’s adjusted gross income but is a reduction from taxable income. Trusts and estates may also qualify for this deduction.

This 20% deduction is limited to the greater of 50% of the allocable portion of wages paid by the business or the sum of 25% of allocable wages plus 2.5% of the allocable unadjusted basis of all qualified property immediately after acquisition. Non-corporate taxpayers with taxable income of less than $157,500 ($315,000 if married filing jointly) are not subject to the W-2 wage limitation when calculating this 20% deduction. For those that exceed this threshold, there may be a potential to qualify for this deduction even if wages are not paid by the entity but depreciable property (like buildings, horses, equipment, et cetera) is held in a trade or business or for the production of income. This portion of the calculation is confusing in the current bill so the above is a bit of an over-simplification.

This 20% deduction generally does not apply to specified service businesses (like accountants or where the principal asset is the reputation or skill of one or more of its employees or owners), but the service business limitation does not apply in the case of a taxpayer whose taxable income does not exceed the applicable thresholds above. As such, bloodstock agents, sales agents, trainers, and vets may fall under the service business limitations.

If you conduct your horse activities via a C corporation, the corporate income tax rate will decrease to 21% and the alternative minimum tax will be eliminated, both of which are good news.

Business Operational Provisions

Business interest expense will continue to be fully deductible for the bulk of industry participants. If average annual gross receipts for the three prior years exceed $25,000,000, then interest expense is limited to 30% of a business’ taxable income, with the excess carrying over to subsequent years. Farming businesses may elect not to be subject to the business interest limitation but would then be required to use Alternative Depreciation System (ADS) (straight-line and longer life) to depreciate property.

Like-kind exchanges of horses, vehicles, and farm equipment are eliminated. Like-kind exchange treatment is only available for real estate going forward, so this will reduce the opportunity for horse and farm owners to defer gain recognition on assets other than real estate for which the proceeds are re-invested in like property.

Meals provided to employees for the convenience of the employer (typically done during peak sale or breeding season hours) are currently 100% deductible but will become 50% deductible. Entertainment expenses will no longer be deductible.

Net Federal Income Tax Losses Generated by Active Businesses

Lastly, this next provision affects active business owners so will affect more than just the equine industry but may have a detrimental effect for those horse and farm owners that generate business losses which are offset by non-business income such as investment income. Under current law, excess farming losses are only limited if the farm receives a subsidy, which does not apply to many horse farm owners. Under this bill, a new section limits any excess business loss generated by an individual to ($250,000) (or ($500,000) if married filing jointly). This threshold applies after the active participation rules are applied and includes any trade or business, not just farming.

Business activities may be netted on an individual’s income tax return to determine if the loss threshold has been exceeded. Any excess business loss beyond the above threshold becomes a net operating loss that rolls forward into the subsequent year. Given the accelerated deductions available to horse owners in years prior to the potential to generate income, quite often net taxable losses will be reported, especially in start-up years. This provision has the effect of at least a one-year deferral for these excess business losses and may negatively impact those who fund business operations with assets that generate investment income.

So, while this bill is primarily effective post-2017, what are some items that should be considered prior to December 31, 2017?

  • Consider accelerating expenses into 2017 for active businesses owned by individuals. There should be a non-tax reason for doing so (for example, discount available, accessibility to certain stallions solely as a result of prepayment, et cetera).
  • Calculate the 2017 versus 2018 income tax impact of accelerating income for individuals into 2017 and paying the related state and local taxes (since the deduction for state and local taxes is limited to $10,000 after 2017) by year-end.
  • Determine if 2017 state, local, real estate, and/or sales tax should be paid by individuals not in Alternative Minimum Tax (AMT) prior to December 31, 2017. Note that there is no deduction allowed in 2017 for the prepayment of 2018 taxes.
  • If the horse or farm owner makes contributions to charity in exchange for preferred seating at athletic events (like the University of Kentucky’s K Fund), consider paying now. Currently, a charitable deduction for 80% of the amount contributed is allowed but this will be eliminated in future years.

This proposed bill certainly does not accomplish income tax simplification (and some have indicated that this will keep us tax accountants in business for quite some time) and creates many gray areas subject to interpretation without the existence of additional regulations. We are doing our best to interpret this bill as we understand it but know that we plan to send updates as additional clarifications are released in 2018.

Should you have any questions regarding federal tax reform and its potential impact on your 2017 or 2018 equine operations, please do not hesitate to contact us.

Jen Shah, CPA
Director of Tax Services
Equine Industry Team Leader

View Jen’s Bio

Article Dean Dorton

On Friday evening, congressional Republicans released the final version of their tax overhaul plan. The plan will be voted on this week with the goal of President Trump signing the bill into law before Christmas. The Republicans believe they have enough votes to pass this plan and are anticipating no Democratic support.

The new bill looks a lot like earlier versions from the House and Senate with some modifications. One of the initial goals of the tax legislation was simplification of the tax code. This bill does not represent significant tax simplification, but does represent the most sweeping change to the Tax Code since 1986. This final bill carries a January 1, 2018 effective date for most provisions. Given the size and complexity of the tax bill, this summary only highlights a few selected items.Individual Tax Rates
Old Law:
Under current tax law, the individual income tax brackets are structured as follows:

Tax Rate Single Married Filing Joint (MFJ)
10% $0 – $9,325 $0 – $18,650
15% $9,326 – $37,950 $18,651 – $75,900
25% $37,951 – $91,900 $75,901 – $153,100
28% $91,901 – $191,650 $153,101 – $233,350
33% $191,651 – $416,700 $233,351 – $416,700
35% $416,701 – $418,400 $416,701 – $470,700
39.6% $418,401+ $470,701+

New Law:
Under the proposed tax law, the individual income tax brackets are structured as follows:

Tax Rate Single Married Filing Joint (MFJ)
10% $0 – $9,525 $0 – $19,050
12% $9,526 – $38,700 $19,051 – $77,400
22% $38,701 – $82,500 $77,401 – $165,000
24% $82,501 – $157,500 $165,001 – $315,000
32% $157,501 – $200,000 $315,001 – $400,000
35% $200,001 – $500,000 $400,001 – $600,000
37% $500,001+ $600,001+

Personal Exemptions and Standard DeductionOld Law:
Personal exemptions generally are allowed for the taxpayer, the taxpayer’s spouse, and any dependents. The amount deductible for each personal exemption is $4,050 for 2017, subject to a phase-out for higher earners. Taxpayers are allowed a standard deduction of $6,350 single/$12,700 MFJ.

New Law:
The personal exemptions are eliminated and the standard deductions increased to $12,000 single/$24,000 MFJ, indexed for inflation for tax years beginning after 2018.State, Local and Property TaxesOld Law:
Taxes paid at the state and local level, including real and personal property taxes, income taxes, and/or sales taxes can be deducted from a taxpayer’s taxable income as an itemized deduction. 

New Law:
For tax years beginning after Dec. 31, 2017 and before Jan. 1, 2026, the combined deduction for property taxes and state and local income taxes, is limited to $10,000 MFJ. Sales taxes may be included as an alternative to claiming state and local income taxes.Mortgage InterestOld Law:
Taxpayers who itemize their deductions may deduct interest payments on the first $1 million in acquisition indebtedness (for acquiring, constructing, or substantially improving a residence), and up to $100,000 in home equity indebtedness.

New Law:
For home acquisition indebtedness incurred before December 15, 2017, the limitation remains at $1 million. Home acquisition debt incurred after this date is subject to a $750,000 limitation. The law eliminates the deduction for home equity indebtedness.Medical ExpensesOld Law:
Under current tax law, the threshold for deduction is 10% of AGI.

New Law:
For tax years beginning after Dec. 31, 2016 and ending before Jan. 1, 2019, the threshold for deduction is reduced to 7.5% of AGI. However, this adjustment is only temporary, as the threshold for deduction will return to 10% of AGI for tax years beginning after Dec. 31, 2018.Charitable Contributions for Purchase of Seating to College and University Athletic EventsOld Law:
A taxpayer that purchases tickets for seating at an athletic event for an educational organization, may take a charitable deduction for 80% of the amount contributed (example – UK Blue/White Fund).

New Law:
For tax years beginning after Dec. 31, 2017, taxpayers will no longer be able to take a charitable deduction for any portion of contribution made to an athletic event for an educational organization.Expanded Use of Sec. 529 Account FundsOld Law:
Funds in a Sec. 529 college savings account could only be used for qualified higher education expenses. “Qualified higher education expenses” included tuition, fees, books, supplies, and required equipment, as well as reasonable room and board if the student was enrolled at least half-time.

New Law:
For distributions after Dec. 31, 2017, “qualified higher education expenses” include tuition at an elementary or secondary public, private, or religious school, and various expenses associated with home school, up to a $10,000 limit per tax year.Individual – Alternative Minimum Tax (AMT)Old Law:
Under current tax law, the AMT exemption amounts are $53,900 for individual filers and $83,800 MFJ. The exemption phase-out amounts are $335,300 for individual filers and $494,900 MFJ.

New Law:
For tax years beginning after Dec. 31, 2017 and ending before Jan. 1, 2026, the AMT exemption amounts will be $70,300 for single filers and $109,400 MFJ. Additionally, the exemption phase-out amounts will be $500,000 for single filers and $1,000,000 MFJ.Estate & Gift TaxOld Law:
The first $5 million, basic exclusion adjusted for inflation after 2011, was exempt from estate and gift tax.

New Law:
The estate and gift tax basic exclusion amount is doubled from $5,000,000 to $10,000,000, indexed for inflation. The generation skipping transfer (GST) exemption amount is also increased to $10,000,000, indexed for inflation. These changes are effective for decedents dying and for gifts made after Dec. 31, 2017 and before Jan. 1, 2026. The bill does not provide for a repeal of the estate or GST tax in the future.Corporate Tax Rates

Income Tax Rate Taxable Income Levels:
Old Law New Law*
15% 21% $0 – $50,000
25% 21% $50,000-$75,000
34% 21% $75,000 – $100,000
39% 21% $100,000-$335,000
34% 21% $335,000 – $10,000,000
35% 21% $10,000,000-$15,000,000
38% 21% $15,000,000 – 18,333,333
35% 21% $18,333,000+

* Personal Service Corporations (PSC) receive no special tax rate.Pass-Through EntitiesOld Law:
The net income of sole proprietorships, partnerships, limited liability companies, and S corporations was not subject to an entity-level tax, and was instead included in taxable income on an owner’s or shareholder’s individual income tax return. This rate could have been as high as 39.6%.

New Law:
Generally, for tax years beginning after December 31, 2017 and before January 1, 2026, individual taxpayers with domestic “qualified business income” from sole proprietorships, partnerships and S corporations would be allowed a new deduction of up to 20% this income. Qualified business income is defined as other than investment income (e.g., dividends, interest income, capital gains, etc.). The deduction could not exceed the greater of:

  1. 50% of the taxpayer’s allocable portion of W-2 wages paid, or
  2. The sum of 25% of the taxpayer’s allocated W-2 wages plus 2.5% of the taxpayer’s allocated unadjusted basis, immediately after acquisition of all “qualified property”. Qualified property is defined as meaning tangible, depreciable property which is held by and available for use in the qualified trade or business at the close of the tax year, which is used at any point during the tax year in the production of qualified business income, and the depreciable period for which has not ended before the close of the tax year.

This second limitation would allow businesses to be eligible for the deduction based on owning property that qualified under the provision, with or without applicable wages.

However, the W-2 wage limit does not apply in the case of a taxpayer with taxable income not exceeding $315,000 for MFJ ($157,500 for other individuals). The application of the W-2 wage limit is phased in for individuals with taxable income exceeding these thresholds over the next $100,000 of taxable income for MFJ ($50,000 for other individuals).

The deduction generally does not apply to specified service businesses, but the service business limitation does not apply in the case of a taxpayer whose taxable income does not exceed the applicable thresholds above.Corporate – Alternative Minimum TaxOld Law:
The corporate AMT is 20%, with an exemption amount of up to $40,000. Corporations with average gross receipts of less than $7.5 million for the preceding three tax years are exempt from the AMT. The exemption amount phases out starting at $150,000 of alternative minimum taxable income.

New Law:
The corporate AMT is repealed for tax years beginning after 2017. In addition, for years beginning after 2017 and before 2022, the AMT credit is refundable and can offset regular tax liability in an amount equal to 50% (100% for tax years beginning in 2021) of the excess of the minimum tax credit for the tax year over the amount of the credit allowable for the year against regular tax liability. Accordingly, the full amount of the minimum tax credit will be allowed in tax years beginning before 2022.Depreciation

Old Law:
Bonus Depreciation – 50% for qualified property placed in service during the tax year. Beginning with property placed in service after Dec. 31, 2017 and before Jan. 1, 2020, the bonus depreciation rate is reduced to 40%, with the deduction expiring after 2019. Additionally, the definition of qualified property includes the requirement that the original use of property commence with the taxpayer. As such, used property is not eligible for bonus deprecation.

Sec. 179 Deduction – The maximum amount that may be expensed under this provision is $510,000. Additionally, the phase-out threshold for the deduction is $2,030,000. These amounts are permanently extended and indexed for inflation.

Farm Property – Machinery and equipment used in farming operations have a useful life of 7 years, and must be depreciated using the 150% declining balance method.

New Law:
Bonus Depreciation – 100% (full expensing) for qualified property acquired and placed in service after September 27, 2017 and before Jan. 1, 2023. Beginning with 2023, bonus depreciation will be phased out at a rate of 20% each year until fully phased out after 2027. Additionally, the requirement that the original use of property commence with the taxpayer has been removed. As such, the definition of qualified property is effectively expanded to include used property.

Sec. 179 Deduction – The maximum amount that may be expensed under this provision is $1,000,000. Additionally, the phase-out threshold for the deduction is $2,500,000. Beginning with property acquired after Dec. 31, 2018, both the maximum deduction and phase-out amount will be indexed for inflation.

Farm Property – Machinery and equipment used in farming operations have a useful life of 5 years, and are now depreciated using the 200% declining balance method.Business Interest Deduction LimitationsOld Law:
Business interest paid or accrued is generally deductible.

New Law:
For tax years beginning after Dec. 31, 2017, every business, regardless of its form, is generally subject to a disallowance of a deduction for net interest expense in excess of 30% of the business’s “adjusted taxable income”. The net interest expense disallowance is determined at the taxpayer level. However, a special rule applies to pass-through entities such as S Corporations or Partnerships, which require the determination to be made at the entity level.

For tax years beginning after Dec. 31, 2017 and before Jan. 1, 2022, adjusted taxable income is computed without regard to deductions allowable for depreciation, amortization, or depletion and without the former domestic production deduction (which is repealed effective Dec. 31, 2017).  An exemption rule applies for taxpayers with average annual gross receipts of less than $25 million for the prior three-year period.DisclaimerThe information presented is not intended to be a full and exhaustive explanation of the tax bills referenced as there are many more provisions. Please consult with your tax advisor regarding the policies that might be applicable to your specific situation.

Article Dean Dorton

On November 16, 2017, the Republican-led House of Representatives passed the Tax Cuts and Jobs Act in a 227-205 vote. The Republican-led Senate passed their own version of tax reform on December 2, 2017 by a vote of 51-49.

The House and Senate must now hammer out a final bill through the budget reconciliation process before it can get to the President’s desk. The combined bills contain over 900 pages of new legislation, so this will not be an easy task. There are some similarities between the two bills, but there are also significant differences. In the end, the Senate might have more persuasion since its bill passed with such a thin margin. The President is pushing for the final bill before Christmas, but many commentators indicate a completed bill by then is only a 50/50 proposition.

One of the initial goals of the tax legislation was simplification of the tax code. These proposed bills pretty clearly indicate that while this legislation will be significant tax reform, it will not be significant simplification. Given the size and complexity of the combined tax bills and the discrepancies between the two versions, this summary only highlights a few selected items.

Proposals where the bills agree (at least in concept)Individual tax rates: Both bills change the tax brackets. Under the House bill, the individual income tax brackets are condensed from seven brackets (10%, 15%, 25%, 28%, 33%, 35%, and 39.6%) to four brackets (12%, 25%, 35%, and 39.6%). Under the Senate bill, the number of brackets will remain at seven, but the rates are changed to 10%, 12%, 22%, 24%, 32%, 35%, and 38.5%. Additionally, the Senate bill sunsets almost all of the individual provisions after 2025, while there are no such sunsetting provisions included in the House bill. Capital gains tax rates are 15% or 20%, depending upon the rate threshold.

Personal exemptions and standard deduction: Personal exemptions are repealed under the House bill starting in 2018 and suspended for 2018 through 2025 under the Senate bill. Effectively, they are combined with increased standard deductions of $12,200 single/$24,400 married filing jointly (MFJ) under the House bill, and $12,000 single/$24,000 MFJ under the Senate bill.

State and local taxes: Both bills agree, eliminate/suspend the state and local income tax deduction starting in 2018.

Property taxes: Both bills agree, limit the deduction for state and local property taxes to $10,000.

Mortgage interest deduction: Both bills keep a version of the mortgage interest deduction. The House keeps the deduction for existing mortgages, but limits it to $500,000 for newly purchased homes (not available on second home). The Senate retains the current law of $1 million of acquisition related debt, but eliminates the deduction for home equity indebtedness.

Inflation adjustments: Both bills calculate inflation adjustments using the chained consumer price index. This index will increase at a slower rate than the consumer price index currently being used.

Corporate tax rates: Both bills reduce the current 35% maximum corporate tax rate to 20%. However, there is disagreement as to the effective date of the rate change. The House version is effective for tax years after 2017, and the Senate version is effective for tax years after 2018.

Depreciation: Both House and Senate bills provide for 100% expensing of qualified property acquired after September 27, 2017 and before January 1, 2023. The House bill also allows 100% expensing for acquisitions of used property, while the Senate bill contains no such provision.

Under the House bill, the expensing limitation and phase-out threshold for Section 179 is increased to $5,000,000 and $20,000,000, respectively for tax years 2018 through 2022. Under the Senate bill, the amounts are significantly lower at $1,000,000 and $2,500,000, respectively. It is important to note that both the House and Senate versions expand upon current 179 provisions ($510,000 and $2,030,000).Proposals where the bills differEstate and gift taxes: For gifts made and decedents dying after 2017, the House bill would increase the federal estate and gift tax unified credit exclusion to $10,000,000, adjusted for inflation. The estate tax would be fully repealed for decedents dying after 2024. The Senate bill increases the credit exclusion to $10,000,000 as well, beginning in 2018. However, the Senate version does not have a full repeal, and the increase is only for decedents dying before 2026.

Alternative minimum tax: Under the House bill, individual and corporate alternative minimum tax (AMT) would be repealed beginning in 2018. AMT would not be repealed under the Senate bill.

Pass-through tax treatment: Beginning after 2017, both the House and Senate bills would make sweeping, complicated changes to the taxation of pass-through entities. Under current law, ordinary income from pass-through entities, including sole proprietorships, partnerships, and S corporations, is taxed at the taxpayer’s rate. This could be as high as 39.6%.

For most individuals, the House bill would subject distributions of “business income” to a maximum 25% rate. Owners or shareholders receiving distributions from passive business activities would be able to treat them as 100% business income. Owners of active business activities would generally treat their distributive share of income as 30% business income subject to the maximum 25% rate, and 70% subject to the personal income tax rates. The bill would provide a 9% tax rate for the first $75,000 of net business income of an active owner filing a joint return, earning less than $150,000 from a pass-through entity. The 9% rate would be phased in so that the rate for 2018 and 2019 would be 11%, and the rate for 2020 and 2021 would be 10%. Most personal service businesses would not be eligible for these special rates under the House bill.

The Senate bill would allow a new deduction of 23% for taxpayers with pass-through domestic “qualified business income” (QBI), defined as all domestic income other than investment income (e.g., dividends, interest income, capital gains, et cetera). The deduction would generally be limited to 50% of the taxpayer’s allocable portion of W-2 wages paid by the pass-through entity. The wage limit would apply to a taxpayer with taxable income exceeding $500,000 filing joint returns ($250,000 for other filers), with a phase-in for the wage limit for taxable incomes exceeding these amounts.

Depreciation – farm property: The Senate bill repeals the current requirement that property used in farming operations use a 150% declining balance. Additionally, the Senate bill would also reduce the recovery period for farm machinery and equipment from seven years to five years. The House bill contains no such provisions related to the rate or the recovery period of farm property.

Cost basis of securities: The Senate bill requires investors to use the first in, first out method after 2017 for determining the cost basis of securities sold unless the average basis method is permitted.

We will continue to update you as the bill reconciliation progress continues and when a new tax reform bill is in place.DisclaimerThe information presented is not intended to be a full and exhaustive explanation of the tax bills referenced as there are many more provisions. Please consult with your tax advisor regarding the policies that might be applicable to your specific situation.