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Highlights of the Differences and Similarities Between Senate and House Tax Reform Proposals:

The tax proposals between the House and Senate have a number of similarities but also some very significant differences.  While the House has passed its Proposal, it is more likely that tax reform will pass if the House adopts the Senate version.  Following is a summary of some of the more salient provisions. 

  1. Individual Taxes:
    1. Brackets and Rates:
      • House bill reduces the number of brackets to four and retains current top rate of 39.6%;
      • Senate bill has 7 brackets with taxable incomes above $470,700 subject to highest rate – lower than House bill top bracket which puts highest bracket at $1 million for married filing joint.  However, highest rate per Senate proposal is 38.5%.

      This is how the married filing joint brackets vary from current law and from each other at the mid to higher income levels:

      Senate Proposal Married Filing Joint:

      Tax Bracket

      Current 2017 Rates

      Proposed 2018 Rates

      24%

      n/a

      $140,000 to $320,000

      25%

      $75,900 to $153,100

      n/a

      28%

      $153,100 to $233,350

      n/a

      32%

      n/a

      $320,000 to $400,000

      33%

      $233,350 to $416,700

      n/a

      35%

      $416,700 to $470,700

      $400,000 to $1 million

      38.50%

      n/a

      $1 million and above

      39.60%

      $470,700 and above

      n/a

      House Proposal Married Filing Joint:

      Tax Bracket

      Current 2017 Rates

      Proposed 2018 Rates

      25%

      $75,900 to $153,100

      Starts at $90,000

      28%

      $153,100 to $233,350

      n/a

      33%

      $233,350 to $416,700

      n/a

      35%

      $416,700 to $470,700

      Starts at $260,000

      39.6%

      $470,700 plus

      Beginning at $1,000,000

    2.   Standard Deduction:

      House and Senate:  roughly the same increase; $12,000 for individuals for House vs $12,200 for Senate, $18,000 for Head of Household for House vs. $18,300 for Senate and $24,000 for Joint for House vs. $24,400 for Senate. Personal exemption is repealed in both.

    3. Itemized Deductions:

      House:  Repeals the medical expense deduction, all state and local income taxes; allows deduction for real property taxes to $10,000 but limits interest deduction on mortgage expense for new mortgages to $500,000 of principal residence only; repeals home equity interest deduction; and increases 50% AGI limit for charitable contribution deductions to 60%.

      Senate: Does not repeal medical expense deduction, but eliminates all deductions for real property taxes along with state & local income taxes; retains current mortgage interest expense other than home equity loans.  Also Senate repeals mandate for health insurance; like House increases 50% AGI limit for charitable contribution deductions to 60%.

    4. Alternative Minimum Tax (AMT):

      House version repeals it – Senate version suspends it until 2026.  Prior year unused minimum tax credits can be used going forward with limitations.

    5. Alimony:

      House:  Repeal of above the line deduction for alimony paid under agreements entered into commencing in 2018.  The Senate proposal did not include this repeal.

    6. Gain exclusion on sale of principal residence:

      House:  Limited gain exclusion for high income taxpayers phasing it out for AGI in excess of $500,000 and restricting eligibility to principal residences held five out of last eight years. 
      Senate incorporated the five out of eight year rule but does not have an income phase out. 

    7. IRA Contributions:

      House and Senate versions both restricted re-characterization of IRA contributions to Roth. 

  2. Estate & Gift Tax:
    1. Estate Tax:

      Per the House proposal, the estate tax exclusion, currently set at $5.49 million per person, would be doubled for the next 6 years through 2023.  It would be repealed starting in 2024.  The same rules apply for generation skipping tax (GST).  Exclusion amounts would be indexed for inflation as under current law. Hence, if the bill passes as written, a couple could shield roughly $22.4 million in assets starting next year.  Otherwise, the estate tax rate remains unchanged through 2023. 

      The Senate Proposal allows for doubling of the estate tax and GST exemption amounts but does not provide for repeal in 2024. 

    2. Gift Tax:

      The House Proposal keeps the annual exclusion which for 2018 is indexed to $15,000.  As under current law, the estate and GST exclusion amounts will apply to gifts – which, as noted, are doubled.  Per the House bill, in 2024, when the estate tax is slated to be repealed, the gift tax rate would drop from 40% to 35%.  Senate proposal does not have this latter rate change provision.

  3. Business Tax:
    1. Corporate Tax Rate:

      Both House and Senate plans reduce the overall corporate tax rate from current 35% to 20%.  House bill provides for reduced rate to commence in 2018, and for a 25% rate on income of personal service corporations.  Senate proposal delays effective date until 2019 with no special provision for personal service corporations.

    2. Business Income Passthrough: 

      House:  Certain pass-through income taxed at 25% maximum tax rate.  Income from active business would be allowed to treat 30% of income as eligible for reduced rate.  Income from certain personal service businesses such as law, accounting, engineering and performing arts would not be eligible for the lower maximum rate
      Senate:  Pass-through income accorded a 17.4% deduction on qualified domestic business income in lieu of above. Personal services, as with House proposal, largely ineligible to benefit from lower maximum rate. 

    3. Corporate AMT:

      Both House and Senate Proposals repeal corporate AMT.

    4. Expensing/Bonus Depreciation:

      Both House and Senate proposals allow for 100% expensing of “qualified property.” IRC Sec. 179 expense increased under House proposal to $5 million with phase out for gross receipts over $25 million. Senate version limited to $1 million with phase out at acquisitions over $2.5 million.

    5. Interest Expense:

      Both House and Senate proposals limit interest expense to 30% of adjusted taxable income, net or certain modifications, including depreciation, amortization, interest income, interest expense and net operating loss (“NOL’s”).  Limitation does not apply to “small business” which House defines as gross receipts of $25 million or less, but Senate as $15 million or less.  There is no detail as to how this impacts closely held businesses though it does include pass throughs such as partnerships.  This could play heavily as a limitation in real estate as, in effect, interest expense will be limited to 30% of income where losses are incurred. 

    6. IRC Sec. 1031 Like Kind Exchange:

      Both House and Senate limit this tax deferral to real estate.

    7. Net Operating Losses

      Both House and Senate limit carryback in different ways.  House limits to one year for small businesses and limits carryforward to 90% offset.  Senate limits carryback only to certain businesses such as farming.  Carryforward has same limit as House. 

    8.  Misc:
      • Both Senate and House limit Meals and Entertainment expense to 50% of meals only. 
      • Both Senate and House repeal Domestic Production Activities deduction though Senate uses a modified approach in reducing the passthrough tax rate.
      • Senate bill lowers exclusion for corporate Dividends Received Deduction for 70% and 80% to 50% and 65% respectively.
      • Cash method of accounting thresholds are increased in both proposals.  House increases limit to $25 million in gross receipts, Senate to $15 million.
      • Floor for mandatory capitalization of inventory costs increased by the House to $25 million; by Senate to $15 million in gross receipts.   
      • House proposal precludes self-created patents, inventions, trade secrets and the like from capital gains eligibility.  Senate version appears to leave existing eligibility provisions intact.
  4. International Tax:

    The Senate proposal is more complex than the House version with targeted adjustments focusing on potential income deferral or reduction of taxable income arising from cross border transactions. 

    1. Tax free repatriation:

      Both the Senate and House look to incentivize tax free repatriation of earnings and profits (dividends) to 10% or greater U.S. shareholders. 

      • Stipulations exist such as inclusion of the pro rata share of post-86 earnings and profits (“E&P”) of foreign corporation to extent not previously taxed in income for year prior to 2018.  
      • No tax credit for foreign subsidiaries for income on which the above exemption would apply.
    2. Income inclusion transition rule for foreign deferred earnings (Senate version only):
      • C corporations – With limited adjustment, corporations subject to these anti-deferral rules must include all post-1986 deferred foreign income.  Reduced tax rates of 5% to 10% proposed.  Installment treatment across 8 years possible.  Foreign tax credits limited.
      • S corporations – With limited adjustment, mandatory income inclusion predicated on “triggering event.”  These are changes in status to C corporation; liquidation; or transfer of shares by sale, death or other change in ownership.  8-year installment tax liability installment treatment possible.
      • Mandatory income inclusion of all foreign deferred earnings if an outbound inversion transaction occurs – U.S. entity inverts to foreign corporation as parent. 
    3. Passive and mobile income (Senate version only):
      • Global intangible low-taxed income subject to mandatory inclusion akin to Subpart F income.
        • Formulaic amount derived from share of return on investment
    4. Transfers of intangible property from controlled foreign corporations to U.S. shareholders:
      • Special exemption for treatment at basis amounts rather than fair market value. 
    5. Profit Ceilings (House version only):
      • Mandatory U.S. parent income inclusion of foreign subsidiary “high returns” – income over 7% + federal short term rate. 
    6. Interest Expense:
      • Limitation on interest expense of US corporations that are members of a specified “international financial reporting groups” (House) vs. “worldwide affiliated group” (Senate).
        • Senate also seeks to have allocated interest on per adjusted tax basis of assets only.
    7. Treaty Benefits:
      • Limited elimination of treaty benefits for rents, royalties, interest, annuities and any other U.S. fixed, determinable annual income paid by a U.S. entity to a foreign affiliated entity other than a parent corporation if payment would not be eligible for treaty benefits if made directly to foreign parent.
      • Senate approach – deny deduction for amounts paid or accrued using hybrid transaction to or by hybrid entity.  Hybrids are entities or transactions treated or viewed differently by the U.S. and another country. 
    8. Domestic International Sales Corporations (Senate)
      • U.S. tax-favored export incentives eliminated.
    9. Income Shifting from Intangible Property Transfers (Senate):
      • Limits permissible valuation methodologies and expands the concept of intangible assets to include workforce in place, going concern and similar items.
    10. Base Erosion Minimum Tax (Senate):
      • Excess of 10% of modified taxable income (taxable income exclusive of certain deemed or actual related foreign party payments) over regular tax liability less excess of tax credits. 
    11. Exclusion For Oil and Shipping Income (House and Senate):
      • Repeal of mandatory U.S. parent company inclusion for foreign-based oil related income. House also eliminates mandatory inclusion on certain foreign shipping income.  Senate redefines shipping income included as U.S. sourced.

Planning considerations:

There may at best be a short window to plan for tax code changes if these proposals pass.  Hence familiarity with them is critical for tax savings.  Given that the GOP has a wider majority in the House than the Senate, it’s more likely that the Senate version would pass the House than vice versa.  Here are a few ideas:

  1. Given that itemized deductions are targeted for significant reduction, it would make sense to pay estimated state and local income and real estate taxes in December rather than waiting until January, where possible, so as to be able to deduct in 2017 tax year.
  2. Similarly, if medical expenses appear to be over the floor for deductibility, pay in 2017 rather than 2018, if possible.
  3. Charitable contributions continue to be itemized deductions, so no compelling need to accelerate contributions especially since AGI limitation could increase in 2018.
  4. AMT is slated by both the House and Senate to be repealed.  Hence transactions increasing AMTI such as exercising ISOs may be an election to consider waiting until 2018 all other things being equal.
  5. If a divorce is pending, consider finalizing alimony settlement prior to year-end.
  6. Consider recharacterizing Traditional to Roth IRA before year-end.
  7. Debt structure in businesses should be reviewed with an eye toward potential deductibility limitations.
  8. Like kind exchanges that do not involve real estate should be accelerated to close prior to year-end.
  9. For tiered international and domestic corporate structures, consider issuing dividends in current year before exclusion percentages are potentially decreased.
  10. Consider deferring into 2018 offshore inbound distributions of earnings and profits or other repatriated earnings.
  11. All other things being equal, consider deferring into 2018 additional gifting to next generation when exclusion could be doubled.
  12. Evaluate estate plan in light of potential opportunities that could arise from increased exemption amounts.
  13. Re-examine global structure to be ready to take advantage of potential entity reduced rates and inbound incentives as well as potential new rules relative to sourcing of inventory and costs.
  14. Re-examine global structure in light of proposed treaty and other denoted Senate proposed limitations. 

Contact your Janover Tax Advisor for the latest updates and tax planning strategies. 

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