Tax Reform Proposal
Dear Kenneth,
The long-awaited tax reform proposal was released today by the House Ways and Means Committee. The 429-page text of the bill will take some time to digest and the final tax bill to emerge from Congress will likely be substantially different from the current version. However, since there is great curiosity and concern about how tax reform will affect each individual taxpayer, we want to help sort through the rhetoric to provide our clients with some practical insight into the proposed law.
Undoubtedly, in coming hours and days, the media will provide substantial information about proposed changes in tax rates and deductions. Given the short space here, it is not possible to detail every proposed change. Instead, we will focus on the major practical questions concerning what will happen with tax preparation during the coming year.
Will my taxes be lower? The best answer is maybe. Although the new legislation envisions changes to tax rates that are intended to reduce taxes, there are also major changes that will substantially limit mortgage interest deductions, property tax deductions, reduce or eliminate the benefit for sales of personal residences, and eliminate deductions for medical expenses, alimony payments, and reduce non-taxable employee benefits. Business owners are likely to see the most generous reductions while employees whose compensation, exclusions, and deductions were structured according to the current law could face significant unanticipated tax burdens if their compensation structure is not changed.
What should I keep in mind for myself? Taxpayers receiving company benefit packages that include deferred or non-taxable income under the current law should be prepared to see their compensation structure substantially altered next year because of the envisioned changes. It will be important to analyze a compensation offer to determine whether it is equivalent to prior compensation. Homeowners will also want to carefully analyze how much debt they carry on their houses considering the reduced limits and there might be some good deals available on houses in December if homeowners decide to try to sell quickly before the limits on the exclusion of gain from the sale of a principal residence come into place. With the repeal of the alimony deduction anticipated settlements for divorcing spouses that are currently under consideration may need to be changed. Lastly, although there are dozens more, if medical expenses will no longer be deductible, taxpayers will want to accelerate any expensive medical care into 2017 so it might be hard to see your doctor in December.
Is foreign disclosure going to be less burdensome or complicated? No. The legislation envisions a quasi-territorial tax system that is similar to other countries in some respects, but as has always been the case, the focus is on large multi-nationals and there is no relief for smaller businesses or individuals. There may be some relief from the Subpart F rules and the requirement to track foreign Accumulated Earnings & Profits, which would eliminate two schedules from the current Form 5471. However, prevention of base erosion is likely to result in new disclosure requirements and the continuation of heightened enforcement of foreign disclosure rules. The legislation is silent about individual foreign assets like foreign retirement plans and investments while expanding and making more complicated the withholding requirements on foreign payments. The legislation also envisions ending an exception from Passive Foreign Investment Corporation (PFIC) treatment for insurance businesses, so investors should continue to be wary of the PFIC trap. On the whole, taxpayers with foreign assets and operations should continue to be cognizant of the fact that even a revised tax code will treat such holdings with suspicion.
How and when will the changes be implemented? This remains to be seen. In prior years when tax legislation worked its way through Congress late in the year there have been substantial delays because the IRS did not have enough time to re-format tax forms. These delays occurred because of relatively insignificant changes to the tax code. Given that the debate over tax reform may linger for several weeks and the anticipated changes impact over 100 sections of the tax code, taxpayers should be prepared for delays and confusion during the implementation period. There are typically releases of software updates from the government during tax season, so it is to be expected that the coming tax season may be somewhat chaotic while the government patches software issues. Taxpayers should also take note that many provisions will not become law until 2018 and the political and practical impediments to implementing changes right away might result in even more rules being delayed until 2018.
Will my tax filing be simpler? Based on the proposed changes, this does not appear to be the case for most of our clients. As noted above, 2018 will create substantial need to adjust compensation structure, debt, alimony agreements, provisions for medical expenses, and many other items. Although tax rates on businesses are likely to be reduced, there are also anticipated changes to numerous deductions and the definition of “business income” to prevent abuse. Businesses will have to be very careful to follow these new rules to avoid potential scrutiny from the IRS during this period of transition. Such engagements with the IRS during periods of confusion within the Service can prove costly to taxpayers, even when the taxpayer is right.
We are watching these developments closely. As the final details emerge from the debate we will reach out to you with as much information as we can and respond to the need for year-end tax planning as well as tax planning for the future.
Regards,
Jordan
JF Global CPA
1001 South Monaco Parkway, Suite 270
Phone (720) 643-5630; FAX (720) 643-5751
jordan@jfglobalcpa.com