Expect tax reform fight to keep state and local deductions
Getting personal with the GOP tax reform proposal

GOP moves on to tax code repeal and replace

GOP tax reform framework 092717-Brady tax postcard_C-SPAN screenshot
House Ways and Means Chairman Rep. Kevin Brady of Texas, surrounded by his Republican colleagues, displays a postcard tax return his Party says will be possible under the tax reform framework released today. (Screenshot of C-SPAN video; click image to watch tape.)

And so tax reform 2017 begins. Unfortunately, it begins vaguely.

The Republican Party today released its "Unified Framework for Fixing Our Broken Tax Code." That long title, which is in dramatic all capital letters on cover of the nine-page document, belies the amount of information it provides.

In fact, there are fewer tax details in this latest GOP framework than in Donald J. Trump's various campaign proposals or House Speaker Paul Ryan's economic proposal "A Better Way."

The GOP today is saying what it wants to do with a tax rewrite, but offering very few details about how to achieve that. Basically, it's leaving the details to Congress.

And we all know how well that's worked in recent days … and months and years.

Tax rate changes, up and down: One of the few specifics provided by the framework is the dramatic decrease in the tax rates and income brackets.

It's also one of the worse proposals when it comes to political optics.

Republicans want to go from the current seven tax rates and income brackets to three. That's good for simplicity's sake.

However, we don't have any idea how much of our earnings will fall into the three new rates of 12 percent, 25 percent and 35 percent.

See Also: I shared my thoughts on the tax rewrite framework with Miranda Marquit for her Student Loan Hero story "What Trump's Tax Reform Plan Could Mean for Your Wallet."

And about that new 12 percent lowest tax rate … .

Wait. That's 2 percentage points higher than the lowest 10 percent rate we have now. But wealthier filers are getting an almost 5 percent rate reduction by cutting the current 39.6 percent rate to 35 percent.

Not to worry, say the GOP tax plan architects. Your effective tax rate — the rate at which your earnings will be taxed after other factors are considered — will be lower.

Hmmm. OK. But you're making me do math in my head to get to that point. And you're not really giving me all the numbers I need to do that math, mentally or on paper.

Right now all I'm seeing is a proposed 12 percent tax rate instead of my current 10 percent rate. Even if my effective tax rate does go down — and I've got no guarantee that will happen right now — this till doesn't look good.

Personal, corporate starting points: So just what does the GOP tax reform framework tell us. The two tables below offer some highlights.

Individual Tax Provisions
GOP September 2017 Tax Plan Current law Potential/promised effects
3 tax rates/income brackets: 12%, 25%, 35% 7 tax rates/income brackets ranging from 10% to 39.6%. For 2017 taxes, the lowest tax rate applies to earnings up to $9,325 for singles ($18,650 for married filing jointly taxpayers). The 39.6% rate kicks in at $418,401 for singles ($470,701 for married joint filers). Tax savings for top earners. Supporters of the GOP plan say the 12% rate should be a wash because the plan will effectively create a larger 0% tax bracket by eliminating taxes on the first $12,000 earned by a single filer and $24,000 for married couples.

Standard deduction goes to $12,000 for singles and $24,000 for married filing jointly couples. Standard deduction amounts in 2017 apply to your filing status and are adjusted annually for inflation; currently $6,350 for singles and $12,700 for married filers. For many, the dramatically increased standard deductions will be a benefit. They also could mean fewer taxpayers will itemize deductions.

No personal exemptions. As a simplification measure, personal exemptions are consolidated into the larger standard deduction amounts. Each taxpayer now is allowed a personal exemption of $4,050, as is the filer's spouse and any dependents they claim on their return. This amount is in addition to the deduction, either standard or itemized, that taxpayers claim. The combination of deduction and exemption amounts is easier and is how the current Form 1040EZ works. But it could be bad news for large families, who could end up paying more even with the larger standard deduction amount.

The $1,000 child tax credit available for children younger than age 17 remains and will be refundable.

Plan to increase income levels at which the credits begins to phase out.

The current child tax credit is $1,000 but is nonrefundable. However, many filers are eligible to claim the refundable additional child tax credit. The current child and refundable additional child tax credit claim method is a bit of a hassle, so simplification is welcome. The GOP tax framework document promises it will "significantly" the child tax credit, but we need to see the actual numbers.

$500 nonrefundable credit to cover costs of caring for other nonchild dependents. The current Child and Dependent Care tax credit allows for claims of up to $3,000 for the care of one person and $6,000 for two or more so that the taxpayers can work. The actual credit amounts, however, depend on your overall income and come to a maximum $1,050 for the care of one person, twice that for two or more.

Raw numbers indicate a potential loss for some care credit claimants, but that could be offset if the process is indeed greatly simplified.
Eliminate the marriage tax penalty The marriage tax penalty, where some couples pay more in tax as a pair than they would have as two single filers, was reduced under 2013's American Taxpayer Relief Act, aka the fiscal cliff tax bill. And some couples get a marriage tax bonus. Equity in taxes is always welcome, but difficult. In this case, there are not specifics yet on how the penalty would be erased.

Mortgage interest and charitable itemized deductions remain Mortgage interest and charitable deductions are just two of itemized expenses now claimed on Schedule A. Taxpayers also can deduct allowable medical expenses, casualty and theft losses, other miscellaneous expenses and taxes paid to state and local governments, including income, sales and property taxes. Income thresholds reduce some taxpayers' overall itemized deductions. This could be the biggest tax battle, especially over state and local tax deductions. This itemizing option tends to be used by taxpayers in solidly Democratic states. However, in high-cost states and Congressional districts, some GOP filers will be adversely affected, too.
     

 

Business Tax Provisions

GOP September 2017 Tax Plan

Current law

Potential/promised effects

20% corporate tax rate. Ways to reduce the double taxation of corporate earnings to be addressed by Congressional committees.

35% corporate tax rate
Many large companies, however, pay far less than the top federal rate.

The White House wanted a 15% rate, but this was the lowest that numbers crunchers could achieve … at this point.

25% pass-through rate, which is used by sole proprietorships, partnerships and S corporations.

Under the pass-through mechanism, small businesses, which are particularly concerned about tax reform and who file as noted in the prior column, basically pay their business tax on their personal tax return. That means they now face a possible 39.6 percent tax rate on their professional earnings.

The GOP is leaving it to Congress to adopt measures to prevent wealthy taxpayers from recharacterizing personal income as business income to take advantage of a substantially lower tax rate.

     

Touching on other tax matters: As for other tax provisions, Republicans are calling for —

  • Repeal of the individual and corporate Alternative Minimum Tax, which would be good for everyone. Although this parallel tax system now has its income trigger indexed for inflation, some middle-income earners are still caught in its costly trap.
  • Repeal of the estate tax, or as opponents call it the death tax. Yes, this is a 40 percent flat tax on property and assets left to heirs, but spouses don't face it when they are the heirs. Since both partners get that limit, a married couple actually has a combined exemption of $10.9 million. Plus, the estate tax only kicks in when a deceased's assets are more than $5.49 million and that amount is indexed each year for inflation. That means only estates of the wealthiest 0.2 percent of Americans ever face this tax.

Ignoring some others: And a few tax matters aren't mentioned.

The controversial border adjustment tax, as GOP leaders earlier admitted, was dropped from tax reform consideration.

There's nothing in the framework document about capital gains, which now are generally taxed at 15 percent and 20 percent rates, with some lower income earners not having to pay tax on their long-term capital gains at all.

The GOP plan also ignores the issues of carried interest. In financial circles, this is a share of the profits of an investment that are paid to the investment manager in excess of the amount that the manager contributes to the partnership. These carried interest payments, typically made to private equity and hedge fund managers, are taxed at lower capital gains rates instead of as ordinary income.

Carried interest taxation was a big deal in the last two presidential campaigns. It got much attention in the 2012 race because that's how much of then-GOP nominee Mitt Romney's money was/is taxed.

Donald J. Trump, the GOP's candidate four years later, characterized hedge fund managers as "paper pushers" who, thanks to their carried interest earnings, are "getting away with murder" by not paying their fair share of taxes.

UPDATE: On Sept. 28, White House Economic Adviser Gary Cohn said "the president remains committed to ending the carried interest deduction. As we continue to evolve on the framework, the president has made it clear to the tax writers and Congress. Carried interest is one of those loopholes that we talk about when we talk about getting rid of loopholes that affect wealthy Americans."

Wait and worry and see: I'm sure capital gains will be addressed, but not so confident about the carried interest issue. Tax rates, both at the lowest and highest levels, also might get tweaked in any congressional negotiations.

Ditto for doing away with the death estate tax. And, hope many taxpayers (including me in high property tax Travis County, Texas), so will state and local tax write-offs.

The bottom line is that while Republicans say they want to cut taxes overall by more than $5 trillion over 10 years, they are being coy on how they will pay for — or if they will pay for — those cuts. Making the numbers add up is going to be a big problem for GOP deficit hawks. Or maybe not.

It's going to be an interesting final three months of 2017 in Washington, D.C.

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