Taxation

The U. S. House of Representatives' approved the Tax Cuts and Jobs Act (TCJA, H. R. 1) on November 16. The Senate Finance Committee approved its tax reform bill on November 16. While the House and Senate bills overlap in many important respects, there are significant differences between the two bills. The next steps would be for the House and Senate bills to be reconciled, the resulting bill to be approved by each chamber, and the approved bill to be sent to the President for signature. President Trump has pledged to have tax reform legislation enacted prior to Christmas.

This client alert highlights important changes that the TCJA would bring to the taxation of individuals and families. They are listed below by category. For our client alert on changes affecting U.S. businesses, click here.

Tax Rates

• Reduce the number of tax brackets from seven (10%, 15%, 25%, 28%, 33% 35%, and 39.6%) to four (12%, 25%, 35%, and 39.6%).
• Establish a new 25% rate for “qualified business income” of individuals from sole proprietorships, partnerships, and S corporations. 
  • In general, passive income and 30% of active business income would be subject to the 25% rate, though taxpayers could elect an alternative method of calculation. 
  • Owners of certain personal services businesses (e.g., businesses involving the performance of services in the fields of law, accounting, consulting, engineering, financial services, or performing arts) would not be eligible for the 25% rate.
  • In addition, a 9% rate, (rather than 12%) would apply to the first $75,000 of net business income of certain active owners of pass-through businesses. This lower rate would be phased in over five years and would be available to owners earning less than $50,000.
• Repeal the alternative minimum tax.

Tax Credits

• Provide an enhanced child credit of $1,600 (or an alternative credit of $300 for non-child dependents for tax years before January 1, 2023), and create a new family flexibility credit of $300 for periods before January 1, 2023. 
• Repeal nonrefundable credits for elderly and disabled individuals, mortgage credit certificates, and plug-in electric vehicles. 
• Simplify and reform education incentives by (i) consolidating the multiple existing education credits into an enhanced American Opportunity Tax Credit; (ii) eliminating new contributions to Cloverdale savings accounts; (iii) allowing qualifying distributions from Section 529 plans to be used to pay elementary and high school tuition up to $10,000 per year and to pay for certain apprenticeship programs; (iv) excluding from gross income, student loan discharges on account of death or disability; and (v) repealing several other education deductions and exclusions from gross income.

Deductions

• Eliminate the personal exemption deduction.
• Eliminate the overall limitation on itemized deductions.
• Provide that mortgage interest deductions for new loans would be limited to $500,000 of acquisition indebtedness and that mortgage interest on second homes would no longer be deductible.
• Eliminate the state and local tax deductions for income and sales taxes. But a deduction could still be claimed for up to $10,000 of property taxes.
• Increase the standard deduction to $24,400 for joint filers (and surviving spouses) and $12,200 for individual filers.
• Repeal the deductions for personal casualty losses (except for personal casualty losses associated with special disaster relief legislation), tax preparation expenses, medical expenses, alimony payments, moving expenses in connection with a new job, and expenses incurred in connection with the trade or business of being an employee.
• Impose new limitations on deducting wagering expenses.
• Increase the limit on deductions for cash contributions to public charities (from 50% to 60% of adjusted gross income); eliminate the special rule that provides a charitable deduction of 80% of the amount paid for the right to purchase tickets for athletic events; and adjust for inflation, the charitable mileage deduction.

Exclusions

• Limit the amounts excludable from income for housing provided for the convenience of the employer and for employees of educational institutions.
• Limit the exclusion for gain on the sale of a principal residence by (i) providing that the taxpayer must have owned and used the home as a principal residence for five of the last eight years; (ii) providing that the taxpayer may use the exclusion only once every five years, and (iii) phasing out the benefit of the exclusion for higher-income individuals.
• Repeal the exclusion from gross income for employee achievement awards, employer-provided dependent care expenses, and reimbursement of moving expenses.

In addition to these changes, the TCJA makes significant revisions to other areas, including business taxation, real estate, pension and employee benefits, insurance companies, tax-exempt bonds, exempt organizations, and foreign income and foreign persons. Some of these revisions will be addressed in future client alerts.