Tax Reform

The biggest U.S. tax reform since 1986 consists of major tax law changes that will affect everyone.

The Warren Averett Tax Reform Committee has been monitoring the changes closely and providing updates as the details emerge throughout the negotiation process. This bill consists of sweeping changes for individuals and businesses and impacts tax planning, compliance, financial reporting, auditing, internal controls and more. We are committed to keeping you up-to-date on how this tax reform legislation will affect you and your business.

See below for the changes affecting individuals and business. Click here to view a comparison of the previous and current tax rates for individuals and businesses.

Tax Reform Changes for Individuals

The final bill has been a compromise when it comes to individual taxes. Originally, most deductions were set to be repealed; however, in conference most deductions and credits were retained. Individuals will benefit from the standard deduction nearly doubling. In addition, the bill leaves the deduction for state and local taxes but limits the deduction to $10,000. In order to keep the cost of the bill within Senate budget rules, all of the changes affecting individuals begins for tax year 2018 and is set to expire in 2025.

Individual tax rates have been lowered. The maximum tax rate is going from 39.6% to 37%. There is a deduction for taxpayers on their pass-through income (subject to limitations) which will lower the effective tax rate for qualified business income picked up on an individual’s return. See Pass-Through Entities section below for additional information.

Here is a summary of some of the key points for Individual Taxpayers:

  • Tax Rates – the tax brackets have been lowered with a maximum 37% tax rate
  • The Standard Deduction – has been increased to $24,000 for married filing joint (MFJ) returns from $12,600
  • Personal Exemptions have been repealed
  • Alternative Minimum Tax – this is still in effect, but they have increased exemptions and phase-outs so this will apply to less taxpayers
  • Itemized Deductions
    • Overall limitation on itemized deductions has been repealed
    • Mortgage Interest – The home mortgage interest deduction has been modified to reduce the limit on acquisition indebtedness to $750,000 for MFJ, down from $1,000,000 under current law. However, if the acquisition indebtedness occurred before December 15 2017, the limit remains $1,000,000
    • Home Equity Indebtedness interest is no longer deductible
    • State and Local Income Taxes or Property Taxes are allowed up to $5,000 for married filing single filers and $10,000 for all other taxpayers. The bill specifies that taxpayers cannot take a deduction in 2017 for prepaid 2018 state income taxes.
    • Cash Charitable Donations limitations has been increased from 50% to 60% of adjusted gross income in certain cases
    • The current deductibility for contributions made for university athletic seating rights after 2017 has been repealed.
    • The deductibility of miscellaneous itemized deductions has been repealed.
  • Popular education deductions and credits that were originally removed from the bills were put back in, and there will be no changes to those credits.
  • For any divorce executed after December 31, 2018, alimony payments are not deductible for the payor and would not be includible in income by the payee.
  • The moving expense deduction has been repealed and any moving expense reimbursement would now be gross income to the recipient (exception for armed forces on active duty who moves pursuant to a military order).
  • Child Tax Credit increase – the conference agreement has temporarily increased the child tax credit to $2,000 per qualifying child. The credit has been further modified to temporarily provide for a $500 nonrefundable credit for qualifying dependents other than qualifying children. The maximum amount refundable may not exceed $1,400 per qualifying child. In addition, the phase out was increased to $400,000 for MFJ, up from $110,000.
  • The lifetime exemption for gifting and estate tax has been doubled with an increase from $5 million adjusted annually for inflation to $10 million adjusted for inflation. This will be indexed for inflation going forward.
  • The Generation skipping tax exemption has been doubled as well.
  • The estate tax has not been repealed.

Tax Reform Changes for Businesses

The most significant change for corporations is moving from the graduated corporate tax rate structure to a flat rate. Although President Trump was originally fighting for the corporate rate to be reduced to 15% lawmakers settled by reducing the rate from 35% to 21%.

Here is a summary of some of the key points for Corporate Tax:

  • The corporate tax rate has been set to 21%, down from a maximum 35% for tax years beginning 1/1/2018
  • Corporate AMT has been repealed. For tax years beginning after 2017 and before 2022, a portion of the AMT credit is refundable and can offset regular tax liability
  • The Dividends Received Deduction has been reduced. The 70 and 80 percent dividend received deduction amounts for corporations have been reduced to 50 and 65 percent, respectively.
  • Net Operating Losses (NOL) have been limited to 80% of current year taxable income. The bill will eliminate carrybacks (with exceptions) and allow NOL’s to be carried forward without expiration
  • Effective after 2017, businesses with gross receipts over $25 million could see a reduction in their interest expense deduction. Business interest expense that exceeds interest income plus 30% of adjusted taxable income (“ATI”) will be disallowed. From 2018-2021, ATI is defined as taxable income computed without regard to interest expense or interest income, depreciation, amortization, or depletion. Beginning in 2022, ATI does not provide for the add back of depreciation, amortization, and depletion. Disallowed interest is eligible to be carried forward indefinitely.
  • Certain credits and business deductions are now limited or repealed while others were saved in the final bill:
    • Research and Development credit remains unchanged
    • Work Opportunity Tax Credit (WOTC) remains unchanged
    • New Markets Tax Credit remains unchanged
    • Domestic Production Activities Deduction (DPAD) has been repealed
    • Like-kind exchange treatment has been limited

See the Business Asset Expensing and Other Business Changes sections below for additional information.

The final bill will also impact corporations and financial statement reporting under the FASB’s income tax accounting guidance.  These changes would need to reflect the impact of the new laws in the reporting period of enactment.

A few of the major changes that would require deferred tax assets and liabilities to be reevaluated and valuation allowances to be reassessed are the following:

  • The reduction of the corporate tax rate,
  • Repeal of corporate AMT,
  • Changes in tax credit carryovers, and
  • Booking final tax on accumulated foreign income

Changes in deferred tax assets and liabilities would have the following results:

  • Lower deferred tax assets would recognize an increased income tax expense
  • Lower deferred tax liabilities would recognize a reduced income tax expense

The final changes will need to be taken into consideration on how the year-end financial statements will be impacted.  Otherwise, a non-recognized subsequent event disclosure would likely need to be included in the financial statements.

While the focus of the new law is to lower tax rates for corporations and individuals, there are several provisions that affect pass-through entities.  The biggest change is the individual exclusion of pass-through income which provides a potential tax break for pass-through entity owners.  Below are the key pass-through changes that will affect pass-through owners.

  • Pass-Through Income Exclusion
    • The Conference Agreement allows an exclusion of some pass-through income.  If a taxpayer meets the criteria, 20% of pass-through income can be excluded from taxable income.
    • If a taxpayer has taxable income less than $157,500 (single) or $315,000 (joint), there are no limitations to the exclusion and 20% of pass-through income is excluded.
    • If a taxpayer has taxable income in excess of $157,500 or 315,000, there are several limitations.  The first is a specified service business limitation.  This limitation excludes service-based businesses from this exclusion – health, law, accounting, consulting, performing arts and any other business without a capital requirement.  One key change between the Conference Agreement, and prior bills, is the exclusion of architecture and engineering firms from the specified service business limitation – these industries were specifically included in the original bills but were excluded in the Conference Agreement which means engineers and architects will be able to take advantage of the pass-through income exclusion.
    • If a high-income taxpayer is not limited based on the specified service business limitation, then they must apply the wage limit.  The pass-through income exclusion is limited to the greater of (a) 50% of the W-2 wages paid by the business or (b) the sum of 25% of the W-2 wages with respect to the qualified trade or business plus 2.5% of the unadjusted basis of all qualified property.
    • Other areas to note:
      • This income exclusion is not a reduction in computing AGI, but it is a reduction in taxable income.
      • This exclusion is also available to trusts and estates with some limitation.
  • Tax Treatment of Carried Interest
    • For years Congress has tried to pass legislation that would change the taxation of carried interests from long term capital gain to ordinary income.  This bill has provided a compromise for lawmakers.  If income is allocated to a carried interest within three years of the issuance of the interest, the income is taxed at short term capital gain rates.  If the holding period of the carried interest exceeds three years, then the income will be taxed as a long term capital gain.
  • Limitation to Excess Business Losses
    • Starting in 2018, excess business losses (defined as the excess of aggregate deductions over aggregate income of all trades or businesses) allocated to individuals in excess of $500,000 (married) or $250,000 (single) will be limited.  Limited losses will be carried forward to future years.  Any future use would be treated like a net operating loss.  This limitation expires after December 31, 2025.
  • Technical Terminations of Partnerships
    • The technical termination rules under section 708(b)(1)(B) are repealed for tax years beginning after 2017. No changes are made to the actual termination rules under section 708(b)(1)(A).
  • Additional provisions related to business asset expensing and other business changes do apply to pass-through entities.  See below for more information.

 

 

The Conference Agreement contains significant taxpayer friendly depreciation and  business asset expensing provisions.  Many assets will now be expensed through bonus depreciation or Section 179 expense when purchased.

  • Bonus Depreciation
    • From September 27, 2017 through December 31, 2022, taxpayers can expense 100% (previously 50%) of qualified business assets placed in service. This is an increase from the 50% bonus depreciation that was previously in place.  The final bill also removed the criteria that assets must be “new” to qualify for bonus expensing.
  • Luxury Automobile Depreciation
    • Depreciation limits for luxury automobiles placed in service after December 31, 2017 have been increased under the bill. The maximum first-year depreciation for taxpayers is now $10,000 ($16,000 for year 2, $9,600 for year 3, and $5,760 for later years).
  • Section 179 Expense
    • Under the new bill, taxpayers may now expense under §179 qualified business assets up to $1 million (previously $500,000). This benefit begins to phase out at $2.5 million of asset purchases.

The Conference Agreement changes many items affecting business and below is a summary of some of the key proposed law changes that will affect many businesses.

  • Cash Method of Accounting
    • Corporations and Partnerships with corporate partners were previously prevented from using the cash basis method of accounting if their average gross receipts were $5 million or greater. This threshold has been increased to $25 million which means more taxpayers can now qualify to use the cash method.
  • Inventories
    • Businesses are often required to capitalize certain expenses that pertain to inventory. The new rules state that businesses are exempt from this requirement if their average gross receipts are under $25 million (previously $10 million).  More businesses will now be able to take advantage of this higher threshold.
  • Long-Term Contracts
    • For long-term contracts to be completed within two years, businesses are generally required to use the percentage-of-completion accounting method. Currently there is an  exception to this rule is if the business’ average gross receipts is $10 million or less.  Under the new rules, this threshold is increasing to $25 million (indexed for inflation) for contracts entered into after 2017.  Businesses that meet this exception are permitted to use any permissible exempt contract method (including the completed-contract method).
  • Entertainment Expenses
    • After 2017, any deductions related to entertainment, recreation, amusement, etc. (including facilities used in connection with these activities) are generally disallowed as a business deduction under the bill. A 50% deduction is still allowed for food/beverage directly related to the operation of a trade or business.  The 80% deduction for contributions made for university athletic seating rights is also repealed under the new rules.
  • Business Interest Limitations
    • Effective after 2017, businesses with gross receipts over $25 million could see a reduction in their interest expense deduction. Business interest expense that exceeds interest income plus 30% of adjusted taxable income (ATI) will be disallowed.  From 2018-2021, ATI is defined as taxable income computed without regard to interest expense or interest income, depreciation, amortization, or depletion.  Beginning in 2022, ATI does not provide for the add back of depreciation, amortization, and depletion.  Disallowed interest is eligible to be carried forward indefinitely.
  • Like-Kind Exchanges
    • Under the conference agreement, application of Section 1031 is limited to transactions involving the exchange of real property that is not held primarily for sale. The like-kind exchange rules will no longer apply to any other property, including personal property that is associated with real property. This provision will be effective for exchanges completed after December 31, 2017. However, if the taxpayer has started a forward or reverse deferred exchange prior to December 31, 2017, section 1031 may still be applied to the transaction even though completed after December 31, 2017.
  • Income Recognition on Advance Payments Received
    • Under a special rule for income inclusion, an accrual basis taxpayer is now required to recognize an item into income no later than the year in which the item is taken into account on the applicable financial statement.  Thus, an accrual method taxpayer with an applicable financial statement would include an item in income under section 451 upon the earlier of when the all events test is met or when the taxpayer includes such item in revenue in an applicable financial statement.  An exception would apply for any item of income for which a special method of accounting is used.  If a contract has multiple performance obligations, taxpayers may allocate the transaction price in accordance with the allocation made in the taxpayer’s applicable financial statement.   Also, the conference report codifies the current deferral method of accounting for advance payments for goods, services, and other specified items under Rev. Proc. 2004-34.

The final bill made several changes to provisions related to tax-exempt entities, while eliminating several other provisions that had appeared in previous versions of the bill. The main concern of most tax-exempt entities still remains the overall effect on charitable giving considering the increase in both the standard deduction and the doubling of the exemption amounts for the estate tax. For further information please contact the Warren Averett NonProfit team or your Warren Averett Advisor.

Here is a summary of some of the key points for Tax-Exempt Entities:

  • Organizations that carry on more than one unrelated trade or business would be required to separately calculate UBTI for each trade or business, effectively prohibiting using deductions relating to one trade or business to offset income from a separate trade or business.
  • Certain fringe benefit expenses would now be disallowed as a deduction against UBTI.
  • The bill would impose a 21% excise tax on compensation in excess of $1 million paid to an organization’s five highest-paid employees (or any person who was such an employee in any prior tax year beginning after 2016).
    • Under the final bill, wages paid to a licensed medical professional related to the performance of medical or veterinary services is exempt from the 21% excise tax.
  • The bill would eliminate the exclusion for advance refunding bonds effective for bonds issued after December 31, 2017.
  • The bill would impose a 1.4% excise tax on investment income of certain private colleges and universities and their related organizations.

There are many changes to the international taxing scheme summarized below. If you have international operations, please contact the Warren Averett International team or your Warren Averett Advisor.

  • A dividend exemption system, which generally provides for a 100 percent dividend received deduction for the foreign-sourced portion of dividends received by a domestic C corporation (other than a RIC or REIT) from specified 10-percent owned foreign corporations with respect to which the domestic corporation is a U.S. shareholder when certain conditions are satisfied;
  • Sales or transfers involving specified 10-percent owned foreign corporations (including rules relating to (a) limiting losses on certain sales or exchanges of such foreign corporations in situations involving a domestic corporation eligible for the dividends received deduction; (b) treating as a dividend for purposes of applying the participation exemption any amount received by a domestic corporation which is treated as a dividend for purposes of section 1248 in the case of the sale or exchange by a domestic corporation of stock in a foreign corporation held for one year or more; (c) the interaction of section 964(e), the subpart F rules and the participation exemption in the case of certain sales by a CFC of a lower-tier CFC; (d) requiring branch loss recapture in certain cases when substantially all of the assets of a foreign branch are transferred by a domestic corporation to specified 10-percent owned foreign corporations with respect to which the domestic corporation is a U.S. shareholder subject to certain limitations; and (e) the repeal of the foreign active trade or business exception under section 367(a));
  • An election to increase percentage of domestic taxable income offset by overall domestic loss treated as foreign source (modifies section 904(g)); and
  • A transition tax generally requiring U.S. shareholders of “specified foreign corporations” (as specifically defined in section 965) to include as subpart F income their pro rata shares of deferred foreign income of such foreign corporations. The total deduction from the amount of the section 951 inclusion is the amount necessary to result in a 15.5-percent rate of tax on accumulated post-1986 foreign earnings held in the form of cash or cash equivalents, and eight percent rate of tax on all other earnings. The calculation is based on the highest rate of tax applicable to corporations in the taxable year of inclusion, even if the U.S. shareholder is an individual.  There are numerous rules relating to the application of the transition tax (e.g., rules for allowing a reduction of the amount included in income of a U.S. shareholder when there are specified foreign corporations with deficits in earnings and profits). There is an election to pay the liability relating to the inclusion in eight installments at certain specified percentages along with a special election for S corporation shareholders to defer the payment of the liability until certain events. Additionally, the IRS has regulatory authority to carry out the intent of the provision, including the ability to prescribe rules or guidance in order to deter tax avoidance through use of entity classification elections and accounting method changes, or otherwise.
  • There are provisions in the conference report that provide for a deduction for domestic C corporations (that are not RICs or REITs) for certain specified percentages of foreign-derived intangible income of the domestic corporation and global intangible low-taxed income which is included in income of such domestic corporation subject to certain limitations (this provision generally follows the Senate amendment with certain clarifications and modifications).

The conference report also modifies the foreign tax credit system in several ways, including:

  • Repealing the section 902 indirect foreign tax credit and providing for the determination of the section 960 credit on a current year basis (the conference report generally follows the House bill with certain modifications);
  • Sourcing income from the sales of inventory solely on the basis of production activities; and
  • Providing a separate foreign tax credit limitation basket for foreign branch income.

Additionally, the conference report includes a number of significant modifications to the CFC subpart F rules including:

  • The repeal of an inclusion based on the withdrawal of previously excluded subpart F income from qualified investment;
  • The elimination of an inclusion of foreign base company oil-related income;
  • The modification of the stock attribution rules for determining status of a foreign corporation as a CFC (this modification would make it more likely for a foreign corporation to be treated as a CFC as a result of stock of certain related foreign persons being attributed downward to a U.S. person);
  • The modification of the definition of U.S. shareholder by incorporating a 10 percent value test in determining who is a U.S. shareholder (thus, making it more likely for a person to be a U.S. shareholder and a foreign corporation to be a CFC);
  • The elimination of the requirement that a corporation be a CFC for 30 days before subpart F inclusions apply; and
  • A provision providing that a U.S. shareholder of any CFC must include in gross income for a taxable year its “global intangible low-taxed income” in a manner generally similar to inclusions of subpart F income (complex calculation). The Conference Report generally adopts the Senate amendment with clarifications and modifications).

Moreover, the conference report includes a number of provisions designed to address base erosion, including rules relating to:

  • Providing for a base erosion minimum tax, which requires certain corporations to pay additional corporate tax in situations where such corporations have certain “base erosion payments” and certain threshold conditions are satisfied (the conference report follows the Senate amendment with certain modifications);
  • Limiting income shifting through intangible property transfers (including treating goodwill and going concern value and workforce in place as section 936(h)(3)(B) intangibles and, with respect to aggregate basis valuation, requiring the use of that method of valuation in the case of transfers of multiple intangible properties in one or more related transactions if the Secretary determines that an aggregate basis achieves a more reliable result than an asset-by-asset approach.);
  • Disallowing a deduction for certain related party interest or royalty payments paid or accrued in certain hybrid transactions or with certain hybrid entities under certain circumstances. The conference report generally follows the Senate amendment, but provides that the Secretary shall issue regulations or other guidance as may be necessary or appropriate to carry out the purposes of the provision for branches (domestic or foreign) and domestic entities, even if such branches or entities do not meet the statutory definition of a hybrid entity;  and
  • Not permitting shareholders of surrogate foreign corporations to be eligible for reduced rates on dividends under section 1(h). The conference report follows the Senate amendment with a modification providing that the provision applies to dividends received from foreign corporations that first become surrogate foreign corporations after date of enactment.

The conference report also contains rules relating to:

  • Restricting the insurance business exception to the PFIC rules;
  • Repealing the fair market value method of interest expense apportionment; and
  • Codifying Rev. Rul. 91-32 and providing withholding rules relating to a foreign person’s sale of a partnership interest where the partnership engages in a U.S. trade or business.

Some notable provisions that were included in the House bill, Senate amendment, or both, that were not included in the conference report include (but are not limited to) the following provisions relating to:

  • Excepting domestic corporations that are U.S. shareholders in CFCs from the application of section 956;
  • Generally permitting transfers of intangible property from controlled foreign corporations to United States shareholders in a tax efficient manner;
  • Accelerating the election to allocate interest, etc., on a worldwide basis;
  • An inflation adjustment of de minimis exception for foreign base company income;
  • Making permanent the controlled foreign corporation look-thru rule of section 954(c)(6);
  • Current year inclusion of foreign high return amounts by United States shareholders of controlled foreign corporations (but see provision relating to “global intangible low-taxed income” provision discussed above),
  • Limiting deductions of interest by domestic corporations which are members of an international financial reporting group (House Bill) or worldwide affiliated group (Senate amendment),
  • Imposing an excise tax on certain amounts paid by certain U.S. payors to certain related foreign recipients to the extent the amounts are deductible by the U.S. payor (but see provision above relating to the base erosion minimum tax),  and
  • Possessions of the United States.

Insights

Upcoming Events

Meet our Tax Reform Team

Learn more about our team members' expertise, insights, and how we can help you thrive

Top