TAX REFORM Summary of key provisions in the Tax Cuts and Jobs Act ksmcpa.com/taxreform
Keeping Current With U.S. Tax Reform In the most sweeping overhaul of the U.S. tax code in more than three decades, tax reform has been passed by both houses of Congress and has been signed into law. This handout provides an overview comparison between previous law and new changes enacted by the passage of the Tax Cuts and Jobs Act of 2017 and how it will affect tax filings for individuals and businesses. INDIVIDUAL Tax Brackets Seven tax brackets with highest marginal rate of 39.6 percent for income in excess of $480,050 Married Filing Jointly (MFJ). Retains seven tax brackets with a reduction of rates and an increased income range in most brackets. Highest marginal rate reduced to 37 percent for income in excess of $600,000 (MFJ). Kiddie Tax A child s unearned income taxed at parent s rate. A child s unearned income is taxed at trust and estate income tax rates and no longer connected to parent s tax rate. Standard Deduction $12,700 for MFJ; $6,350 Single $24,000 for MFJ; $12,000 Single Personal Exemption Child Tax Credit $4,050 per individual claimed on a tax return. $1,000 credit, per qualifying child, that began phasing out at income of $110,000 MFJ and $75,000 Single. Suspends personal exemptions. $2,000 credit, per qualifying child, that begins phasing out at income of $400,000 MFJ and $200,000 Single. Mortgage Interest Itemized deduction available for mortgage interest incurred on loans up to $1 million of acquisition debt and up to $100,000 of home equity debt. Itemized deduction available for mortgage interest on acquisition debt up to $750,000 for mortgages entered into after Dec. 15, 2017. Interest deduction for home equity indebtedness has been suspended. State and Local Taxes Itemized deduction available for all state and local income and property taxes. Limits the itemized deduction available for all state and local taxes, including property taxes, to a total of $10,000. Summary of key provisions in the Tax Cuts and Jobs Act 1
INDIVIDUAL Charitable Donations Charitable donations of cash deductible up to 50 percent of adjusted gross income (AGI). 80 percent of the amount donated to universities in exchange for the right to purchase athletic tickets was deductible. Charitable donations of cash deductible up to 60 percent of AGI. No deduction is allowed for charitable donations made to universities for the right to purchase athletic tickets. Medical Expense Deduction Excess of medical expenses over 10 percent of AGI allowed as an itemized deduction. Excess of medical expenses over 7.5 percent of adjusted gross income allowed as an itemized deduction through 2019. Deduction returns to 10 percent threshold in 2020. Affordable Care Act Individual Mandate Penalty for taxpayers who failed to maintain health insurance coverage. Penalty reduced to $0 as of Jan. 1, 2019 effectively repealing the individual mandate. Alimony Deduction for payer and taxable income for recipient. For agreements executed on or after Jan. 1, 2019, alimony is not deductible for the payer and will not be income to the recipient. Casualty Losses Itemized deduction available for property losses due to casualty not covered by insurance. Limits deduction to casualty losses incurred in a declared disaster zone. Moving Expenses Above-the-line deduction available for work-related moving expenses. Suspended. Miscellaneous Itemized Deductions Certain miscellaneous itemized deductions allowed subject to two percent of AGI floor. Suspends all miscellaneous itemized deductions subject to the two percent of AGI floor. These include, among other items, tax preparation fees, investment fees, and unreimbursed employee expenses. 529 Plans Tax-free distributions allowed only for qualifying college expenses. Tax-free distributions include qualifying college expenses and up to $10,000/year of qualifying K-12 expenses. BUSINESS AND MISCELLANEOUS Pass-Through Taxation Pass-through entity income reported on owner s individual tax return and taxed at the individual owner s tax rate. Income from pass-through entities is still taxed at the owner s individual rate. There is a 20 percent deduction for Qualified Business Income (subject to certain limitations) which will reduce the owner s taxable income (not adjusted gross income). Additional restrictions may apply to certain service businesses. 2 ksmcpa.com/taxreform
BUSINESS AND MISCELLANEOUS Business Loss Limitation There were no limitations on otherwise deductible business losses. Aggregate business losses over $500,000 for MFJ ($250,000 for all other taxpayers) are disallowed in the current year. The excess loss can be carried forward under the NOL rules. Corporate Tax Rate Graduated tax rates from 15 percent to 35 percent. Flat 21 percent corporate tax rate. Personal Service Corporation Tax Rate Flat 35 percent corporate tax rate. Flat 21 percent corporate tax rate. Corporate AMT 20 percent of corporation s alternative minimum taxable income minus the exemption amount minus AMT foreign tax credit. Corporate AMT repealed. Like-Kind Exchange Self-Created Property Applied to both personal and real property. Self-created patent, invention, model or design, or secret formula or process was treated as a capital asset. Like-kind exchange rules only apply to real property. Personal property exchanges in process as of Dec. 31, 2017 can be completed tax-deferred. Gain or loss from self-created patent, invention, model or design, or secret formula or process is now ordinary in character to the original creator. Depreciation Certain qualified property was allowed 50 percent bonus depreciation in the first year. Temporarily provides that certain qualified property is allowed 100 percent bonus depreciation in the first year. The qualified property now also includes used property subject to certain restrictions. The bonus amount phases down from 2023 to 2027. Section 179 Expense A business could immediately expense up to $500,000 of Section 179 property subject to a phase-out beginning at $2 million of Section 179 property. Increases the amount of deduction to $1 million and increases phase-out threshold to $2.5 million of Section 179 property. Interest Expense Deduction Business interest generally allowed as a deduction. Generally, business interest is limited to 30 percent of modified taxable income (taxable EBITDA through 2021, taxable EBIT after 2021). This does not apply to businesses with average gross receipts, for the prior three years, of $25 million or less, subject to certain aggregation rules. Summary of key provisions in the Tax Cuts and Jobs Act 3
BUSINESS AND MISCELLANEOUS Domestic Production Activity Deduction Net Operating Loss Deduction Provided a deduction for certain qualified production activities. NOL could be carried back two years to reduce taxable income and carried forward 20 years. NOL could be used to offset 100 percent of taxable income. NOL could only offset 90 percent of alternative minimum taxable income. Repealed the deduction for domestic production activities. NOLs incurred after Jan. 1, 2018 can only offset 80 percent of taxable income in any year. The ability to carryback NOL is eliminated but it can be carried forward indefinitely. NOLs incurred prior to Jan. 1, 2018 can offset 100 percent of taxable income even if carried forward. AMT limitation remains unchanged. Entertainment Expenses 50 percent deduction allowed for entertainment directly related or associated with the active conduct of a trade or business. No deduction for entertainment expenses subject to certain limited exceptions. Meals Furnished to Employees A deduction was allowed for employer-operated eating facilities that furnished food to employees on the business premises. A 50 percent deduction is allowed until Dec. 31, 2025 for employer-operated eating facilities. Beginning Jan. 1, 2026 no deduction is allowed. Qualified Transportation Fringe Research and Experimentation Expenses A deduction was allowed when paying for certain employee transportation expenses. Taxpayer had the option of immediately expensing research and experimentation expenses or capitalizing and amortizing the expenses. This deduction is suspended (although benefit is still excluded from employee s income). Research and experimentation expenses incurred after Dec. 31, 2021 must be capitalized and amortized over 60 months (180 months for foreign expenses). Carried Interest Disposition of certain profits interest received in exchange for performance of services treated as long-term capital gain if the interest was held for at least one year. Holding period for disposition of certain profits interest received in exchange for performance of services increased to three years. Roth IRA Conversions Taxpayers were allowed to unwind a conversion of a Traditional IRA to a Roth IRA, if done timely. Taxpayers can no longer unwind conversions to a Roth IRA. Conversions done in 2017 can be unwound if completed by the due date of the taxpayer s return. Qualified Equity Grants Did not exist under prior law. Election that allows a qualified employee to defer the income inclusions from certain stock options and RSUs, awarded pursuant to a qualified employer plan, in income of the employee for up to five years. This election also defers the employer s deduction. 4 ksmcpa.com/taxreform
BUSINESS AND MISCELLANEOUS Unrelated Business Taxable Income (UBTI) Unrelated business taxable income was calculated on an aggregate basis allowing losses from one unrelated trade or business to offset income from a different unrelated trade or business. Income and losses from unrelated trades or businesses must be calculated separately and losses from one unrelated trade or business cannot offset income from a different unrelated trade or business. Tax-Exempt Organization Executive Compensation No excise tax imposed on compensation paid to executives. Generally, subject to limited exceptions, a 21 percent excise tax is imposed on the organization on compensation in excess of $1 million paid to any of the five highest-paid employees. Excise Tax on Investment Income of Private Colleges and Universities Gross Receipts Limit for Cash Method of Accounting No excise tax on net investment income. Corporations with average annual gross receipts of $5 million or less, for all prior tax years, eligible to use cash method. A 1.4 percent excise tax is imposed on net investment income of applicable private colleges and universities. Corporations with average gross receipts of $25 million or less over prior three years eligible to use cash method. Small Business Exception to Accounting for Inventories Small Business Exception to UNICAP Rules Taxpayers with average gross receipts of $1 million or less ($10 million or less in certain industries) were exempt from accounting for inventories. Resellers of personal property with gross receipts of $10 million or less (averaged over prior three years) exempted from UNICAP rules. Taxpayers with average gross receipts of $25 million or less over prior three years exempt from accounting for inventory. Taxpayers with average gross receipts of $25 million or less over prior three years are exempt from UNICAP requirements. This includes both producers and resellers of personal and real property. Small Construction Exception to Accounting for Long-Term Contracts Taxpayers with average gross receipts of $10 million or less for the prior three years were exempt from using percentage-of-completion for contracts to be completed within two years. Taxpayers with average gross receipts of $25 million or less over prior three years are exempt from requirement to use percentage-of-completion method for contracts to be completed within two years. Partnership Technical Terminations If 50 percent or more of capital and profits interest sold or transferred within a 12-month period, partnership tax year closed, elections ceased to apply, and depreciation restarted. Technical terminations are repealed. Partnership will continue even if 50 percent or more of capital and profits interests are sold or transferred. Summary of key provisions in the Tax Cuts and Jobs Act 5
BUSINESS AND MISCELLANEOUS Fines and Penalties No deduction was allowed for fines or penalties paid to the government for any violation of law. Generally, no deduction allowed for any amount paid or incurred, after Dec. 22, 2017, to, or at the direction of, a governmental entity in relation to the violation of law, or the investigation or inquiry by such government or entity into the potential violation of any law with limited exceptions. Contribution to Capital of a Corporation Contributions to capital of a corporation by a governmental entity were not treated as income to the corporation. Contributions to capital of a corporation by any governmental entity or civic group (other than a contribution made as a shareholder) are now includable in income of the corporation. Employer FMLA Credit Estate, Gift, and GST Tax Exemption No credit for employers offering paid FMLA leave. Exemption amount $5 million in 2011 adjusted annually for inflation ($5.49 million in 2017). Provides a credit up to 25 percent of amounts paid under qualified FMLA policy for 2018 and 2019 tax years. Exemption amount increased to $10 million (base year still 2011) adjusted annually for inflation, until Dec. 31, 2025, at which point the exemption reverts back to prior law ($5 million in 2011). The 2018 exemption is estimated to be about $11 million. INTERNATIONAL Deduction for Foreign Source Dividends The foreign income earned by a foreign corporation was generally not subject to U.S. tax until the income was distributed as a dividend to its U.S. shareholders. 100 percent deduction (similar to U.S. dividends received deduction) for the foreign-source portion of dividends received from specified 10 percent owned foreign corporations (only available to U.S. C corporations). Amounts Treated as Dividends Under Code Sec. 1248 are Deductible Gain on disposition of foreign stock can be considered a dividend to the extent the foreign corporation has untaxed earnings and profits. Any amount received by a domestic corporation that is treated as a dividend for purposes of Code Sec. 1248 is treated as a dividend for purposes of applying the deduction for foreign-source dividends. Basis Adjustment for Deductible Dividends None The adjusted basis in foreign subsidiary stock is reduced by the amount of any deduction for foreign-source dividends. This adjustment applies for purposes of determining a loss (but not gain). 6 ksmcpa.com/taxreform
INTERNATIONAL Deemed Repatriation Foreign income earned by a foreign corporation was generally not subject to U.S. tax until distributed as a dividend to U.S. shareholders. One-time transition tax on the untaxed accumulated earnings and profits of any 10 percent owned specified foreign corporation. The portion of the inclusion comprising of cash (or cash equivalents) is taxed at an effective rate of approximately 15.5 percent and any remaining inclusion amount is taxed at an effective rate of approximately eight percent. The U.S. shareholder may elect to pay the tax over a period of eight years. Global Intangible Low-Taxed Income (GILTI) None A new inclusion (similar to a Subpart F inclusion) for the excess (if any) of the shareholder s net CFC tested income over such shareholder s net deemed tangible income return (approximately 10 percent of the CFC s adjusted basis in tangible property). Certain income items are excluded from the GILTI calculation including income subject to high foreign taxes. GILTI Deduction None C corporations are allowed to deduct 50 percent of GILTI inclusions. The allowed deduction decreases to 37.5 percent after 2025. Foreign Derived Intangible Income (FDII) None FDII is approximately equal to the excess of certain income amounts of a corporation over 10 percent of such corporation s adjusted basis in tangible property. C corporations are allowed to deduct 37.5 percent of the FDII. The allowed deduction decreases to 21.875 percent after 2025. Base Erosion Anti- Abuse Tax (BEAT) None Imposes a tax associated with deductible payments to foreign related parties made by certain C corporations with average annual gross receipts of at least $500 million. The tax is imposed to the extent BEAT exceeds the regular U.S. tax liability. BEAT is determined as the BEAT tax rate times modified taxable income determined without regard to deductible base erosion payments. The BEAT tax rate is five percent for 2018, 10 percent for 2019 through 2025, and 12.5 percent starting in 2026. Summary of key provisions in the Tax Cuts and Jobs Act 7
INTERNATIONAL Use of Overall Domestic Losses in Determining Foreign Tax Credits An overall domestic loss allows a taxpayer to treat a portion of his U.S. source income as foreign-source in subsequent years. The recharacterization amount was limited to the lesser of the amount of the loss or 50 percent of the taxpayer s U.S. source income. A taxpayer can elect to increase the percentage limitation of U.S. source income recharacterized as foreign-source income to any amount between 50 percent and 100 percent. Definition of U.S. Shareholder for Determining Controlled Foreign Corporation Status Look-Through Rule on Sale of Partnership Interest U.S. shareholder is a U.S. person who owns 10 percent of the voting power of a foreign corporation. A foreign partner s gain on the sale of an interest in a partnership that engaged in a U.S. trade or business wasn t U.S. source income and wasn t effectively connected with a U.S. trade or business. U.S. shareholder is a U.S. person who owns 10 percent of the voting power or value of a foreign corporation. The character of a foreign partner s gain on the sale of an interest in a partnership is determined as though it was a sale of the partnership s assets. Active Trade or Business Exception for Contributing Appreciated Property to a Foreign Corporation A taxpayer who contributed appreciated property to a foreign corporation for use in the active conduct of a trade or business did not have to recognize gain on the transaction. The active trade or business exception has been repealed. PFIC Active Insurance Exception from PFIC treatment for income derived in the active conduct of an insurance business. This exception is narrowed to require insurance business to have applicable insurance liabilities which are more than 25 percent of its total assets as stated on the insurance company s financial statements. 8 ksmcpa.com/taxreform
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