On January 20, 2017, Donald J. Trump became the 45th
President of the United States. As of this writing, less than a month later, it seems that his administration will be active in many areas—and that federal taxation will be a part of that activity. No major steps have been taken in the past few weeks, but Trump has signaled that a “massive” tax plan will be revealed soon.
Wall Street leadership
A key player in this plan probably will be Gary Cohn, the director of the National Economic Council, which effectively makes him Trump’s chief economic advisor. Cohn joined the Wall Street firm Goldman Sachs in 1990, becoming the firm’s president and chief operating officer in 2006. He left Goldman Sachs last December to join the Trump administration.
According to press reports, Cohn is leading the effort to create Trump’s tax agenda. Cohn has revealed that he has been meeting with members of Congress in order to put the tax plan together. The emphasis will be on income taxes: Cohn has said the goal will be to reduce their impact on individuals, especially those with lower earnings, and on corporations.
During last year’s Presidential campaign, candidate Trump indicated a desire to have only three tax rates, versus the seven current rates. He mentioned a 12% rate on taxable income up to $75,000 for married couples filing jointly, who now are in the 10% and 15% brackets. Trump also proposed dropping the top 39.6% rate to 33%. (A 25% tax rate would apply to couples with taxable income between $75,000 and $225,000.)
For businesses, Trump has proposed cutting the top corporate income tax rate from 35% to 15%. The reduced rate could also apply to pass-through entities, but any distributions would be treated as a taxable dividend. A one-time repatriation for off-shore profits, taxed at 10%, is a key Trump proposal as well.
Up to now, the tax issue receiving the most attention has been tariffs, rather than income tax. Trump has backed a 35% tax on items that are produced abroad and imported into the U.S. He has mentioned automobiles made in Mexico as items that would be subject to this tax if brought across the border to be sold in the U.S.
Nevertheless, Trump's appointed Secretary of the Treasury, Steven Mnuchin, has stated that the administration won’t immediately impose an across-the-board 35% tax on imports manufactured abroad. Such a broad tax isn’t being considered, Mnuchin told the Senate Finance Committee, but Mnuchin informed the committee that there may be “repercussions” for certain companies that move jobs out of the U.S., leaving open the possibility of some type of targeted import tax.
Indeed, Trump has tweeted a warning to companies that leave the U.S. for another country, fire its employees, and build factories in the other country. It would be “wrong”, Trump asserted, for such businesses to think they can bring their products back into the U.S. without retribution or consequence.
Trump added that there will be a tax for companies wanting to sell their products back across the border. “This tax will make leaving financially difficult,” he Tweeted, “but companies are able to move between all 50 states, with no tax or tariff being charged.”
There is no certainty about what might happen in this area but some type of tax could be imposed, even by Trump acting on his own. In 1971, President Richard Nixon placed a 10% surcharge on imports, which was dropped four months later. Trump might initiate something similar, so executives of companies with a meaningful import business should be aware of this developing issue.
Border Adjustment Tax
The Ryan-Brady tax reform proposal has been attracting significant attention, as it would represent a radical change in the approach to U.S. taxation by introducing a territorial tax regime. Its fate is uncertain at this time. As recently mentioned in a WSJ article, while the proposal may not be on its death bed, it would appear to be on “life support”. The proposal has yet to be fully endorsed by President Trump, who has suggested that the plan is too complicated. While there would be winners under the proposal, there would be losers as well. While many rally against the proposal, the retail apparel industry, specifically, has formed coalitions to attempt to dissuade the president from supporting the proposal.
In essence, the border adjustment tax is a destination-based, cash-flow type business tax directed towards consumption. While it is specifically mentioned not to constitute a value-added tax (‘VAT’), it bears some similar characteristics. The bottom-line is that exports would not be taxed, while imports would be subject to income tax, by disallowing a deduction for the cost of goods sold (COGS) of imported goods. To illustrate the dramatic effects, assume the following example:
U.S. manufacturer produces goods in the U.S. to be sold off-shore, and it has gross revenue of $10M, COGS of $6.5M, and $2M of other expenses. Its net income is $1.5M, but it pays no tax. (Questions have been raised to as the utilization of the $8.5M of costs, which could result in net operating loss trafficking.) If, however, a U.S. company uses $6.5M of imported goods and sells them in the U.S., it would pay a tax of $1.6M, based on a 20% income tax rate on the taxable income of $8M (gross revenue of $10M less $2M of other expenses, with no deduction for COGS). The tax due of $1.6M is greater
than the pre-tax net income of $1.5M. Obviously, the Ryan-Brady plan is skewed in favor of exporters.
Serious issues are also being raised as to whether the border tax would be viewed as discriminatory and not compatible with the World Trade Organization (WTO). Border adjustments are deemed compatible if imposed via an indirect tax, such as a VAT. Incompatibility would result, however, if imposed via an income tax, which is deemed as a direct tax for this purpose. There has also been discussions that some types currently deductible expenses being disallowed, for all taxpayers, in order to make the tax more of an ‘indirect’ tax.
A stated objective of the proposal is to attempt to achieve revenue neutrality with the lowering of corporate tax rates. Alternative proposals could include a lesser reduction in the corporate tax rate than to the proposed 15%. However, the lower rate could be coupled with a provision that allows for 100% percent expensing as compared to depreciating capital expenditures plus the limit of interest deductions to a net interest concept (interest income less interest expense). Any excess could be carried forward indefinitely to be utilized in future years, but subject to the limitation of net interest income.
Soon after taking office, Trump signed an executive order in which he announced he would seek a “prompt repeal” of the Affordable Care Act (known as Obamacare). This executive order directed his administration’s agencies to minimize what President Trump consider the law’s defects.
Consequently, Trump’s Department of Health and Human Services has proposed new regulations
limiting the time period for Affordable Care Act enrollment, allowing health insurers to apply a customer’s new payments to past unpaid premiums, and giving insurers more flexibility to change coverage in order to keep premiums stable.
Efforts to actually end Obamacare are ongoing in Congress, as Republican majorities internally debate whether to repeal or replace the existing law. Meanwhile, as long as the Affordable Care Act remains in effect, so do the taxes associated with that law.
Aforementioned taxes include the 3.8% net investment income surtax, the 0.9% payroll surtax, the phase-out of personal exemptions, and the phase-out of itemized deductions, all of which affect certain high-income taxpayers. The end of Obamacare also would repeal the penalty tax on people without acceptable health insurance, as well as the scheduled 40% tax on “Cadillac” health care plans deemed to be too generous to employees.
Citrin Cooperman’s Federal Tax Policy Team
As the Trump tax plan rolls out, Citrin Cooperman’s Federal Tax Policy Team (FTPT) will continue to keep our clients abreast of the constantly changing legislative and political landscape. This team will examine new tax legislation as it is enacted, in order to identify strategies to help our clients best manage the complexities of their tax situations.
With a highly knowledgeable and experienced team, the FTPT is uniquely qualified to assist as our clients tackle key tax issues. The team’s primary focus is on President Trump’s administration, subsequent legislation, and helping our clients learn about, understand, and plan under any new tax legislation.
Should you have any questions, please do not hesitate to reach out to our team at FederalTaxPolicyTeam@citrincooperman.com
. President Trump has announced that he will address a joint session of Congress on Feb. 28. Stay tuned as we will provide a current update of tax reform matters that are addressed.