by DeEtte L. Loeffler, J.D., L.LM
Usually, very few changes to the tax law happen in an election year. This year may be an exception to that rule, at least with regard to federal taxes on businesses engaged in the international arena.
For the last two years, Congress has looked at the issue of large US corporations leaving the US tax structure by moving their operations off shore (“inversions”). These moves include not only manufacturers, which have been leaving for many years now, but also headquarters for big corporations. Countries like Ireland, with its extremely low corporate tax rate of 12.5% for active business income (and 25% for passive income), are extremely tempting for US corporations subject to tax at 39.1% (although the effective US tax rate varies by industry from 26-39.1%).
According to House Ways and Means Committee Chairman Kevin Brady (R-TX), members of both parties agree there is a need for international tax reform, and it should be possible to adopt reforms this year which do not include controversial changes in tax rates. Major reforms that could be adopted this year include the adoption of a territorial tax for businesses to replace the world-wide tax, adopting laws to discourage further inversions by US companies, incentives for high-tech companies to develop their products in the US, and a one-time tax on accumulated foreign profits (which would effectively end the incentive of US companies to continue retaining their foreign profits off shore). The one-time tax has strong support from both major parties, although there is little agreement on how the tax proceeds should be spent.
The first bill to address this issue was introduced on February 23, 2016 by Sander Levin (D-MI), ranking member of the House Ways and Means Committee. This bill, appropriately named the “Stop Corporate Earnings Stripping Act of 2016,” would reduce inversions by limiting the ability of companies to strip earnings out of US companies, and by reducing or denying expense carry forwards.
Tax reform in other areas is unlikely in 2016, given the election and significant differences of opinion over whom and what should be taxed and where tax revenues should be spent (for credits, infrastructure repairs, etc.). However, the Treasury Department released the 2017 Green Book on February 9th, setting forth the Administration’s tax agenda. Of these proposals, the following agenda items are worth noting:
Further Limit Itemized Deductions. High-income taxpayers in the 33%, 35% and 39.6% tax brackets would be permitted only limited deductions instead of exclusions from income for such things as income on state and local tax-exempt bonds, employer sponsored health insurance plans (and pre-tax plans paid by employees), health insurance costs (for self-employed individuals), contributions to retirement plans and IRAs, interest on education loans, contributions to health savings accounts and Archer MSAs, moving expenses, domestic production income, and certain trade or business deductions for employees. Tax would be imposed on such income at 28%.
Capital Gains Tax Imposed on Gifts and at Death. This change would sharply limit the popular basis step-up rule. The top capital gains tax rate would increase from 20% plus the 3.8% net investment income tax (“NIIT”), to 24.2% plus the NIIT, resulting in a top rate of 28%. Exceptions would be permitted for tangible personal property other than collectibles, up to $250,000 for each residence (not just a primary residence) portable to the surviving spouse (for a maximum combined total of $500,000), and $100,000, indexed for inflation, for all other capital gains. The tax would be postponed for small family owned businesses and would not apply to small business stock.
Fair Share Tax Imposed. The imposition of a new minimum tax would replace the Alternative Minimum Tax (AMT) for high income taxpayers, starting at adjusted gross income (AGI) of $500,000 for married couples filing separately. The tax would be imposed fully at AGI of $1 million for married couples filing separately and at $2 million for those filing jointly. The tax would be 30% of AGI, with a credit for charitable contributions equal to 28% of donations. The AMT would continue to apply to other taxpayers.
Expand New Basis Reporting Requirements to Gifts. As of January 2016, Basis Reporting is required for transfers from an estate if an estate tax return is filed. This change would apply to lifetime gifts if a gift tax return is required to be filed. Currently, an IRS Form 8971 must be filed by the executor 30 days after an estate tax return is filed.
Further, some tax proposals which have returned this year include:
Reducing the Basic Exclusion Amount for estates and gifts from $5 million (indexed for inflation) to $3.5 million (not indexed for inflation), imposing a 45% tax rate, and eliminating Portability of the exclusion (grandfathered estates would retain a more limited benefit);
Placing limits on the term of Grantor Retained Annuity Trusts (GRATs), requiring a minimum ten-year term and a maximum term of the grantor’s life expectancy plus ten (10) years;
Limiting the maximum duration of Generation-Skipping Transfer (GST) trusts to 90 years, which would mostly impact trusts in states which have eliminated the Rule Against Perpetuities (such as Delaware, Alaska and Nevada); and
Limiting to $50,000 per donor the value of all annual gifts (currently the limit is $14,000 per donee) that can be made using trusts or certain types of property, including interests in pass through entities (such as partnerships and LLCs), and interests the donee cannot immediately liquidate.
We will continue to watch these developments in 2016 and will let you know of any significant changes that may affect you or your business.