By Philip Green and Tim Urban
Amid the list of changes we are likely to see with the new administration, it is becoming clear that a fundamental shift in US tax policy is a high priority for both the new president and Republican-controlled Congress. The drivers of this movement are significant: the statutory corporate income tax rate is seen as too high and the international tax system compels complex planning to align global profits with low-tax jurisdictions, potentially eroding the US tax base.
While we don’t know for certain what tax reform will eventually look like, what we do know is that change will likely happen sooner than many realize. Four of the last five US presidents signed legislation containing significant tax changes within a year of taking office, and with the sweeping GOP results this past November, we may soon see the most comprehensive tax reform since 1986.
What we should do in the meantime, though, is analyze the potential changes discussed by stakeholders to better understand how they’ll impact us as individuals, as businesses and as industries. While the new Trump administration and Congressional Republicans are working through their different proposals, there are many similarities to starting preparing for:
Corporate Tax Rates
As Republicans take control of the White House, House and Senate for the first time in a decade, the differences in the corporate tax rate proposals do not appear insurmountable. House Republicans have proposed a 20% statutory corporate tax rate, a 25% business tax rate for pass-through entities and elimination of most business preferences, except for the R&D tax credit and the LIFO method of accounting.
President Trump’s tax plan differs in that the corporate tax rate would be lower — 15% — with the same rate imposed on pass through entities, though he also called for business provisions to generally be eliminated, except for R&D credit.
The Trump administration has pledged to work with House Republicans on tax issues and — in addition to adopting their proposed individual rates of 12%, 25% and 33% — has announced support for immediate expensing of new business investments for manufacturers. The House plan proposes expensing in conjunction with eliminating the deductibility of net interest expense.
What is important to understand from both proposals is that the corporate tax rate will likely be lower, with both plans suggesting rates significantly below the current corporate tax rate of 35%, but the overall tax base higher, largely through the loss or scale back of deductions.
International Business Shift
We have also seen significant agreement on the design elements of international tax reform. The House Republican “blueprint” calls for an 8.75% tax rate on previously untaxed accumulated foreign earnings held in cash or cash equivalents, and a 3.5% tax rate on all other accumulated earnings. The Trump administration has supported a 10% tax rate on the deemed repatriation of previously untaxed foreign earnings of US companies.
The blueprint also calls for a move to a destination-basis tax system, under which border adjustments exempt exports from tax while taxing imports. Exempting exports from US tax and taxing imports, regardless of where they are produced, will reduce incentives for US businesses to move or locate operations outside of the United States under a territorial tax system. However, developing a workable border adjustability mechanism presents both policy and technical hurdles for businesses. Sectors that are heavily dependent on imports (e.g., retail) have already expressed concern over the proposal, and it will be up to the industries and companies to educate lawmakers as to whether such a system is viable from a business perspective. President Trump has also expressed concern over this border adjustability provision, so it’s unclear how far it will go.
Lastly — as the changes come to light, we want to stress the importance of businesses and individuals alike modeling the various scenarios, analyzing the potential impact and then planning accordingly based on their specific facts and circumstances.
Philip Green is the Southwest Region Tax Managing Partner at Ernst & Young LLP, and Tim Urban is a Partner with Washington Council Ernst & Young LLP
The views expressed in the article are those of the authors and do not necessarily reflect the views of Ernst & Young LLP.