Tax Reform Framework Released

October 2017

Summary

On September 27, 2017, the Trump Administration, the House Ways & Means Committee, and the Senate Finance Committee released a unified framework “to achieve pro-American, fiscally responsible tax reform.”  The White House notes that the September 27 “Framework” is intended to “deliver a 21st century tax code that is built for growth, supports middle-class families, defends our workers, protects our jobs, and puts America first. It will deliver fiscally responsible tax reform by broadening the tax base, closing loopholes, and growing the economy.”
 
While the Framework includes many of the tax reform principles put forward over the past several months, including the June 2016 Blueprint and the Trump Administration’s April 2017 proposal, it is the first plan set forth by the Administration and both Congressional tax writing committees.  Included in the Framework are domestic and international proposals, which would include changes to individual rates, increases to the standard deduction and child credit, changes to itemized deductions, repeal of the estate tax, generation-skipping transfer tax, and alternative minimum tax, reduction of the corporate rate and rate for income from small businesses, expensing of certain capital investments, and changes to the taxation of foreign profits.  As a first step of the legislative process, as of October 26, 2017, both the House and Senate have adopted a budget resolution providing for a tax package that would increase the deficit by $1.5 trillion.  While draft legislative text has not yet been made public, it is expected that the House Ways & Means Committee will release a bill week of October 30, which will continue the formal legislative process.
 

Details

The Framework’s domestic proposal would reduce from seven to three the number of individual tax rates, which would be 12, 25, and 35 percent.  To ensure that the highest income earners do not contribute less taxes than they do today, there would be the potential for an additional fourth top rate.  The Framework does not specify the income ranges that would fall into each of the brackets, or the rate or income threshold for the additional top rate.  The standard deduction would be doubled to $12,000 for single filers and $24,000 for married filers filing a joint return.  Personal exemptions would be repealed; however, the child tax credit would be expanded.

Under the details of the Framework, many itemized deductions would be repealed, except those for mortgage interest and charitable contributions.  Eliminated deductions would include those for medical expenses, state and local income taxes, real estate taxes, personal property taxes, investment interest expense, tax preparation fees, and other miscellaneous deductions.  The Framework does not address existing carryovers of these deductions.  The individual Alternative Minimum Tax (AMT) would also be repealed.  Benefits that encourage higher education and retirement savings, however, would be retained. 

The Framework would also repeal the estate and generation-skipping transfer taxes.  No details are provided for the effective date of the proposed repeal, and the Framework does not address the gift tax. The Framework was also silent as to whether the current so-called “step up” in basis rules for a decedent’s assets would continue to apply for income tax purposes after the repeal of the estate tax.
         
For businesses, the corporate tax rate would be lowered from 35 to 20 percent.  Income from small businesses conducted as sole proprietorships, partnerships, and S corporations would be taxed at a maximum rate of 25 percent, effectively taxing such income at the entity level.  The Framework would eliminate the Domestic Production Activities Deduction, indicating that the provision “will no longer be necessary” based on the proposed reduction in tax rates.  Research and development and low-income housing credits would remain, however, and current deductions would be permitted, for at least five years, for investment in certain depreciable assets made after September 27, 2017.
 
From an international tax perspective, the Framework incorporates certain proposals that were seen previously in the GOP House Blueprint and the President’s “one-page” tax reform proposal.  For instance, the Framework proposes a shift from our current worldwide tax system to a territorial system.  In particular, the Framework would “replace the existing, outdated worldwide tax system with a 100% exemption for dividends from foreign subsidiaries (in which the U.S. parent owns at least a 10% stake).”
 
In conjunction with moving to a territorial system, the Framework also includes a transition tax, which has been a common thread in moving to a territorial system.  Specifically, the Framework “treats foreign earnings that have accumulated overseas under the old system as repatriated. Accumulated foreign earnings held in illiquid assets will be subject to a lower tax rate than foreign earnings held in cash or cash equivalents. Payment of the tax liability will be spread out over several years.” It is worth noting that the Framework did not provide specific rates for the two types of earnings (cash/cash equivalents and illiquid assets) or a specific number of years for payment of the tax liability the way the previously released GOP House Blueprint did. Specifically, the GOP House Blueprint provided that accumulated foreign earnings would be subject to tax at 8.75 percent to the extent held in cash or cash equivalents and otherwise would be subject to tax at 3.5 percent (with companies able to pay the resulting tax liability over an eight-year period).
 
One item notably not included in the Framework was the border adjustment tax that previously was included in the GOP House Blueprint. The fact that such proposal is not included in the Framework is not surprising, given that on July 27, 2017, the “Big Six” group of senior Republicans issued a joint statement specifically abandoning the proposed border adjustment tax that was included in the GOP House Blueprint.  However, there was a proposal included in the Framework that was not included in the GOP House Blueprint or the President’s one-page tax reform proposal.  This new proposal is designed to stop corporations from shipping jobs and capital overseas.  Specifically, the proposal states the following:
 
To prevent companies from shifting profits to tax havens, the framework includes rules to protect the U.S. tax base by taxing at a reduced rate and on a global basis the foreign profits of U.S. multinational corporations.[1]

The Framework, however, does not provide specific details relating to the new proposal or how such proposal will operate under the new system.  The details of such provision likely will be provided when an actual bill is proposed reflecting the new tax reform framework. 

Another item that was included in the Competitiveness and Growth for All Job Creators Section of the Framework that can impact cross border transactions and base erosion is the interest expense limitation proposal, whereby the deduction for net interest expense incurred by C corporations will be partially limited.[2] The Framework does not elaborate on what “partially limited” may mean.  Details likely will be provided when an actual bill is proposed reflecting the new tax reform framework.
 

BDO Insights

The Trump Administration’s tax reform Framework proposes the most significant and comprehensive changes to the tax code in years.  The impact would span business formation and location to individual taxes and estate planning.  While the Framework lacks details and has no effective date, it is expected that Congressional tax writing committees will begin consideration of tax reform over next several weeks – the first official step in the tax legislative process.

Given the emphasis placed by certain Congressional leaders and the White House on tax reform, U.S. multinational companies should be evaluating the potential tax impact of the proposals included in the Framework if such Framework moves forward.   BDO can assist U.S. multinational companies in reviewing how the proposals included in the Framework can impact them. Specifically, BDO can assist U.S. multinationals in planning for possible tax reform by helping them model the potential implications of certain proposals included in the Framework (such as the transition tax discussed above) by analyzing and reviewing certain tax attributes, such as earnings and profits, foreign tax pools, tax basis, and loss carryforwards.  
 

For more information, please contact one of the following practice leaders:
 
Joe Calianno
International Tax Technical Practice Leader
 
  John Nuckolls
Private Client Services
Technical Practice Leader

 
Todd Simmens
Controversy and Procedure Technical Practice Leader
  Ben Willis
Corporate Tax Technical Practice Leader
 
[1] The Framework also states that the committees will incorporate rules to level the playing field between U.S.-headquartered parent companies and foreign-headquartered parent companies.
[2] The Framework also notes that the appropriate treatment of interest paid by non-corporate taxpayers will also be considered.