President Donald Trump signed into tax reform legislation, known as Tax Cuts and Jobs Act on December 22, 2017. The legislation amended various topics in corporate, individual and international tax laws. We have selected a few topics from the Act and introduced them briefly in this article. Please contact us should you need more explanation. Majority of the new regulations are applicable to tax years that begin on or after January 1, 2018.
Impact on Corporate and International Taxation
Reduction in Corporate Tax rates
Under pre-Act law, corporations are subject to progressive tax rates with the maximum rate of 35%. Under the new law, corporations are subject to a flat rate of 21%.
Repeal of Alternative Minimum Tax (AMT)
Under pre-Act law, corporations are subject to AMT under certain circumstances. New law repeals AMT.
Changes in Net Operating Loss (NOL)
The pre-Act law does not limit any NOL amount that can be eliminated from a taxable income. The maximum NOL deduction is limited to 80% of the taxable income for a given year under the new law. The pre-Act law provides 20-year carryforward and 2-year carryback for NOL. The Act eliminates carrybacks and allows unused NOLs to be carried forward indefinitely. Note, however, that the pre-Act rules apply to NOL that had been accumulated before the tax year 2017.
Section 179 Deduction
Under section 179 of pre-Act law, the maximum amount to expense the cost of certain property is $500,000 and the amount is phased out dollar-for-dollar after $2,000,000 is spent by an entity. New law increases the maximum amount to $1,000,000 and the phase-out begins after $2,500,000.
Bonus Depreciation
Under section 168(k) of pre-Act law, an entity is allowed 50% of bonus depreciation in the year in which it places certain qualified property. The entity is now allowed 100% of bonus depreciation under the new law. The amount of the first-year bonus depreciation, however, phases down after 2022.
Disallowance of Business Interest Expense Deduction
Under section 163(j) of pre-Act law, known as earnings stripping rules, interest expense paid to a foreign related company is disallowed as a deduction under certain circumstances. The calculation of this disallowed interest expense is modified under the new law. Net interest expense can be deducted up to 30% of an entity’s adjusted taxable income (taxable income adjusted by interest income, income tax, depreciation expense and other items).
Repeal of Domestic Production Activities Deduction (DPAD)
Under pre-Act law, an entity is allowed 9% deduction of its income related to domestic production. New law repeals DPAD.
Modification in Dividends Received Deduction (DRD)
Under pre-Act law, dividends received deduction ranges from 70 to 80% depending on a percentage owned. Under the new law, it ranges from 50 to 65%.
Exemption for Dividends from Foreign Corporations
Under pre-Act law, dividends from certain foreign corporations are taxed in the U.S. New law provides an exemption for the dividends income.
Mandatory Tax on Undistributed Foreign Earnings (Transition Tax)
Upon implementation of the exemption of taxation on dividends from certain foreign corporations, the Act imposes a mandatory tax on undistributed foreign earnings at a special rate in the U.S. for 2017 tax year.
Base Erosion and Anti Abuse Tax (BEAT)
BEAT is newly implemented under the new law. An entity is subject to BEAT if it has any amount paid or accrued to a foreign related party under certain circumstances. The tax is applicable to a corporation (together with a related party if 50% or more is owned) that has a three-year average annual gross receipts amount of greater than $500 million.
Global Intangible Low-Taxed Income (GILTI)
Under pre-Act law, a U.S. corporation needs to include in its taxable income certain income produced in a foreign corporation known as Subpart F income. Under the new law, the U.S. corporation shall include in its taxable income global intangible low-taxed income (GILTI). GILTI is certain income produced by CFC and calculated based on a percentage owned by the U.S. corporation.
Definition of CFC
Under pre-Act law, a foreign corporation is CFC if a U.S. person owns more than 50% of the foreign corporation. Stock attribution rules for determining CFC status are modified to treat a U.S. corporation as constructively owning stock held by its foreign shareholder. For example, a foreign corporation is owned 40% by a U.S. corporation and 60% by another foreign corporation that owns 100% of the U.S. corporation. The foreign corporation owned is now considered CFC of the U.S. corporation.
Impact on Individual Taxation
Modification of Individual Tax Rates
Under pre-Act law, tax rates for individual are 10%, 15%, 25%, 28%, 33%, 35%, 39.6%. Under the new law, the rates are modified to 10%, 12%, 22%, 24%, 32%, 35%, 37%.
Increase in Standard Deduction
Under pre-Act law, the 2018 standard deduction is $13,000 for married filing jointly and $6,500 for married filing separately and single. The deduction is $24,000 for married filing jointly and $12,000 for married filing separately and single under the new law.
Repeal of Personal Exemption
Under pre-Act law, the 2018 personal exemption is $4,150 per person. The exemption is repealed under the new law.
Modification in Child Tax Credit
Under pre-Act law, a child tax credit is provided maximum $1,000 per dependent. Under the new law, the maximum credit amount is increased to $2,000 per dependent and is refundable up to $1,400 even though a taxpayer does not owe any tax. Dependent needs to have Social Security Number (SSN), instead of Individual Tax Identification Number (ITIN), to claim the credit.
Modification in Itemized deduction
The new law revises the amounts of deduction a taxpayer can take for certain items. Those items include but not limited to state taxes, property tax, charitable contribution, and mortgage interest.
Modification in Alternative Minimum Tax (AMT)
New law retains individual AMT as opposed to corporation. Exemption amount is, however, increased. It is modified from $86,200 to $109,400 for joint filers, for example. The exemption begins to phase out after $164,100 of a taxpayer’s income under pre-Act law. The phase-out begins after $1,000,000 under the new law.
Modification in Obamacare
Individual mandate for health care, known as Obamacare, penalizes those who do not have health insurance during a tax year under pre-Act law. New law repeals the penalty.
