While still awaiting President Trump’s signature, with the passage of the Tax Cuts and Jobs Act (the “Act”) by both houses of Congress, businesses should expect to see major changes to their tax obligations beginning in 2018.
As has been well publicized, the tax rate applicable to corporations has been reduced considerably from 35% to 21%. While many of the provisions in the Act are temporary, the reduction in the corporate income tax is a permanent provision of the Act.
Additionally, the owners of most pass through entities will now be permitted to deduct 20% of qualified business income, although some limitations apply based on the income of the taxpayer and to certain service professionals.
In conjunction with reducing applicable tax rates and providing for the deduction for pass through income, Congress has provided for the expiration of many current provisions of the Internal Revenue Code which will partially offset the revenue loss associated with lower rates:
1. A limitation on the deductibility for debt interest payments
The Act provides that business interest expenses can be deducted only up to 30% of adjusted taxable income with an exception that companies with up to $25 million in revenue can keep the full deduction. An exception is also included in the bill for the deductibility of interest for certain real estate businesses using an alternative depreciation system.
2. A limitation on the deductibility of business entertainment
Pursuant to the Act, no deduction will be permitted for activities that are considered to be entertainment, amusement or recreation. Additionally, membership dues for clubs which are organized for business, recreation, or social purposes will not be deductible. A 50% deduction will still exist for food and beverage expenses which are associated with a business.
3. Limitations on Net Operating Loss Deductions
The Act provides that the amount of a net operating loss deduction cannot exceed 80% of the taxable income of a business. Additionally, beginning with the 2018 tax year, net operating losses will not be permitted to be carried back. Net operating losses can now be carried forward indefinitely.
Other Potential Benefits to Businesses
There are numerous other potentially beneficial provisions applicable to businesses within the Act. For example, businesses will now be able to write-off up to $1 million in purchases of Section 179 property (ex: equipment, computers, furniture, etc.) in the tax year in which the purchase was made.
There are major international tax implications as well as the United States converts to a territorial tax system under the Act. This means companies will only be taxed on income earned in the United States beginning in 2018. Further, low tax rates were implemented for the repatriation of money and goods to the United States. Certain additional taxes will be implemented in an attempt to maintain the current United States tax base and to discourage the use of foreign tax-shelters by businesses.
While many of the highlights and key benefits of the Act are known, there is still much that is unknown about the Act. Not only is the Act itself comprehensive and a major reform to the United States tax system, but many rules and regulations implementing the Act will need to be written. Business owners are advised to contact their business attorney and other tax advisors to discuss implications of the Act so future investments and tax considerations can be properly planned and addressed prior to the conclusion of future tax years.