The Tax Cuts and Jobs Act was signed by President Trump on December 22, 2017. The new law makes sweeping changes to the U.S. tax code and impacts virtually every taxpayer. For businesses, tax benefits include a reduction in the corporate tax rate, increase in the bonus depreciation allowance, an enhancement to the Code Sec. 179 expense and repeal of the alternative minimum tax. Owners of partnerships, S corporations, and sole proprietorships are allowed a temporary deduction as a percentage of qualified income of pass-through entities, subject to a number of limitations and qualifications. On the other hand, numerous business tax preferences are eliminated.
Corporate taxes. The Tax Cuts and Jobs Act calls for a 21-percent corporate tax rate beginning in 2018. The maximum corporate tax rate had topped out at 35 percent. In addition, the 80-percent and 70-percent dividends-received deductions has been reduced to 65 percent and 50 percent, respectively. The Tax Cuts and Jobs Act also repeals the alternative minimum tax on corporations.
Bonus depreciation. The bonus depreciation rate has fluctuated wildly over the last 15 years, from as low as zero percent to as high as 100 percent. It is often seen as a means to incentivize business growth and job creation. The Tax Cuts and Jobs Act temporarily increases the 50-percent “bonus depreciation” allowance to 100 percent. It also removes the requirement that the original use of qualified property must commence with the taxpayer, thus allowing bonus depreciation on the purchase of used property.
Section 179 expensing. The Tax Cuts and Jobs Act sets the Code Sec. 179 dollar limitation at $1 million and the investment limitation at $2.5 million. Although the differences between bonus depreciation and Code Sec. 179 expensing would now be narrowed if both offer 100-percent write-offs for new or used property, some advantages and disadvantages for each will remain. For example, Code Sec. 179 property is subject to recapture if business use of the property during a tax year falls to 50 percent or less; but Code Sec. 179 allows a taxpayer to elect to expense only particular qualifying assets within any asset class.
Listed property. The Tax Cuts and Jobs Act increases the depreciation limitations under Code Sec. 280F that apply to listed property. For passenger automobiles placed in service after December 31, 2017, and for which the additional first-year depreciation deduction is not claimed, the maximum amount of allowable depreciation is $10,000 for the year in which the vehicle is placed in service; $16,000 for the second year; $9,600 for the third year; and $5,760 for the fourth and later years in the recovery period. Those limitations used to be $3,160, $5,100, $3,050 and $1,875 respectively, indicating a dramatic increase under the new law. As before, the new limitations are indexed for inflation for passenger automobiles placed in service after 2018.
In addition, the Tax Cuts and Jobs Act removes computer or peripheral equipment from the definition of listed property. Such property is therefore not subject to the substantiation requirements that apply to other listed property.
Deductions and credits. Numerous business tax preferences are eliminated. These include the Code Sec. 199 domestic production activities deduction, non-real property like-kind exchanges, and more. Additionally, the rules for business meals are revised, as are the rules for the rehabilitation credit. However, the Tax Cuts and Jobs Act leaves the research and development credit in place, but requires five-year amortization of research and development expenditures. It also creates a temporary credit for employers paying employees who are on family and medical leave.
Interest deductions. In an attempt to “level the playing field” between businesses that capitalize through equity and those that borrow, the Tax Cuts and Jobs Act generally caps the deduction for net interest expenses at 30 percent of adjusted taxable income, among other criteria. Exceptions exist for small businesses, including an exemption for businesses with average gross receipts of $25 million or less.
Pass-through businesses. Up to the end of 2017, owners of partnerships, S corporations, and sole proprietorships – as “pass-through” entities – have paid tax at the individual rates, with the highest rate at 39.6 percent. The top individual tax rate is now 37 percent. However, the Tax Cuts and Jobs Act now also allows noncorporate taxpayers to deduct up to 20 percent of domestic qualified business income from a partnership, S corporation, or sole proprietorship. A limitation based on wages paid, or on wages paid plus a capital element, is phased in for taxpayers with taxable income above a threshold amount. The deduction is not allowed for certain service trades or businesses, but this disallowance is phased in for lower income taxpayers.
Net operating losses. The Tax Cuts and Jobs Act modifies current rules for net operating losses (NOLs). Generally, NOLs will be limited to 80 percent of taxable income for losses arising in tax years beginning after December 31, 2017. It also denies the carryback for NOLs in most cases while providing for an indefinite carryforward, subject to the percentage limitation.
These are just highlights of the changes and impact of the Tax Cuts and Jobs Act. There is much more to discuss than can be covered in this article. Business with international connections also need to be aware of additional tax breaks and restrictions.