The new “Tax Cuts and Jobs Act” that was passed by Congress and signed into law by President Donald J. Trump at the end of December promises to bring a lot of changes to how taxes are calculated, who benefits and how best to position yourself and your business to achieve the biggest advantage.
Steve Looney, the Chair of the Tax and Corporate Department at the law firm Dean Mead in Orlando, Fla., spoke to Legal Executive Institute about the new law, what the most significant parts of it are, who stands to benefit most, and what tax lawyers and accountants can do to prepare their clients.
Legal Executive Institute: There was so much brouhaha as the tax bill went through the House and through the Senate. How a provision in one version differed from another version and such, that it got a little confusing, I think. Now that the tax act is passed into law, what would you say are the most significant parts of the new tax law?
Steve Looney: I would have to start out by saying probably the most significant change from an economic or tax-savings standpoint — and probably the driving force for the entire tax reform bill — was the reduction of the corporate tax rate for C-corporations from a top marginal rate of 35% to a flat 21%.
…[B]ecause of the speed with which the Tax Act was passed, that there are many unanswered questions… We’re certainly going to need guidance in the form of a technical corrections bill — which with the mood in Congress may or may not pass — to fix glitches in the bill.
In addition, another significant change was made for businesses that are operated as sole proprietorships or as pass-through entities. They got a new deduction for pass-through entities under Section 199A, which is very significant, but also very complex.
From an individual standpoint, I think there are several things: the near doubling of the standard deduction and the elimination of the personal exemption, for example. But I think the most talked about of all changes, as far as the individual goes, are the limitations on deductions for state and local taxes to $10,000, which will hit taxpayers in the states that have high income tax rates particularly hard. That may lead to some state law changes which we could see.
Legal Executive Institute: You talked about the individual income tax. I know the tax brackets were under a lot of consideration. There was a lot of back and forth about whether new ones would be added, or others would be combined. How did that end up being sorted out?
Steve Looney: As far as tax brackets for individuals, we basically ended up with seven brackets. They go from 10% to a maximum marginal rate of 37%. Now, the old brackets — there were seven brackets there, too — went from 10% to 39.6%, but you reached the 39.6% bracket at about $466,000 in income or so. Now you don’t hit the top 37% bracket until you’re over $600,000 in income. As far as capital gains and qualified dividends, those are all still taxed at a top tax rate at 20%.
Legal Executive Institute: I know there also seems to be a lot of changes in the tax liability and deductions for owners of S-corporations, partnerships, and sole proprietorships. What are the changes and the benefits there now?
Steve Looney: In general, in the United States, those entities by far make up the largest number of entities, far out numbering C-corporations. That’s why there was so much pressure on Congress to also give some tax breaks to these corporations, which I would refer to as more Main Street businesses vs. Wall Street businesses.
What the “Tax Cuts and Jobs Act” ultimately did — and this differs from the original House bill — was it provides a deduction for these types of businesses, generally equal to 20% of the owner’s allocable share of qualified business income. In order to figure out your deduction, you have to go to a very complex set of rules, limitations, exclusions, defined terms, and phase-ins and phase-outs. It’s a very complex provision, one which certainly didn’t add simplicity to the code.
Let’s start out with the general rule, though. Basically, for taxable years beginning after 2017 and before 2026, taxpayers — and that will include estates and trusts — generally may deduct 20% of the qualified business income of an S-corporation. However, I want to emphasize that in order to obtain the full benefit of this 20% deduction without being subject to the wage and capital limitations, the taxable income of the shareholder, partner, member, or sole proprietor has to be less than $157,500, or less than $315,000 in the case of a married taxpayer filing jointly.
Additionally, the law makes it clear that any amount paid by an S-corporation that is treated as reasonable compensation to the taxpayer, wages essentially, or any guaranteed payments made by a partnership to a partner, are not included in qualified business income.
Legal Executive Institute: That brings me to another question: Does the Tax Act bring a new boom times for accountants and the tax divisions of law firms as they just try to make sense of all these changes for their clients?
Steve Looney: I would say certainly for the next several years, while everybody is trying to figure all of this out, tax lawyers, tax accountants, consultants, and even computer programmers who deal in tax programs, are most likely to be very busy both learning the new law and then explaining it and applying it to their clients. I think because of all the math involved, the accountants will probably be the biggest beneficiaries.
It’s also important to keep in mind that because of the speed with which the Tax Act was passed, that there are many unanswered questions, only a few of which I brought up so far today. We’re certainly going to need guidance in the form of a technical corrections bill — which with the mood in Congress may or may not pass — to fix glitches in the bill. We certainly need regulations coming from out of the Internal Revenue Service. We all know the IRS is understaffed, probably underfunded, and regulations can take years to come out.
Legal Executive Institute: Given that, what do you think the best advice lawyers or accountants can give their clients right now?
Steve Looney: I guess my first reaction is advise your clients not to act impulsively. I think everybody needs to take a deep breath and see if and how some of these glitches or unanswered questions are resolved.
There may be challenges, but I think you have to take that deep breath, meet with your tax accountant and tax attorney, and come up with a well-thought-out plan for how you want to move forward with your business.
Click below to hear the complete interview with Steve Looney