Experts say the changes to the tax code for businesses are nothing short of revolutionary: a long-overdue modernization. But it’s important to remember that rate reductions don’t automatically translate into vigorous business growth. While changes wrought by the Tax Cuts and Jobs Act (TCJA) do promote corporate investment incentives, they also vary by investment type and economic sector.
Here are a few key points:
The exploding small-business sector has given rise to “pass-through” entities (partnerships, LLCs, Subchapter S) that now enjoy a 20 percent reduction in their tax rates. This legislation now creates a vast gap between corporate rates and personal marginal rates. An individual could become a corporation of one, paying herself a trivial amount of income and amassing wealth in the businesses that enjoys a lower tax rate. On the flip side, a larger corporation may see incentives to become a pass-through entity.
Knocking down the rate to 21 percent carries a cost – every percentage point sacrificed represents the loss of $100 billion over 10 years. To offset that loss, several provisions of the tax code have grown more complex, in some cases undermining their original intent.
The shift to taxing only domestic profits, and the reduced corporate tax rate, will make the U.S. a friendlier and more welcoming place for corporations, removing incentives to establish headquarters in foreign countries and transfer profits abroad. However, it also creates new incentives to move profits out of the U.S. and into lower tax jurisdictions. To counter these incentives, three new tax instruments arise: a “minimum tax” of just over 13 percent on profits abroad; a preferential tax rate on income for intellectual property (IP) associated with exports; and a new “base-erosion anti-avoidance tax” (BEAT tax) for service transactions by multinational businesses.
Viewed broadly, the reform represents a shift from the idea of taxing income to the newer concept of taxing consumption. Today, income is mobile—especially in the global marketplace with its flow of IP.
Bottom line: the new tax code is complex and cumbersome for business. To navigate the new legislation, you need trusted experts and advisors who understand the nuances of accounting. We are here for you! Visit us at TYSLLP.com.
Harvard Magazine, May/June 2018: “Tax Reform, Round One”
Freakonomics podcasts: “Why the Trump Tax Cuts are Terrible/Awesome,” April 11, 2018 and April 18, 2018