One of the immediately obvious results of the election is that the tax code is going to change.
Republicans have had several plans in the works for years that differ from what Trump has proposed on the trail, so the final result won’t be known for a little bit even though changes are a priority for the President-elect and both houses of Congress.
Income Taxes
For the sake of simplicity, I’m only going to refer to married couples, filing jointly. Currently, there are seven tax brackets that start at 10 percent for income up to $18,550 and go as high as 39.6 percent for income over $466,951.
Under the Trump proposal, there would only be three tax brackets: 12 percent for income from $0-75,000, 25 percent from income between $75,000-225,000 and 33 percent for incomes above $225,000.
The most recent House plan also has three brackets with the same rates, but the income cutoffs are a little different: $0-50,400 for the 12 percent rate, $50,400-$210,800 for the 25 percent rate and the income for the top bracket would start at $210,800.
Both House and Trump plans would also change the rules regarding itemized deductions. There are currently seven broad categories (with many sub-categories), although the most used deductions include state and local taxes, mortgage interest, charitable donations and medical expenses.
Right now, 70 percent of Americans use the standard deduction, which is $12,600 for most married couples. The House plan would increase the standard deduction to $24,500, while Trump’s plan would increase it to $30,000.
While there is agreement about increasing the standard deduction, there are some differences about the details of the various proposals (and in fairness, there are multiple House plans floating around).
Trump’s plan would cap all itemized deductions at $200,000 for married couples. The two main House plans would eliminate all itemized deductions, except for charitable donations and mortgage interest; although one of the plans limits the mortgage deduction and caps charitable deductions at two percent of income.
All plans eliminate the Alternative Minimum Tax (AMT).
Investment Related Taxes
Right now, the taxes on capital gains depend on your taxable income: there are no capital gains taxes for income under $75,300, the rate is 15 percent above that level up to $466,950 and 20 percent for those in the top tax bracket. Furthermore, there is a 3.8 percent surtax on investment income for couples earning more than $250,000.
Like the AMT, all parties want to get rid of the 3.8 percent surtax, but the proposals differ thereafter.
Under Trump’s plan, those earning under $75,000 would still pay no capital gains tax and he would keep the 15 percent rate for those with incomes up to $225,000. Incomes over that amount would pay 20 percent and the surtax would be eliminated. The same rates would apply for qualified dividends.
The House Republican plan taxes capital gains and dividends as ordinary income, but provides a 50 percent exclusion of capital gains, dividends and interest income, which is the equivalent of taxing these items at half the rate of ordinary income, or 6 percent, 12.5 percent and 16.5 percent respectively.
Here’s an example: if a couple in the top bracket has a $10,000 capital gain, $5,000 would be excluded and the remaining $5,000 would be taxed at 33 percent, or $1,650, which is equal to 16.5 percent of the capital gain.
I was surprised to see that investment income under the House plan would get the exclusion, which would mean that the tax rate for top income earners on taxable bonds would fall from 43.4 to 16.5 percent – a pretty big deal.
Estate Taxes
The House plan simply calls for the elimination of gift and estate taxes.
The Trump plan also repeals the estate tax, but capital gains at death over $10 million would be subject to tax, except on small businesses and family farms.
Conclusion
While there is a lot of agreement that taxes will change, go lower and hopefully get simpler, the devil will be in the details. There will be a lot of negotiation in the coming months and we don’t know whether the changes will apply to 2017 or 2018.
In my personal judgment, it’s probably too soon to make major changes to your planning because there is too much uncertainty. At least one client is accelerating a charitable gift, which may make sense since the value of the deduction may be less or capped. I want to mull this over and discuss it with some tax professionals before commenting further.
Most of the good old rules still apply: defer income into next year if you can, harvest losses and avoid capital gains. Most importantly, do your best to stay alive, but not just to avoid the estate tax.