Home Finance Tax Reform in the US Is Unlikely to Change Wealth Management in 2017

Tax Reform in the US Is Unlikely to Change Wealth Management in 2017

by internationaldirector

Written By: Diana Bailey – Corporate Finance

US President Donald Trump and the Republican-controlled Congress have placed a high priority on tax reform. Their goal is to boost the economy in the United States and sustain the corporates’ development. Since the election, US markets have nourished great hopes of tax reduction in US investments. But, actually, details are slow in coming, with the first hearing of the supposedly “biggest” US tax reform taking place in mid-May in front of the House of Representatives.

As far as wealth management is concerned, it is almost certain that taxes will not increase; but it is hard to predict to what extent it will decrease. What are the main types of taxes that should be impacted in the future?

Fewer brackets for income tax and lower rates:

The White House has proposed reducing the number of brackets for income tax from the seven current individual brackets to three, with rates of 10, 25 and 35 percent. It has not yet been determined what level of income will apply to each rate, but some specialists are making assumptions.

Tim Steffen, director of financial planning at Baird’s Private Wealth Management, estimates the 10-percent bracket would apply to income up to around $37,950 for singles and $75,900 for married couples. Income above that would be taxed at 25 percent up to $416,700 for both singles and couples. Above $416,700, the 35-percent rate would apply.

Tax on capital gains could possibly stay at the same rates:

Top rates on long-term capital gains are now at a maximum of 20 percent in the US, down from 35 percent in the 1970s. The current three levels of 0, 15 and 20 percent could continue on capital gains (and qualified dividends). A related question is whether capital-gains rates will be linked to ordinary tax rates, as is currently the case. For example, people who fall into the 10-percent or 15-percent brackets on ordinary income pay a 0-percent capital-gains rate; while those in the next four ordinary brackets pay 15 percent on capital gains. People in the top 39.6-percent ordinary-income bracket face the maximum 20-percent capital-gains rate.

“The break point for those (capital gains) rates could match the new ordinary tax brackets, or a new set of brackets could be created,” Steffen wrote in a commentary.

Drastic changes in deductions:

A big simplification can be expected from changes in the deductions system. On the one hand, Trump said he would dramatically increase the existing standard deduction. For singles, it could rise to $12,000 from the current $6,350. For couples, it could increase to $24,000 from $12,700. On the other hand, only a few itemized deductions for just a few key categories would remain: namely, mortgage interest and charitable donations. Other fairly popular deductions would disappear, such as those for local/state income taxes and property taxes. One unanswered question is whether the value of overall deductions might be capped or phased out for high-income taxpayers.

There also has been confusion as to whether investors could continue to deduct contributions on retirement plans, such as various types of individual retirement accounts (IRAs). Administration officials suggest current retirement incentives would be kept.

Repeal of affluent taxes:

Several taxes that apply to a fairly small subset of wealthy taxpayers face repeal under President Trump’s plan. One is the estate tax, which applies to estates above $5.49 million. Another is the alternative minimum tax (AMT). So, too, for the 3.8-percent tax on investment income for high-income Americans, which is set to disappear if the Affordable Care Act is repealed. Also, as a consequence of the Medicare repeal, the 0.9-percent Medicare tax on earned income should disappear.

Reduction of corporate-tax rates could be the most expected news:

Investors and markets have great expectations for a possible decrease of corporate-tax rates. Trump mentioned several times the possible reduction of the effective corporate-tax rate from 35 to 15 percent. This is supposed to boost profitability of US corporates, but according to Trump’s prediction, it should encourage overseas profit to come back into the US.

The impact would not in reality be quite so straightforward, as it would be more about a long-term trend to repatriate business activities to the US than transferring cash from subsidiaries overseas—because this cash would be transferred in the form of dividends, which are not impacted by the corporate-tax rate. Creating a competitive advantage for the US in terms of corporate income tax could over several years move back some activities, as it could put the US at the same level as Luxembourg, Ireland and other low-tax countries. It could boost capital spending and domestic hiring progressively in the US.

The difficulty of all this new reform is that discussions in Congress could last a while. Markets may be disappointed, as they have anticipated this reform to be effective this year. But the White House hopes to complete the task this year, possibly in the coming months. That should see it take effect in 2018 at the earliest.


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