Four Major Tax Considerations for the Wealthy

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Tax Policy

Federal tax reform proposals continue to circulate with details still to be worked out. In this article, SEI Private Wealth Management's Steve Wittenberg discusses how federal tax reform might affect individual taxpayers.

Steven Wittenberg

By Steven Wittenberg

As Director of Legacy Planning for SEI Private Wealth Management, Steve Wittenberg provides tax, estate, philanthropy and succession planning advice to ultra-high-net-worth and high-net-worth clients. Steve holds dual degrees in Finance and Marketing from Drexel University, has a JD and LLM in taxation, and an Estate Planning Certification from Temple University's Beasley School of Law, and earned his MBA from Temple's Fox School of Business.

The long wait is over. We now have some insight into what the tax system may look like with the tax-reform framework, though the coming months will determine if Congress can work together to create and pass a bill. Despite the tax code complexities, most of the take-aways are clear.

While one of the plan's goals is to relieve the tax burden on the middle class, many of the envisioned changes appear to benefit taxpayers at higher wealth levels. Until all details are debated and discussed in Congress, gaps will exist, and it will be challenging to determine who will truly receive tax relief and how much.

Individual taxpayers may want to consider deferring income to 2018 and accelerating deductions into 2017, however, it is unknown whether this framework will become law.

Spotlight on Individual Income Taxes

Most noise will be made around individual income tax reform. The plan attempts to simplify our tax system by eliminating tax brackets, reducing available deductions, and repealing the Alternative Minimum Tax (AMT), which could mean fewer calculations and less paperwork.

The reduction in tax brackets may simplify filing requirements, but without income range details for those brackets, there is significant uncertainty about tax effects. Presumably, the lower maximum individual tax rate of 35% will benefit high-income earners. The Medicare surtax – on investment income of 3.8% and 0.9% on wages – will likely not change, especially since healthcare reform may be off the table. Otherwise, the silence around investment income is deafening.

Aside from the popular mortgage interest and charitable contribution deductions, there's a lot of buzz around the elimination of most itemized deductions. In addition to the higher standard deduction ($12,000 for single and $24,000 for joint filers), fewer taxpayers will be itemizing, which means spending less time filling out tax returns. But, with the elimination of the personal exemption, the net impact may be smaller than reported. The removal of the property tax and state and local income tax (SALT) deductions could make residents in higher taxing states (such as New York, New Jersey, and California) feel a little salty because they may negatively impact homeownership and put a strain on the ability to fund public services.

Without AMT, we no longer have a dual income tax system, simplifying filing requirements. While adjustments to the AMT system have been debated for years, many analysts believed AMT exemption minimums should be adjusted to better capture the intended audience rather than eliminated altogether.

Speculation of Business Taxes

The business tax provisions' impact is highly speculative, despite a clear plan to reduce corporate maximum tax rates from 35% to 20%, on top of introducing a 25% flow-through entity tax. Why? There are no specifics around most tax credits and deductions. Worth noting: The R&D tax credit will remain, and there would be immediate expensing of depreciable assets. But, there would also be a partial limitation of interest expense for “C” Corporations and an elimination of Section 199's domestic manufacturing production deduction. Currently, many corporate tax deductions result in questions around what businesses are actually paying in net taxes. For example, the new corporate tax rate would be below the industrial world's 22.5% average rate. Will this new rate help or hurt U.S. corporations? Further, the pass-through entity tax may or may not help small businesses, as a flat tax of 25% could negatively impact small business owners who were previously under that tax bracket, and it is unknown if service organizations will be eligible for the lower tax rate.

Avoid Gift Taxes

A full repeal of the estate and generation-skipping tax was expected, but there is no information on whether this will impact gift taxes, create a claw-back provision for the return of an estate tax, or be replaced with another tax like capital gains. If any of these silent provisions come to fruition, wealthy individuals with larger estates should still be prepared to engage in complex financial planning. Regardless, many states will still aim to get their piece of the pie by expanding their own inheritance and estate taxes. Therefore, with the potential repeal of the estate tax, it's best to avoid transactions that trigger current gift taxes.

Change with Foreign Earnings

Multinational companies can currently defer taxes as long as foreign profits are kept overseas. Under the recommended reform, these foreign earnings exemptions may be removed with two new possible tax rates implemented for illiquid assets and cash. The nature of international taxation is very complex, and while there is no mention of the specific tax rates, some analysts believe the new tax system will help U.S. companies be more profitable. The plan's overall goal is to incentivize corporations to bring funds home to American soil, and it appears the current framework provides a significant benefit for multinational companies. For now, we must wait and see what options Congress considers before determining the overall impact.

Even with the basic idea for tax reform out in the open, big questions remain. As some of the recommended changes, including those to AMT, estate tax, and lower tax brackets, could be significant revenue hits for the government, how much tax revenue will be lost in the new plan? What impact will this have on federal spending and the debt level? Given the Congress' inability to pass other key legislation, will they unite together on this one? What will be the timing on new tax law? These points are still unknowns.

SEI Private Wealth Management is an umbrella name for various life and wealth services provided through SEI Investments Management Corporation (SIMC), a registered investment advisor. SIMC is a wholly owned subsidiary of SEI Investments Company

This information should not be relied upon by the reader as research or investment advice and is intended for educational purposes only.

Neither SEI nor its affiliates provide tax advice. IRS Circular 230 disclosure: To ensure compliance with requirements imposed by the IRS, we inform you that any tax advice contained in this communication was not intended or written to be used, and cannot be used, for the purpose of (i) avoiding tax-related penalties under the Internal Revenue Code or (ii) promoting, marketing or recommending to another party any matters addressed herein. You should seek advice based on your particular circumstances from an independent tax advisor.

The information contained in this communication is not meant to substitute for a thorough estate planning and is not meant to be legal and/or estate advice. It is intended to provide you with a preliminary outline of your goals. Please consult your legal counsel for additional information.

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