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The tax reform framework released by the Big Six introduces tax changes that could be a boon for large industries from real estate to banking—though it may be too soon to rejoice as key parts of the plan remain murky.
The framework—pieced together by the group of White House officials and Republican leaders who have been meeting for months about a tax bill—includes the most details shared by the administration on key tax changes. It calls for a lower—20 percent—corporate tax rate, full and immediate expensing on certain assets for at least five years, and a “partial” net interest deduction for corporate borrowing.
However, even with new details emerging, there are many questions that the Trump administration is leaving for the tax-writing committees in Congress to answer.
Cathy Koch, Ernst & Young LLP’s Americas Tax Policy Leader, said without more detail it’s difficult to gauge the exact impact of the framework on specific industries. “Today’s framework refers to tax regimes that are specific to certain industries and sectors and suggests that they will be modernized, but without detail it is impossible to predict how modernization will impact any given sector,” she told Bloomberg BNA in an email.
But based on what is known about the plan now, here are the triumphs, questions, and concerns raised by three industries.
Jeffrey D. DeBoer, president and CEO of The Real Estate Roundtable, told Bloomberg BNA in an email that the framework is a significant step toward pro-growth tax reform. “Critical issues and details certainly are ahead and we intend to work closely with Congressional tax-writers as they take tax reform forward,” he said.
One issue expected to receive particular attention from the real estate industry is the limit on the net interest expense deduction. The framework provides little detail but says that the deduction incurred by C corporations will be partially limited and the tax-writing committees will consider the appropriate treatment of interest paid by non-corporate taxpayers.
The framework’s specific reference to C corporations is interesting because REITs—which hold more than a trillion dollars’ worth of U.S. real estate—are treated as passthroughs, not corporations, for federal tax purposes, said Jeffrey Langbaum, Bloomberg Intelligence senior real estate investment trust (REIT) analyst. “So more detail is definitely needed to see what the impact of reforms might be.”
The real estate market is typically highly leveraged so any elimination of the interest deduction will change the economics of financing strategies, he said in an email.
The sector is also looking closely at what happens with immediate expensing. The framework would allow for businesses to immediately write off the cost of new investments in depreciable assets other than structures for at least five years. “In general, full immediate expensing of capital projects would trigger up-front losses that will change the investment decision-making process,” depending on how it’s implemented, Langbaum said.
A 20 percent corporate rate could also have a significant impact on the market by causing a shift in the vehicles used to hold real estate, he said. “An increasing amount of commercial real estate is held in REITs, which are tax advantaged passthrough vehicles,” he said. “If the corporate tax rate is reduced enough, it could reduce or eliminate the advantage of choosing to be taxed as a REIT.”
That doesn’t mean all REITs would choose to not be REITs for tax purposes and stop paying dividends, he said. But “it’s possible that there would be less of a push for real estate to move into REIT vehicles.”
REITs, like other passthrough entities such as partnerships, would theoretically need to be treated consistently under tax reform, Langbaum said. The new framework would tax passthroughs at a 25 percent rate, but REITs aren’t specifically mentioned.
Poonam Goyal, Bloomberg Intelligence senior U.S. retail analyst, said the House GOP’s border-adjusted tax that was previously being considered was the main concern for retailers. The provision would have exempted exports but levied a 20 percent tax on imports. With the border tax out of the picture and lawmakers proposing a 15-point drop in the corporate rate, the message for retailers is mostly positive.
“The most important change is the reduction in the corporate tax rate from the current 35% to 20%,” Rachelle Bernstein, vice president and tax counsel at the National Retail Federation, told Bloomberg BNA in an email.
A corporate tax reduction “helps boost earnings and cash flow” for retailers, Goyal said. An April Bloomberg Intelligence analysis found that on its own, lowering the corporate tax rate to 15 percent would provide an average 2017 earnings boost of more than 35 percent for 15 retailers with a 2016 tax rate of at least 35 percent. Goyal said she hasn’t run an analysis on the 20 percent corporate rate but expects there will still be significant upside.
One question the retail industry still has is whether there will be transition relief for businesses that have made investments based on current tax rules that may now be changed, Bernstein said. “One area where this may occur is with businesses that have large debt loads if a limitation is going to be placed on the deductibility of interest,” she said.
Bank of America Corp., Citigroup Inc., and Goldman Sachs Group Inc. stocks rallied ahead of the release of the Big Six’s tax framework.
Under the framework, the main benefit for banks will be higher earnings, according to Harvey Lei, Bloomberg Intelligence U.S. financials analyst. Currently, U.S. regional banks tracked by BI have a median effective tax rate of about 30 percent, he said.
The plan should also boost commercial lending because corporate clients have been withholding from borrowing due to the uncertainty surrounding tax reform, Lei said in an email.
“We applaud Congress and the administration for taking an important step toward reforming our nation’s tax code,” Rob Nichols, the American Bankers Association‘s president and CEO, said in an emailed statement. “We are encouraged by their commitment to this critically important issue by lowering rates and broadening the tax base, and look forward to seeing a more detailed plan as the legislative process begins.”
The group didn’t provide additional feedback on specific details in the framework but offered a link to its core principles. In the core principles, the group said tax reform should eliminate the long-standing tax exemption for credit unions.
Howard Gleckman, a senior fellow at the Urban-Brookings Tax Policy Center, said the differential tax treatment between credit unions and other banks—which isn’t addressed in the tax framework—is likely to shape up to be a huge fight between the two sides that Congress may have to address.
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A Bloomberg BNA report on the Big Six's tax reform framework is at http://src.bna.com/sUK.
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