The “Tax Cut and Jobs Act” of December 2017 (“Tax Reform”), effective for 2018 and going forward, is the best tax reform in our country in at least the last century. The Tax Code should be abolished - not merely reformed - and the national income tax should be replaced with a national sales, or consumption, tax: i.e., the “Fair Tax”. But if we can’t yet get a complete abolition of the Tax Code, the Tax Reform of 2017 is at least the best we’ve had in a long, long time. It has achieved three noteworthy accomplishments.
(i) Lowering of Tax Rates - Especially for Businesses - Tax Reform lowered tax rates for all taxpayers, especially for businesses (not enough - if you’re going to have an income tax, the tax rate should be limited to 10% - but again, it is at least much better than what we had);
(ii) Bringing Foreign Sourced Revenues Back to the United States - Tax Reform motivates U.S. companies to source their revenues from the United States rather than in low-tax foreign jurisdictions - that is, it motivates corporations to invest in the United States; and
(iii) Repatriation of Foreign Accumulated Profits - Tax Reform motivates U.S. companies to repatriate earnings - that is, bring home their accumulated profits that have been housed in foreign countries. This is huge. For all of my 23 years in corporate finance, corporate CEOs have been asking the federal government to lower the tax penalties on repatriation of earnings. Finally, our federal government has responded to their request.
Lower Tax Rates --> More Jobs & Higher Pay
Individual tax rates were lowered a little - not a lot and not enough - but at least a little. (It’s much better than what the Democrats want to do.) But corporate tax rates were lowered dramatically, from a highest statutory corporate tax rate of 39.1% to a flat statutory corporate tax rate of 21%. This is a very significant decrease, and it needed to be. Before this tax reform, the United States had the highest corporate tax rate of any democratic nation in the world. That’s ridiculous. And among non-democratic countries, only Yemen had a higher corporate tax rate than the United States! (Yemen’s is 50%.) Lowering the income tax rate from 39% to 21% was good for business. Businesses responded by raising wages. More than 150 large companies in the United States announced increased wages and/or bonuses immediately in the wake of the Republicans’ Tax Reform. It’s truly impressive. The list of companies responding favorably to the enactment of this Tax Reform include Aflac, Alaska Airlines, American Airlines, AT&T, Baltimore Gas & Electric, Bancorp South Bank, Bank of America, Bank of Colorado, BB&T, Capital One, Central Bank of St. Louis, Comcast, Comerica Bank, Delaware Supermarkets, Fiat Chrysler, First Financial Bancorp, First Hawaiian Bank, Hartford Financial Services Group, INB Bank, JetBlue, Jordan Winery, Old Dominion Freight Line, Pacific Power, PNC Financial Services, Regions Financial Corporation, SunTrust Banks, The Travelers Companies, U.S. Bancorp, Visa, Wal-Mart, Waste Management, and many others. These companies and many others are hiring more people, raising wages, and growing the economy, as a direct result of the decrease in the corporate tax rate. And, while it apparently is non-intuitive to many, the federal government’s total tax revenues have increased over the last year, even when tax rates were lower, because the economy is growing and more people are working and earning money and paying taxes. That is, the tax base has increased. Lowering corporate tax rates is a win-win-win!
In addition to the significantly lower tax rate for corporations, tax reform also provides a 20% deduction for pass through entities - partnerships and S corporations - which should significantly lower the tax burden on many small businesses.
Stick & Carrot to Source Revenues in the United States --> Greater Corporate Invesment in U.S.
The 2017 Tax Reform uses as “stick and carrot” approach to motivate U.S. companies to source their revenue from the United Sates - that is, make business investments in the United States. Previously, large companies like Apple, Google, General Electric and others have been gaming the Tax Code. They have been acting rationally in the face of a convoluted, arbitrary, political Tax Code that actually gave them incentives to move their revenue generation out of the United States. These companies set up subsidiaries in low tax jurisdictions like Ireland, Singapore, the Cayman Islands and elsewhere, in order to generate revenues from those locations, in order to avoid oppressive U.S. tax rates. In some cases, companies simply legally housed intellectual property in foreign subsidiaries in these locations. In other cases, some companies set up large manufacturing and fulfillment facilities in low tax locations outside the United States. Under the new tax law, U.S. companies must include in taxable income their Global Low-Taxed Income (“GILTI”) earned by foreign subsidiaries. This is the “stick”. The federal government now is saying, in effect, “We’re going to start taxing that foreign sourced income.” The tax rate on this GILTI is 10.5%. But the tax reform plan also puts a carrot in place. Companies are able to exclude a portion of their GILTI, up to an amount of 10% of the foreign subsidiary’s tangible assets (property, plant & equipment.) Thus, Tax Reform plan is motivating corporations to bring their intangible assets back to the U.S.
Repatriation of Foreign Earnings --> Strengthens U.S. Economy --> More Jobs & Higher Pay
Additionally, the recent Tax Reform provides a Dividends Received Deduction (“DRD”), which is a 100% tax deduction on corporate repatriation of ongoing profits from foreign jurisdictions. This is what CEOs have been requesting for decades! But wisely, there are some strings attached. To qualify for this 100% deduction (zero tax) for repatriated earnings, corporations must report all foreign subsidiary profits for the period 1987–2017 and pay a one-time “Transition Tax” on these cumulative earnings. This Transition Tax is 15.5% on post-1986 foreign cumulative earnings held in the form of cash and 8% on foreign cumulative earnings held in the form of non-liquid assets such as property, plant & equipment.
The 2017 Tax Reform is good legislation. It’s good for business. It’s good for the economy. It’s good for all of us.