Corporate Tax Reform Highlights

From 1993 and up until the passage of the Tax Cuts and Jobs Act in December 2017, the U.S. corporate tax rate stood at 35 percent, by far the highest among developed countries. For decades, high domestic corporate tax rates effectively incentivized U.S. companies to expand overseas. As a result, thousands of factories and jobs in America moved out of the U.S.

Before, it was hard to overstate how badly the U.S. needed corporate tax reform to stay competitive. Both sides of the aisle in Washington D.C. saw this as a problem, yet nothing was ever done.

Now the highest corporate tax rate is 21 percent. This puts the U.S. in a more competitive position compared with other developed regions around the world, allowing domestic American companies to compete on a more level playing field. Europe has the lowest regional average rate at 18.35 percent (25.58 percent when weighted by each country’s GDP).

Unlike the lower tax rates passed for individuals, the lower corporate tax rates are permanent. This is favorable as it gives some level of certainty to businesses that are considering opening or expanding their U.S. operations. Most of the tax cuts for individuals ‘sunset’ after 2025, reverting back to the tax rules we had before.

That said, not all corporate tax-related aspects of the new tax law are permanent. Some elements are temporary in nature, designed to stimulate the economy in the short- and intermediate-term.

One temporary corporate element of the tax reform bill is the repatriation tax. This allows foreign earnings of U.S. corporations to be taxed at a lower rate than the regular corporate tax rate. The rationale is that the break would act as an incentive for multinational corporations to send their foreign earnings back to the U.S. to stimulate domestic growth. It is estimated that $2.6 trillion in corporate profits are currently sitting overseas. Apple alone has $252 billion in cash, $38 billion of which it recently announced it is repatriating in order to construct a new business “campus” in the U.S.

Another corporate element of the tax reform bill that is temporary is the 100% expense rate on “Section 179” property, which includes computers, office furniture/equipment, machine equipment, and large work vehicles. This provision allows taxpayers to immediately write off the full cost of qualifying property placed-in-service between September 27, 2017, and 2023. Starting in 2023, there is a 20 percent phase-out per year until 2027, when no further depreciation is allowed. The idea behind this reform is to encourage companies to take advantage of this window and maximize their purchasing power in the next several years.

The last reform we’ll mention is the change to Section 1031 property exchanges. Section 1031 allows you to defer paying taxes on sales of certain types of property if you reinvest the proceeds in similar property as part of a qualifying “like-kind” exchange. Before tax reform, personal property assets including aircraft, vehicles, machinery and equipment, railcars, boats, livestock, and even professional athlete’s contracts could be traded under Section 1031 rules. Now, only real property not held primarily for sale – for example your primary home – are considered qualifying Section 1031 property. Changing this rule prevents people from perpetually deferring capital gains taxes on a wide variety of assets.

These are just a few of the elements of tax reform that we are most interested in. Overall, the question of whether or not tax reform is a good idea will come down to how much additional economic growth these policies can create. If GDP growth doesn’t noticeably increase as a result, the U.S. budget deficit will increase substantially. If GDP growth does increase significantly, yearly budget deficits will become manageable as a result. Whether you agree with the potential economic impacts of these developments or not, it’s clear that the U.S. hasn’t seen economic policy changes of this scale in a long time.