Since the Senate released its tax proposal on November 9, several hundred amendments were submitted for consideration through the Senate Finance Committee. Chairman Orrin Hatch provided an updated chairman’s mark on November 14 that encompasses some of those 355 amendments initially proposed. Additional modifications were made to the bill on November 16 before its eventual passage through the committee by a 14-12 vote. The updated measure will now head to the Senate Budget Committee and then to the Senate floor for a full vote. Another significant step toward tax reform also occurred last week when the entire House voted on its version of the Tax Cuts and Jobs Act of 2017 (TCJA), which passed mostly along party lines by a 227-205 vote.
See our previous alert for a summary of key features included in the Senate bill at the time of its initial release on November 9 as well as a highlight of select provisions included in the bill passed by the House.
While a comparison of the current House and Senate tax reform plans can be found in BKD’s Tax Reform Resource Center, this article provides an updated look at the key provisions in the current Senate bill.
For individual taxpayers, the following modifications were made to the Senate’s tax bill that the Senate Finance Committee ultimately passed:
- One of the most notable additions to the Senate bill was eliminating the individual shared responsibility payment under the Affordable Care Act (ACA). Under the ACA, unless an exemption applies, individuals must be covered by a health plan that provides at least minimum essential coverage or an additional tax is assessed. The modified Senate bill would effectively remove the individual mandate by decreasing this additional tax to zero for months beginning after December 31, 2018. It’s important to note this provision isn’t included in the current version of the House bill and would be one of several differences to be worked out between the two versions before a final bill is passed.
- While the modified Senate bill retains the current seven-bracket rate structure, the new rates would be 10, 12, 22, 24, 32, 35 and 38.5 percent, as follows:
- To help satisfy the Senate budget reconciliation rules, the Senate bill’s November 16 version provides a sweeping modification that sets all individual provisions to expire after December 31, 2025, including the individual alternative minimum tax repeal, special 17.4 percent deduction for certain pass-through income and increased estate and gift tax exemption. The use of the chained measurement method of the consumer price index wouldn’t expire.
- An enhanced child tax credit (CTC) is a consistent feature between both House and Senate bills. The latest modification to the Senate bill would push the CTC to $2,000, a $400 increase over the CTC included in the House bill.
- Under the House bill, the above-the-line deduction for certain educator expenses would be repealed. The Senate bill, however, not only retains, but doubles this deduction from $250 to $500.
- The modified Senate bill calls for creating an additional simplified income tax form for individuals age 65 or older. The new Form 1040SR would be similar to the current Form 1040EZ.
- The Senate bill was modified to align with the House provision concerning the establishment of qualified tuition programs (529 accounts) for unborn children.
- The IRS’s Free File Program would be permanently extended if the current Senate bill is enacted.
- The revised Senate bill agrees to the House provision regarding the repeal of the exception to the contemporaneous written acknowledgment requirement for contributions of $250 or more when the receiving organization reports the transaction.
Certain business-related provisions included in the originally released Senate bill are excluded from the version passed by the Finance Committee:
- The bill wouldn’t affect the current law’s treatment of nonqualified deferred compensation. A similar change was made to the House bill prior to passage. Therefore, neither the House nor Senate version changes the current tax treatment of nonqualified deferred compensation plans, which would remain subject to Section 409A.
- The safe harbor rules for when a service provider is treated as an employee or an independent contractor are dropped.
The following provisions were added or modified in the version of the bill passed by the Senate Finance Committee:
- The House and Senate bills both provide a benefit for pass-through income—the House provides a reduced tax rate, while the Senate bill would allow a 17.4 percent deduction for certain pass-through income. The modified Senate bill provides that, for qualified business income from sole proprietorships, partnerships or S corporations, the deduction is limited to 50 percent of the taxpayer’s allocable share of the business’s W-2 wages. This is a deviation from the bill’s original language that limited the deduction to 50 percent of the taxpayer’s W-2 wages. The wage limit under the modified bill is phased in and ultimately waived for taxpayers with taxable income of $250,000 or less ($500,000 for joint filers). The $250,000/$500,000 taxable income modification also applies to the exception that allows certain professional service businesses to benefit from the 17.4 percent deduction.
- Both bills would limit the deduction of net interest expense to 30 percent of an entity’s adjusted taxable income, with the House bill allowing the excess to be carried forward up to five years and the Senate bill allowing an indefinite carryforward. The Senate bill was modified to allow farming businesses to opt out of the limitation. However, if a farm elects not to be subject to the interest limitation, it must use the alternative depreciation system (ADS) to depreciate any property with a recovery period of 10 years or more. The Senate modifications also clarify that the proposed exclusion from the interest limitation rules for certain regulated public utilities includes certain electric cooperatives.
- The modified Senate bill would reduce the ADS recovery period for residential rental property from 40 to 30 years.
- Net operating loss (NOL) carryovers are limited under both Senate and House bills; however, the House bill sets this limitation at 90 percent, while the modified Senate bill would start with a 90 percent limitation that’s further restricted to 80 percent of the taxpayer’s taxable income for tax years beginning after December 31, 2022. Both bills prevent carrybacks but allow an indefinite carryforward. The House bill goes further by allowing the carryforward to be adjusted by an interest factor to preserve its value. The Senate bill preserves current law treatment of NOLs for property and casualty insurance companies, i.e., two-year carryback/20-year carryforward and able to offset 100 percent of taxable income.
- The modified Senate bill would disallow the deduction for meals provided to employees for the employer’s convenience, effective for taxable years beginning after December 31, 2025.
- Both versions of the bill would require certain research and experimentation expenses, including software development costs, to be capitalized and amortized over a five-year period (increased to 15 years for foreign research projects). This provision is effective for tax years beginning after December 31, 2025, for the Senate bill and December 31, 2022, for the House bill. Furthermore, the modified Senate bill imposes a reporting requirement on such expenditures for tax years beginning after December 31, 2024.
- Eligible employers would be allowed a general business credit to help offset amounts paid to qualified employees while on family and medical leave. The credit would equal 12.5 percent of the wages paid to a qualifying employee during any period of family and medical leave, if such payments are at least 50 percent of the employee’s normal wage. For each percentage point over this 50 percent threshold, the credit is increased by 0.25 percentage points—up to a 25 percent increase. This provision only would apply to wages paid in tax years beginning after December 31, 2017, and before tax years beginning after December 31, 2019.
- The modified Senate bill would allow a nonresident alien individual to be a current beneficiary of an electing small business trust (ESBT). The bill also would subject the portion of an ESBT that holds the S corp stock to the charitable contribution deduction limitations and carryforward provisions applicable to individuals rather than the rules applicable to trusts.
- The current Senate bill would provide for a deduction of certain fines or penalties related to restitution or remediation paid to a governmental entity to become compliant with a violated law. The amount paid must be explicitly identified within a court order or settlement agreement as restitution, remediation or required to come into compliance with any law that was violated.
- The Senate bill would disallow deductions for any settlement, payout or attorney fees related to sexual harassment or sexual abuse if payments are subject to a nondisclosure agreement.
- Certain payments related to the management of private aircraft would be exempt from excise taxes imposed on taxable transportation by air. Eligible payments include amounts paid by an aircraft owner for management services related to maintenance and support of the owner’s aircraft or flights on the owner’s aircraft.
- The Senate bill would provide for the deferral/permanent exclusion of capital gains reinvested in newly established qualified opportunity funds. A qualified opportunity fund is a corporation or partnership that invests at least 90 percent of its assets in qualified opportunity zone property. Qualified opportunity zones are targeted at certain low-income community population census tracts and would be established in each state.
- The modified Senate bill includes numerous provisions affecting the taxation of beer, wine and distilled spirits, including changes to the interest capitalization rules and reductions in various applicable excise tax rates.
- The Senate bill would impose a new reporting requirement upon corporate taxpayers, requiring them not only to report the total amount of dividends paid during the taxable year but through the first two and a half months of the succeeding tax year as well. Significant penalties for failure to file the information return on time would apply.
- Similar to the House bill, the updated Senate bill includes an amendment that requires a three-year holding period for certain partnership interests to qualify for long-term capital gain treatment. This provision is directed at “carried interests” received in exchange for performing services.
Taxation of Foreign Income
For tax years beginning after December 31, 2025, the modified Senate bill would reduce the deduction for global intangible low-taxed income from 50 percent to 37.5 percent, while the deduction for foreign-derived intangible income would fall from 37.5 percent to 21.875 percent.
The modified Senate bill adopts a measure affecting private foundations that was previously included in the House bill. The bills provide an exception to the excess business holdings rules for philanthropic business holdings. The excess business holdings tax wouldn’t apply if:
- The private foundation owns 100 percent of a donated business
- All profits are distributed annually to the private foundation (after a reduction for a reasonable reserve for working capital and other business needs of the business enterprise)
- The operations are independent with respect to any overlap of the business’s board with the private foundation’s board and substantial contributors
- No loans are outstanding from the business enterprise to a substantial contributor (or family member) to the private foundation
Bridging the Gap
As noted above and in our previous alerts, there are numerous differences between the current versions of the Senate and House bills. These differences must be reconciled before a final bill can be enacted. Both chambers are on recess for the Thanksgiving holiday, so a vote of the full Senate isn’t expected until at least the week of November 27, with the possibility for additional amendments in the meantime.
With the outlook on tax reform rapidly changing, it’s more important than ever to stay apprised of recent developments as we move closer to the year’s end. Maintaining flexibility will be key to implementing a strategy for possible tax reform as more details are revealed. Keep an eye on BKD’s Tax Reform Resource Center to follow the most recent developments.