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What Donald Trump’s election means for US tax policy

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After last week’s stunning result in the US presidential election the stage is now set for the most comprehensive rewrite of the US tax code since 1986. Headline proposals by President-elect Trump include: reducing the top rate of corporate tax from 35% to 15%; retaining the current worldwide tax regime but repealing the current deferral of tax on overseas earnings not repatriated to the US (and offering a one-off 10% deemed repatriation ‘holiday’); consolidating the current seven individual income tax brackets to three; and repealing the estate gift and generation skipping transfer taxes. With Republicans now in control of both the White House and Congress significant changes to both the domestic and the international provisions of the US tax law are now quite likely. However the president-elect’s plans would likely need to be amalgamated with the provisions of Republican’s blueprint for tax reform. The proposals...

Even before last week’s US election, business tax reform was receiving almost unprecedented attention from collectively interested members of Congress, their staffers, their equivalents at the US Treasury Department, and the ‘think tanks’ and lobbyists that support them – collectively, the so-called ‘Washington DC tax policy community’. That interest apparently extended to retail politics, as well. For the first time in recent memory, every major candidate for the US presidency felt obliged to present and defend a tax plan of greater or lesser specificity as part of his or her campaign. Such interest also stems from a serious and growing disquiet, both in corporate boardrooms and among the general public, that the antiquated and non-competitive US tax code has become a real drag on the US economy.

Comprehensive tax reform in the US

Over the past 20 years, there has been a lot of talk about ‘comprehensive’ tax reform (meaning a major rewrite of the US tax code), but no action was taken. The last such major reform was in 1986 under President Reagan, and the process which led to its enactment has often been touted as a model to follow for another revamp of the tax code. Comprehensive tax reform is hard to do, though. In fact, without support from the White House, comprehensive tax reform just cannot happen – that is the reason why tax reform did not occur during either the George W. Bush or Barack Obama administrations.

Now, however, the stars may be aligning in such a way that a large scale tax overhaul may again be possible. There will be a Republican in the White House who, at least to some extent, campaigned for tax reform. Both chambers of Congress are also held by the Republicans, and there is some conceptual agreement among Republicans and at least some Democrats in Congress about changes to the international provisions. Finally, significant work has been done over the past 20 years in developing proposals that could be drawn upon for ideas in developing a comprehensive tax reform bill.

In the mid-1990s, for example, discussions on tax reform focused not only on major reforms to income tax, but also on possibly even more far reaching reforms such as a flat tax, a personal consumption tax, a value added tax or a national retail sales tax. More recently, there have been two presidentially appointed commissions to study comprehensive tax reform. Finally, the two Congressional tax writing committees (the Finance Committee in the Senate and the Ways and Means Committee in the House of Representatives) have also looked at making major changes to the federal tax system.

These efforts included President Bush’s Advisory Panel on Federal Tax Reform in 2005; President Obama’s Economic Recovery Advisory Board in 2010; a steady stream of hearings in both the House Ways and Means Committee and the Senate Finance Committee on tax reform issues; a ‘discussion draft’ for comprehensive tax reform by the then House Ways and Means Committee chairman Dave Camp in 2014; the December 2014 Comprehensive tax reform for 2015 and beyond report prepared by the Republican staff of the Senate Finance Committee; and finally, the Congressional Republican Blueprint for tax reform, championed by Congressman Paul Ryan, the speaker of the House in 2016.

The important point to keep in mind is the nature of the American system of government, which divides power between the executive and the legislative branches of the federal government; and then further divides the legislative branch between the ‘upper’ chamber of the Senate and the ‘lower’ chamber of the House. In this context, comprehensive tax reform occurs only after a long period of preparation and consensus building. This means that all of the work comprised in these hearings, reports, studies and drafts will likely play a role in any tax reform effort made during the first term of a Trump administration.

Taxes and the 2016 campaign

President-elect Trump’s plans for his first 100 days in office, as set forth in his ‘contract with the American voter’, include legislation that would:

  1. reduce corporate taxes;
  2. abandon the Affordable Care Act (‘Obamacare’) (which has a strong tax component); and
  3. spur significant new public and private spending on infrastructure projects (which, as discussed below, could also contain a major tax component to help pay for it).

To accomplish any of this, Trump will need to work with Republicans on Capitol Hill and will want to develop as much ‘across-the-aisle’ support from Democrats as he can. Notwithstanding candidate Trump’s sometimes stormy relationship with many important Republican members of Congress, we expect that the Congressional Republicans, who will continue to control both chambers of Congress, will largely rally around President Trump in an effort to make his first term in office a productive one.

Compared with Hillary Clinton’s rather detailed campaign proposals on taxes, President-elect Trump’s offerings were mostly thin sketches of what he intends to do once he is sworn into office on 20 January 2017. However, there are commonalities between Trump’s rather general tax reform proposals and the themes contained in the Republican Blueprint for tax reform (which basically trades credits and deductions on both the individual and business sides of the equation for lower tax rates for those same individuals and businesses).

President-elect Trump remains a complete outsider and unknown in a town that prizes connections above all else. When the topic of tax policy is on the table, as well as when it comes time to communicate with Congress specifically about a tax bill, it would not surprise us if Trump ends up relying heavily on the recent efforts of speaker Ryan and the other Congressional Republicans in formulating the message he sends to the Congress on the need for tax reform and what form that reform should take. (In this regard, it is important to remember that incoming Vice-President-elect Mike Pence was a prominent member of the House before he became governor of Indiana, is a good friend of speaker Ryan, and has just been named to head Trump’s ‘transition team’.)

A key issue will be how to pay for improvements to infrastructure and how such funding decisions will be coupled with international tax reform.

One point in the election, perhaps the only one where there was common ground between the Trump and Clinton campaigns, was the vision of a major government-sponsored effort to improve the country’s outdated infrastructure (including roads, bridges, tunnels, airports, the electrical grid, the rural broadband network, etc.); and how that proposal to spend money on infrastructure might end up being tied directly to the reform of the international provisions of the US tax code.

Hillary Clinton’s ‘fair share’ themes during the campaign looked to raise revenue with higher rates and lower deductions for upper income households, in order to fund her signature family and education proposals without adding further to the federal deficit. However, a key component of her agenda was a $275bn infrastructure programme to be funded by revisions to the tax code. Clinton had a 4,000 word plan for how she would spend the $275bn on improving America’s infrastructure, but only three of those words – ‘business tax reform’ – described how she planned to pay for it. She did, however, drop broad hints during the campaign that this ‘reform’ could be an iteration of a corporate repatriation proposal that has been floated by both senior Democrats in the Senate and the Obama administration. Ultimately, though, Clinton made no specific proposals on the repatriation issue (i.e. the taxation of approximately $2.5trn of untaxed, ‘deferred’ offshore profits of US multinational corporations).

The repatriation idea is not new. For example, in February 2015, the Obama administration proposed a 19% permanent rate on the overseas earnings of US firms held overseas, coupled with a 14% transition tax on much of the earnings that US firms have deemed ‘permanently reinvested’ offshore.

Candidate Trump went even further than Clinton during the campaign with his pledge to make as much as a $1trn investment over ten years in infrastructure improvements (after the election, the Trump transition team’s website has reduced this to about $550bn of spending). Trump proposed a one-off 10% deemed repatriation holiday in his plan to help pay for this. Significantly, however, Trump’s plan kept the current worldwide tax regime intact, while repealing the current law deferral of tax on overseas earnings not repatriated to the US.

Both of these proposals would generate billions of dollars in additional revenue, no matter which of the competing revenue estimating models are used (see below). However, the multinational companies that would be asked to offer up the repatriation money have made it quite clear that they will fight to direct any such additional revenue towards corporate tax rate reduction, rather than toward increased federal spending.

They have a point. The headline corporate tax rate of 35% is blamed for a wide variety of ills, including driving the number of global firms with corporate headquarters in the US down from 17 of the top 20 in 1960 to just six by 2015. As discussed below, President-elect Trump has proposed to cut the top corporate rate to 15%, following the lines of the House Republican Blueprint for tax reform, which proposed a 20% rate. Even the Obama administration, in its recently updated Framework for business tax reform, called for reducing the top corporate rate to 28%.

Yet even after the voters have spoken, it remains an open question as to whether the interest in repatriation and lower corporate rates will translate into enthusiasm for the hard deal making and tough votes that a new Congress working with the Trump administration would have to entertain.

The new Congress

Both the White House and Congress will now be controlled by the Republicans.

The new Congress, which will take office on 3 January 2017, will continue to be controlled by the Republicans: the Senate, by at least a 51 to 48 margin (at the time of writing, one seat remains to be filled after a run-off election in Louisiana in December); and the House, by a 239 to 192 split (with four seats still undecided).

Much attention during the campaign naturally fell on the putative tax plans of the two nominees. The reality, though, is that any changes to the US tax code will require representatives of the new Trump administration (principally, a new assistant secretary for tax policy in the US Treasury Department) to engage with the Congressional leaders in the Senate and the House. During these negotiations, the key players on Capitol Hill setting the table for this debate will be the following parties.

The Senate

  • Senate majority leader Mitch McConnell: Despite criticism from conservatives, McConnell has held a remarkably stable leadership team together and is expected to be safe in his position at least until his next race in 2020.
  • Incoming Senate minority leader Chuck Schumer: Schumer has a reputation among his members of being ‘the guy who can get things done’. Significantly, he recently said that he sees the possibility of a compromise for international tax reform, provided it is ‘attached to a broad, strong infrastructure bank’. In fact, in 2015, he co-chaired a working group in the Senate Finance Committee with Republican Finance Committee member Senator Rob Portman that recommended repatriation with a reduced tax rate to fund new infrastructure projects.
  • Senate Finance Committee chairman Orrin Hatch: Last year, Hatch convened a series of tax reform working groups in the Finance Committee; and lately he has been working with Finance Committee Staff on proposals to integrate corporate level and shareholder level taxes and to equalise the treatment of debt and equity.
  • Senate Finance Committee ranking member Ron Wyden: Wyden recently offered discussion drafts for legislation to revamp cost recovery, as well as financial product reform. (‘Ranking member’ is the title for the leader of the minority party on a particular committee.) Wyden has a good working relationship with Hatch, which augurs well for cooperation on tax reform.

The House

  • House speaker Paul Ryan: The US Constitution requires that tax legislation must originate in the House of Representatives. As a practical matter, this means that House speaker Paul Ryan, as the leader in the House, will be called upon to shepherd the initial iteration of any tax bill through that chamber. Ryan has a tax policy background and was intimately involved in the drafting of the Republican Blueprint for tax reform. He wants Republicans to have a positive agenda, which means that tax reform probably will be at or near the top of his priority list.
  • House Ways and Means Committee chairman Kevin Brady: Brady also played a significant role in the formulation of the Blueprint for tax reform. However, Brady will simultaneously also have to contend with the debt ceiling, trade, healthcare and other issues in his Committee during 2017. Tax reform may be complicated by his long ‘to do’ list.
  • House Ways and Means Committee ranking member Sandy Levin: Levin can be expected to push for a more liberal version of whatever tax bill begins to move through the Ways and Means Committee.

The staff of the Joint Committee on Taxation

Politics and budget rules will constrain any tax reform bill that unacceptably increases the federal deficit. The ‘referee’ for revenue scoring for all tax bills in Congress is the non-partisan staff of the Joint Committee on Taxation, where a team of economists scrutinises proposed policies for the revenues they would either forego or raise. Although Congressional Republicans have rescinded budget rules enforcing ‘pay as you go’ revenue neutrality, the House Republicans’ Balanced budget for a stronger America commits to eliminating the deficit by 2024. This political constraint, as well as the fact that many conservative members cut their political teeth on deficit reduction, provides something of a firewall against ‘unpaid-for’ tax cuts.

Therefore, the revenue estimates of the staff of the Joint Tax Committee will serve as a powerful filter for any new tax proposals. The Joint Tax Committee staff’s model is considered relatively static because it does not take into account macroeconomic behaviour. However, since 2003, House rules have required that ‘dynamic’ scoring also be used for major tax bills. (This methodology imputes macroeconomic feedback effects to estimate any additional tax revenues that may be generated by new economic growth over the next 20 years.) At least up to now, the static model has prevailed over the dynamic model, although Ways and Means Committee chairman Brady, among others, has expressed enthusiasm for using dynamic scoring for tax reform instead.

President-elect Trump’s plan as set forth during the campaign

During his campaign, President-elect Trump proposed the following items as comprising his tax reform plans:

Changes to the individual income tax

  • Consolidate the current seven tax brackets to three: 12%, 25% and 33%. This change would cut the current top 39.6% tax rate by 6.6 percentage points. In addition, single filers earning less than $25,000, and married filers earning less than $50,000, would owe no taxes.
  • Keep the current law special tax rate structure for long term capital gains with a top rate of 20%.
  • Retain the dividend rate at 20%.
  • Repeal the 3.8% net investment income tax (part of the Affordable Care Act taxes).
  • Repeal the individual alternative minimum tax.
  • Tax the so-called ‘carried interest’ earned by certain investment managers (which currently can give rise to taxation at capital gain rates) at the revised ordinary income rates described above.
  • Increase the standard deduction to $15,000 for single filers and $30,000 for joint married filers; eliminate personal exemptions; and cap itemised deductions at $100,000 for single filers and $200,000 for joint filers.
  • Create a new ‘above the line’ tax deduction for childcare and elder care expenses; and a new tax preferred savings account to encourage families to set aside funds for those expenses. For those working parents who would not benefit from the deduction, the earned income tax credit would be increased by up to $1,200 per year.

Changes to business income taxes

  • Reduce the top corporate rate from 35% to 15%, but retain the current law ‘double taxation’ of dividends.
  • Repeal the corporate alternative minimum tax.
  • Pass-through businesses (such as partnerships, S corporations and LLCs whose members currently pay income tax on the entity’s income on a pass-through basis at ordinary individual tax rates, rather than at the corporate tax rates) would be able to elect to have their income taxed once at either the 15% corporate rate or under the tax rates applicable to individual taxpayers. It appears that hedge funds and private equity partnerships, whose managers earn a substantial portion of income in the form of carried interest, would be able to elect to be taxed at the 15% corporate tax rate. However, the income of large pass-throughs electing the 15% rate would be subject to a second-level tax when earnings are distributed as dividends, while smaller pass-throughs would not.
  • Firms engaged in US manufacturing would be allowed to elect to deduct the full cost of their capital investments in equipment and buildings in year one (rather than depreciating these purchases over time as current law requires). However, businesses that make this election would lose their ability to deduct interest expense.
  • Retain the current law worldwide tax regime, as well as the foreign tax credit, but repeal the deferral of tax on earnings of US firms held overseas even if they are not repatriated to the US.
  • Enact a one-time deemed repatriation of accumulated overseas earnings at a 10% tax rate.

Other changes

  • Repeal the estate, gift and generation skipping transfer taxes.
  • Tax unearned gains of appreciated assets held at death to the extent they exceed $10m.

The other side of the equation: the House Republican Blueprint for tax reform

One of the core missions of the Republican party is to reduce tax rates on individuals and businesses. On 24 June 2016, House speaker Ryan announced the House Blueprint for tax reform to the public. In general, the proposal would reduce tax rates, simplify many provisions and convert the taxation of business income into a cash-flow consumption tax.

Although many important details are not specified in the blueprint, the major elements of the proposal are as follows:

  • Reduce the top individual income tax rate to 33%; reduce the corporate rate to 20%; and cap at 25% the rate on profits of sole proprietorships and pass-through businesses (such as partnerships, S Corporations and LLCs) that are taxed under the individual income tax. Individuals could deduct half of their capital gains, dividends and interest, reducing the effective top rate on such income to 16.5%.
  • Increase the standard deduction and child tax credit. It would repeal personal exemptions and eliminate most itemised deductions, but retain deductions for charitable contributions and home mortgage interest. The plan would also eliminate the individual alternative minimum tax; estate, gift and generation skipping transfer taxes; and all taxes associated with the Affordable Care Act.
  • Replace the corporate income tax by a cash-flow consumption tax that would apply to all businesses. Investments would be immediately deducted (i.e. expensed) and business interest would no longer be deductible. Essentially, the tax would function as a ‘subtraction method’ value added tax, with a deduction for the costs of labour. The cash flow tax would be border adjustable, meaning that receipts from exports would be excluded from the tax base and purchases of imports would not be deductible from the tax base. The plan would therefore move the US business tax system to a destination-based value added tax, in which only receipts from sales to US consumers, not profits of the corporations, would be taxable. Basically, US multinationals would be effectively exempt from US tax on both domestic and foreign-source income generated from overseas sales. (Note that this approach might be subject to a potential challenge under the rules of the Word Trade Organization, if the tax is not considered to be a real value added tax.)
  • Also, under the proposal, the US would no longer tax repatriated profits from foreign-source income generated from overseas sales. It would make up part of this loss of future revenue by imposing a transition tax on the existing unrepatriated earnings on US firms’ foreign subsidiaries. Earnings held in cash would be taxed at 8.75% and other earnings at 3.5%, with the liability for this one-time tax payable over eight years.


Because the House is the chamber where all tax legislation must originate, all of President-elect Trump’s tax policy ambitions will have to run through that body. During the course of deliberations, they will likely be amalgamated with provisions of the Republican Blueprint for tax reform before a tax bill can emerge from that chamber.

While there might be disagreements between President-elect Trump and a fair number of Republicans in areas like trade and immigration, there is much more agreement between them on tax policy: reduce the tax burden on individuals and corporations and repeal the century old estate tax. There is little the Congressional Democrats will be able to do to prevent this from happening because the House and Senate Republican leaders can employ a budget procedure known as ‘reconciliation’. This lets them pass tax bills with simple majorities in each chamber (thereby avoiding the need for a super majority of 60 votes to end the debate, including a potential ‘filibuster,’ on the floor of the Senate). Democrats in the Senate, understanding these limitations, may therefore cooperate more than otherwise might be expected.

However, what might be viewed as one of President-elect Trump’s ‘signature proposals’ – the $550bn investment in infrastructure over ten years – will also need a revenue source to pay for it. Details on Trump’s plans for funding the improvements are scant, other than perhaps issuing infrastructure bonds to help pay for the costs and using tax credits to spur private developers to join the effort.

Senator Schumer, who will be a likely proponent of federal government spending for improvements to the nation’s infrastructure, may see the offshore pool of existing unrepatriated earnings as the source of funding for his infrastructure ambitions; and, frankly, President-elect Trump may agree with him. However, the Republican Blueprint for tax reform is silent on the subject. Importantly, the multinational companies which might end up being taxed on the unrepatriated overseas earnings are resolute that they will fight any repatriation proposal, unless the revenue is used to drive down the top corporate rate and, ideally, is enacted as part of legislation which moves the US to a more territorial tax system. It looks like this desire to ‘use’ the revenue raised from a tax on overseas profits to ‘fund’ tax reform (rather than spending it on, say, improvements to infrastructure) is also supported by both speaker Ryan and senator McConnell. Resolving this conflict will be an early test of Trump’s deal making prowess.

Moreover, any effort to replace the system of business taxation with a destination-based consumption tax would provide significant winners and losers among US businesses. For example, importers, like US retailers, would lose; and exporters, like manufacturers that make products for sale overseas, would win. Because the US is a net importer of goods, depending upon the tax rate applied, it is unclear which approach would effectively reduce overall taxation on the business sector.

One wild card in all of this is the fact that both President-elect Trump’s plans and the Republican Blueprint for tax reform would significantly increase the budget deficit. It is here that fights come into play over whether the revenue estimates should be based on a static model or a dynamic model; and whether the revenue generated by taxing the unrepatriated overseas earnings should be applied to reducing the top corporate tax rate or to funding massive infrastructure projects.

In any event, the odds of favourable action on comprehensive tax reform increased dramatically last week. Consequently, those who have been waiting many years for comprehensive tax reform to occur may at last see it happen. And tax advisers all over the world will need to pay attention. 

The views above are those of the co-authors and do not necessarily represent the views of Sullivan & Cromwell LLP.