President Trump is expected to formally introduce his tax reform plan on Wednesday (5/3/17). The plan is expected to reduce the top corporate tax rate for small business owners to 15 percent from 39.6 percent.
According to TaxFoundation.org, the U.S. has one of the highest corporate tax rates in the world, and it is believed by both parties that American businesses could compete more effectively in a global marketplace if they were not hamstrung by these high tax rates. One of the major components of the Trump plan is to slash the tax rate for big and small businesses from a maximum of 35 percent to 15 percent.
Treasury Secretary Steve Mnuchin said: "By cutting corporate taxes, we're going to create huge economic growth and we'll have huge personal income."
However, these tax savings apply only to C corporations, and the majority of small business is conducted as one form or another of pass-through entities -- partnerships, limited liability companies (LLCs) taxed as partnerships or S corporations. Accordingly, one point of contention that hampered the ability to achieve tax reform throughout the Obama Administration was the Republicans' refusal to agree to a lower corporate tax rate without addressing the issue of pass-through entities.
The Trump plan seeks to address this issue in two key ways. First, the plan calls for three tax brackets -- 12, 25 and 33 percent. The current maximum tax rate on individuals is 39.6 percent on taxable income over $250,000, and 43.4 percent if the individual is subject to the Net Investment Income Tax (NIIT). Trump's plan calls for the elimination of the NIIT, so the reduction in individual rates alone could save small business owners up to 10.4 percent in their maximum tax rate.
During an interview with the FOX Business Network, Tony Sayegh, assistant secretary for public affairs at the Department of the Treasury, said President Trump's proposal to reduce taxes will be a big boost to small businesses. "If you're an entrepreneur thinking about starting a small business - do it. Your tax policy is going to support you. If you're an existing small business and you want to grow - do it because this tax policy will support you," he said.
Implications for small businesses
Bill Smith, Managing Director for CBIZ MHM's National Tax Office, details some specifics of the effect of Trumps plan on small businesses:
Greater savings may eventually ensue. According to the Tax Policy Center, Trump's plan includes the ability for pass-through entities to elect a maximum rate for "business income" of 15 percent. This applies to active trade or business income from pass-through entities, except distributions from "large" pass-through entities would be taxed as dividends.
If this plan makes it into an overall tax reform package, small business owners could realize a savings of up to 28.4 percent on their K-1 income from the companies they own.
The plan also has provisions that allow full expensing for all capital investment, but in general, a company would have to forgo any deduction for net interest expense. This would effectively provide for an unlimited Section 179 deduction with no phase-outs occurring at any level of investment. Currently, Section 179 allows for $500,000 of expensing, but the deductions start to disappear after $2 million of investments.
While the proposed plan faces obstacles based on the projected costs of the tax cuts, if comprehensive tax reform is enacted in the coming weeks, it is likely to contain multiple provisions that will benefit small businesses and their owners.