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Is the Blueprint on a collision course with political reality?

May 12, 2017
From the Tax Governance Institute

Is the Blueprint on a collision course with political reality?

By John Gimigliano, Principal in Charge, Federal Legislative & Regulatory Services, Washington National Tax, KPMG LLP

Read more Tracking Tax Reform blog posts

Next month will mark the first anniversary of the release date of the House Blueprint on tax reform. And we still have no idea whether it will become law in its entirety, in part or not at all.

But one thing’s fair to say: At a mere 35 pages, the Blueprint is only a whitepaper. It’s nothing close to operative legislation that can be implemented in the real world. It’s based on several untested and radical ideas: levying a consumption tax, imposing border adjustments, and eliminating the current systems of capitalization and timing, as well as eliminating ordinary and necessary business expense of interest deductions.

In the author’s view, as the Blueprint inches forward—from academic whitepaper into the political arena—changes are inevitable to get enough votes to pass the House and Senate. Below is a summary of several alternative adaptations to improve the political prospects of the House plan:

  1. Border-adjustable tax (BAT): If the House wants to preserve some concept of the much-debated border adjustments, the BAT could be phased in over several years. We could also see carve-outs for problematic areas, such as financial transactions or allowing a partial deduction for imports with perhaps a partial income exclusion on exports.
  2. Interest deductions: Instead of completely disallowing the interest deduction, there’s talk of carve-outs for “small businesses” or certain regulated industries with debt vs. equity-level constraints. Also, alternate concepts, such as “scalable” interest deductibility based on debt/equity ratios, are being discussed.
  3. Expensing: Some view the proposal to eliminate expensing as too ambitious. Scaled-back options include (1) adopting 100 percent bonus depreciation, (2) shortening depreciable lives under the current modified accelerated cost recovery system, or (3) making the current 50 percent bonus depreciation permanent.
  4. Partnership tax rate: The Blueprint includes a special, lower tax rate for pass-through business income that would be restrained by a “reasonable compensation” backstop—a concept that may be difficult to define and apply. Congress could consider dictating use of simple income calculations, e.g., 70 percent of pass-through income would be treated as ordinary income and 30 as “business income” taxed at a lower rate.
  5. Individuals’ payroll taxes: Although not in the Blueprint, one idea being discussed on the Hill is to reduce (or eliminate) payroll taxes for individuals. This would deliver a significant tax break to middle- and lower-income workers and could be financed by eliminating the employer deduction for wages paid. In the context of the Blueprint, this may be appealing in two ways. First, the move could be useful in defending against World Trade Organization challenges by moving the House plan closer to an actual value-added tax system. Second, this trade-off would deliver a tax cut to individuals at the expense of the business community, which is similar to what Congress did in the 1986 tax reform law. (This serves as another reminder that individuals vote; corporations do not.)  

While these modifications tend to erode and complicate the academic nature of the Blueprint, they also enhance the likelihood that tax reform would get enacted. In sports, it is often said that an “ugly win” is still a win. And when it comes to tax reform, the GOP is eager for a win.

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This article represents the views of the author only, and does not necessarily represent the views or professional advice of KPMG LLP.

The information contained herein is of a general nature and based on authorities that are subject to change. Applicability of the information to specific situations should be determined through consultation with your tax adviser.