President Donald Trump signed sweeping legislation on Dec. 20 that will reinstate popular expired tax provisions, enact a package of retirement incentives, remove three unpopular changes from the Tax Cuts and Jobs Act (TCJA), and repeal the medical device excise tax, the “Cadillac” tax on high-cost health plans, and the annual fee on health insurers.
The $428 billion tax package was attached to a government spending bill. It represents a compromise between the Democrats and Republicans, but omits key priorities from each side. Republicans were only able to secure three TCJA changes, which will apply retroactively:
- Repealing the inclusion of transportation fringe benefits like parking in determining unrelated business income tax (UBIT)
- Repealing TCJA’s tax treatment of the unearned income of children and reinstate the previous “kiddie” tax
- Reversing a change on the treatment of grants for cooperative telephone and electric companies
The package does not include a highly anticipated TCJA fix that would make qualified improvement property eligible for 100% bonus depreciation, or any other TCJA technical corrections. Democrats did not secure proposed enhancements to the earned income tax credit, child tax credit or child and dependent care tax credit. The bill also does not affect the per-manufacturer cap on plug-in electric vehicles, which was opposed by the Trump Administration. Lawmakers could consider pairing TCJA fixes with Democratic tax credit priorities in 2020, but the resolution of all the other major tax issues in the current package may sap the urgency and hinder momentum.
The deal generally retroactively reinstates the provisions that expired at the end of 2017 and extends them prospectively for 2020, including (full list in table below):
- Alternative and biofuel fuel credits (biodiesel extended through 2022)
- The railroad track maintenance credit (extended through 2022)
- Section 45L credit for energy-efficient new homes
- Section 25C for energy-efficient home improvement
- Section 179D deduction for energy-efficient commercial building property
- The Indian employment tax credit under Section 45A
- The three-year depreciation for racehorses
- The seven-year cost recovery for motor-sports entertainment complexes
- Special expensing for film and television and live theatrical productions
The Section 45 production tax credit for wind was extended for one-year at a 60% rate for construction that begins in 2020 while the full credit was made available for construction beginning from 2017 through 2020 for the other property types. Taxpayers can continue to claim the Section 48 investment tax credit in lieu of the Section 45 credit, but no other changes were made to the Section 48 credit. Congress included special procedures for filing retroactive fuel tax credit claims, but taxpayers will likely be required to amend returns to take advantage of many of the other provisions for 2018 unless the IRS creates alternative procedures.
The bill will also extend a number of tax provisions scheduled to expire at the end of 2019, including:
- The work opportunity tax credit
- The new markets tax credit
- TCJA changes to the alcohol excise taxes
- The look-through rule for related controlled foreign corporations
- The health coverage tax credit
- The employer tax credit for paid family and medical leave
Although the extension of all the temporary provisions is welcome, it’s unclear whether this process remains sustainable in future years. Most of the provisions expired nearly two years ago, and negotiations were fragile and nearly collapsed. Taxpayers should no longer count on these provisions to be extended routinely, especially as many of the popular energy credits now have multi-year phase downs and the railroad track maintenance credit is extended for several years.
The most unexpected development is the full repeal of the three healthcare-related taxes. The 2.3% medical device excise tax, the 40% excise “Cadillac” tax on high-cost health plans and the health insurance industry fee are all unpopular and have been suspended repeatedly. But the expense had previously made full repeal difficult, and another suspension this year appeared likely. Instead, Congress agreed to repeal the taxes at an estimated cost of $373 billion over 10 years.
The bill also includes the bipartisan Setting Every Community Up for Retirement Enhancement (SECURE) Act, which is a package of retirement plan changes for both individuals and employers, including provisions that:
- Ease restrictions on multiple-employer plans (MEPs)
- Simplify 401(k) safe harbor rules
- Expand the types of employees of nonqualified church-controlled organizations who may be covered under retirement income account 403(b) plans
- Modify the 10% cap on auto-escalation of employee contributions
- Bar plans from offering loans to employees that can be accessed through credit cards
- Repeal the 70.5-year age cap on making contributions to an individual retirement account (IRA)
- Require inherited retirement accounts to be distributed within 10 years
- Increase the maximum allowable age for traditional IRA contributions from 70-1/2 to 72
The bill also includes disaster relief and reduces the tax rate on the net investment income of tax-exempt private foundations from 2% to 1.39%. The following provides more details on the tax provisions in the bill.
The package does not include any “technical corrections” to the TCJA, but does reverse three substantive changes that were unpopular. The bill repeals a provision that required tax-exempt entities to include in the UBIT any transportation fringe benefits provided to employees, including for transit or parking. The result was a 21% tax on these costs, and the rules for calculating the cost of employee parking were particularly onerous. The bill repeals this provision retroactive to enactment so refunds will be available for the 2018 year. A corollary provision denying other taxpayers a deduction for these costs is also unpopular, but Congress left that provision intact for now. A separate positive change was also offered for tax-exempts, though it is not originally a TCJA provision. The bill reduced the tax rate on the net investment income of tax-exempt private foundations from 2% to 1.39%.
The bill also reverses a change to the kiddie tax made by TCJA, which required a child’s unearned income to be taxed at trust rates instead of parents’ rates. The original TCJA provision was moderately helpful to some high-income taxpayers because the trust brackets allowed more capital gains and dividends to be taxed at the zero and 15% rates. But it was unfavorable for many children of lower-income taxpayers, particularly those receiving survival benefits and or scholarships. The bill repeals the change and reverts to the old kiddie tax beginning in 2020, but also instructs Treasury to provide procedures to allow taxpayer to elect retroactive relief.
The bill also excludes disaster aid and certain other government grants from the income of mutual and cooperative telephone and electric companies for the purposes of determining their tax-exempt status. This change is retroactive to the enactment of TCJA.
Health care taxes
The bulk of the bill’s estimated $428 billion cost comes from repealing the medical device excise tax, the health insurance industry fee, and 40% excise “Cadillac” tax on high-cost health plans at a price tag of $373 billion. The 2.3% medical device excise tax was in effect from 2013 to 2015 before it was suspended from 2016 to 2019. It was scheduled to become effective again in 2020, but is now permanently repealed.
The health insurance industry fee was first imposed in 2014 as an $8 billion fee allocated based on market share among all insurers with “aggregate net premiums written.” The fee rose to $11.3 billion for 2015 and 2016, but was suspended for calendar years 2017 or 2019. It was effective at $14.3 billion in 2018 and will be effective for $15.5 billion in 2020. The bill does not repeal it until 2021.
The 40% excise “Cadillac” tax on high-cost health plans was originally scheduled to begin in 2018, but was repeatedly delayed and will now be repealed without ever taking effect.
The SECURE Act makes a number of significant changes to the retirement plan rules for both individuals and plan sponsors. It originally passed the House with overwhelming bipartisan support, and narrowly failed to pass the Senate by unanimous consent.
One of the most significant changes eases restrictions on multiple-employer plans (MEPs) by allowing for “open MEPs,” in which unrelated employers can participate (if certain conditions are satisfied). It also essentially repeals the “one bad apple” rule, under which the failure of a single employer to satisfy applicable qualifications requirements can result in the disqualification of the entire MEP.
The bill eases administrative requirements Section 401(k) safe harbors, which can be used in place of certain annual nondiscrimination tests. This includes eliminating a notice requirement that mandates employees be informed of their rights and obligations under the plan and be provided certain details concerning plan benefits. In addition, it allows plans to be amended to provide non-election contributions at any time, up to 30 days before a plan year closes. Amendments can still be made thereafter, but only if the non-elective contribution equals at least 4% of an eligible employee’s compensation and the amendment is made by the close of the following plan year.
Other major changes for employers include:
- Barring plans from offering loans to employees that can be accessed through credit cards
- Requiring benefit statements to include lifetime income options
- Allowing closed defined benefit pension plans to permit existing participants to continue to accrue benefits without running afoul of nondiscrimination rules
- Modifying the 10% cap on auto-escalation of employee contributions
- Allowing participants to roll an annuity investment into an IRA (or another employer's plans) if a plan eliminates the annuity as an investment option
- Deeming certain custodial accounts in a Section 403(b) plan that has been terminated to be an IRA
- Expanding the types of employees of nonqualified church-controlled organizations who may be covered under retirement income account 403(b) plans
- Extending the deadline for establishing a plan from the last day of the taxable year to the extended due date of the return for such year
- Increasing benefits for volunteer firefighters and emergency medical responders
- Allowing long-term part-time workers to participate in 401(k) plans
- Permitting penalty-free withdrawals from 401(k) plans for qualified birth and adoption distributions
- Treating tax-exempt difficulty of care payments received by home healthcare workers as compensation for determining retirement contribution limits
- Providing pension funding relief for community newspaper plan sponsors
Major for individuals include:
- Repealing the 70.5-year age cap on making contributions to an individual retirement account (IRA)
- Raising the age for required minimum distributions from retirement accounts to 72
- Requiring that account balances be distributed to beneficiaries by the end of the 10th calendar year following the year of the owner’s death (with some exceptions for a spouse, disabled or chronically ill individuals, children who have not reached the age of majority, or individuals no more than 10 years younger than the owner)
The bill includes a set of disaster relief tax provisions for presidential disaster areas declared from 2018 through the month following enactment. The provisions include:
- An exception from the 10% retirement plan early withdrawal penalty for disaster relief distributions
- A 40% credit for wages paid to employees while the business was shuttered
- Extending filing deadlines by 60 days
- Allowing disaster-related casualty deductions above-the-line
- Providing favorable earned income tax credit income calculations
- Providing additional low-income housing tax credit allocations related to California disasters
- Private foundation excise tax relief to encourage disaster relief donations
- Lifting the cap on charitable contributions associated with qualified disaster relief
The legislation reinstates the bulk of the provisions that expired at the end of 2017 for 2018, 2019 and 2020 with some exceptions noted in the table below. The bill also generally extended the provisions scheduled to expire at the end of 2019 for one year. The bill did not include many of the enhancements to alternative energy incentives proposed recently by Democrats and did not affect the per-manufacturer cap on the credit for plug-in electric vehicles. It’s possible these are included in future negotiations of compromise tax packages, but there will be Republican resistance.
Many of the changes made by the bill are retroactive and will affect tax years for which returns have already been filed. The legislative text explicitly instructs Treasury to provide alternate procedures to claim the benefits only in a few circumstances, such as fuel credits and the kiddie tax. In many other cases, amended returns will likely be required, although the IRS could provide relief in some areas even without explicit legislative instructions.
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