If you haven’t heard, President Trump unveiled a new tax plan this week that promises to cut taxes for most Americans. The plan is really just a conceptual outline, and is light on details, but overall seems to do what he promised. We will keep you updated as detail emerge, but this is what we know so far.
The plan cuts the number of tax brackets down to 3, or 4 if you count the 0% bracket. The new brackets will be 10%, 25%, and 35%. These are different than what was promised during his campaign, which was 12%, 25%, and 33%. This sounds great, but there are two problems with it.
The first problem is that we have no idea what income levels these brackets will apply to. Under the current tax code, the 15% bracket goes from $18,550 to $75,300 for a married couple. If we simply replace that with the 10% bracket, that is a huge win for the middle class. However, if we replace the 15% bracket with the 25% bracket, it will be a disaster for the middle class. My suspicion is that the 10% bracket will be extended into the upper part of the former 15% bracket, cutting off somewhere around the $50,000 or $60,000 level.
This second problem is that this part of the plan is being sold as a simplification of the tax code, but in reality, it doesn’t simplify anything. All this does is shift the payment calculation, which is actually the easiest part of preparing your taxes! As we have written before, calculating your income is the difficult part of tax preparation, not the payment calculation. Despite the deceptive sales job here, I think everyone will be OK with as long as their tax burden is reduced next April.
The second major change of Trump’s tax plan is the increase of the standard deduction. The current deduction is $6350 per person, and that will now increase to $12,000 per person. That means a married couple will essentially pay no income on the first $24,000 that they earn. The total amount is less than what was promised on the campaign trail ($15,000 per person), but still a substantial increase. Of course this increase doesn’t come without a catch. There will be a lot of itemized deductions that are going away. Only three items are going to be deductible in the future, including mortgage interest, charitable contributions, and retirement savings. Of course, with the higher standard deduction, less people will be itemizing, so this won’t matter as much as it has in the past.
The people that will feel this change the most are those that live in high tax states like California and New York. The reason for this is that under the current plan, state and local taxes (SALT) are deductible from your federal taxes if you itemize. This deduction accounts for almost $100 billion per year in money that is not paid to the federal government. The great news is that in Florida, this is not nearly as big of a deal, as we have no state income tax.
One of the best proposed changes to the tax code would be the elimination of the Alternative Minimum Tax, or AMT. AMT is a completely separate tax code that was set up to force a small group of high income earners to pay more taxes. AMT was never indexed for inflation, so it now affects about 6 million Americans, which is an increase of 600% since the year 2000, including many middle class Americans.
Under Trump’s plan, the Obamacare surcharge of 3.8% would be eliminated, so the top capital gains rate would be lowered to 20%. This would only affect individuals with very high incomes, so it isn’t a huge change.
The last piece of the plan may be the most controversial, and also the lightest on details. The proposal is that the corporate tax rate would be lowered to 15%, putting us more in line with the rest of the developed world. The tricky part about this change is that Trump says it will apply to all types of business, yet many corporate structures are simply pass through entities and pay no taxes. We will have to wait and see what the details of the plan look like when they emerge.