The Republican Party has been talking about an overhaul of the US tax code for quite some time. One of the primary goals is to simplify a nearly 75,000-page federal tax code, which is 187 times longer than it was a century ago. Now that the Republicans control the White House, Senate and House of Representatives, we know change is coming. Whether the changes take effect in 2017 or 2018 is yet to be determined. What we do know is that taxes will be decreased for corporations as well as individuals. Well, most of them at least.
What is Changing?
Trump’s tax plan calls for a consolidation of the current seven tax brackets down to three, set at 12%, 25%, and 33%. That’s above the rates of 10%, 20%, and 25% originally proposed by Trump, but still lower than the current tax plan. Many itemized deductions are said to be on the chopping block, although the mortgage interest deduction and charitable giving deduction appear to be safe for now. The standard deduction will increase from $6,300 to $15,000 for single taxpayers, and from $12,600 to $30,000 for those married filing jointly.
In addition to the tax bracket changes, the death tax is being eliminated. I agree this is a change that should be made. It’s ridiculous to tax money that has already been taxed just because it’s being passed on to heirs. This, however, only impacts 0.2% of all estates. The current tax law allows you to pass up to $5.45 million to your heirs tax-free. The amount is doubled to $10.9 million for married couples. Estates above these amounts are currently taxed at 40%. Trump has said he will repeal this tax entirely, although it won’t impact many at all.
The Impact to You
The wealthy will receive the biggest tax cuts in Trump’s plan. As seen in the chart below, the top 1% will see their effective tax rate cut by nearly 7%. The upper middle class will receive a decrease of about 3%, and the middle class at just under 2%. The lowest tax cut goes to the lowest income earners at less than 1%.
Supporters of Trump’s plan like to bring up Regan who was in office during the last major overhaul of the tax code and provided large tax breaks to the highest earners. The theory being that loosening of capital at the top will encourage investment, trigger transactions, create jobs and lead to economic growth. Not everyone is convinced, though. The top tax rate when Regan took office was 70%, which Regan cut to 28%. You can see how such a major tax break would loosen up the capital at the top. I’m not sure it will have the same impact this time around. Regardless, it appears that whatever the final plan looks like, it will provide the most significant tax breaks to the highest income earners.
Not Everyone Comes Out Ahead
On average, you can see the middle class will be receiving a tax break under Trump’s plan. Those who are married and filing jointly will receive a tax break no matter what income bracket they fall into. But not all of the middle class is so lucky. Nearly 8 million Americans, primarily single-parent households, will pay more in taxes.
How does this happen, you ask. Trump’s plan eliminates the head of household status and personal exemptions. Currently, a single taxpayer with two children filing as head of household would claim a deduction of $9,300, plus three personal exemptions of $4,050 each. These deductions would reduce taxable income by $21,450. Under Trump’s plan, personal exemptions are eliminated, and the standard deduction is raised to $15,000 for single filers. Therefore, taxable income would increase by $6,450 for this single filer who still falls in the 25% tax bracket.
Low-income married couples with four or more kids will also be adversely impacted. Take a couple with four children and income of $50,000. Under the current tax plan, they would fall into the 10% tax bracket after deductions of $36,900. Under Trump’s plan, this couple receives fewer deductions and falls in the 12% tax bracket. This would result in an increase of $1,090 to the family’s tax bill.
Where’s the Fuss?
Why are we not hearing more about this? Well, partly because it doesn’t impact that many people. While 8 million people seems like a lot, it’s a relatively small percentage of all American taxpayers. Secondly, Trump’s revised tax plan hasn’t been out for public view for that long, meaning less time for detailed analysis. On the whole, we know that taxes are going down. But we haven’t had time to dig through and see the impact for various circumstances. I didn’t think about this until I read Financial Samurai’s latest post titled “How To Prepare for Trump’s Middle Class Tax Hike.” Why? Well, in short, because it doesn’t impact me. Being a married filing jointly taxpayer with no kids, my effective tax rate should decrease 3-4% under Trump’s plan. Like most other American’s, my initial thought was how these tax changes would impact me.
Still, it’s likely we will see further changes made to Trump’s tax plan before it’s set in stone. Economists believe Trump’s plan will lead to $11 trillion less in tax revenues. Few are convinced that giving the wealthy large tax breaks will result in increased economic activity to make up for this shortfall. Therefore, I believe it’s likely there are changes yet to be made to Trump’s plan. House Speaker Paul Ryan’s own tax cut proposal is similar to Trump’s but reportedly wouldn’t raise taxes on single-parent families. As you can see in the graphic below, there are plenty of details left to iron out.
Changes to Iron Out:
I can’t imagine many Americans, no matter where you fall on the income brackets, think it’s fair to give substantial tax cuts to the wealthy while increasing taxes on single parent households. Even if it is a minority of taxpayers, it won’t sit well with Americans.
Readers, where do you fall on the income spectrum and what are your thoughts on Trump’s proposed tax changes? What do you think the final tax plan will look like?