A Pass-Through Tax Limit Can Help Small Firms
More details are needed about the overall plan
The Republican majority is set to fill in the details of the Trump administration’s tax framework. On its face, much of the framework is good for small businesses, limiting the tax rate for pass-through businesses—such as partnerships and S-corporations, in which revenue passes from the company level to the individual—to 25%, significantly lower than the rate is now.
These forms of business organizations are common among small construction companies, and there are many good reasons to cut their tax burden. Many of these company owners work hard, take big risks and create jobs.
But there is cause for concern about the complex tax reform that Congress and the White House are now pushing through. For instance, there are still many questions about the details of just the sections related to pass-through revenue. Indeed, along with many small businesses, many wealthy business owners stand to benefit from the limit on pass-through taxes.
No tax cut can be judged in isolation. Watch out for any part of the proposed reforms that blows too big a hole in the budget and expands the national debt.
Take the example of the alternative minimum tax, which could be eliminated. The Tax Policy Center says the alternative minimum tax contributed about $38 billion, or about 2.5%, of all individual tax revenue in 2017. That gives us pause. The alternative minimum tax always has served as a brake to prevent the wealthy from paying extremely little in taxes, and that revenue is critical to keeping the U.S. financially viable.
The estate tax is another matter, however. By raising the exemptions under the law in recent years so that it covers bigger and bigger estates and leaves smaller ones untaxed, Congress essentially has been phasing out the estate tax at the lower levels.
For decedents in 2017 with an exemption of $5.49 million, the Tax Policy Center estimates there will be only 5,500 taxable estates this year, based on estimates of how many people die, and that the tax liability will be $19.9 billion. While that’s a lot of money, we support eliminating the estate tax. The tax is unfair in that it prevents the full fruits of a lifetime of labor from passing into the hands of heirs. This tax is a fundamentally flawed way of raising funds, especially in a culture that wishes to nourish entrepreneurial zeal.
As far as the pass-through tax limit is concerned, how much will it save small-business owners, and how much tax revenue will be lost? Once we know what the overall effects will be on the country’s finances, along with all other reforms, it will be easier to judge. But by itself, the limit on pass-through taxes is one of the best tax ideas to come out of the Trump administration and the Republican Party.