US president Donald Trump is proposing to fundamentally change the US tax system to a territorial regime, in which only US-related profits are taxed.
Yesterday's presidential tax reform announcement also promised a reduction of corporation tax from the current 35 per cent – one of the highest rates in the world – to 15 per cent. The trillions of dollars of 'deferred' corporate profits currently being held overseas to avoid tax would be taxed at a special rate when they are brought back to the US. The amount of this 'repatriation tax' has not yet been determined. 'We are working with the House and Senate on that', said treasury secretary Stephen Mnuchin. 'But I will say it will be a very competitive rate that will bring back trillions of dollars.'
Moreover, the proposed territorial tax system means that US companies would pay tax only on income related to the US. They would not be subject to worldwide income, which has made them uncompetitive, said Mnuchin.
The reduction of US corporation tax is long overdue, Mnuchin added. 'When President Reagan left office in 1988, the corporate tax rate was 34 per cent, and it hasn't changed much since. For the last 25 years, other countries have been aggressively cutting their tax rates and moving to a territorial system in order to attract business. And the US has done none of that. In 2017, we are still stuck with a 1988 corporate tax. That's why we're now one of the least competitive countries in the developed world when it comes to corporate tax.'
This rate will be available for small- and medium-size businesses, and corporations. However, said Mnuchin, there will be rules in place 'so that wealthy people can't create pass-throughs and use that as a mechanism to avoid paying the tax rate that they should be on the personal side'.
The estate tax and the alternative minimum tax will also be repealed, as will the 3.8 per cent surtax on investment income (capital gains, interest and dividends) introduced by the Obama administration to fund the Affordable Care Act. This will return the top capital gains tax rate and dividend rate to 20 per cent.
Personal income tax brackets will be simplified from the current seven to only three, with the top rate being cut from 39.5 to 35 per cent. All income tax reliefs other than mortgage interest, charitable deductions and retirement savings will be eliminated in a 'sweeping reform', said Mnuchin. However, this suggests that state and local taxes would no longer be deductible from federal tax, which might worry residents of high-tax states such as California.