Senate Republicans passed a bill overhauling the federal tax code early in the morning of Dec. 2, following a number of last-minute changes. Fifty-one senators voted for the "Tax Cuts and Jobs Act," with just one Republican, Bob Corker (R-Tenn.), voting against. No Democrats supported the legislation.

The bill differs significantly from the version the House passed on Nov. 16. by a vote of 227 to 205. Thirteen Republicans voted against the legislation, most of them from high-tax states likely to be negatively impacted by its provisions. No Democrats supported it.

The House and Senate's bills will now go to conference to be reconciled into a single piece of legislation for President Trump's signature. If a version of the overhaul does become law, it would represent the most significant rewriting of the federal tax code since 1986. 

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Provisions
Budget Impacts
Whose Tax Cuts?
What's Wrong With the Status Quo?

Earlier in the week the bill's fate was uncertain. Budget hawks appeared troubled by the prospect that the bill could deepen the federal deficit – which reached $665.7 billion in fiscal 2017 – and add $1 trillion to the nation's more-than-$20 trillion debt over 10 years. Moderates appeared troubled by the prospect that millions could lose insurance coverage as a result of the individual mandate's repeal. Where was also speculation that John McCain (R-Ariz.) would vote against the tax cuts for the same reason he voted against Bush's in 2001: the vast majority of the benefits would accrue to the wealthy.

In the end Corker was the only holdout.

Provisions

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This section may not reflect all of the amendments made to the Senate bill in the "vote-a-rama" that preceded its passage on Dec. 2.

PERSONAL TAXES

Income Tax Rates

The House and Senate versions would both alter personal income tax brackets, but in different ways. The House version would collapse the current seven brackets into four. The lowest marginal rate would rise from 10% to 12%, and the highest rate would remain 39.6%: 

House Version: Proposed Brackets, 2018
Single Filers
Taxable income over Up to Marginal rate
$0 $45,000 12%
$45,000 $200,000 25%
$200,000 $500,000 35%
$500,000 And up 39.6%
Married Couples Filing Jointly
Taxable income over Up to Marginal rate
$0 $90,000 12%
$90,000 $260,000 25%
$260,000 $1,000,000 35%
$1,000,000 And up 39.6%
Source: Joint Committee on Taxation.

Under the revised Senate version, there would still be seven brackets, though the rates and the income levels they apply to would change from current law. The top rate would fall from 39.6% to 38.5%, while the lowest rate would be unchanged at 10%:

Senate Version: Proposed Brackets, 2018
Single Filers
Taxable income over Up to Marginal rate
$0 $9,525 10%
$9,525 $38,700 12%
$38,700 $70,000 22%
$70,000 $160,000 24%
$160,000 $200,000 32%
$200,000 $500,000 35%
$500,000 And up 38.5%
Married Couples Filing Jointly
Taxable income over Up to Marginal rate
$0 $19,050 10%
$19,050 $77,400 12%
$77,400 $140,000 22%
$140,000 $320,000 24%
$320,000 $400,000 32%
$400,000 $1,000,000 35%
$1,000,000 And up 38.5%
Source: Joint Committee on Taxation.

Under both proposals, high-earning married couples earning would see a hefty cut on taxable income in the $480,050-$1,000,000 range, from a marginal rate of 39.6% to 35%. 

Standard Deduction

The House bill would raise the standard deduction to $24,400 for married couples filing jointly in 2018 (from $13,000 under current law), to $12,200 for single filers (from $6,500), and to $18,300 for heads of household (from $9,550).

The Senate version would raise the standard deduction to $24,000 for married couples filing jointly, $12,000 for single filers and $18,000 for heads of household. These and all other changes to individual taxes would be reversed in 2025 in order to comply with reconciliation rules (which allow the GOP to pass the bill with a filibuster-proof simple majority).

Personal Exemption

Both the House and Senate bills would eliminate the personal exemption, which is currently set at $4,150 in 2018. The House would scrap the additional standard deduction for the blind and elderly; the Senate would retain it. The Senate's changes to the personal exemption would be reversed in 2025.

Healthcare Mandate

In a change made to their version of the bill on Nov. 14, Senate Republicans announced they would seek to end the individual mandate, a provision of the Affordable Care Act or "Obamacare" that provides tax penalties for individuals who do not obtain health insurance coverage. (While the mandate would technically remain in place, the penalty would fall to $0.) According to the Congressional Budget Office (CBO), repealing the measure would reduce federal deficits by around $338 billion from 2018 to 2027, but lead 13 million more people to lack insurance at the end of that period and push premiums up by an average of around 10%. Unlike other individual tax changes, the repeal would not be reversed in 2025.

Senators Lamar Alexander (R-Tenn.) and Patty Murray (D-Wash.) proposed a bill, the Bipartisan Health Care Stabilization Act, to mitigate the effects of repealing the individual mandate, but the CBO estimates that this legislation would still leave 13 million more people uninsured after a decade, assuming the Senate's tax bill becomes law.

Inflation Gauge

Both the House and Senate bills would change the measure of inflation used for tax indexing. The Internal Revenue Service (IRS) currently uses the Consumer Price Index for all Urban Consumers (CPI-U), which would be replaced with the chain-weighted CPI-U. The latter takes account of changes consumers make to their spending habits in response to price shifts, so it is considered more rigorous than standard CPI. It also tends to rise more slowly than standard CPI, so substituting it would likely accelerate bracket creep. The value of the standard deduction and other inflation-linked elements of the tax code would also erode over time, gradually pushing up tax burdens.

This shift would be permanent under the Senate bill, rather than expiring in 2025 as with other individual income tax provisions.

Family Credits and Deductions

The House bill would raise the child tax credit to $1,600 from $1,000 and providing filers, spouses and non-child dependents with a temporary $300 credit. Only the first $1,000 of the child tax credit would be refundable initially, but this amount would rise to $1,600 with inflation. The $300 credit would end after five years.

The Senate would raise the child credit to $2,000 – originally $1,650 – with the first $1,000 refundable, and create a non-refundable $500 credit for non-child dependents. The credit would begin to phase out at $500,000 for married couples (not indexed to inflation), a significant increase from the current $110,000 (but a decrease from the original Senate version's $1,000,000). The Senate would also raise the age cap for qualifying children from 17 to 18. These changes would be reversed in 2025. Marco Rubio (R-Fla.) and Mike Lee (R-Utah) are pushing for an amendment to make the credit more generous.

Head of Household

Trump's revised campaign plan, released in 2016, would have scrapped the head of household filing status, potentially raising taxes on a large number of single parents. The House and Senate bills would retain it, but the Senate version would require that paid tax preparers perform due diligence to determine clients' eligibility to file as heads of household, with a $500 penalty for each failure to do so.

Itemized Deductions

The House bill would scrap most itemized deductions, including those for medical expenses and student loan interest. The charitable giving deduction would be left unchanged, as would the mortgage interest deduction for existing homes. New mortgages would be subject to a lower cap: married couples can currently deduct interest on mortgages worth up to $1,000,000; that would fall to $500,000. 

The House an Senate bills would both cap the deduction for state and local property taxes at $10,000 and scrap the deduction for state and local income and sales taxes. The state and local tax (SALT) deduction disproportionately benefits high earners, who are more likely to itemize, and taxpayers in Democratic states. A number of Republican members of Congress representing high-tax states have opposed attempts to eliminate the deduction.

At first, the Senate bill would have entirely eliminated the state and local tax deduction, including the property deduction, but the bill was amended on Dec.1, apparently to win Susan Collins' (R-Maine) vote:

The Senate bill would leave the mortgage interest deduction intact. A number of other itemized deductions would also be eliminated, but the charitable giving deduction would remain in place. 

Alternative Minimum Tax

The House version would repeal the alternative minimum tax (AMT), a device intended to curb tax avoidance among high earners by making them estimate their liability twice and pay the higher amount. The Senate bill would initially have done the same, but it was amended shortly before passage to retain the AMT with a higher exemption.

Retirement Plans

Reports circulated in October that traditional 401(k) contribution limits might fall to $2,400 from the current $18,000 ($24,000 for those aged 50 or older); individual retirement account (IRA) contribution limits, currently $5,500 ($6,500 for 50 or older), may also have been considered for cuts. The House bill would leave these limits unchanged. The Senate would eliminate catch-up contributions to retirement plans by employees who earned wages of $500,000 or more in the previous year.

ESTATE TAX

The house bill would raise the estate tax exemption for single filers to $10 million from $5.6 million in 2018 and repeal the tax entirely after six years, along with the generation-skipping transfer (GST) tax. The Senate would raise the exemption to $11.2 million, but not repeal the tax.

BUSINESS TAXES

Corporate Tax Rate

Both the House and Senate bills would permanently lower the top corporate tax rate to 20% from its current 35% and repeal the corporate alternative minimum tax. The Senate bill would delay the rate cut for one year, however, until 2019. Some Senate Republicans are reportedly pushing for a slightly higher corporate tax rate, perhaps of 22%, in order to fund a higher child tax credit or reduce the bill's impact on the deficit.

Immediate Expensing

The House bill would allow businesses to immediately write off the costs of new equipment, rather than depreciating the value of these assets over time, but the provision would end after five years. The section 179 deduction, which allows small businesses to take a depreciation deduction for certain assets in the year they are bought, would be capped at $5 million, compared to the current $500,000, and the phaseout threshold would rise to $20 million.

The Senate bill would also allow full expensing of capital investments for five years, but phase the change out by 20 percentage points per year thereafter. It would shorten the depreciation schedule for real property to 25 years. Section 179 expensing would be capped at $1 million, and the phaseout threshold would rise to $2.5 million.

Pass-through Income

The House would create a top pass-through rate of 25%. Owners of pass-through businesses – which include sole proprietorshipspartnerships and S-corporations – currently pay taxes on their firms' earnings through the personal tax code, meaning the top rate is 39.6%.

The House bill would introduce rules to prevent abuse of this new low rate rate, assuming that 70% of a pass-through entity's income is compensation subject to personal income tax rates, while 30% is business earnings subject to the pass-through rate. Businesses can prove otherwise, and certain industries – law, health, finance, performing arts – must "prove out" business income in order to qualify for the pass-through rate on any earnings.

The Senate bill would create a 23% deduction for pass-through income – up from 17.4% in the original bill– subject to phase-out. Certain industries, including health, law and financial services, are excluded, unless household income is below $500,000 (for married couples filing jointly). To discourage people from recharacterizing regular wages as pass-through income, the deduction would be capped at half of the entity's W-2 wages. The restriction would not apply to married couples with less than $500,000 in taxable income.

Net Interest Deduction

The House bill would limit the net interest expense deduction on future loans to 30% of Ebitda with a five-year carry-forward. Firms with at least $25 million in revenues would be exempt from the cap, as would real estate companies and some utilities.

The Senate bill would limit the net interest deduction to 30% of earnings before interest and taxes (EBIT) – not EBITDA.

Net Operating Losses

The House bill would limit the deduction of net operating losses (NOL) to 90% of taxable income in a given year, but allow NOLs to be carried forward indefinitely – the current limit is 20 years – while eliminating carrybacks, with exceptions for disasters.

The Senate bill would scrap net operating loss carrybacks and cap carryforwards at 90% of taxable income, falling to 80% in 2024.

Corporate Tax Breaks

The House bill would eliminate a number of business credits and deductions, including the section 199 (domestic production activities) deduction, the new market tax credit, the orphan drug credit and like-kind exchanges.

The Senate bill would eliminate the section 199 deduction.

Cash Accounting

The House bill would extend eligibility to use the cash accounting method to small businesses with up to $25 million in annual gross receipts, from $5 million under current law.

The Senate bill would cap eligibility at $15 million in annual gross receipts.

Foreign Earnings

Both the House and Senate bills would enact a deemed repatriation of overseas profits. Under the House bill, the rates would be 14% for cash and equivalents and 7% for reinvested earnings. Under the Senate bill, they would be 14.5% for cash and equivalents and 7.5% for reinvested earnings. Goldman Sachs estimates that U.S. companies hold $3.1 trillion of overseas profits. As of Sept. 30 Apple Inc. (AAPL) alone holds $252.3 billion in tax-deferred foreign earnings, 94% of its total cash and marketable securities.

Both bills would introduce a territorial tax system. Under the House bill, repatriated dividends and earnings would not be subject to U.S. tax, but 50% of foreign subsidiaries' excess returns (greater than 107% of the short-term applicable federal rate) would count towards U.S. shareholders' gross income. A 20% excise tax would be applied to payments made to foreign subsidiaries. Proponents of these measures argue that – together with the lower corporate tax rate – they will increase American businesses' competitiveness and discourage corporate inversions.

OTHER PROVISIONS

The House bill would alter the rules governing tax-exempt groups such as religious organizations, potentially allowing them to support or oppose political candidates without giving up their tax-exempt status.

Budget Impacts

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Treasury Secretary Steven Mnuchin has claimed that the Republican tax plan would spur sufficient economic growth to pay for itself and more, saying of the "Unified Framework" released by Senate, House and Trump administration negotiators in September:

"On a static basis our plan will increase the deficit by a trillion and a half. Having said that, you have to look at the economic impact. There's 500 billion that's the difference between policy and baseline that takes it down to a trillion dollars, and there's two trillion dollars of growth. So with our plan we actually pay down the deficit by a trillion dollars and we think that's very fiscally responsible."

The idea that cutting taxes boosts growth to the extent that government revenue actually increases is almost universally rejected by economists, and the Treasury has not released the analysis Mnuchin bases his predictions on. The New York Times reported on Nov. 30 that a Treasury employee, speaking anonymously, said no such analysis exists, prompting a request from Sen. Elizabeth Warren (D-Mass.) that the Treasury's inspector general investigate. (See also, Laffer Curve.)

Even the right-leaning Tax Foundation's relatively sympathetic dynamic scores of the Senate and House bills forecast significant increases in the national debt: $516 billion over 10 years under the Senate's version, $1.1 trillion under the House's.

The Joint Committee on Taxation released an analysis (download) on Nov. 30 estimating that the Senate bill would increase the national debt by just over $1 trillion over 10 years. The estimate incorporates a slight boost to economic output, amounting to about 0.8% of GDP, which would offset the expected $1.4 billion increase in the debt (on a static basis).

The left-leaning Tax Policy Center released an analysis on Dec. 1 forecasting a 0.7% boost to GDP in 2018 if the Senate bill became law. That additional growth would fade to zero by 2027, however, and be negligible in 2037.

The amended Senate bill was scored on Dec. 1 by the CBO, which found that it would increase the deficit by $1.4 trillion over 10 years on a static basis.

Automatic Spending Cuts

The idea of a fiscal "trigger," a mechanism to enact automatic tax hikes or spending cuts that some senators have pushed for, was rejected on procedural grounds. The Senate bill could potentially lead to automatic spending cuts anyway, however, as a result of the 2010 Statutory Pay-As-You-Go Act: that law requires cuts to federal programs if Congress passes legislation increasing the deficit. The Office of Management and Budget, an executive agency, is in charge of determining these budget effects. Medicare cuts are limited to 4% of the program's budget, and some programs such as Social Security are protected entirely, but others could see deep cuts. 

Whose Tax Cuts?

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Speaking at a rally in Indiana shortly after the release of a preliminary Republican framework in September, President Trump repeatedly stressed that the "largest tax cut in our country's history" would "protect low-income and middle-income households, not the wealthy and well-connected." He added the plan is "not good for me, believe me." (That last claim is hard to verify, because Trump is the first president or general election candidate since the 1970s not to release his tax returns. The reason he has given for this refusal is an IRS audit; the IRS responded that "nothing prevents individuals from sharing their own tax information.")

Both versions of the Tax Cuts and Jobs Act would cut the corporate tax rate, benefiting shareholders, who tend to be higher earners). The Senate version would only cut individuals' taxes for a limited period of time. Both bills would eliminate the alternative minimum tax, which requires high earners to calculate their liabilities twice and pay the higher amount; scrap the estate tax; reduce the taxes paid on pass-through income (70% of which goes to the the highest-earning 1%); and cut the rate married couples pay on income from $480,050 to $1 million. Neither version would close the carried interest loophole. The Senate would scrap the individual mandate, driving premiums up on Obamacare exchanges.

While it is not certain what form an eventual unified bill would take, these provisions taken together are likely to benefit high earners disproportionately and – particularly as a result of scrapping the individual mandate – hurt some working- and middle-class taxpayers. Yet Senate majority leader Mitch McConnell (R-K.Y.) said on Nov. 4 that no one in the middle class would experience a tax hike:

On Nov. 10 he told the New York Times he "misspoke": "You can't guarantee that absolutely no one sees a tax increase, but what we are doing is targeting levels of income and looking at the average in those levels and the average will be tax relief for the average taxpayer in each of those segments."

According to a JCT analysis released Nov. 16, the revised Senate bill would raise taxes on households making from $20,000 to $30,000 by 13.3% in 2021 and 25.4% in 2027, compared to current law:

The Estate Tax

The House bill would roughly double the estate tax deduction to $10 million, indexed to inflation, and eliminate the tax entirely in six years. Speaking in Indiana in September, Trump attacked "the crushing, the horrible, the unfair estate tax," describing apparently hypothetical scenarios in which families are forced to sell farms and small businesses to cover estate tax liabilities; the 40% tax only applies to estates worth at least $5.49 million. According to TPC, 5,460 estates are taxable under current law in 2017. Of those, just 80 are small businesses or farms, accounting for less than 0.2% of the total estate tax take.

The estate tax mostly targets the wealthy. The top 10% of the income distribution accounts for an estimated 67.2% of taxable estates in 2017 and 87.8% of the tax paid. 

Opponents of the estate tax – some of whom call it the "death tax" – argue that it is a form of double taxation, since income tax has already been paid on the wealth making up the estate. Another line of argument is that the wealthiest individuals plan around the tax anyway: Gary Cohn reportedly told a group of Senate Democrats earlier in the year, "only morons pay the estate tax."

Carried Interest

Neither bill would eliminate the carried interest loophole, though Trump promised as far back as 2015 to close it, calling the hedge fund managers who benefit from it "pencil pushers" who "are getting away with murder." Hedge fund managers typically charge a 20% fee on profits above a certain hurdle rate, most commonly 8%. Those fees are treated as capital gains rather than regular income, meaning that – as long as the securities sold have been held for a certain minimum period – they are taxed at a top rate of 20% rather than at 39.6%. (An additional 3.8% tax on investment income, which is associated with Obamacare, also applies to high earners.) 

Both bills would, however, extend the minimum holding period from one year to three. That change would have no effect on most private equity firms. Senator Tammy Baldwin (R-Wis.) put forward an amendment to close the loophole on Dec. 1, but it was defeated in a party-line vote.

Corporate Taxes

In his Indiana speech Trump said that cutting the top corporate tax rate from 35% to 20% would cause jobs to "start pouring into our country, as companies start competing for American labor and as wages start going up at levels that you haven't seen in many years." The "biggest winners will be the everyday American workers," he added.

The next day, Sept. 28, the Wall Street Journal reported that the Treasury Department had deleted a paper saying the exact opposite from its site (the archived version is available here). Written by non-political Treasury staff during the Obama administration, the paper estimates that workers pay 18% of corporate tax through depressed wages, while shareholders pay 82%. Those findings have been corroborated by other research done by the government and think tanks, but they are currently inconvenient for the institution that produced them. Treasury Secretary Steven Mnuchin sold the Big Six proposal in part through the assertion that "over 80% of business taxes is borne by the worker," as he put it in Louisville in August.

A Treasury spokeswoman told the Journal, "The paper was a dated staff analysis from the previous administration. It does not represent our current thinking and analysis," adding, "studies show that 70% of the tax burden falls on American workers." The Treasury did not respond to Investopedia's request to identify the studies in question. The department's website continues to host other papers dating back to the 1970s. 

What's Wrong With the Status Quo?

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People on both sides of the political spectrum agree that the tax code should be simpler. Since 1986, the last time a major tax overhaul became law, the body of federal tax law – broadly defined – has swollen from 26,000 to 70,000 pages, according to the House GOP's reform proposal. American households and firms spent $409 billion and 8.9 billion hours completing their taxes in 2016, the Tax Foundation estimates. Nearly three quarters of respondents told Pew in 2015 that they were bothered "some" or "a lot" by the complexity of the tax system. 

An even greater proportion was troubled by the feeling that some corporations and some wealthy people pay too little: 82% said so about corporations, 79% about the wealthy. According to TPC, 72,000 households with incomes over $200,000 paid no income tax in 2011. ITEP estimates that 100 consistently profitable Fortune 500 companies went at least one year between 2008 and 2015 without paying any federal income tax. ​There is a widespread perception that loopholes and inefficiencies in the tax system – the carried interest loophole and corporate inversions, to name a couple – are to blame.

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