The Tax Cuts and Jobs Act (TCJA), signed into U.S. law in December 2017, represents the most significant tax reform in over 30 years.
By lowering business and individual tax rates and redesigning U.S. international tax rules, the TCJA brings many implications for asset managers, investment managers, insurance companies and businesses overall. While the full impact may take several years to materialize, some of the act’s sweeping changes will prompt swift decision-making.
At BNY Mellon, we are committed to helping our clients understand regulatory changes and to supporting their evolving needs. While many firms consider how they adapt to the TCJA’s new rules, we stand ready to work together with our clients, their tax preparers and auditors in order to smooth the path toward implementation.
Below, we highlight some of the most significant provisions likely to affect our clients. Please be sure to bookmark this page as we will continue to update it with new information and commentary.
Key Provisions of the U.S. Tax Cuts and Jobs Act
- Reduction of corporate income tax rate from 35 percent to 21 percent. Most asset and wealth managers will benefit from this permanent reduction and see a boost to their pre-tax operating income. Individual investors benefiting from individual tax cuts are also expected to increase investment and savings activity, further boosting asset management players.
- Lowered toll charge for repatriated capital. Firms are now required to pay a one-time tax of 8 percent to 15.5 percent on untaxed overseas earnings. This is a reduction from the previous rate of as much as 35 percent. Managers and portfolio companies must determine the amount and impact of this repatriation toll charge. The availability of cash may affect companies’ debt strategies.
- Treatment of pass-through entities. Business income from pass-through entities attributable to individual taxpayers will now be taxed at individual tax rates less a deduction of up to 20 percent. Businesses may wish to evaluate their structure as corporations or pass-through entities in light of this change and the reduction in the corporate rate.
- Extension of carried interest holding period. The favorable tax treatment of carried interest remains in place, but the holding period to qualify for long-term capital gains treatment is extended from one year to three years. Because of the nature of their investment strategies, this provision is likely to affect hedge funds in particular, especially activists.
- New provisions for Regulated Investment Companies (RICs). The TCJA reduces the tax rate for retained capital gains of a RIC. Additionally, a RIC, as a corporation, will not qualify for the 20 percent deduction on pass-through income, earned from underlying investments.
- Favorable treatment of dividends from real estate investment trusts (REITs). Individual REIT shareholders can now deduct 20 percent of REIT dividend income. The TCJA effectively reduces the federal tax rate (not including net investment income tax) on ordinary REIT dividends from 37 percent to 29.6 percent for individual taxpayers. As a result, REITs may become more attractive to investors. The withholding tax rate on REIT capital gain distributions is reduced from 35 percent to 21 percent.
- Modification of deductions
- Businesses now have a limitation on business interest expense deduction. The limitation would be on net interest expense that exceeds 30 percent of adjusted taxable income. Disallowed interest expense amounts could be carried forward under certain rules.
- Corporations that receive dividends from other corporations are entitled to a deduction for dividends received, which is being reduced from 70 percent to 50 percent (and from 80 percent to 65 percent in certain cases) to reflect the lowering of corporate income tax rates
- For individuals, several itemized deductions are eliminated but tax incentives for home mortgage interest and charitable contributions are retained in modified form. The standard deduction is almost doubled but personal exemptions are repealed. The state and local tax deduction is repealed, except for up to $10,000 in real estate and income (or sales) taxes. This may lead principals of privately held managers in high-tax states to consider relocating.
Issues that Firms May Consider in Response to the TCJA
- FX and cash management strategies
- Debt financing and restructuring
- Review of investment strategies and asset allocation
- Business entity and compensation structure
- Geographic location of business operations
This material is provided for illustrative/educational purposes only. This material is not intended to constitute legal, tax, investment or financial advice. Effort has been made to ensure that the material presented herein is accurate at the time of publication. However, this material is not intended to be a full and exhaustive explanation of the law in any area or of all of the tax, investment or financial options available. The information discussed herein may not be applicable to or appropriate for every investor and should be used only after consultation with professionals who have reviewed your specific situation.