While most Americans are keeping an eye on the proposed Republican-led tax reform to determine if they will personally be in the winner’s or loser’s circle when it all shakes out, some savvy investors are looking at the bigger picture.
Outside of the changes to income levels and deductions that are being floated, one notable change to the current tax code involves the proposed corporate tax cuts. For investors who are looking to add to their portfolios or are evaluating their current holdings, considering the consequences of the proposed tax overhaul makes sense.
How Will Corporations be Impacted?
The proposed corporate tax cuts are not created equal for all industries, which will create winners and losers at the corporate level.
The Trump administration’s tax plan for 2018 could have a long-lasting impact on company earnings and valuations due to several reported features that are – at least currently – included in the proposed legislation. Three of those features include a reduction in corporate taxes, “repatriation” of foreign profits for U.S. companies, and a change in how companies expense capital investments.
Corporate Tax Reductions
The plan currently approved by the U.S. House of Representatives reduces corporate taxes from 35% to 20%. This would immediately free up cash for many corporations. What will those companies do with the extra money? Some obvious choices might be investing in the corporation’s infrastructure or making acquisitions, increasing dividends to shareholders, or making stock buybacks – all of which could benefit shareholders. However, this proposal comes with the loss of some current tax breaks for corporations, such as the ability to write off debt interest; this change could significantly impact corporations (especially ones that are highly leveraged).
Repatriation of Foreign Profits
The repatriation proposal in the tax reform bill allows U.S. companies to bring back profits made outside the United States at a proposed 12% tax rate. The Trump administration anticipates this enticement will contribute to jobs and economic growth. Certainly U.S. companies with a large foreign presence could return cash to the United States and use it for new investments, special dividends or other balance sheet-improving activities, which could benefit shareholders. However, the question is whether this tax rate represents enough incentive—or if the proposed rate will even survive the process to turn into law.
Expensing Capital Investments
Gaining the ability to immediately write off capital investments, rather than following a set depreciation schedule, is also currently proposed. This would generally be a boon for companies with high capital expenses. However, this proposal appears to be very much in flux largely because of the immediate cost of the proposal, which has some opponents concerned.
While the tax picture for companies is apparently changing dramatically—and savvy investors may be able to reap the benefits—the legislation is very fluid. We do not know what current proposals will make the final legislation, or if there will even be final legislation. Additionally, if tax reform becomes a reality, any finalized corporate changes will impact entire industries and individual companies in vastly different ways. However, it makes sense for investors to immediately add this new twist to the criteria they currently use when valuing current holdings in an investment portfolio or before making new investment decisions.
A professional financial advisor can help you assess how the pending tax-reforms may impact your investment portfolio, as well as to your personal financial circumstances.
This blog is for informational purposes only; we are not in the business of providing tax or legal advice and we generally recommend seeking the advice and counsel of a tax professional before taking any action that may cause a material taxable event.
Andrew Wagner, CFP®
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