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How Does the “2017 Tax Cut and Jobs Act” Affect YOU in 2020?

Posted on October 30th, 2020

Jack Kern
Owner, President
Outsourced Accounting Department, Inc.

So first, how does the The 2017 “Tax Cut and Jobs Act” affect small businesses?  Let’s take a look.  Assume the following:

  • You and your spouse are 50% owners in your Sub-Chapter S (1120S) business.
  • Each of you takes a $25,000 annual salary
  • The Net Income of the business is $50,000, so each of you reports 50% of the business Net Income on your K-1 on your personal (1040) tax return.
  • You do not have enough deductions to itemize on your tax return, so can take only the standard deduction.

Based on the above assumptions, here is what your tax liability would have been in 2017:

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Based on your total gross income of $100,000 (salaries plus net income), and the standard deduction in 2017 of $12,700 and 2 exemptions of $4,050 (total of $20,800) for a married couple filing jointly, your taxable income becomes $79,200, resulting in taxes due of $11,278.

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Now, in 2020, not only were tax rates reduced in all tax brackets, but the standard deduction was increased to $24,800 for a married couple filing jointly, while the exemptions were eliminated.  Also, for small businesses, an additional credit is available based on of 20% of business net income.  In this case based on the above assumptions, this credit would amount to $10,000, resulting in Taxable Income of $65,200, and taxes due of $7,429, or a decrease in taxes of $3,849 from 2018.

But what if you don’t own a business, how would the tax cuts affect you?  Assume now that you each have an annual salary of $50,000, so total gross income of $100,000:

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Your taxable income is now $75,200, resulting in taxes due of $8,629, or a decrease of $2,649 from 2017 (that’s nearly $8,000 over 3 years, 2018 through 2020!).

Clearly, this tax cut act does benefit both small businesses and individuals, just something to consider as we approach the mid-term elections.  As to how tax cuts affect the economy, obviously, it depends on who you ask.  But below are some charts created from historical government statistical data.

Related Articles and Statistical Data:

Whose Income is K-1 Income Anyway, Mine or My Business’?

The Effect of Business Taxes on Job Growth

The Effect of Taxes on Businesses and the Economy

 


The Effect of Business Taxes on Job Growth

Posted on October 19th, 2020

Jack Kern
Owner, President
Outsourced Accounting Department, Inc.

As most are aware, presidential candidate Joe Biden has proposed raising individual income tax back up from 37% to 39.6% for individuals with income above $400,000, plus increases in capital gains, and payroll taxes. He is also proposing increasing the corporate income tax rate from the 21% established under the 2017 Tax Cuts and Jobs Act, to 28%. For purposes of this article, I will focus on the income tax component only.

The question is, what effect do such tax increases have on businesses, and in turn, job growth? As I have discussed in numerous articles, profit is a component of cash flow which is required to support sales growth, fund capital expenditures for plant and equipment, repay debt, and many other “after-tax” expenditures. Thus, it is also a determinant of a company’s ability to raise capital and obtain bank and other types of loans.

So what happens to profit and cash flow as a result of paying income tax?  Let’s take a look.  Say a company, in this case a C-Corporation, has the ability increase sales by a whopping 153% in one year (it happens), and the business is taxed at the current 21% rate:

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Note that its tax liability in the above example is around $246,000. Now assume that the corporate tax rate is increased to 28%:

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The company’s tax liability has now increased by $81,000 to around $327,000. To put this into perspective, now say it typically hires direct labor employees at an hourly rate of $15.00, times 40 hours a week, times 52 weeks = $31,200 per year. So (at the risk of over-simplification) that $81,000 is equivalent to approximately 3 employees who will either not be hired or may be laid off.

Of course, businesses will always have to pay taxes, the point of the above being that when the government is fooling around with corporate tax rates, it’s tampering with people’s jobs as well.  So it’s not “free” money just because a business is paying it rather than an individual.

Now with the respect to the tax increase to individuals, one major item that Biden’s tax plan does not really explain is whether that $400,000 also includes “pass-through” taxes on the net income from a small business owned by that individual. This is how most small businesses are taxed, at the personal income tax level of the owner.  Again, that money is needed by the business to operate and grow, so in most cases, the profit never even leaves the business. It’s just taxed on the individual’s 1040 tax return and included in his or her Adjusted Gross Income. If it is included in Biden’s tax plan, then these business profits would be taxed at the higher 39.6% rate (ignoring the effect of the 20% Qualified Business Deduction that was also part of the 2017 Tax Cut and Jobs Act).

To sum up, according to the The Tax Foundation’s article, Joe Biden – 2020 Tax Plan, “Biden’s tax plan would reduce the economy’s size by 1.47 percent in the long run. The plan would shrink the capital stock by just over 2.5 percent, and reduce the overall wage rate by a little over 1 percent, leading to about 518,000 fewer full-time equivalent jobs.”

Related Articles:

The Effect of Taxes on Businesses and the Economy

How Does the 2017 Tax Cut and Jobs Act Affect YOU?

Which Type of Business Entity Should I Choose? 

Whose Income is K-1 Income Anyway, Mine or My Businesses’?


The Effect of Taxes on Businesses and the Economy

Posted on October 18th, 2020

Jack Kern
Owner, President
Outsourced Accounting Department, Inc.

Do tax cuts work?  Critics say no, it only increases the deficit.  Proponents say yes, lower taxes enable individuals and businesses to spend more money which, in turn, also increases tax revenues and, therefore, reduces, not increases, the deficit.  To find out who is (more or less) right, let’s take a look at some historical government statistics.

First to be clear, the tax rates I am referring to in this article are the individual tax rates charged on the 1040 tax return. This is because, as I have discussed in previous articles, most small businesses are set up as either an LLC (i.e., sole proprietorship or partnership) or S-Corporation for tax purposes, both of whose taxes are “passed through” to the owner’s personal tax return at individual tax rates. (I will discuss corporate (C-Corporation) tax rates in a subsequent article.)

Of course there are a multitude of factors that affect the economy and deficit. But in terms of the government’s role, there are two primary policies it has at its disposal to affect the rate of economic growth, and in turn, unemployment and inflation: Fiscal Policy which is controlled by Congress and the President, and deals with tax rates, government regulation, and government spending; and, Monetary Policy which is managed by the Federal Reserve, and deals with interest rates and the supply and demand for credit through the banking system.

The Kennedy Administration was one of the first to advocate tax cuts as a means of stimulating the economy (chart-Kennedy)). Later during the Carter Administration, the economy was plagued both double digit inflation and unemployment, which President Carter described as “the misery index” and blamed it on a “malaise” on the part of the American people (chart-Carter). Doubting this, the Reagan Administration subsequently used tax cuts again to stimulate the economy, this time significant cuts, as well as reduced government regulations, which became known as “Supply-Side Economics” (dubbed by critics as “Trickle Down Economics”) (chart-Reagan).

Note the pattern between lower taxes and the declining unemployment rate between these three charts. There certainly would appear to be a correlation between those two statistical trends.

But did the lower tax rates actually stimulate economic growth, or was the lower unemployment rate just a coincidence?  In other words, what was the effect on the Gross Domestic Product (or GDP, the measure of the U.S. economy)?  The next chart is a comparison of tax rates to the GDP during the Reagan Administration (chart-Reagan GDP). It indicates there does seem to be a direct relationship between the two, especially in 1984 when GDP jumped 7.9% shortly after the tax cuts, and averaged nearly 5% through the end of the Reagan term.

Now, let’s look at the Obama Administration. Ignoring where the unemployment rate started (which is the topic of a whole different discussion), the unemployment rate steadily declined over the eight-year period, and despite a tax increase in 2013 (chart-Obama).  But what about the GDP during the Obama Administration? A comparison of tax rates to GDP indicates that the GDP was barely increasing as compared to the Reagan era above, hovering around 2 percent throughout most of the eight-year period (chart-Obama GDP). So it would seem based on this chart that there is a strong correlation between tax rates and the GDP.

In contrast, the increase in tax revenues under the Reagan Administration (see again above chart) ranged from 4.8% to over 11%, averaging 6.8% following the earlier tax cuts. And this included another jump in tax revenues in 1987 after additional tax cuts were enacted, reducing the top tax rate from 50% to 38.5%. So this increase in tax revenues can only be explained by economic growth.  And sooner or later, this also has to produce jobs.

Related Articles:

Big Government or Free Markets – Which Works Best?

How Does the 2017 Tax Cut and Jobs Act Affect YOU?

Which Type of Business Entity Should I Choose? 

Whose Income is K-1 Income Anyway, Mine or My Businesses’?

 


How Does The 2017 “Tax Cut and Jobs Act” Affect YOU?

Posted on November 4th, 2018

Jack Kern
Owner, President
Outsourced Accounting Department, Inc.

So first, how does the The 2017 “Tax Cut and Jobs Act” affect small businesses?  Let’s take a look.  Assume the following:

  • You and your spouse are 50% owners in your Sub-Chapter S (1120S) business.
  • Each of you takes a $25,000 annual salary
  • The Net Income of the business is $50,000, so each of you reports 50% of the business Net Income on your K-1 on your personal (1040) tax return.
  • You do not have enough deductions to itemize on your tax return, so can take only the standard deduction.

Based on the above assumptions, here is what your tax liability would have been in 2017:

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Based on your total gross income of $100,000 (salaries plus net income), and the standard deduction in 2017 of $12,700 and 2 exemptions of $4,050 (total of $20,800) for a married couple filing jointly, your taxable income becomes $79,200, resulting in taxes due of $11,278.

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Now, in 2018, not only were tax rates reduced in all tax brackets, but the standard deduction was increased to $24,000 for a married couple filing jointly, while the exemptions were eliminated.  Also, for small businesses, an additional credit is available based on of 20% of business net income.  In this case based on the above assumptions, this credit would amount to $10,000, resulting in Taxable Income of $66,000, and taxes due of $7,539, or a decrease in taxes of $3,739 in 2018.

But what if you don’t own a business, how would the tax cuts affect you?  Assume now that you each have an annual salary of $50,000, so total gross income of $100,000:

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Your taxable income is now $76,000, resulting in taxes due of $8,739, or a decrease of $2,539 from 2017.

Clearly, this tax cut act does benefit both small businesses and individuals, just something to consider as we approach the mid-term elections.  As to how tax cuts affect the economy, obviously, it depends on who you ask.  But below are some charts created from historical government statistical data.

Related Articles and Statistical Data:

Whose Income is K-1 Income Anyway, Mine or My Business’?

Tax Rates vs. Unemployment – 1990s

Tax Rates vs. Unemployment and Inflation – 1980s

Tax Rates vs. Unemployment and Inflation – 1970s

Tax Rates vs. Unemployment and Inflation- 1960s