How good is the tax cut for small business? Depends on who you ask
Six months ago, President Trump vowed that his sweeping tax reform would “bring back Main Street” by slashing taxes on small businesses.
Now that the plan is law, small firms’ enthusiasm for the changes depends on which side of Main Street they find themselves.
The vast majority of larger small businesses with income upwards of $200,000 will tangibly benefit from the legislation, and many are already sharing their windfall with employees and ramping up capital investment. And while most smaller enterprises will come out ahead as well, their gains are marginal in many cases and advocacy groups are divided over whether Trump fulfilled his promise.
Representatives on both sides agree on one thing: The law will make filing more complicated for small businesses, rather than simplifying the burden as originally intended. The law affects taxes on 2018 earnings that will be paid early next year.
The National Federation of Independent Business, the largest small business trade group, resoundingly supports the changes.
“We think it’s really going to be a significant benefit for our members,” says Brad Close, NFIB’s senior vice president of public policy. Eighty percent of its members have fewer than 10 employees.
In February, NFIB’s small business optimism index rose to near record levels, the group said this week. “The historically high readings indicate that policy changes – lower taxes and fewer regulations – are transformative for small businesses,” says NFIB CEO Juanita Duggan. “
The tax reform broadly helps firms called “pass-throughs” that report their business profits as personal income on their individual returns. About 80% of small businesses file their taxes that way. The tax legislation cuts their taxes chiefly in two ways.
First, individual rates are reduced, with the top rate falling to 37% from 39.6%. More important, pass-through businesses can deduct 20% of their income for tax purposes, though the savings are trimmed above certain thresholds for higher income enterprises.
Businesses can also deduct capital spending more rapidly from their income. Under one provision, the amount that can be written off the first year will rise from $500,000 to $1 million. Another method that places no cap on the investment’s value increases the portion that can be deducted immediately from 50% to 100%.
Brian Newman, tax partner at CohnReznick, says small businesses of all sizes will gain from the reform, and it’s no surprise that larger ones will reap bigger benefits since they have more income and pay more taxes.
“They employ more people, they buy more assets, they’re really the drivers of the economy,” he says.
Jack Mozloom, senior vice president of Job Creators Network, which represents entrepreneurs both small and large, says of the tax cuts, "It's hard to imagine why anyone would oppose them...Where's the downside here?"
Joseph Semprevivo, owner of Joseph’s Lite Cookies of Sebastian, Fla., sells sugar-free cookies in stores such as Big Lots and Dollar Tree as well as overseas and online. This year, he and his wife, Memory, expect to earn more than $600,000, but they’ll pay taxes at a 37% rate rather than the prior 39.6%, saving more than $10,000, Semprevivo says. And they can deduct up to 20% of their income, though that amount may be limited based on a formula for pass-throughs with more than $415,000 in joint income. He expects to net $30,000 in savings from that provision.
“This is huge,” Semprevivo says of the total windfall. “It’s a beautiful thing.”
As a result of the tax savings, he gave raises of $3,250 to $5,100 to each of his eight employees. “We want to reward our team members for standing by our side,” he says. “We want to retain them.”
Semprevivo also plans to spend $10,000 to upgrade a conveyor system to make it more reliable, and another $8,000 to print some labels in Mandarin for shipments to China — expenditures he says he wouldn’t have made without the more lenient tax treatment.
And he says he’ll buy a new warehouse for Southeast distribution and hire four employees to run it, using money he otherwise would have set aside during the year for a bigger tax bill.
But another advocacy group, Small Business Majority, says Semprevivo represents the exception, not the rule. The average small business with about $75,000 in profits will realize a modest typical benefit of about $1,800, the group says. Some may even be worse off because the reform scraps the deduction for entertainment expenses and caps the write-off for state and local property and income taxes at $10,000.
“The bulk of the benefit is not going to Main Street small businesses,” such as restaurants, retailers and small manufacturers, says Small Business Majority CEO John Arensmeyer. Rather, he says, doctors, lawyers and accountants with large incomes but few employees are among the pass-throughs who will net the biggest gains. Even wealthy investors in real estate trusts can file as pass-throughs to reap the savings. And most small businesses, he says, are not making capital investments that are large enough to yield benefits.
Overall, 55 percent of the tax savings will go to the top 2.6 percent of pass-through businesses with the largest incomes, Small Business Majority estimates. Arensmeyer suggests the law could have granted businesses flat deductions of $25,000, skewing the gains to smaller firms that need a boost.
Mike Roach, owner of Paloma Clothing, a women’s boutique in Portland with annual profits of $50,000 to $100,000, says his accountant told him he may save a couple of thousand dollars, come out even or lose a small amount. “The reality for working stiffs like us is it may help a little,” says Roach who co-owns the 14-employee store with his wife, Kim Osgood. But he opposes the tax law.
“I can’t see going to the trouble of adding a trillion and a half dollars to the country’s debt so businesses like ours can have a couple more thousand dollars.”
Something everyone can agree on
Roach, Newman, the accountant, and NFIB’s Close all agree the law will make filing more arduous. For example, it gradually phases out the 20% reduction for service businesses earning from $157,500 to $207,500 (as single filers) or above. And it caps the write-off for other businesses earning more than $207,500 at half of total employee wages or 25% of wages plus 2.5% of the “unadjusted tax basis” of business assets. Whew!
“Small businesses don’t like confusion,” Roach says, adding that he expects his accountant to increase his fees. “It rubs a lot of us the wrong way.”