The new tax law enacted in December 2017 includes a number of provisions that directly impact banks. This list highlights eight of those provisions and provides some information on the changes. Some of these changes are already effective, and others represent tax-planning matters for 2018.
1. Reduction of corporate tax rate
Summary of change: The new law replaces the progressive corporate tax rate structure with a flat 21 percent tax rate.
Impact: The corporate rate reduction will reduce the tax that banks organized as C corporations pay on their earnings. The effect will also flow through to a bank’s income statement, as federal income tax expense will be calculated at the lower rate.
The new law was enacted before Dec. 31, 2017, so C corporation banks revalued deferred tax assets in December 2017 to reflect the new 21 percent rate. Affected banks with a net deferred tax asset took a hit to financial statement income in 2017 because the value of the net asset was written down, while those with a net deferred tax liability had a boost from the reduction that resulted from valuing the liability at the lower tax rate.
Effective date: The 21 percent tax rate is effective Jan. 1, 2018, for purposes of tax provision calculations.
2. Lower dividends received deduction
Summary of change: The new law lowers the dividends received deduction for 20 percent-owned corporations to 65 percent. It also lowers the dividends received deduction for corporations owned less than 20 percent to 50 percent.
Impact: Even though the dividends received deduction is reduced, the reduction in the corporate tax rates results in corporations paying the same effective tax rate on dividends under the new law. While banks are not ultimately harmed as a result of this change, they will not receive the full benefit of the decrease in corporate rates on this source of income.
Effective date: All tax years beginning after Dec. 31, 2017.
3. Corporate alternative minimum tax (AMT) elimination
Summary of change: The new law repeals the corporate AMT.
Impact: AMT credits that were generated under the old law can still be utilized to offset a taxpayer’s regular tax liability. For tax years 2018, 2019, and 2020, corporate taxpayers whose credit carryovers exceed their regular tax liability will be eligible to receive a refund for 50 percent of the excess in that particular year. If there are any remaining AMT credits in 2021, they will be fully refunded.
Effective date: All tax years beginning after Dec. 31, 2017.
4. Net operating loss (NOL) deduction modified
Summary of change: NOL carrybacks will no longer be generated in tax years ending after Dec. 31, 2017. NOLs generated in tax years beginning after Dec. 31, 2017, can be carried forward indefinitely, as opposed to the 20-year limit under prior law. In addition, the new law limits the NOL deduction for a given year to 80 percent of taxable income for losses arising in tax years beginning after Dec. 31, 2017.
Impact: If NOLs are generated in future years, the lack of an expiration date may impact the determination of whether a valuation allowance is necessary on the related deferred tax asset. However, once the NOL carryforward is utilized, the 80 percent limitation will come into play. NOLs carried forward from tax years ending prior to Jan. 1, 2018, will not be affected by the new law.
Effective date: All tax years beginning after Dec.31, 2017.
5. Pass-through entity deduction
Summary of change: The new law generally allows an individual (including a trust or estate) a deduction for 20 percent of the domestic income from a partnership, S corporation, or sole proprietorship. The deduction is subject to certain limitations based on wages paid by the business.
This deduction is generally not available if the business performs services such as:
- Financial services
- Brokerage services
- Investing and investment management
- Trading, or dealing in securities, partnership interests, or commodities
Taxpayers, for example, shareholders of S corporation banks, who own interests in these types of businesses may still qualify for the deduction if their income is less than $315,000 for married individuals filing a joint return or $157,000 for others.
Impact: Banks are not specifically excluded under this rule, but it is possible that shareholders of S corporation banks will be impacted given the nature of the businesses referenced above. It is anticipated that the IRS will issue guidance clarifying this issue.
Effective date: All tax years beginning after Dec. 31, 2017. Set to sunset for years beginning after Dec. 31, 2025.
6. Expensing of depreciable assets
Summary of change: The new law has expanded a taxpayer’s ability to deduct, for tax purposes, depreciable business assets in the year of acquisition. The first change is the expansion of the Section 179 deduction limitations from $510,000 to $1,000,000. The benefit is reduced dollar-for-dollar if the cost of Section 179 property placed in service in a tax year exceeds $2.5 million.
In addition, the new law increases the bonus depreciation deduction from 50 percent to 100 percent of value placed in service for assets acquired after Sept. 27, 2017. Used property will also now qualify for bonus depreciation. Beginning in 2023, the bonus depreciation percentage is reduced to 80 percent and then by 20 percent each year until 2027, when bonus depreciation will be eliminated.
Impact: Banks can lower their taxable income by deducting assets that are eligible for the increased accelerated depreciation rules. C corporations that use the 100 percent bonus depreciation for assets acquired between Sept. 28 and Dec. 31, 2017, will gain an additional benefit. As a result of the new 21 percent corporate rate that is effective in January 2018, they can shift what would otherwise have been a timing difference into a permanent tax savings of up to 14 percent.
Effective date: Property placed in service in tax years beginning after 2017 for the increased Section 179 limitations. Property placed in service after Sept. 27, 2017, for property eligible for the increased bonus depreciation percentage.
7. Entertainment expenses deduction limited
Summary of change: Businesses can no longer claim a tax deduction for entertainment, amusement or recreation expenses, or with respect to any facility used in connection with such activity. Deductions are also prohibited for amounts paid for membership in any club organized for business, pleasure, recreation, or social purpose.
The new law retains most of the old rules related to the 50 percent meals (food and beverage) deduction associated with a trade or business. It does change the treatment of certain meals provided by an employer from a 100 percent deduction under prior law to only being 50 percent deductible under the new law. Meals provided to employees as a de minimis fringe benefit are now subject to the 50 percent limitation.
Impact: With the change in deductibility for meals and entertainment, banks may want to reconsider spending activities in these areas. Banks will also need to consider changes in how these expenses are tracked to help with tax reporting at the end of the year.
Effective date: This is for amounts incurred after Dec. 31, 2017.
8. Income recognition timing for tax purposes
Summary of change: The new law indicates that accrual basis taxpayers must recognize revenue for tax purposes no later than when the item was recognized as revenue for financial statement purposes. This requirement will generally not be applicable to income earned in connection with a mortgage servicing contract or an item for which the taxpayer uses a special method of accounting provided for in the tax code.
Impact: Fortunately, mortgage servicing contracts are scoped out of this rule. However, there are still plenty of banking activities that will be subject to it. Banks need to look at items for which they currently defer tax revenue to determine if the new law will require that revenue for tax purposes to be accelerated.
Effective date: All tax years beginning after Dec. 31, 2017.
Banks should consider these tax reform implications early in 2018, as some of the tax benefits are already available. Many provisions will also require additional guidance from the Treasury and the IRS in the form of regulations, revenue rulings, and revenue procedures. For more information on how these provisions may affect your bank, please give us a call.
