Tax Reform Wage Gain Failure & the 20% Passthrough Deduction Mess

For MANY reasons, I am not a fan of the tax reform bill that was passed by Congress at the end of 2017. To summarize my dislike, it dramatically redistributes wealth to the top 1% in the form of income rate cuts to the top marginal brackets, a doubling of the estate tax exemption to $22.4 million, and a dramatic corporate tax cut from 35% to 21%.

Meanwhile, it blows a $2.3 trillion hole in the deficit, and when paired with massive spending increases, the annual budget deficit will likely pass $1 trillion next year (more than double just 3 years ago). It is classic “trickle down economics“, funded by a raiding of the U.S. Treasury by those who do not need it.

The bill was sold to the American public through the promise of 2 oft-repeated benefits:

  1. Wage growth: we’ll give corporations tax cuts and they’ll pass those on directly to workers.
  2. Ease of filing: this bill will make filing taxes much simpler (“Look, a postcard!”).

How has it performed on those 2 points? Let’s take a look…

Real Wages Have Declined Since Passage

The early results are in on wage growth – and its not good. The large majority of the tax savings have not gone to workers, but instead have been funneled to the corporate investor class. Companies have authorized $754 billion worth of stock buybacks so far this year, and that total is expected to surpass $1 trillion by end of year (the previous annual record was $589 billion in 2007).

Stock buybacks typically benefit investors (the most significant of which are the executives at the companies doing the buying back). 84% of corporate stock is owned by just 10% of Americans and the richest 1% own 40%. Interestingly enough, the stock market has gone up less than 5% this year as stock valuations were already approaching all time highs simply in anticipation of this bill passing.

Meanwhile, nominal wages are flat, and inflation-adjusted wages have actually declined since the bill was passed.

real wages 2018

In other words – a few at the very top have gotten notably richer, but nobody else has seen a windfall (while the deficit has greatly expanded future debt obligations). Wage growth has just not materialized, as is the case with every prior trickle down experiment.

The “20% Passthrough Deduction” Makes Filing More Complicated

Then there’s the “simplifying the tax code” argument. While less Americans will itemize their taxes, due to a higher standard deduction, the tax code was not made any simpler otherwise. Sadly, no postcards. In fact, the new passthrough deduction significantly complicates the tax code.

With 1040 schedule C reported income from the earnings of this site, I’ve been coming up mostly empty since January when looking for more information to figure out if the income I earn will be eligible for the 20% deduction (aka the “199A deduction”) that was carved out for passthrough businesses, such as partnerships, LLCs, trusts, and S corps.

To that end, more than 7 months from the bill’s passing, the IRS has finally released 184-pages of proposed passthrough deduction regulations and interpretations. I’ve become fairly skilled at digging through IRS documentation to try to interpret the impact of changes, but this thing is a huge mess. In fact, it’s so bloated and complicated, that one has to wonder if that was the whole point. In other words, only those with significant enough resources to hire tax professionals to interpret the law will be able to claim the deduction.

It’s also clear that the new rule picks winners and losers, without justifications. For example, it explicitly excludes specified service trades or business (SSTB), which includes a trade or business involving the performance of services in the fields of health, law, accounting, actuarial science, performing arts, consulting, athletics, financial services, investing and investment management, trading, dealing in certain assets or any trade or business where the principal asset is the reputation or skill of one or more of its employees. But this exception only applies if a taxpayer’s taxable income exceeds $315,000 for a married couple filing a joint return, or $157,500 for all other taxpayers.

And anyone “performing services as an employee” is completely excluded from the deduction.

Economists estimate that nearly 70% of pass-through income flows to the top 1% of American earners and the Congressional Joint Committee on Taxation estimates that this deduction will primarily benefit those earning $1 million plus. This deduction is a further raiding of the Treasury to benefit the wealthiest among us.

Whether I get the deduction or not, this deduction and the broader bill is clearly taking us in the wrong direction. It creates massive loopholes and windfalls for passive income earners. Nobody who relies heavily on W2 income should be happy about this. And all of this could have been prevented if those passing tax legislation would have directed all of the tax cuts right to those who need it the most and would have injected most of it right back into the economy – the working class.

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