House of Representatives Passes Repeal of Obamacare Taxes
On May 4, 2017, the House of Representatives narrowly passed the American Health Care Act (AHCA) with a 217-213 vote, with 20 conservative and moderate House Republicans voting against the bill along with every House Democrat. If enacted, the legislation would repeal and replace the Affordable Care Act, also known as Obamacare. It would unwind most of the myriad of tax provisions put into the Internal Revenue Code as a part of the Affordable Care Act, some retroactively, and some over time. The passage of the AHCA in the House is an important first step towards the Republican goal of Obamacare repeal, but it faces an uphill battle as it moves to the Senate where criticisms have been raised by both conservative and moderate Republicans. The debate on health care reform is likely to engage the Senate for at least the next few months, while the House will continue efforts toward the goal of enacting comprehensive tax reform legislation during 2017.
Net Investment Income Tax Repeal Retroactive for 2017
The 3.8% net investment income tax (NIIT) would be repealed for 2017, bringing the top tax rate that applies to capital gains in 2017 back to 20% from 23.8%. The original Republican leadership version of the AHCA called for NIIT repeal starting in 2018, seemingly dimming the prospects for a tax cut for investors for 2017. The effective date was revised through the amendment process to accommodate conservative Freedom Caucus members, reinvigorating the possibility of retroactive NIIT repeal for 2017. President Trump and House and Senate Republicans remain firmly committed to repeal of the NIIT as part of Obamacare repeal. However, it is highly uncertain whether the retroactive effective date would be retained in any future Senate version of the legislation. Investors must continue to take a wait-and-see approach as the ACHA moves forward to the Senate.
Medicare Wage Surcharge Repeal Delayed to 2023
In contrast to the NIIT repeal, the House-passed version of the ACHA significantly delays a tax cut for higher-income employees as compared to the original Republican leadership version of the AHCA. The bill repeals, but not until 2023, the 0.9% Medicare surcharge on wages above $200,000 for individual taxpayers (or $250,000 for joint filers). The original version of the bill called for a repeal of the wage surcharge beginning in 2018, the same time as the NIIT and other taxes. An amendment delayed this repeal, minimizing any chance of a tax cut for high earners this year. High earners may also fall short of realizing a tax cut in comprehensive tax reform legislation due to the expected loss of many deductions. President Trump’s tax reform principles released on April 24, 2017 provide for a 35% top rate, coupled with repeal of itemized deductions other than for mortgage interest and charitable contributions. High earners in certain states may find the tax rate cut to be insufficient in offsetting the impact of the loss of the state and local income and property tax deductions.
Other Affordable Care Act Taxes
The AHCA would unwind most other tax provisions included in the Affordable Care Act, including:
- The $500,000 limitation on executive compensation for health insurers would be repealed starting in 2017.
- The medical device tax would not resume (the moratorium currently lapses after December 31, 2017).
- The increase in the adjusted gross income (AGI) threshold from 7.5% to 10% for the itemized deduction for unreimbursed medical expenses would be repealed and the threshold lowered to 5.8% of AGI starting in 2017.
- The 10% excise tax on indoor tanning services would be repealed after June 30, 2017.
- The onset of the excise tax on high-cost employer plans, known as the Cadillac tax would be further delayed until 2026, resulting in a year longer delay than the original bill.
Removal of Additional Limitations on Employer Plans and Health Savings Accounts
The AHCA would also repeal provisions that trimmed back tax preferences for tax-preferred savings accounts that allow individuals to pay for qualifying out of pocket health care expenses.
- The increased 20% penalty on distributions from a health savings account or medical savings account that are not used for qualified medical expenses would be repealed starting in 2017.
- The $2,500 limitation (indexed) on salary reduction contributions to tax-preferred flexible spending accounts would be repealed starting in 2017.
- The limit on health savings account contributions would be increased to equal the maximum permitted under a high-deductible health plan starting in 2017.
- Catch-up contributions to the same health savings account would be allowed for both spouses of a married couple to the extent eligible starting in 2017.
- The exclusion of over-the-counter medications not prescribed by a physician from qualified medical care reimbursements under employer-provided accident and health plans would be repealed starting in 2017.
Retroactive Repeal of the Individual and Employer Mandates for 2016
- The employer mandate penalty would be reduced to $0 and the individual mandate penalty for failure to have health insurance would be repealed retroactively for 2016. Thus, no penalties would apply related to health insurance mandates for the 2016 taxable year.
- The health insurance premium credits for lower income individuals and eligible small businesses would be repealed for taxable years starting in 2020, and replaced with a new regime. The modified draft of the AHCA recognized the need for an overhaul, but left the design of the new structure to the Senate.
The path to both health care reform and comprehensive tax reform continues to be uncertain, and the timelines for each process are lengthened from the original goals set forth by President Trump and Congressional Republicans. The retroactive repeal of the NIIT to 2017 in the House-passed AHCA keeps alive the possibility that investors may still see a tax rate cut in 2017, from 23.8% to 20% on capital gains and dividends. Even if comprehensive tax reform were to be enacted by the end of 2017, tax rate changes are likely to be prospective, rather than retroactive, and would likely apply starting in 2018 at the earliest. Although the timing is unclear, individuals and businesses should take proactive measures to plan and prepare for lower tax rates on the horizon. Deferral of taxable income into a later period when a lower tax rate may be in effect provides taxpayers with an opportunity to generate a permanent tax savings for items that typically would result only in a benefit via the time value of money. Businesses should consider implementing accounting method changes or elections that would defer income and accelerate deductions. Please contact us if you would like to discuss the impact of legislation and legislative proposals on your business as well as tax planning considerations in advance of tax reform legislation.