Overview of The TCJA Effects Tracker
Brief overview of TCJA
The Tax Cuts and Jobs Act (TCJA) of 2017 enacted sweeping reforms of the United States tax system for both corporations and individuals. Major changes due to the TCJA include:
Corporate Tax Changes:
The TCJA decreased the corporate tax rate from 35% to 21% and eliminated tax on dividends US multinational corporations receive from foreign subsidiaries. TCJA also instituted a one-time transition tax of up to 15.5% on all previously untaxed foreign earnings and enacted a number new provisions intended to curb US tax base erosion. The TJCA limited deductible interest to 30% of adjusted taxable income and reduced the dividends received deductions to 50% of dividends received from other taxable domestic corporations and 65% of dividends received from a 20%-owned corporation . For most businesses, the TCJA repealed the ability to carryback losses, but allowed losses to be carried forward indefinitely. The net operating loss deduction is now limited to 80% of taxable income.
The TCJA revised cost recovery and accounting methods used by firms including a temporary provision allowing equipment to be fully and immediately expensed through 2022.
Individual Tax Changes:
The TCJA adjusted the seven income tax brackets from 10%, 15%, 25%, 28%, 33%, 35%, and 39.6% to 10%, 12%, 22%, 24%, 32%, 35%, and 37% respectively. The new legislation repealed many personal and dependent tax exemptions, increased the child tax credit, and created a $500 tax credit for dependents not eligible for child tax credit.
The TCJA changed standard and itemized deductions by increasing the standard deduction for married couples filing jointly, single filers, and heads of households, limiting itemized deductions for all state and local taxes to $10,000 annually, repealing itemized deductions for miscellaneous expenses, and capping mortgage interest deductions. The TCJA instituted a 20% deduction cap for pass through income, and increased gift and estate tax exemptions.
Empirical Academic Studies
As firms adjust to the new tax code, academic literature has begun to investigate the effects of this legislation plus address questions that developed during the tax reform debate. Below, we outline some of the major themes and findings of these preliminary studies. Click on the citation to be taken directly to the research article.
Corporate Compensation, Worker Compensation and Pension Contributions:
The TCJA has implications for compensation and benefits for company executives and workers. These changes have allowed researchers to learn more about the relationship between corporate taxes and compensation.
Specific to executives, the TCJA repealed an exception allowing publically traded companies to deduct executives’ qualified performance-based annual compensation in excess of $1 million. Since many CEOs receive fixed wages close to $1 million, the change in the exception was expected to increase the after-tax cost of performance-based compensation such as cash bonuses and stock compensation. However, De Simone, McClure & Stomberg (2019) found no empirical evidence that affected firms changed total executive compensation, compensation mix, or pay-performance sensitivity as a result of the new legislation. They surmise that “these findings suggest Congress may have structured the law inefficiently or that Treasury delayed guidance for too long, potentially causing delays in firms’ responses.”
Although the Simone et al. study did not find evidence of CEO pay changes due to the act, there is evidence to suggest that some workers saw positive impacts, although some of these benefits are short-term. According to a study by Hanlon, Hoopes & Slemrod (2018), firms with larger expected tax savings due to TCJA were more likely to announce an increase in employee benefits. However, the authors also note that some of these firms’ announcements may not be solely economically motivated but also politically. They note that firms with Political Action Committees that donate more to Republican candidates are also more likely to announce worker benefits.
Additionally, since under TCJA the corporate tax rate decreased from 35 percent in 2017 to 21 percent in 2018, firms were incentivized to increase the 2017 pension contributions to take advantage of tax deductions at a higher rate. Gaertner, Lynch, & Vernon (2018) found that firms did in fact increase the defined benefit pension contributions by an average of 27 percent in 2017. This effect, however, is likely not a permanent increase in pension funding, but just an acceleration of future contributions.
Capital Structure and Debt Levels:
Prior to TCJA, net interest paid or accrued by corporations was generally fully deductible, but a new provision under TCJA now limits the amount of net interest deductions allowed for firms to 30% of income before interest, taxes, depreciation and amortization. Carrizosa, Gaetner, & Lynch (2019) find that this change in deductibility of interest has implications for corporate capital structure. Specifically, the authors observed that affected firms had a sharp decrease in leverage driven by a decrease in long-term debt.
Tax Reform Anticipation: Firm Value and Market Reactions
Research shows that tax rate expectations can have an impact on firm values and influence market reactions. Several studies looked at events surrounding the tax reform to measure these reactions including the 2016 election, the passage of TCJA and its subsequent enactment.
After the election of U.S. President Donald Trump, expectations of a tax rate reduction increased. A pair of research papers from Wagner, Zeckhauser & Ziegler, investigates the reactions of the 2016 presidential election had on various aspects of firm performance. In Company Stock Price Reactions to the 2016 Election Shock: Trump, Taxes and Trade Firms (2017), the authors find that firms with high deferred tax liabilities greatly benefited from this change in expectations after Trump’s surprise election; while firms with large deferred tax assets, especially from NOL carryforwards, underperformed. Additionally, firms with large foreign exposure underperformed as expectations about tariffs, limits on foreign income tax deferral and changes to the treatment of accumulated foreign earnings increased (Wagner, Zeckhauser & Ziegler, 2017). In a subsequent working paper, Wagner, Zeckhauser & Ziegler (2018) also found that anticipation of TCJA’s passage impacted stock valuations. The market expectation of lower taxes had the largest positive impact on high-tax firms. Firms with large foreign exposure, however, did not receive the same positive impact due to expectations of a high repatriation tax (Wagner, Zeckhauser & Ziegler).
Similarly, Koutney & Mills (2018), investigated how investors reacted at the Senate passage of the TCJA and again upon the enactment of the act. They find that “approximately half of firms in the S&P 500 had earnings increases due to the enactment of TCJA, and approximately half had earnings decreases. Among firms that receive an increase to earnings, 75 percent of net earnings were attributable to TCJA.” Investors were able to predict the effect using previous tax disclosures of deferred tax balances and permanent reinvested earnings (Koutney & Mills, 2018).
Gartner, Hoopes, and Williams (2019) examined foreign firms’ stock return around key tax reform events. Their research shows significant heterogeneity in market responses by country, industry, and firm. In particular, Chinese firms experience large negative returns, especially steel manufacturers, while the rest of the world experiences positive returns. Their results suggest that U.S. tax reform had varied, yet systematic effects on foreign firms’ shareholders’ wealth and the global competitive landscape.
Border Adjustment Tax (BAT):
Although the Border Adjustment Tax (BAT) was excluded from the final version of the TCJA, renewed debate sparked interest in its effect on firm market value. Gaertner, Hoopes, & Maydew (2019) found that firms in retail and import-intensive industries experienced significantly negative abnormal returns on days with increased attention on the BAT.
Cost of TCJA Compliance and Accuracy of Firms’ New Tax Estimates:
The TCJA presented sweeping tax law changes that moved through Congress and was passed fairly rapidly near the end of 2017. Companies were faced with some uncertainty on how these reforms would impact their financial statements. Early stage research from Chen, Erickson, Harding, Stomberg, and Xia (2019) shows TCJA compliance was a significant cost for many companies, with the median company in their sample accrued $74 million in tax expense with respect to the Act, which is over four percent of pre-tax income in 2018. The median tax benefit due to re-measurement was $42.3 million. However, the authors note that the companies generally provided accurate estimates of the immediate TCJA impact, despite the complexity of the act and the short amount of time to calculate (Chen, Erickson, Harding, Stomberg, and Xia, 2019).
As new work is released, this resource will continue to grow.
Congressional Research Services. (2018, February 6). The 2017 Tax Revision (P.L. 115-97): Comparison to 2017 Tax Law (CRS Report for Congress, R45092). Retrieved from https://crsreports.congress.gov/product/pdf/R/R45092
Congressional Research Services. (2019, June 7). The Economic Effects of the 2017 Tax
Revision: Preliminary Observations (CRS Report for Congress, R45736). Retrieved from https://crsreports.congress.gov/product/pdf/R/R45736
Gale, W.G., Gelfond, H., Krupkin, A., Mazur, M.J., & Toder, E. (2018, June 13). Effects of the Tax Cuts and Jobs Act: A Preliminary Analysis. Retrieved from the Tax Policy Center: https://www.brookings.edu/wp-content/uploads/2018/06/ES_20180608_tcja_summary_paper_final.pdf