Markets wary of Trump’s planned tax reforms
n this world, nothing can be said to be certain except death and taxes.”
It’s been over 30 years since the last major corporate tax reform in the US. Perhaps now, with a Republican White House proposing a tax reform agenda and a Republican Congress, it might actually be achieved.
The proposals currently on the table include significantly reducing the corporate tax rate: President Trump wants to reduce it to 15 per cent; Congress, led by House Speaker Paul Ryan, is shooting for 20 per cent. However, the tax initiative also includes provisions that the market is more wary of, such as the border adjustment tax (essentially an import tax) and a reduction in interest deductibility for corporate debt.
The process of getting all this done may require using the process of “reconciliation” contained within the 1974 Budget Act. This enables a simple majority within the Senate to approve the tax changes, thus eliminating the 60 votes necessary to avoid a filibuster. However, the legislation would lapse after 10 years if it adds to the US budget deficit.
So what do we believe is achievable?
Competitive advantage
While we broadly agree that tax reform is an overdue necessity, we believe a more modest set of tax changes will be the end result. It is widely known that the US corporate tax rate (at essentially 39 per cent) is among the highest in the world and puts US companies at a competitive disadvantage. Getting the statutory tax rate down to 15 per cent or 20 per cent will either require other revenue sources or will meaningfully increase the budget deficit. The border tax adjustment, for example, is poised to raise approximately $1.2 trillion over 10 years (as estimated by The Tax Policy Centre); however, many are dubious of the revenue generation or otherwise oppose the adjustment. We think a package of more modest tax changes that get the statutory rate into the mid- to high 20 per cent range is doable and would positively impact corporate earnings.
The final proposals are also likely to include a reduced tax rate for the repatriation of overseas cash, which we believe will provide a boost in corporate buy-back activity. US companies currently have approximately $2.5 trillion of cash sitting outside of the US. Under the current tax code, that cash, if brought back, would be taxed at a very high rate. If, however, that rate were lowered to 10 per cent, we expect many companies would take advantage of this provision.
No time to lose
So when might this happen?
The legislative process takes time and there are many details still to be determined. The process of then reconciling proposals among the White House, the House and the Senate will be arduous. As a result, we may be looking at late 2017 or early 2018 before a bill is actually passed. Any later than this and Congress will become embroiled in their midterm elections, when often little gets done.
Historically, this president has appeared relaxed about debt. Indeed, he has regularly used it to fund his own business empire. But it’s a different matter when it comes to getting legislation through Congress. The success or failure of the current tax proposals, therefore, may depend largely on how far the conservative wing of the Republican Party will go in maintaining some level of fiscal discipline within the budget.
As President Trump passes the milestone of his first 100 days in office, some in the media have commented on his low approval ratings, but it’s worth reminding ourselves that, early in his first term, President Bill Clinton’s ratings were also at a then-record low.
Yet, when he left office eight years later, he had the highest approval ratings of any president since the Second World War. There are still plenty of opportunities for the new president to make his mark. His tax initiative may be one of them.