On December 22, 2017, President Donald Trump signed the Tax Cuts and Jobs Act (“TCJA”) into law. It is the most comprehensive tax reform seen in the United States since President Ronald Reagan’s 1986 Tax Reform Act.
Federal Corporate Income Tax Rate Decreases
One of the most startling changes for businesses as a result of the tax reform is the permanent decrease in the federal corporate income tax rate to a flat 21% from the previous top statutory rate of 35%. In general, public company values have increased in anticipation of and through the passage of the Tax Cuts and Jobs Act. This is evidenced by the surge in the stock market from the middle of 2017 through the end of the year.
Below is a graph showing the more than 10% increase in the S&P 500 Index over this time period.
What does the Tax Cuts and Jobs Act mean for my business?
We are often asked, “does the Tax Cuts & Jobs Act mean that the value of my business has increased as well?” The answer is – it depends.
When it comes to the valuation of your company, the value before and the value after tax reform will depend on a variety of company-specific factors. Some of the most important elements of the TCJA to consider are highlighted below:
Tax Rate Reduction – C Corporations enjoy a permanent decrease in the federal corporate income tax rate to a flat 21% from the previous top statutory rate of 35%.
Qualified Business Income (“QBI”) Deduction – Generally, through tax year 2025, individuals are allowed to deduct 20% of their QBI (excludes capital gains, dividends, investment interest income and other investment items) from a pass-through entity such as an S Corporation or Partnership. There are certain limitations which can reduce or completely eliminate this deduction.
Bonus Depreciation – Allows for accelerated depreciation for certain new and used qualified property. This provision is partially phased out beginning in 2023 and is fully phased out after 2026.
Net Operating Loss (“NOL”) Changes – Under the new law, businesses are able to deduct NOLs arising after December 31, 2017 up to only 80% of taxable income, but the unused NOLs can be carried forward indefinitely.
Interest Expense Limitation – Companies with three-year average revenues in excess of $25 million can only deduct business interest expense up to 30% of adjusted taxable income.
The items listed above, and other changes resulting from the TCJA, can have a significant impact on company values. Incorporating these items into business valuations is more complex than simply adjusting the tax rate. For instance, there are impacts on the cost of capital. For this reason, when valuing your business, it is important to work with a valuation expert that understands the intricacies of the new tax law. Bennett Thrasher can help.