Top Democrat on House Ways & Means Committee Requests Treasury Guidance on New Pass-Through Deduction

Roundtable Weekly

May 4, 2018

Clarifying guidance on the new pass-through deduction enacted in last year's tax overhaul bill is needed "as soon as possible," according to a letter sent this week by House Ways and Means Committee Ranking Member Richard Neal (D-MA) to Treasury Secretary Steven Mnuchin and Acting Internal Revenue Service Commissioner David Kautter. (Neal Letter, May 1)

The new tax relief for pass-through businesses is a core element of the Tax Cuts and Jobs Act signed by President Trump in December – and is vital to ensure that the legislation treats all types of businesses, including real estate, fairly and equitably. (Roundtable Weekly, Dec. 22, 2017)

The Tax Cuts and Jobs Act reduced the top tax rate on corporations by 40 percent. The new 20 percent pass-through deduction (section 199A) can lower the top tax rate on qualifying pass-through business income to 29.6 percent. Such income was previously taxed at a top rate of 39.6 percent.

In January, The Roundtable wrote to Treasury Secretary Mnuchin offering several suggestions designed to maximize the economic impact of the pass-through deduction and avoid unnecessary disruptions to business activity. [Roundtable Letter, Jan. 18].

Specifically, the letter urged Treasury to issue guidance:

clarifying that until final regulations are issued, all qualified trade or business activities may be aggregated at the partner level for purposes of the provision's wage and asset tests;
allowing businesses to qualify for the pass-through deduction with respect to permissible services, even if the business also engages in service activities that are excluded from the deduction (assuming the permissible services are provided on an arm's length basis);
clarifying that the transfer of real estate in a like-kind exchange does not adversely affect a taxpayer's pass-through deduction;
confirming that the benefit of the deduction extends to shareholders invested in REITs through a mutual fund;
construing the "principal asset" test in a manner that does not treat the skill or reputation of a firm's employees as an "asset" of the business, unless they are reflected in an amortizable tax asset (such as workforce in place); and
confirming that, in the context of the pass-through deduction, the reasonable compensation rules apply exclusively to S corporations.

The new tax law, enacted last December, was the subject of a Senate Finance Committee hearing last week, where Senate Democrats focused on the pass-through deduction. ( SFC hearing , Early Impressions of the New Tax Law – April 24)

In Neal's letter sent this week, the top democrat on the tax-writing House Ways and Means Committee cites taxpayer (and tax advisors) confusion over the deduction, stating, "Without computational and definitional guidance to assist taxpayers in determining whether, and to what extent, they may quality for the pass-through deduction, it is difficult for them to properly calculate their quarterly estimated tax payments." (Neal Letter, May 1)

Neal adds, "As a result, taxpayers are left struggling to understand its implications, and opportunities to exploit its ambiguities abound. I urge Treasury and IRS to issue guidance as soon as possible to address these concerns."

He also urges the Trump Administration to issue guidance to prevent abuses of the pass-through deduction. "As taxpayers and practitioners navigate the outer limits of the pass-through deduction, we're concerned about signs of aggressive tax-minimization strategies," Neal states in the letter.