Trump's tax law creates new challenges for IRS

The Republican tax bill is the law of the land — but for federal officials, the work is just beginning.

The Treasury Department and the IRS now have a mammoth task on their hands as they seek to turn the sweeping tax provisions passed by Congress into new rules and regulations.

The tax law, which President TrumpDonald John TrumpHouse Republicans move to block Yemen war-powers votes for rest of Congress Trump says he's considering 10 to 12 contenders for chief of staff Michael Flynn asks judge to spare him from jail time MORE signed on Friday, generally takes effect in January and includes significant changes to the tax code, including to deductions and pass-through income. Guidance from the IRS will be crucial in helping taxpayers and tax preparers navigate the changes.

“[The IRS] will have a series of challenges,” said Mark Everson, who helmed the IRS from 2003 to 2007 and now serves as vice chairman of alliantgroup.

The most pressing task for the IRS is to issue new guidance on tax withholdings from people’s paychecks. The agency said it expects to put forth guidance in January that “will allow taxpayers to begin seeing the changes in their paychecks as early as February.”

Withholdings are currently based in part on taxpayers’ personal exemptions, but those are eliminated under the new law. Some tax and payroll experts had been concerned that employees would have to complete new W-4 forms in 2018, since workers fill them out to have the correct amount of taxes withheld from their pay.

However, the IRS said the new guidance “will be designed to work with the existing Forms W-4 that employees have already filed, and no further action by taxpayers is needed at this time.”  

A few of the provisions in the tax law are retroactive to 2017, including a lower threshold for the medical expense deduction. The IRS will need to incorporate these smaller changes in their forms for the upcoming filing season.

Most of the other changes take effect for 2018, which means the IRS will have roughly a year to develop new forms, instructions and guidance for the tax filing season that starts in 2019.

“The good news is they’ve got a year to get it done, because they’re going to need every bit of it,” said Kathy Pickering, the executive director of The Tax Institute at H&R Block.

Treasury and the IRS will also face pressure to issue regulations relating to the tax changes, particularly in areas where taxpayers will be engaging in a lot of planning to keep their taxes as low as possible.

One area where guidance is likely to be needed is for pass-through entities — businesses such as sole proprietorships and partnerships whose income is taxed through the individual code.

The tax law creates a new 20 percent deduction for pass-through income and includes guardrails aimed at preventing people from reclassifying wage income as business income. But taxpayers are likely to try to figure out ways around the restrictions.

Gavin Ekins, a research economist with the Tax Foundation, said that it will be hard for Treasury to come up with rules that effectively prevent the recharacterization of income.

“On the domestic side, that’s probably going to be the biggest challenge for Treasury,” he said.

The tax law’s changes in the international tax area are also likely to require regulations from Treasury and the IRS.

“You’ve completely changed the international tax rules,” said Eric Toder, co-director of the Urban-Brookings Tax Policy Center.

The tax package moves the U.S. to a “territorial” tax system that generally doesn’t subject American companies’ foreign earnings to U.S. taxes, and includes a number of complex provisions aimed at preventing the shift from eroding the U.S. tax base.

One of the anti-base erosion provisions states that if a foreign subsidiary of a U.S. company is making an above-normal amount of profit, a portion of the excess profit is included in the parent company’s taxes. Ekins said that companies will want to define their normal profit to be as high as possible.

For Treasury, “the international provisions are going to be difficult to implement over the next year,” he said.

The Jan. 1 effective date of most of the tax changes means that taxpayers are going to quickly change their behaviors.

Everson said that it would benefit Treasury and the IRS to move quickly on the rules so that taxpayers will adapt in ways that align with where the final standards will be.

“The [regulatory] process has got to be thorough but prompt,” he said.

The IRS has been a target of derision from Republicans in recent years due to its handling of conservative groups’ applications for tax-exempt status. But Republicans will now need to ensure that the IRS has the resources it needs to execute their new law.

“That’s a big change,” Everson said.

Republicans slashed the IRS’s budget in the early part of the decade, but some experts think that the agency would benefit from increased funding, especially given the turmoil that’s likely to result from the tax law.

“They’re going to get a flood of calls into the call centers,” Everson said. “They’re going to need to staff up the call centers and train those people.”

House Ways and Means Committee Chairman Kevin BradyKevin Patrick BradyIRS issues guidance aimed at limiting impact of tax on nonprofits' parking expenses On The Money: New director takes helm at troubled consumer agency | Trump’s economy teetering on trade tensions, volatile markets | Brexit crisis deepens | House report scolds Equifax over breach Brady releases revised version of year-end tax package MORE (R-Texas) said he has started to talk with Treasury Secretary Steven MnuchinSteven Terner MnuchinTrump says he's considering 10 to 12 contenders for chief of staff Schiff writes mock White House chief of staff job description Trump: 'No rush' to pick next chief of staff MORE about implementation. He plans to meet further in the future with Mnuchin and acting IRS Commissioner David Kautter about the process and what resources might be needed.

But he told reporters Thursday that the IRS doesn’t necessarily need additional money.

“Under a new acting commissioner, if they can make that case in conjunction with Treasury, we’ll listen,” he said. “But the assumption’s not, we’re opening up the pocketbook.”