Getting Your 10% Bump: Trump Tax Reform 2.0
Last week, while on the campaign trail stumping for Republicans prior to the midterm elections on Nov 6, Trump touted a new tax cut plan for the middle class to the tune of 10 percent.
According to the top Republican lawmaker on tax policy in the U.S. House of Representatives, Kevin Brady of Texas, the plan will be revealed in the coming weeks: “President Trump believes American families deserve to keep more of what they work so hard to earn. We agree,” Brady said in a statement.
If you remember, last December, Trump signed into law steep tax cuts for businesses and individuals as part of a sprawling Republican tax overhaul.
“This will be on top of the tax reduction that the middle class has already gotten. And we’re putting in a resolution, probably this week,” the President said.
The White House on Tuesday described the new tax cut as an agenda item for 2019 and suggested it could be offset by cuts in spending.
“Because of the fact that the economy is doing so well, we feel like we can give up some more. I couldn’t have gotten that extra 10 percent when we originally passed the (tax) plan. We maxed out,” Trump said.
When the tax law was pushed through last year, there was good news for employees—or at least most of them. The average middle-income household was to receive a tax cut of around $930 in 2018.
Stung by criticism that their tax plan short-changed families by having individual tax cuts expire after 2025, House Republicans voted last month to make the individual cuts permanent in a legislative package dubbed “Tax Reform 2.0.”
One woman who works as a secretary at a high school was “pleasantly surprised” that her pay went up $1.50 a week. She did the math and realized that equaled $78 a year, which would cover the cost of her Costco membership.
I don’t begrudge these folks for enjoying a little extra money in their pockets, and I’m happy for them, though clearly some are enjoying more after-tax income than others.
But I do think that this shows two mindsets when it comes to taxes—and ultimately money in general.
The Employee Tax Mindset
The reality is employees have little control over their money when it comes to taxes. They are at the full discretion of the law, which gives them very little wiggle room. And what little wiggle room they did have might be gone now with the elimination of a lot of the few deductions they enjoyed. If they’re lucky, however, the raise in standard deduction will help make up for those losses.
So, it’s not surprising to see how a lot of employees responded. Though they were a mix of both positive and negative reactions, there was one theme that was common: I have to take what the government gives me.
The employee mindset might be bitter, or it might be glad about their tax situation, but what is shared is a mindset that there is nothing you can do about it. After all, you can’t fight city hall, right?
The Rich Tax Mindset
On the other hand, the rich are excited about the tax cuts. Not because they might make more or less in after-tax income (though the smart ones always will make more), but because they have new incentives built into the law to discover and take advantage of.
The rich understand that tax laws encourage certain behaviors and reward them for taking action.
I have written a lot about what the rewards are many times. This is from an article I wrote about how Trump may have paid $0 in taxes:
As you probably know, the tax codes in the US and in many different countries are long and complicated. The question is, why?
The reason is that government leaders learned a long time ago that the tax codes could be used to make people and businesses do what they want by utilizing the tax code.
In short, the many credits and breaks that are found in the tax code are there precisely because the government wants you to take advantage of them. For instance, the government wants cheap housing. Because of this, there are many tax credits for affordable housing that developers and investors can take advantage of that minimize their tax liability, put more money in their pocket, and in turn, create affordable housing. Everyone wins.
There are many scenarios like this in the tax code that incentivize investors and entrepreneurs to do activities the government is looking for while rewarding those who take those actions with lower- or zero-tax burden.
Because of this, limiting your tax liability actually means you’re doing what the government wants you to do through the tax code. And that is the most patriotic thing you can do.
I and most of my friends have already been in contact with our tax advisors on the new law, looking for ways to make more money with the tax code, both by moving away from things that increase our tax bill and adopting practices and investments that are incentivized.
This shows a common mindset of the rich when it comes to taxes: I go and take what the government offers me.
An Example of Taking What the Government Gives
2004: My wife, Kim, and I put $100,000 down to purchase 10 condominiums in Scottsdale, Ariz. The developer paid us $20,000 a year to use these 10 units as sales models. So, we received a 20 percent cash-on-cash return, on which we paid very little in taxes because the income was offset by the depreciation of the building and the furniture used in the models. It looked like we were losing money when we were in fact making money.
2005: Since the real estate market was so hot, the 380-unit condo project sold out early. Our 10 models were the last to go. We made approximately $100,000 in capital gains per unit. We put the $1 million into a 1031 tax-deferred exchange. We legally paid no taxes on our million dollars of capital gains.
2005: With that money, we purchased a 350-unit apartment house in Tucson, Ariz. The building was poorly managed and filled with bad tenants who had driven out the good tenants. It also needed repairs. We took out a construction loan and shut the building down, which moved the bad tenants out. Once the rehab was complete, we moved good tenants in and raised the rents.
2007: With the increased rents, the property was re-appraised, and we borrowed against our equity, which was about $1.2 million tax-free, because it was a loan—a loan which our new tenants pay for. Even with the loan, the property still pays us approximately $100,000 a year in positive cash flow.
Now here’s where a new incentive in the Trump tax plan comes into play. There is now a 20% deduction on pass through income, which rental income can qualify as. And since real estate business is an LLC that is not classified as a “service trade or business,” the 20% deduction isn’t phased out even after meeting the high-income limitations. There are limitations to how it can be applied, but it would be my job, or any investor’s job, to figure out how it applies. This means that I could stand to enjoy even further tax benefits on my cash flow income, if I structure my entities and returns correctly.
Money Is A Game
Ultimately, the difference between an employee and a rich mindset about taxes comes down to how they look at money.
Many people who are in the middle-class are scared of money and don’t understand it. As a result, they don’t even like to talk about it. Most people don’t consider money a vulgar topic because they don’t like it, but rather it’s easier to place a stigma instead of learning about it. For most people money is a drudgery.
Conversely, my rich friends talk about money all the time. They aren’t bragging about how much they have. Instead, they’re sharing tricks of the trade. For the rich, money is a game—and one they love to play and master. Just like some people love to master the game of golf.
Among the rules of the money game that need to be mastered are the tax laws. And when the rules change, the rich find new ways to adapt their style of play while the rest of the world just takes it.
The reality is that everyone is playing the game of money, whether they like it or not. So, the question becomes: What kind of player do you want to be?
Editor, Rich Dad Poor Dad Daily