Just Taxes Blog by ITEP

Real Tax Reform Never Had a Chance Under Trump

Real Tax Reform Never Had a Chance Under Trump

September 29, 2020

Steve Wamhoff
Steve Wamhoff
Director of Federal Tax Policy

In the wake of the New York Times’ revelation that Donald Trump paid no federal income taxes in 10 of the previous 15 years, some of his staunch supporters are saying, “Well, wasn’t he just doing what our tax laws allow?”

We may never entirely know whether he followed or broke the law because Republicans in Congress have so thoroughly gutted the IRS that the agency seems incapable of catching up with wealthy investors like Trump.

Congress is certainly to blame both for providing a ridiculously lenient tax code for the super-wealthy and for preventing the IRS from enforcing even the existing weak limits in the law on tax avoidance.

But make no mistake, one person is primarily responsible for the farce that is Donald Trump’s tax dodging, and that is Donald Trump. For years, he has actively and loudly supported special tax breaks and tax shelters, making him anything but a passive bystander to their creation.

Many tax experts look to the Tax Reform Act of 1986 as a model of loophole-closing, simplifying tax reform (even if it failed to raise needed revenue). But in 1991, Donald Trump testified before a congressional committee that “this tax act was just an absolute catastrophe for the country and for the real estate industry.” He called it “the 1986 catastrophe of the Tax Reform Act.”

Trump criticized the very notion of simplifying the tax code by eliminating special breaks. “They thought the word tax shelter was a bad thing,” he complained of congressional tax writers, “as opposed to saying it’s an investment in real estate.”

In 1993, Trump and the real estate industry convinced Congress to revive some of those breaks.

So, it is no surprise that when Trump became president and led the first major rewrite of the tax code in decades, the result was the opposite of a simplified tax system free of special breaks and loopholes.

(With one exception—see a related blog post on the one thing in the 2017 tax law that could have limited Trump’s tax dodging and how Congress has already reversed it.)

Here are some types of special breaks available to real estate investors, which we explained in an ITEP report that the 2017 tax law did not touch.

First, real estate investors can use losses more easily than other taxpayers to reduce their tax bills. Trump regularly reports losses that likely exceed any investment of his own money into business ventures. Investors in other types of business are subject to stricter rules barring them from claiming losses that exceed what they really invested—what they have “at risk.” But real estate is subject to looser rules to determine what constitutes “at risk” or a “passive loss.”

Second, real estate investors can defer reporting capital gains and other income more easily than other taxpayers can. Usually whenever an investor sells an asset at a profit, it is a capital gain subject to income tax. But real estate investors who can afford sophisticated tax planning can arrange to trade an appreciated property for another property and avoid reporting income to the IRS because, technically, no sale occurred. The Times reported two years ago that Jared Kushner’s family uses this tactic and the Trump Organization likely does as well.

These “like-kind” exchanges are just one of the methods that are available to major real estate investors to defer reporting profits. The 2017 tax law eliminated like-kind exchanges—except for real estate.

Third, real estate investors can more easily avoid reporting debt forgiveness as income. In general, forgiveness of debt is considered income that is subject to income tax. Without such a rule, the income tax would be very easy to avoid. For example, workers could ask their employers to change their compensation to loans that are later forgiven, so that their compensation would not be subject to income tax.

But major real estate investors can achieve this result because the rules for debt forgiveness are less strict for them. The new Times revelations about Trump touch upon this, explaining that the “I.R.S. considers forgiven debt to be income, but Mr. Trump was able to avoid taxes on much of that money by reducing his ability to declare future business losses.”

Fourth, real estate investors benefit from depreciation deductions when the value of their property is climbing. Owners of assets can claim deductions for depreciation, which is supposed to reflect the fact that assets wear out and lose their value over time. Investors in real estate can depreciate buildings they own even though they sometimes then sell them at a profit, reflecting the fact that their value increased rather than fell.

The benefit of this would be limited to a degree if the rules ensured that profits reflecting amounts already depreciated were taxed at “ordinary” income tax rates rather than a special, low capital gains tax rate, as is the case today.

The Times report does point out that many of Trump’s properties would be running at a loss even aside from depreciation deductions. On top of all the tax breaks for wealthy real estate investors, Trump is also just a terrible businessperson who does generate real losses on most ventures he is involved in.

But he also benefits from a tax code that has allowed him to live like a billionaire without paying any taxes in most years and he actively worked, both before and during his presidency, to ensure that the tax code continues to allow this. In hindsight, it obvious the real tax reform never had a chance under this president.