(Bloomberg) -- Some brokerage firms are concerned that the tax overhaul could lead to upheaval, pushing their employees to set up their own shops or switch firms to lower their tax bills.
At the heart of the issue is how the business is organized. Some brokers set up partnerships, while others work as independent contractors affiliated with a firm. Those advisers all stand to gain under a tentative deal reached Wednesday between House and Senate tax negotiators. Because they’re considered pass-through owners, they may be able to deduct as much as 20 percent of their income before paying taxes.
But at other firms, like those owned by big banks, brokers are employees. They won’t be able to take advantage of the break and would continue to face ordinary income tax rates on all of their compensation.
“We are very concerned at the impact this could have on the ability of firms in the industry to offer different business models,” said Christopher Iacovella, who runs the Equity Dealers of America, a trade association for regional brokerages including Janney Montgomery Scott, D.A. Davidson Companies and Raymond James Financial Inc. “Both should be treated equally under the law.”
The group has been raising the potential problem on Capitol Hill in recent days. Earlier this week, Iacovella sent a letter to House and Senate lawmakers who are part of the conference committee responsible for hammering out a final tax plan, urging them to fix the “unintended consequence” that opens the potential for “tax arbitrage.”
The pass-through measure is one of many provisions included in the tax revamp that could have unforeseen effects once they’re applied in the real world. Republican lawmakers have rushed to get a tax bill completed before the end of the year -- in what would be their first major legislative victory in 2017. The Senate released the 515-page text of its sweeping tax legislation just nine working days before holding a floor vote.
The window may be closing for any changes though -- the tentative agreement reached Wednesday would include the 20 percent deduction for owners of pass-through businesses, along with a top individual tax rate of 37 percent and a corporate rate of 21 percent. Details still remain fluid. Final text along with additional details may be released as soon as Friday. GOP leaders are planning to hold a vote on the legislation early next week.
The tax treatment of pass-throughs, such as partnerships, limited liability companies and sole proprietorships, has been one of the main points of contention between the House and Senate. The Senate tax bill approved Dec. 2 would have allowed deductions of 23 percent for business income, but phased those deductions out for single taxpayers making more than $250,000 or married couples making more than $500,000.
The House version of tax legislation approved last month called for a top rate of 25 percent, but placed limits on who could qualify for the rate. Most service professionals -- which would have included brokers -- were exempted.
If the Senate measure were included in the final bill, independent brokers could end up paying tens of thousands of dollars less in taxes annually than their employee counterparts, according to industry talking points that are being handed out on Capitol Hill to lawmakers and their staff.
Such a disparity could cause advisers who are employees to quit, or push to be reclassified as contractors, Iacovella said in the letter. While most of the Equity Dealers of America’s members classify their financial advisers as employees, some have relationships with contract brokers.
Some tax attorneys said that while the brokerage industry is right to be paying attention to the matter, like with much of the tax legislation, it’s still not yet clear what the effect will be.
“The extent to which someone might be able to take advantage of the pass-though deduction is complicated,” said Chrys Lemon of the McIntyre & Lemon law firm, who specializes in tax and financial services law. “In the long run, it may be beneficial but there are uncertainties in the tax law with respect to how you use these pass-through entities that could limit the deduction.”
Corporate Rate Focus
While the biggest banks generally classify their brokers as employees, they have been mostly silent on the issue. Part of the reason is that they’re more focused on the tax overhaul’s call to slash the corporate rate from 35 percent and don’t want to jeopardize overall tax efforts.
The Securities Industry and Financial Markets Association, the largest broker lobbying group, declined to comment on the pass-through provision.
One association that advocates on behalf of independent financial advisers and the brokerage firms they work with, the Financial Services Institute, said it has been reaching out to lawmakers on the issue.
Their members would likely benefit if the final tax bill follows the Senate pass-through provision.
The group is actively lobbying members of the House-Senate conference committee on several components of the tax legislation, including the treatment of pass-through income, according to David Bellaire, the institute’s general counsel. “We support reduction in taxes for small businesses, especially our financial adviser members,” Bellaire said.
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