- On Sunday night, The New York Times reported that President Donald Trump had paid just $750 in federal income taxes in 2016 and 2017.
- The tax code allows this: The loss carryforward provision allows business owners to cancel out tax liability in future years by carrying over losses from previous years.
- Everyday investors can do something similar — if you sell a stock or mutual fund at a loss, you can use the loss amount to cancel out any capital gains tax you may owe.
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On Sunday night, The New York Times released a bombshell report alleging that President Donald Trump paid only $750 in federal income tax in 2016 and the same amount in 2017. The report goes on to say he paid no federal income tax at all in 10 of the previous 15 years.
How is that possible? How could a man worth more than $2 billion (according to some sources) pay so little in taxes for so many years?
Well, one answer is to lose money. A lot of money.
How the tax code allows Trump to shrink his tax bill
The loss carryforward provision in the tax code allows an individual to spread current losses into subsequent years to offset future tax bills. Here is a breakdown of how it works:
Many businesses experience a net operating loss (also known as NOL) for the year — this is common for startups and other capital-intensive industries like real estate and farming. When a business is not profitable and it loses money, it is not required to pay taxes.
If that business sees a profit the following year, it is then subject to tax liability. However, if the business had an NOL the previous year, it is able to carry forward that loss to offset its tax bill. If the previous loss is larger than the tax bill, the business will not owe taxes that year.
Before the 2017 Tax Cuts and Jobs Act, this carryforward tax provision could only be stretched out for 20 years. Today, it can be used indefinitely.
Big businesses use this tax provision all the time
This is an extremely common tax workaround that businesses use, according to Ebong Eka, CPA. For example, Amazon used the carryforward tax provision in addition to other tax credits to offset more than $11 billion in profits — a move that drew criticism from Sen. Bernie Sanders and Rep. Alexandra Ocasio-Cortez in 2019.
For its first 17 quarters, Amazon consistently operated at a loss, losing a combined $2.8 billion during that span. Amazon’s strategy was to direct more funds towards growing the company and acquiring market share. And Amazon’s strategy took it from an online book seller to the e-commerce giant it is today.
Everyday people can use a similar tax rule
The average investor can use a similar tax rule, too. The IRS allows a capital loss carryover, which allows an investor to sell a stock or a mutual fund at a loss and then use it to offset capital gains. Currently, the IRS limits this provision to $3,000 ($1,500 for married filing separately) to deduct on your income taxes; losses beyond that amount can be carried over indefinitely.
Here is an example: If you sell a stock at a loss of $5,000, you can deduct $3,000 against your ordinary income. If your income is $50,000, you would be taxed on $47,000 and the remaining $2,000 loss could be carried forward to the next year.
In the case of President Trump, the mechanics are similar. The Times reported that Trump lost $47.4 million in 2018. In 2016, the Times obtained portions of Trump’s 1995 taxes in which he declared losses of $915.7 million — a loss that would have allowed him to offset his income tax for decades. (Note: His finances likely improved by 2005, at which point he would have begun paying taxes again, according to journalist David Cay Johnson.)
But those were not the only areas of the tax law that Trump may have exploited to lower his tax liability. “He leverages the areas of the tax code that give you the most bang for your buck: business ownership and real estate investing,” said Camari Ellis, founder of The Philly Tax Team.
Trump may have also taken advantage of depreciation on any of the investment properties he owned. As Trump said in 2016 during a presidential debate, “I have a write-off, a lot of it’s depreciation, which is a wonderful charge. I love depreciation.”
“All assets have a ‘shelf life,’ or a useful time period,” said Courtney Richardson, practicing attorney and founder of the Ivy Investor. “Depreciation allows business owners to reduce the value of that asset over a certain time period to basically account for wear and tear.”
Real estate investors both big and small can take advantage of this tax break, according to Ellis. “Your average individual only thinks about taxes during tax season. People who get the best bang for their buck when it comes to taxes are planning and strategizing all year long.”
Assuming that the losses were properly accounted for, Trump’s tax bill is an accurate reflection of his businesses’ performance over the past several years — which, frankly, may not have been as perfect as Trump would like the public to think.
Kevin L. Matthews II is a No. 1 bestselling author and former financial advisor. In 2017, he was named one of the Top 100 Most Influential Financial Advisors by Investopedia.
- Read more:
- The average amount Americans pay in federal income taxes, by income level
- Here’s exactly where to look on your 1040 tax return to see how much more you paid in taxes than Trump did
- Even the lowest-paid workers in America have a higher tax bill than Trump
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