November 15, 2016
There is widespread speculation regarding what President-elect Donald Trump and a Republican-controlled Congress will choose to prioritize and pursue in 2017 and beyond. With the majority of pollsters and media observers incorrectly forecasting a victory for Hillary Clinton, many are just now beginning to assess how they will operate under, and the potential opportunities presented by, the policies of the Trump administration and the Republican-led Congress. We would like to share with you some of our initial observations about the potential effects that may be forthcoming in the near term.
With Republicans claiming the White House and maintaining control of both the House of Representatives and the Senate, we expect a flurry of legislative and administrative activity consistent with campaign promises made by the Trump campaign. This is likely to include efforts to deregulate in a number of areas, a repeal of certain parts of the Affordable Care Act, a possible overhaul of certain aspects of the tax code, an infrastructure financing package, the renegotiation of free trade agreements, including NAFTA, and changes to banking and securities regulation.
There are, however, still many questions about what the President-elect will be able to accomplish legislatively given that the Republican majority in the Senate will be operating with at least two fewer seats and that some campaign positions, like opposition to NAFTA, are not shared by a number of fellow Republicans. Congressional leadership is talking about moving an Affordable Care Act repeal/replace bill and a tax bill through the budget reconciliation process. While that strategy certainly is possible, it is not clear how its execution might impact the willingness of Senate Democrats to negotiate towards other legislative achievements. Notwithstanding their control of both chambers, Republicans will need Democratic support to move legislation outside of the reconciliation process, where filibusters are likely to occur absent bipartisan agreements on bill language. It will also be interesting to see how policy is actually shaped over the next few years, particularly given that Mr. Trump’s positions on certain issues are likely to differ from what has previously been considered "traditional" Republican orthodoxy.
The influence of Senate Democrats may have a tempering effect on the sweeping nature of the proposals that Republicans have put forth in the campaign. For example, Senate Democrats may seek to negotiate and limit changes to the Dodd-Frank Wall Street Reform and Consumer Protection Act (Dodd-Frank), whose reform is expected to be a key Republican legislative priority. That said, Republicans may well have at least a four-year window in which to enact legislative priorities, as political observers note that the House of Representatives is unlikely to change hands in the 2018 midterm elections and Senate Democrats will be defending 25 seats (including a number in states that voted for President-elect Trump), while the Republicans will be defending only eight in mid-term elections.
In addition to legislation, wide-ranging regulatory changes are anticipated as a result of the President’s power to fill senior positions in federal agencies. The President-elect’s transition team is just beginning to make announcements about the individuals who will play key roles in the Trump administration, and many positions will require Senate confirmation. President-elect Trump’s stated commitment to draft individuals with significant private sector experience for senior leadership positions in the Executive Branch may contribute to a regulatory environment that is viewed as business-friendly across a number of federal agencies. In particular, we would expect a new emphasis on cost-benefit analyses of particular regulations, which in turn will provide an additional avenue for challengers of those regulations to seek relief in court. And, given the slim Republican Senate majority, it is quite possible that significant regulatory changes will come more quickly than legislative ones.
While no one can predict the medium- to long-term implications of this election, we can be sure that the next few years will be a time of change in the legal and regulatory environment in which our clients operate. A few of our initial observations on selected areas of law and industries are set forth below. As more information becomes available on specific legislative and regulatory proposals over the next few weeks, we will provide additional analysis and commentary on these and other areas.
Preliminary Considerations. The central role of the Securities and Exchange Commission (the SEC) in how businesses operate and grow in America means that we can expect the direction of the SEC to change. It will likely be some time before the SEC’s direction takes shape and the SEC is operating with a full complement of five Commissioners, which will include a new Chair (who will likely be a Republican). Since January, only three out of five Commission seats have been occupied, as several Senators have blocked confirmation of two recent nominees that are highly unlikely to be confirmed before the end of the Obama administration. Yesterday, SEC Chair Mary Jo White announced that she will step down on January 20 when President-elect Trump is inaugurated. Michael Piwowar, the sole Republican on the Commission, is expected to be appointed Chair for at least an interim period. The term of the other remaining Commissioner, Democrat Kara Stein, expires in 2017. In the longer term, the process of identifying and confirming three nominees for the Commission will likely take several months, particularly if relations between the parties in the Senate are polarized. Until that time, the SEC will be left to operate with just two commissioners, and as a result, will have difficulty proposing any new regulations or changes to existing ones.
Once the SEC is more fully operational, following the appointment of new Commissioners, we expect to see a focus on increased deregulation and more self-regulation initiatives. For example, there may be renewed efforts to revise various disclosure-related sections of Dodd-Frank and a scaling back of related SEC regulations. Any efforts to amend SEC rules that have already been adopted, such as those related to CEO pay ratios (which are to go into effect in 2017 and require disclosure by public companies the following year) and conflict minerals, would require a new rulemaking process including a period of public notice and comment. In addition, the SEC staff may be active in publishing interpretations and other guidance to facilitate compliance with existing rules and provide greater context with respect to how companies should comply with these rules.
Other initiatives that have been generally disfavored by the Republicans, such as proposed rules to implement a universal proxy card and the rulemaking petition advocating corporate political spending disclosure, are unlikely to move forward under the new SEC leadership. Under Republican leadership, the SEC’s disclosure simplification project is likely to result in more trimming of, rather than adding to, the disclosure obligation landscape, if the project moves forward at all. In addition, President Trump and the Republican-led Congress may seek to reduce, or least stop the growth in, the SEC’s annual budget. That could have an impact on a number of aspects of the SEC’s work. For example, recent years saw a steady rise in the number of enforcement actions, but a budget cut could potentially reduce the number and scope of new investigations.
Regulation of the Capital Markets. A number of financial market observers have speculated that Republican leadership in Washington may lead to a further easing of the regulation of capital raising, particularly by smaller companies. Indeed, Republicans in the House of Representatives may dust off and expand the scope of previous legislative initiatives aimed at reducing burdens and costs associated with raising capital in the public markets and the requirements of being a public company. Current uncertainties, and potentially volatile stock and bond markets, could drive deal making in the near term. For example, the volatility could lead companies to seek to position themselves to more quickly access the market and take advantage of market windows, including through shelf registration statement takedowns and through the establishment and use of at-the-market (ATM) programs and medium term note (MTN) programs. Companies may also choose to be ready to take advantage of potential opportunities for share or bond repurchases presented by volatile markets. In addition, some observers have speculated that changes with respect to trade policy could result in a devaluation of the U.S. dollar versus other currencies, particularly those in Asia. That devaluation, should it occur, could attract foreign investors who may seek to engage in private-placement-public-equity (PIPE) transactions, among other investment methods, to invest in domestic growth companies, particularly in the technology and biotech industries.
Enforcement Actions. While President-elect Trump’s campaign did not offer detailed proposals with respect to the SEC’s Division of Enforcement, there are already initial indications of potential changes for that division. Former SEC commissioner Paul Atkins is a member of President-elect Trump’s transition team reviewing federal financial agencies. As a past Commissioner (and in the years since), Atkins has criticized many aspects of financial regulation (including, in particular, significant components of Dodd-Frank) and has been a critic of SEC enforcement priorities and initiatives. For example, Atkins has pushed the Enforcement Division to focus greater attention on traditional "retail" securities fraud cases, such as Ponzi schemes and penny stock fraud. We can expect greater prioritization of straightforward fraud and misappropriation investigations and less emphasis on expanding the boundaries of the federal securities laws through novel enforcement actions. Atkins and other Republican-appointed Commissioners have also criticized the assessment of large fines on public companies, which have been a mainstay of enforcement actions in recent years.
The Republican Congress is also likely to seek changes to the reach of Dodd-Frank, which will have some impact on enforcement. For example, under Dodd-Frank, private equity and hedge funds managers became subject to SEC examinations, a number of which resulted in enforcement referrals. The revision of provisions relating to the regulation of private funds could take the wind out of recent enforcement efforts to sanction inadequate disclosures of fees and expenses by these funds. Similarly, the increasing use of administrative proceedings rather than federal court trials in the wake of Dodd-Frank may be curtailed, with more contested actions being brought in court. Further, the significant impact of whistleblowers, who are entitled to sizable cash awards under Dodd-Frank, may see some changes as well.
President-elect Trump’s tax proposals seek to make a number of changes that are premised on the notion that lower tax rates will help to stimulate the economy and fuel growth. While high-income taxpayers would benefit substantially from his plan, middle- and lower-income families could also see significant tax reductions under the President-elect’s campaign proposals, especially after taking into account the various child and elder care provisions. Given the recent Congressional requirement for revenue neutrality and economic data estimating multi-trillion dollar increases in the federal deficit that could result from the plan, however, whether the extent of the tax cuts included his plan will survive the legislative process remains uncertain.
Many speculate that a Trump administration will either repeal or substantially amend certain regulations issued in the period leading up to this election. These could include the recently issued regulations under Sections 385 and 7874 of the Internal Revenue Code, which address the treatment of related party debt and corporate inversions. Also potentially on the chopping block are the recently proposed regulations under Section 2704, which if finalized in their proposed form would increase the valuation of interests in closely held businesses for estate tax purposes.
The following is a general summary of the major aspects of President-elect Trump’s tax plan. Some tax reductions may be scaled back, and additional tax breaks (beyond those specifically referenced in the plan) may be eliminated or curtailed.
Individuals. President-elect Trump’s current plan would lower the maximum marginal ordinary income tax rate from 39.6 percent to 33 percent, reduce the number of tax brackets from 7 to 3 and eliminate both the alternative minimum tax and the 3.8 percent investment income tax. The maximum 20 percent tax on capital gains would remain unchanged. Trump’s plan calls for a 15 percent tax rate on business income for businesses that "want to retain their profits in the business," which presumably includes the income of flow-through entities, such as tax partnerships and S corporations owned by individuals, but is short on specifics with respect to implementation. Questions include whether the new tax rate would apply only to income used to increase "business" assets, as opposed to income distributed or converted to cash or other liquid investments.
Several tax breaks would be available for families with children or caring for the elderly, limited to those making less than $500,000 ($250,000 for single filers) per year. Several other benefits would apply to lower income families, including 50 percent government matching funds (with limits) for dependent care savings accounts. These seemingly generous tax breaks will be tempered, however, including by the fact that personal exemptions would be eliminated (with an increase in the standard deduction to $30,000 for married joint filers), and only $200,000 ($100,000 for single returns) of itemized deductions would be allowed.
Finally, so-called "carried interest"–typically a percentage of investment fund profits paid to the fund sponsor in excess of the sponsor’s capital investment percentage–would be taxed as ordinary income, a topic that has been on the legislative radar for years.
The possibility of lower tax rates and a cap on itemized deductions means that taxpayers may want to consider accelerating itemized deductions into 2016, although many other issues come into play in making this decision, including the effect of alternative minimum tax and certain tax credits. We expect these proposals will lead to increased charitable giving before year end.
Businesses. As mentioned above, under President-elect Trump’s current proposals business income would be subject to a maximum 15 percent rate (subject to the "retained in the business" issue), and the corporate alternative minimum tax would be eliminated. Depreciation deductions would be replaced with immediate write-offs for U.S. manufacturers, but those taxpayers would not be entitled to deduct interest expense. Perhaps the hottest topic of the Trump proposals is the ability of U.S. corporations with untaxed, undistributed earnings of non-U.S. subsidiaries to distribute those earnings at a tax rate of only 10 percent as opposed to the current 35 percent. This will enable corporations to bring money back to the U.S. that is currently being held offshore. The plan also calls for the elimination of "corporate tax expenditures," but includes no details regarding what those expenditures entail other than that the research and development tax credit would be retained. Some speculate Trump favors a territorial tax system that is expected to eliminate the ability of corporations to avoid income tax by shifting earnings to low-tax foreign countries. Other tax expenditures subject to repeal could include the low-income housing credit, last-in first-out inventory accounting and the ability to defer tax using like-kind exchanges of property.
Estates. President-elect Trump’s plan would repeal the estate tax, but would limit the "basis step-up" at death to estates worth less than $10,000,000. While the specifics of the plan are not entirely clear, estates valued in excess of $10,000,000 would not receive the basis step-up, and therefore appreciation in the assets of those estates would be subject to tax upon a taxable disposition. Whether the first $10,000,000 of value on estates valued in excess of $10,000,000 would escape this treatment and how the proposal would apply to married couples are two questions that remain outstanding based on the current language of the proposals. The plan would also limit the ability to reduce the size of an estate by contributing assets to certain private charities.
Legislative and regulatory changes will certainly affect businesses across all industries in the next few years. While the extent to and speed with which these changes will be made remain unknown, there are a few early observations we can offer with respect to a few of the industries in which our clients operate as described below, which we will update as the policy implications become more clear.
Energy. President-elect Trump campaigned heavily on boosting traditional domestic energy production and seeking to reduce regulations on the oil, gas, and coal industries. Specifically, he has expressed support for opening public lands for drilling and mining and for reducing regulations on hydraulic fracturing (fracking) in an effort to increase production. The midstream sector may also benefit from his support of energy-related infrastructure projects, including the opening of new pipelines. He has also expressed support for repealing regulations on the coal industry while reducing governmental support for the renewable energy sector, including the elimination of subsidies to wind and solar firms. Beyond his domestic initiatives, Trump’s foreign policy plans include uncertainties for the energy industry, including opposition to the Paris Accord on climate change and opposition to lifting sanctions on Iran, implicating foreign oil production levels.
Banking. With respect to bank and derivatives regulation, the effects of the election are still unclear. While the election was marked by negative sentiments towards both Wall Street and the regulatory agencies that supervise its activities, few of the specific policy proposals articulate what reform would entail. That said, during the campaign, President-elect Trump made clear his general view that overregulation of all sectors of the economy was hampering growth and job creation, and thus a deregulatory agenda is to be expected. In the short term, we can expect there will be a slowdown in the remaining required regulatory implementation of Dodd-Frank, where there is still substantial agency action needed, even though six years have passed since the statute was enacted. With respect to the Dodd-Frank statute itself, at this time it appears reform is more likely than outright repeal, given that the Republicans do not have a filibuster-proof majority in the Senate. Potential areas for bipartisan legislation include relief for community and regional banks, narrowing the extraterritorial application of Title VII of Dodd-Frank’s derivatives market reforms, and, possibly, imposing additional constraints on agency rulemaking. There will likely be support for requiring more cost-benefit analysis when financial regulations are proposed, which in turn would give the market participants additional arguments when challenging such rulemakings. The question is, however, whether Democrats will support greater cost-benefit analysis requirements. For more extended analysis of the likely effects of the election on the financial services industry, please see our client alert available at: http://www.gibsondunn.com/publications/Pages/Financial-Regulatory-Reform-Under-a-Trump-Presidency–What-We-Know-and-What-to-Expect.aspx.
Healthcare. A Trump presidency is being viewed as a boon for the healthcare and biotech industries. Both the Dow and S&P Biotech Indexes have risen over 10 percent in the days following the election. In his 100-day Action Plan, the President-elect has promised to reform the FDA by cutting the red tape associated with the drug approval process. While the action plan is short on specifics, a streamlined approval process would allow more drugs to enter the market at a faster rate, which would be quite beneficial to drug companies. Trump’s victory also eliminates concerns held by many healthcare and biotech companies regarding Clinton’s aggressive drug price control and cost-containment agenda. In terms of taxes, President-elect Trump promised to lower the business tax rate from 35 to 15 percent and the repatriation rate to 10 percent. This would allow large pharmaceutical companies to bring back the billions of dollars currently trapped overseas and would likely incite a mergers and acquisitions binge in the biotech industry. Of course, one of Trump’s signature campaign promises was to repeal or overhaul the Affordable Care Act. We believe that there is a reasonable chance Trump will attempt to accomplish this pledge during his first 100 days in office.
Technology. As a candidate, President-elect Trump offered relatively few specific plans with respect to the technology industry and policies addressing intellectual property and other matters of importance to the industry. Proposed changes to the tax code, as discussed above, that have been of interest to congressional Republicans for years could result in repatriation of some of the estimated $2 trillion that American companies currently hold offshore. That cash could be put to use in enhanced research and development initiatives or for acquisitions. A Trump administration may also seek to scale back Obama-era reforms regarding net neutrality and the FCC or simply choose not to enforce them. One of President Obama’s signature initiatives involved reclassifying broadband providers as Tier II common carriers and preventing internet service providers from speeding up, blocking or throttling internet traffic in exchange for payment. Although not a campaign issue, some congressional Republicans have pursued bills to limit the FCC’s authority and to eliminate, rewrite or relax existing rules.
President-elect Trump’s immigration policies will likely affect technology companies, which heavily recruit overseas engineers and coders to meet domestic labor shortages. Trump’s policy in this regard is uncertain: he has both opposed H-1B specialty occupation non-immigrant visas and supported highly skilled immigration to the U.S. Additionally, technology and other sale transactions with foreign buyers from certain countries, including China, may face a stiffer review when seeking approval from the Committee on Foreign Investment in the United States (CFIUS).
Gibson Dunn has established a working group that will continue to monitor the developing situation in Washington, D.C. and provide insight and analysis to you in the months to come.
The following Gibson Dunn lawyers assisted in the preparation of this client update: Marc Fagel, Paul Issler, Stewart McDowell, Ryan Murr, Robyn Zolman, Arthur Long, Beth Ising, James Moloney, Lori Zyskowski, Sean Sullivan and Melanie Gertz.
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