The tax reform legislation recently passed by Congress significantly changes the landscape for individuals beginning January 1, 2018, and continuing for many years come. For many taxpayers, the changes made by the legislation present a host of tax planning challenges and opportunities going forward. Due to the elimination or limitation on itemized deductions, and the elimination of personal exemptions, a key consideration in planning for 2018 is to first look at ways to lower your taxable income. You should thus consider maximizing all pre-tax contribution opportunities such as your 401(k), maximizing deductible IRA contributions, and consider investing in state and municipal bonds (whose interest is exempt from federal tax).
Also, despite the headlines, it will remain important for you to keep track of your medical expenses, mortgage interest, property and state income or sales tax payments and charitable contributions made during 2018 due to new restrictions on itemized deductions.
These changes have an immediate impact on what your current payroll withholding elections should be. The IRS has not released new withholding tables those are expected to take effect by the end of February. In the meantime, you should discuss any concerns you have about 2018 withholding and estimated tax payments with your tax advisor.
Highlighted below are some of the more significant changes made by the reform legislation and possible challenges and opportunities to lower your tax bill for 2018 and beyond.
Lower Individual Tax Rates — The legislation creates lower individual income tax brackets of 10%, 12%, 22%, 24%, 32%, 35%, and lowers the top rate from 39.6% to 37%, respectively. (The previous will be restored in 2026, i.e., 10%, 15%, 25%, 28%, 33%, 35%, and 39.6%, respectively).
Modification of the Alternative Minimum Tax (AMT) – The legislation retains the AMT for individuals but increases the exemption amount and phase-out thresholds so fewer people will pay it. From 2018 through 2025, a higher AMT exemption will apply to income, beginning with $109,400 for joint filers, $70,300 for single taxpayers and $54,700 for married taxpayers filing separately in 2018. The exemption will phase out at $1 million for joint filers and $500,000 for single and married filing separate taxpayers. The thresholds will be adjusted for inflation.
Increase in the Standard Deduction — Beginning in 2018, the standard deduction increases significantly from $12,700 to $24,000 for joint filers, from $9,350 to $18,000 for heads of households, and from $6,350 to $12,000 for singles. Since you can claim the higher of the standard deduction or itemized deductions, you will want to closely compare the two methods as you may now benefit from a higher standard deduction given the many changes to itemized deductions.
Elimination of Personal Exemptions — In exchange for lower tax rates and increase in the standard deduction, personal exemptions no longer may be claimed to begin in 2018.
Child and Dependent Credits — From 2018 through 2025, the reform legislation increases the value of the child tax credit to $2,000 per child under 17 from $1,000. As much as $1,400 of the credit will be refundable, thus allowing recipients to benefit even if they don’t owe taxes. You will need to provide your child’s Social Security number to claim the refundable portion through 2025. The refundable portion of the credit will be indexed for inflation. The legislation also expands eligibility for the credit by increasing the phase-out threshold to $400,000 of adjusted gross income for joint filers (up from $110,000 under current law), with a threshold for all other filers set at $200,000. A $500 nonrefundable credit for dependents other than children will be available through 2025, (and no Social Security number is required).
$10,000 Cap on State and Local Tax Deduction — In a significant departure from prior law, the legislation will allow individuals to deduct no more than $10,000 of any combination of the following taxes – state and local income taxes, state and local property taxes, and sales taxes. This overall limitation may result in the enhanced standard deduction yielding a larger deduction against your adjusted gross income and thus a lower tax bill.
Limits on Mortgage Interest Deduction — The tax reform act reduces the amount of mortgage indebtedness on which taxpayers may deduct interest to $750,000 for mortgages incurred after December 15, 2017. (The $1 million limitation remains for older debt). Interest on your principal residence and a second home are deductible. Importantly, however, beginning in 2018, interest on home equity indebtedness no longer is deductible, regardless of when it was incurred.
Medical Expense Deduction — Individuals may continue to deduct medical expenses in 2018 and 2019 if the expenses exceed 7.5% of adjusted gross income. The threshold returns to 10% of adjusted gross income in 2019. Again, you will need to review whether claiming such expenses, when combined with other allowable itemized deductions, yields a higher deduction than the standard deduction.
Elimination of Deduction for Unreimbursed Employee Business Expenses — The reform act eliminates the deduction for miscellaneous itemized deductions through 2025. Thus deductions (subject to the 2% floor of adjusted gross income) for costs related to the production or collection of income, such as appraisal fees, investment fees, and safety deposit box rent are now non-deductible, and, importantly, expenses related to employment, such as uniforms, professional society dues, computer used for work, and job-hunting expenses also are non-deductible. Employees who incur significant unreimbursed business expenses may want to ask their employer about adjusting their compensation or establish an accountable expense reimbursement plan that would allow the employer to reimburse the employee tax-free while also entitling them to a deduction against their business income.
Limitation on Itemized Deductions – Prior to the new legislation, the total amount of otherwise allowable itemized deductions were limited for certain high-income taxpayers (also referred to as the Pease Limitation). The reform act suspends the overall limitation on itemized deductions for tax years beginning after December 31, 2017, and before January 1, 2026.
Moving Expenses Deduction – The Act generally suspends the deduction for moving expenses for tax years beginning after Dec. 31, 2017, and before Jan. 1, 2026. However, the deduction generally is still available for active duty members of the Armed Forces who move pursuant to a military order and incident to a permanent change of station.
Alimony Deduction — The tax legislation repeals the above-the-line deduction for alimony paid for divorces or separations executed after December 31, 2018. After that date, alimony payments will not be included in the recipient’s income and the payments no longer will be deductible by the payor. If you are currently contemplating divorce or separation, a careful review of the effects of the new law should be undertaken to determine the economic effect on your tax situation and timing of any agreements.
Limitation on Wagering Losses Deduction – The Act amends the definition of losses from wagering transactions to include any otherwise allowable deduction incurred in carrying on wagering transactions (e.g., traveling to and from a casino), applicable to tax years beginning after Dec. 31, 2017, and before Jan. 1, 2026.
Education Savings Rules – 529 Plans – The Act provides that elementary and secondary school expenses of up to $10,000 per year are qualified expenses for qualified tuition programs.
Pass-Through Tax Rate: Beginning in 2018 if you are a partner in a partnership, or owner of an S corporation, r a Schedule C filer, a 20% deduction for qualified business income is provided in lieu of the corporate tax rate change. Special rules apply when computing the deduction, and your tax advisor should be consulted in determining whether qualify for this deduction.
Estate Planning – The new legislation doubles the estate and gift tax exclusion amount and the GST exemption $10 million effective for decedents dying and transfer made after 2017 and before 2026.
Key Business Changes
As you may be aware, the tax reform legislation recently passed by Congress is the first of its kind in thirty years. For all business owners, this translates to a large impact on taxes for many years to come. MKS&H is reaching out to you make you aware of some the major changes that will affect most of you beginning in 2018. Below is a short summary of some of those changes, there is also a more detailed schedule outlining in further detail some of the more significant changes.
Section 179 Expensing: The expensing limitation is increased to $1 million and the phase-out amount to $2.5 million.
Bonus Depreciation: The bonus depreciation deduction (168k) increased to 100% and can now be taken on used property.
Research and Development Credit: The research and development credit is preserved.
Deductions for Income Attributable to Domestic Production Activities: Beginning in 2018, the 9% deduction for income attributable to domestic production activities is repealed.
Entertainment Expense Deductions: Beginning in 2018, no deduction is allowed generally for entertainment, amusement, or recreation; membership dues for a club organized for business, pleasure, recreation, or other social purposes; or a facility used in connection with any of the above.
NOL Deduction: Beginning in 2018, the limit on the NOL deduction is 80% of the taxpayer’s taxable income and provides that amounts carried to other years be adjusted to account for the limitation. Amounts are to be carried forward indefinitely.
Corporate Tax Rate: Beginning in 2018, there is a 21% flat corporate tax rate; there is no special tax rate for personal service corporations.
Alternative Minimum Tax: Beginning in 2018, the alternative minimum tax for corporations is repealed.
Pass-Through Tax Rate: Beginning in 2018 if you are a partner in a partnership, or owner of an S corporation, or a Schedule C filer, a 20% deduction for qualified business income is provided in lieu of the corporate tax rate change. Special rules apply when computing the deduction, and your tax advisor should be consulted in determining whether qualify for this deduction.
Below are highlights of the 2017 tax act as compared to pre-reform law:
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1Qualified Improvement Property is defined as improvements made to an interior part of a building that is nonresidential real property. The property may be owner occupied (related party) and the improvements may be made any time after the building is first placed in service. It does not include enlargement of the building, an elevator or escalator, or the internal structural framework of the building.
If you have any questions about how these changes affect your business and personal tax situation specifically please contact your MKSH tax professional at 301-662-2400.