Over the past several months, we’ve digested the many tax law changes brought by the Tax Cuts and Jobs Act (TCJA). These changes bring a host of uncertainties as well as planning opportunities. From lower tax rates to a new deduction for pass-through income, the new tax law may mean more cash in your pocket.
This letter presents some tax planning ideas under the TCJA for you to think about this summer while there’s sufficient time left in 2018 to take tax-saving actions. Some of the ideas may apply to you, some to family members, and others to your business.
Here, we briefly outline the main points but please download the PDF at the bottom to see the details.
Take Advantage of Lower Tax Rates and Investment Gains
Under the TCJA, 2018 ordinary tax rates are generally lower than those for 2017.
For example, the top rate has been reduced from 39.6% to 37%. (The remaining six rates are 10%, 12%, 22%, 24%, 32%, and 35%.) Also, the top rate now applies to joint filers whose taxable income is over $600,000 (as opposed to $470,700 for 2017). Some taxpayers who were taxed at 39.6% in 2017 may now find themselves in the 35% tax bracket.
New Standard Deduction versus Itemized Deductions
For 2018, joint filers can enjoy a standard deduction of $24,000 (versus $12,700 for 2017).
The new standard deduction for heads of household is $18,000, and single taxpayers (including married taxpayers filing separately) can claim a standard deduction of $12,000. However, the TCJA suspends the deduction for personal exemptions.
Maximize Home Mortgage Interest Deductions
Before the TCJA, taxpayers could deduct interest paid on up to $1 million ($500,000 if married filing separately) of home acquisition debt (debt used to buy or substantially improve a first or second home).
Also, taxpayers could deduct interest paid on up to $100,000 ($50,000 if married filing separately) of home equity debt, regardless of how the proceeds were used. The TCJA cuts those numbers back significantly.
Take Advantage of the New Child Tax Credit
Under pre-TCJA law, the child tax credit was $1,000 per qualifying child, but it was reduced for married couples filing jointly by $50 for every $1,000 (or part of $1,000) by which their Adjusted Gross Income (AGI) exceeded $110,000. (The threshold was $55,000 for married couples filing separately and $75,000 for unmarried taxpayers.)
Bunch Charitable Contributions through Donor-advised Funds
The TCJA temporarily increases the limit on cash contributions to public charities and certain private foundations from 50% to 60% of AGI.
However, as we mentioned earlier, the standard deduction has almost doubled. Combined with the capping of the state and local tax deduction at $10,000 per year ($5,000 for a married taxpayer filing a separate return), changes to the home mortgage interest deduction, and the elimination of miscellaneous itemized deductions, it’s likely that fewer taxpayers will be itemizing in 2018.
Revisit Your Qualified Tuition Plans
Although the details of Qualified Tuition Plans (QTPs) can vary widely, they generally allow parents and grandparents to set up college accounts for children and grandchildren before they reach college age.
Once established, QTPs qualify for favorable federal (and often state) tax benefits, which can ease the financial burden of paying for college. QTPs may be particularly attractive to higher income parents and grandparents because there are no AGI-based limits on who can contribute to these plans.
Watch out for New Alimony Rules
Under the TCJA, certain future alimony payments will no longer be deductible by the payer.
Also, alimony will no longer be considered income to the recipient. Therefore, for divorces and legal separations that are executed (that come into legal existence due to a court order) after 2018, the alimony-paying spouse won’t be able to deduct the payments, and the alimony-receiving spouse doesn’t include them in gross income or pay federal income tax on them.
Consider Investing in Qualified Opportunity Zones
Tucked away in the TCJA is the creation of Qualified Opportunity Zones (QO Zones). These are low-income communities that meet certain requirements.
Investing in QO Zones can result in two major tax breaks: (1) temporary deferral of gain from the sale of property and (2) permanent exclusion of post-acquisition capital gains on the disposition of investments in QO Zones held for ten years. The IRS has already announced the designation of QO Zones in over 20 states and U.S. possessions. It will make future designations as submissions by states are received and certified. The IRS also plans to issue additional information on QO Zones in the future. If you’re looking to defer taxable gains while revitalizing low-income communities, QO Zones may be the way to go.
Monitor State Response to Tax Reform
States react differently to changes to federal tax law.
For example, some states automatically conform to federal tax law as soon as legislation is passed. Other states require their legislatures to adopt federal tax law as of a fixed date. This generally occurs on an annual basis. There are some states, however, that pick and choose which federal provisions to adopt. Because of this, your state income tax rules may be drastically different than the federal income tax rules. For example, you may be better off claiming the standard deduction for federal tax purposes but itemizing for state income tax purposes. We have monitored your state’s response to the TCJA and will help you minimize your state income tax bill.
Beware of the Alternative Minimum Tax
As tax reform efforts progressed late last year, there were high hopes that the individual Alternative Minimum Tax (AMT) would be repealed.
Unfortunately, it still exists under the TCJA. The good news is that you are allowed a relatively generous AMT exemption, which is deducted in calculating your AMT income. The TCJA significantly increases the AMT exemptions for 2018–2025. The exemption is phased out when your AMT income surpasses the applicable threshold, but the TCJA greatly increases those thresholds for 2018–2025. This means that less people will be subject to the AMT rules.
Maximize Your Qualified Business Income Deduction
You may have heard a lot of talk in the news about a new deduction for “pass-through” income, but it’s actually available for qualified business income from a sole proprietorship (including a farm), as well as from pass-through entities such as partnerships, LLCs, and S corporations.
Under the TCJA, individuals may deduct up to 20% of their qualified business income; however, the deduction is subject to various rules and limitations.
As we said at the beginning, this letter is to get you thinking about tax planning moves for the rest of the year. This year is definitely unique given the numerous tax law changes brought by the TCJA. Even with uncertainty about some of the TCJA’s provisions, there are things you can do to improve your situation.
Please don’t hesitate to contact us if you want more details or would like to schedule a tax planning session.