The New Year is always a good time to get reacquainted with your tax situation.
This year brings a new dimension to the task with changes arising from the Tax Cuts and Jobs Act (TCJA). Congress enacted the TCJA in December 2017, effecting some of the most significant changes in tax law in over 30 years. Most of the new provisions were effective for the 2018 tax year, so we’ll begin seeing how a number of the new provisions fit into the filing sequence during the upcoming tax season. Those changes include:
- Changes in tax rates: Rates are now generally lower; the highest rates fell from 39.6% to 37%. Rates for net capital gains and qualified dividends did not change.
- Standard deduction increased: New standard deduction amounts will be in effect for 2018 and 2019: Historically, you may have itemized deductions. This and other changes may result in a different strategy for you now. The increased standard deduction thresholds remain effective through December 31, 2025, and will be adjusted annually for inflation.
- Personal and dependent exemptions gone: In the past, taxpayers received an exemption for themselves, their spouses, and each eligible dependent claimed. The TCJA eliminated these exemptions through December 31, 2025.
- Child and family tax credit: The TCJA increased the child credit for children under age 17 to $2,000 and introduced a new $500 credit for a taxpayer’s dependents who are not their qualifying children. In addition, the phase-out limits for these credits have increased to $400,000 for joint filers ($200,000 for others), so that more individuals will be able to take advantage of this credit.
- Changes to itemized deductions:
- The overall phase-out of itemized deductions known as the “Pease provision” has been repealed.
- Itemized deductions for state and local taxes (“SALT” deductions) are now limited to $10,000 ($5,000 for those using the filing status of married filing separately). For example, if you paid $15,000 in state income taxes and $6,000 in real estate taxes on your home ($21,000 in total), your deduction would be limited to $10,000.
- Mortgage interest on loans used to acquire a principal residence and a second home is deductible only on acquisition indebtedness of up to $750,000 (down from $1 million). But loans in existence on December 14, 2017, are grandfathered (that is, interest on balances up to $1 million is still deductible).
- Interest on home equity indebtedness (such as a home equity line of credit) is no longer deductible unless the debt is really acquisition indebtedness (used to acquire the home or for home improvement). Consider whether the indebtedness was used for business or investment purposes to determine whether an interest deduction may be available in a different category.
- Cash donations to public charities are now deductible up to 60% of adjusted gross income.
- Donations to colleges and universities for ticket or seat rights at sporting events are no longer deductible.
- Miscellaneous itemized deductions, such as investment management fees, tax preparation fees, unreimbursed employee business expenses, and safe deposit box rental fees are no longer deductible.
Medical expenses are deductible to the extent that they exceed 7.5% of adjusted gross income for 2018 (the limit increases to 10% starting in 2019).These changes (except as noted) to itemized deductions are in effect from January 1, 2018, through December 31, 2025.
- Charitable Contributions: In light of the many changes, we encourage you to pay special attention to your approach to charitable giving. A combination of factors, including the increased standard deduction and the limitation on SALT deductions, may present challenges for those who are charitably minded. Your pattern of giving may not yield the same tax deduction that you’ve become accustomed to under the old laws. Depending on your charitable objectives, you might consider bunching deductions to effectively provide for deductions every other year while claiming a standard deduction in the off years to optimize your benefits under the new tax laws. For example, a married joint filer making donations of $15,000 annually might consider bunching that commitment into a single gift of $30,000 every two years instead. With this type of approach, the donor can itemize in the donation years and, in the off years, take a standard deduction to optimize charitable giving objectives with the TCJA provisions.
- New deduction for qualified business income: The TCJA has new deduction, effective for tax years 2018 through 2025, allowing individuals a deduction of 20% of qualified business income from a partnership, S corporation, or sole proprietorships. This deduction will reduce taxable income, but not adjusted gross income, and is available regardless of whether you itemize your deductions. There are many limitations and restrictions to this provision. We recommend you consult a qualified tax advisor to fully understand how this provision applies to you.
- 529 plans: Section 529 plans have become a widely used strategy for college savings. Distributions for qualified education costs are generally tax free and the assets are not considered to be part of your gross estate. You may qualify for state tax incentives for your contributions as well. The TCJA expanded the opportunities available for education tax planning by permitting $10,000 per year/per student to be distributed from Sec. 529 plans to pay for private elementary and secondary tuition.
- Alimony: Under prior law, individuals who paid alimony to an ex-spouse got a deduction for the alimony paid, while alimony recipients treated those payments as income. The TCJA eliminated the deduction for alimony paid and the recognition of income for alimony received effective for divorce decrees executed after December 31, 2018. If you are in the midst of divorce proceedings, please consult your tax and legal advisors to fully understand the impacts this could have.
- Estate and gift tax exemptions: Estate and gift tax laws have undergone a number of changes over the past decade. The annual gift tax exclusion remains $15,000 per each gift recipient for 2019. But under the TCJA, the lifetime estate and gift tax exemption almost doubled to $11.2 million per person for 2018 and increases to $11.4 million in 2019. Like most elements of the new tax act, this increased exemption sunsets on December 31, 2025, which will result in a significant decrease in the amount individuals can shield from estate taxes beginning in 2026. This change, coupled with the prospect of the sunset in 2026, could provide a valuable window for tax planning within your estate plan.
- Individual shared responsibility payment: The TCJA repealed the individual shared responsibility payment for failure to have minimal essential healthcare coverage. But this repeal does not take effect until January 1, 2019. This means that if you did not have minimal essential healthcare coverage in the 2018 calendar year, you will still be subject to the penalty if you do not meet one of the exceptions from coverage.
- Anticipate processing delays: Among the objectives of tax reform was to allow taxpayers to file on a form the size of a postcard. The IRS has drafted a new format for the 1040 which indeed results in a shorter version of Form 1040 – but also introduces six new schedules to feed into the revised 1040. Final versions of these forms were not published until very late in the year. The ability of the IRS and electronic filing agents like TurboTax to develop supporting systems will be challenged in this compressed environment. Be aware that the timing of this release has the potential to delay the commencement of filing season.
Hilliard Lyons does not provide tax advice. Individual tax payer’s situations differ and this article does not provide tailored advice for all situations. You should consult with your tax advisor before taking any action that may affect your tax status or obligations.