Category: Individual Tax Planning
Posted: December 2018
Year-end planning for 2018 takes place against the backdrop of a new tax law – the Tax Cuts and Jobs Act – that made major changes in the tax rules for individuals and businesses. As the end of the year approaches, it is a good time to think of planning moves that will help lower your tax bill for this year and possibly the next.
Tax rates. The new law imposes a tax rate structure with seven tax brackets: 10%, 12%, 22%, 24%, 32%, 35%, and 37%. The top rate has been reduced from 39.6% to 37%. This applies to taxable income above $500,000 for single taxpayers and $600,000 for married couples filing jointly. Long-term capital gain from sales of assets held for over one year is taxed at 0%, 15% or 20%, depending on the taxpayer's taxable income.
"Kiddie tax" rules. The net unearned income of a child subject to the rules will be taxed at the capital gain and ordinary income rates that apply to trusts and estates. Thus, the child's tax is unaffected by the parent's tax situation or the unearned income of any siblings.
Standard deduction. The new law increases the standard deduction to $24,000 for joint filers, $18,000 for heads of household, and $12,000 for singles and married taxpayers filing separately. Given these increases, many taxpayers will no longer be itemizing deductions. These figures will be indexed for inflation after 2018.
Suspended exemptions. Starting in 2018, taxpayers can no longer claim personal or dependency exemptions. The rules for withholding income tax on wages will be adjusted to reflect this change, but the IRS was given discretion to leave the withholding unchanged for 2018.
"Qualified business income" deduction. Starting in 2018, taxpayers may deduct up to 20 percent of "qualified business income," otherwise known as "pass-through" income, i.e., income from partnerships, S corporations, LLCs, and sole proprietorships. The income must be from a trade or business within the United States. Investment income does not qualify, nor do amounts received from an S corporation as reasonable compensation or from a partnership as a guaranteed payment for services provided to the trade or business. The deduction is not used in computing adjusted gross income, just taxable income. For taxpayers with taxable income above $157,500 ($315,000 for joint filers), (1) a limitation based on W-2 wages paid by the business and depreciable tangible property used in the business is phased in, and (2) income from the following trades or businesses is phased out: health, law, consulting, athletics, financial or brokerage services, or where the principal asset is the reputation or skill of one or more employees or owners.
Child and family tax credit. The new law increases the credit for qualifying children (i.e., children under 17) to $2,000 from $1,000, and increases the refundable portion of the credit to $1,400. It also introduces a new (nonrefundable) $500 credit for dependents who do not qualify as children. The adjusted gross income level at which the credits begin to be phased out has been increased to $200,000($400,000 for joint filers).
State and local taxes. Starting in 2018, the itemized deduction for state and local income and property taxes is limited to a total of $10,000.
Mortgage interest. Starting with loans taken out in 2018, mortgage interest on loans used to acquire a principal residence and a second home is only deductible on debt up to $750,000 (down from $1 million). There is no longer a deduction for interest on home equity loans, regardless of when the debt was incurred.
Miscellaneous itemized deductions. There is no longer a deduction for miscellaneous itemized deductions which were formerly deductible to the extent they exceeded 2 percent of adjusted gross income. This category included items such as tax preparation costs, investment expenses, union dues, and unreimbursed employee expenses.
Medical expenses. For 2017 and 2018, medical expenses are deductible to the extent they exceed 7.5 percent of adjusted gross income for all taxpayers. Previously, the AGI "floor" was 10% for most taxpayers.
Casualty and theft losses. The itemized deduction for casualty and theft losses has been suspended except for losses incurred in a federally declared disaster area.
Itemized deductions. The new law suspends the overall limitation on itemized deductions that formerly applied to taxpayers whose adjusted gross income exceeded specified thresholds. The itemized deductions of such taxpayers were reduced by 3% of the amount by which AGI exceeded the applicable threshold, but the reduction could not exceed 80% of the total itemized deductions, and certain items were exempt from the limitation.
Moving expenses. The deduction for job-related moving expenses has been eliminated, except for certain military personnel. The exclusion for moving expense reimbursements has also been suspended.
Alimony. For post-2018 divorce decrees and separation agreements, alimony will not be deductible by the paying spouse and will not be taxable to the receiving spouse.
Health care "individual mandate." Starting in 2019, there is no longer a penalty for individuals who fail to obtain minimum essential health coverage.
Estate and gift tax exemption. Effective for decedents in 2018, the estate tax exemption has been increased to roughly $11.2 million ($22.4 million for married couples). The annual exclusion amount that an individual can give to any number of individuals without eating into the lifetime gift tax exemption was not changed by the new tax law. It will be $15,000 for 2018, up from $14,000 in 2017, thanks to indexing for inflation.
Alternative minimum tax (AMT) exemption. The AMT has been retained for individuals by the new law but the exemption has been increased to $109,400 for joint filers ($54,700 for married taxpayers filing separately) and $70,300 for unmarried taxpayers. The exemption is phased out for taxpayers with alternative minimum taxable income over $1 million for joint filers and over $500,000 for all others.
As you can see from this overview, the new law affects many areas of taxation. If you wish to discuss the impact of the law on your particular situation, please contact our office.
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