In December 2017, the President signed into law the Tax Cuts and Jobs Act (“Tax Act” or “Act”), which introduces the most significant changes to the U.S. tax system since 1986. With a few exceptions, the provisions are generally effective starting in 2018. However, many of the changes are temporary and scheduled to sunset after 2025.
Although the Tax Act may provide simplification in a few aspects by eliminating tax provisions, there are also added complexities. Due to the number of changes, as well as some new concepts introduced in the law, there is a need for guidance from the Internal Revenue Service, and possibly from Congress in the form of technical corrections, on the final application of the law. Timing of this guidance and any technical corrections may take months. Which states will conform and to what extent those states conform with the federal changes adds to the complexities.
Given the magnitude of the tax law changes, many planning strategies will need to be studied and evaluated to assess whether they still make sense. Minimizing taxes is all about planning ahead and knowing the rules, so we at Dunham Associates CPAs would like to remind you that we are available to assist you with this effort.
What are some of the significant changes for individual taxpayers?
Below are some highlights of the significant changes to individual taxpayers. As this information is general in nature, it is not intended to address all the Tax Act changes that may impact you.
Tax rates: The Tax Act imposes a new tax structure with different tax brackets. The highest tax rate is reduced from 39.6% to 37%. Generally, the new tax rates are the same or lower for most income levels, although there are a few exceptions.
Standard deduction: The Tax Act increased the standard deduction for 2018 to $24,000 for married taxpayers filing jointly, $18,000 for heads of household, and $12,000 for all other individuals. The additional standard deduction for elderly and blind taxpayers was not changed by the Act.
Personal exemptions: The Tax Act suspends the personal exemption deduction for tax years 2018 through 2025. The withholding rules were modified to reflect the fact that individuals can no longer claim personal exemptions.
Itemized deductions: For tax years 2018 through 2025, the Act suspends the overall limitation on itemized deductions. In addition, the Act suspends the deduction for certain miscellaneous itemized deductions such as investment expenses and unreimbursed employee expenses (e.g., home office expenses, mileage, travel, etc.).
Mortgage interest: For tax years 2018 through 2025, the Act modifies the home mortgage interest deduction reducing the limit on “acquisition indebtedness” to $750,000 ($375,000 for married taxpayers filing separate returns). The Act has a carve-out allowing the prior-law limit of $1 million for “acquisition indebtedness” to apply in 2018 if you entered into a binding written contract for the purchase of your principal residence before December 15, 2017, and certain conditions are met in 2018.
Home-equity loans: Although the Act suspends the home-equity loan interest deduction for tax years 2018 through 2025, the IRS has issued clarification as of February 21, 2018, stating that taxpayers in many cases can continue to deduct interest on a home-equity loan if the loan is used to buy, build or substantially improve the taxpayer’s home that secures the loan. As under prior law, the loan must not exceed the cost of the home and must meet other requirements.
State and local taxes: Under the Act, the combined deduction for state and local income and property taxes is limited to $10,000 for individual taxpayers and married couples filing jointly ($5,000 for married taxpayers filing separately) for tax years 2018 through 2025.
“Pass-through” income deductions: For tax years 2018 through 2025, individual taxpayers may be allowed to deduct up to 20% of domestic “qualified business income” from partnerships, S Corporations, trusts and estates, and sole proprietorships. These are business entities that do not pay income tax at the business entity level, but where the profits and other income of the business “pass through” to the owners (or to the beneficiaries in the case of a trust). The rules are very complicated and there are phase-out limitations that may apply.
Individual AMT: The Alternative Minimum Tax (AMT) for individuals was retained but the exemption amount and thresholds were increased. The exemption and threshold amounts will be indexed for inflation. However, the increased exemption amounts and thresholds are scheduled to sunset after 2025.
Child tax and dependent credits: The Tax Act increased the amount of the child tax credit to $2,000 per qualifying child. The maximum refundable amount of the credit is $1,400 per qualifying child. The Tax Act also created a new nonrefundable $500 credit for qualifying dependents who are not qualifying children. The threshold at which the credit begins to phase out was increased to $400,000 for married taxpayers filing a joint return and $200,000 for all other taxpayers.
Education provisions: The Tax Act modifies Sec. 529 plans to allow them to distribute up to $10,000 in expenses for tuition incurred during the tax year at an elementary or secondary school. This limitation applies on a per-student basis, rather than on a per-account basis.
Alimony: For any divorce or separation agreement executed after December 31, 2018, the Tax Act provides that alimony and separate maintenance payments will not be deductible by the spouse making alimony payments and will not be considered income for the spouse receiving payments.
Moving expenses: The moving expense deduction is suspended for tax years 2018 through 2025, with the exception of certain military personnel.
Estate tax: The Tax Act doubles the basic exclusion amount from $5 million to $10 million and will be indexed for inflation.
Individual mandate: The Tax Act reduces to zero the amount of the penalty under Sec. 5000A, imposed on taxpayers who do not obtain health insurance that provides at least minimum essential coverage, effective after 2018.
What are some of the significant changes for business taxpayers?
Below are some highlights of the significant changes to businesses. As this information is general in nature, it is not intended to address all the Tax Act changes that may impact your business.
Tax rates: The Tax Act introduced a major change, which is the reduction of the corporate tax rate to a flat 21%, effective 2018. For fiscal year corporations that begin during 2017 and have their fiscal year end in 2018, Code Section 15 provides an alternative way to calculate the taxes that, in effect, provides a blended tax rate.
Deduction for pass-through businesses: The Tax Act has a new provision that provides up to a 20% deduction on qualified business income (“QBI”) for business entities that do not pay income tax at the business entity level, but where the profits and other income of the business go to or “pass through” to the owners (or to the beneficiaries in the case of a trust). The calculation is very complex and can be limited based on taxable income as well as the type of trade/business income that is applicable. More guidance is still needed on the final application of the law related to this new deduction.
Corporate AMT: Alternative Minimum Tax (AMT) for corporations has been repealed.
Entertainment expenses/fringe benefits: The Tax Act provides that no deduction will be allowed for entertainment expenses (whether directly related or associated with a trade or business). Taxpayers may still generally deduct 50% of business meals associated with operating their trade or business if they are traveling for work, but more guidance is necessary on what this will mean for meals that are not related to travel (taking clients out to lunch, etc.). The Act also made changes to the taxable nature of certain employee fringe benefits (e.g., qualified transportation, moving expenses, etc.).
Depreciation: Several modifications to the depreciation rules were addressed in the new Tax Act and not all of them are noted in this communication. One notable change, however, is that the Act permits full and immediate expensing (“bonus depreciation”) up to 100% of the cost of qualified property placed in service beginning September 28, 2017 and before January 1, 2023. Qualified property available for bonus depreciation now includes “used” property that is acquired. One other notable change is that the Act expanded the definition of property subject to Internal Revenue Code (“IRC”) Section 179, as well as increased the limitation to $1 million and increases the phase-out threshold to $2.5 million for property placed in service on or after January 1, 2018.