The final weeks of 2017 brought with it the approval of the Tax Cuts and Jobs Act, the likes of which are poised to impact the financial decisions you make this year. Since the US Tax code is an infamously complicated piece of legislation, regardless of the version, we will summarize the components we will feel are most critical to the financial well-being of our clients and readers.
Tax Brackets: If you are a taxpaying, American citizen, this change positively affects you. The new law maintains the seven marginal tax brackets that existed previously, but with lower respective marginal rates. Therefore, if you’re a married couple earning $150,000, your top tax rate will be 24% for 2018, rather than 28% and for married couples earning more than $600,000, your new top tax rate will be 37% for 2018, rather than the previous 39.6%. Capital gains rates will be the same: 0% for those in the 0-12% brackets, 20% for earners in the 37% bracket, and 15% for all those in-between.
The new law also means more good news for AMT payers, which still exists, but the exemptions are raised to $109,400 for couples and $70,300 for single filers. Then, the often-burdensome exemption phaseout for AMT is raised to $1 million for joint filers and $500,000 for individuals. For children, however, the Kiddie Tax experienced a major, arguably unfavorable, revision.
Unearned income, attributed to children under age 18, used to be taxed at their parents’ marginal income tax rate. Now, that income is taxed at the ordinary income and capital gains rates applicable to trusts and estates; typically, a much higher rate than their parents pay. One might say a silver lining is that the child tax credit will be doubled under the new law, to $2,000 for each dependent under 17, and the income phaseouts for that credit are raised to $400,000 for couples and half that for all other filers. If you’re caring for a nonqualifying dependent as well, such as a parent, there is a new, $500 per dependent credit, with the same phaseouts.
For businesses, what used to be a 35% tax rate for C-Corporations is now 21% and AMT is completely abolished. This means healthy corporations will be inherently more profitable.
Deductions & Exclusions: The standard deduction for individuals and couples isn’t just higher, it’s nearly double. As a result of this increase, personal exemptions for individual filers and their dependents are completely eliminated. Deductions for most job-related moves and casualty losses, theft losses, and post-2018 alimony are no longer available as well as miscellaneous write-offs that were subject to the 2%-of-AGI floor. Moreover, new mortgage interest is only deductible up to $750,000 and home equity loan interest on new or existing loans is no longer deductible. Though, the deductions you were formerly able to claim for residential property, income, or sales tax are now capped, in aggregate, at $10,000.
All is not lost, however. Upper-income taxpayers are relieved of the burdensome phaseout for itemized deductions that used to exist under the old tax law. Those tax payers with more than $5.5 million of assets can also breathe a sigh of relief, as the lifetime estate and gift tax exemption has now doubled to $11 million per individual. Though the 40% tax on assets above the lifetime limit remains.
The charitable contribution write-off is not only preserved, but increased from 50% to 60% of AGI and the AGI limit for medical expense deductions has been reduced from 10% of AGI to 7.5%, which should prove to make the medical expense deduction more accessible. Gamblers should also tip their cap to the tax reformers, because the write-off for personal gambling losses, to the extent of winnings, remains intact.
While 529 college savings plans are being enhanced, a popular strategy for Roth conversions has been repealed. Regarding the revisions to 529 rules, taxpayers may still contribute up to the gift tax limit ($15,000 per recipient in 2018), but the improvement is that the account can now be used to fund tuition for elementary, as well as secondary education. Since the tax law is an ongoing series of ‘give and take’, the popular recharacterization of a Roth IRA conversion (a do-over), is no longer available. Therefore, once a Traditional IRA is converted to a Roth IRA, the procedure cannot be reversed.
Even though the only two guarantees in life are death and taxes, that does not imply that these changes will be around forever. In fact, unless another congress extends these amendments to the tax code, the individual tax laws will expire in 2025. The new corporate tax laws however, are permanent.