26 Nov 2018 Tax Planning Ideas & Updates
2018 Tax Planning Ideas & Updates
To Our Clients and Friends:
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 2018 tax planning ideas & 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 2018 tax planning ideas under the TCJA for you to think about while there’s still some time left to take tax-saving actions. Some of the ideas may apply to you, some to family members, and others to your business.
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%. 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. In other good news, the TCJA didn’t change the capital gains rate structure. Therefore, most categories of long-term capital gain are taxed at 0%, 15%, or 20%. The maximum 20% rate applies to joint filers with 2018 taxable income above $479,000. The bottom line is that taxpayers falling outside of the top ordinary tax bracket of 37% can be subject to the maximum capital gains rate of 20%. As you evaluate investments held in your taxable brokerage firm accounts, consider the tax impact of selling appreciated securities before the end of this year. It often makes sense to hold appreciated securities for at least a year and a day before selling to qualify for the lower long-term gain tax rate.
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. If you typically claim the standard deduction (as opposed to itemizing deductions), chances are your tax bill will decrease for 2018. Although personal exemption deductions are no longer available, a larger standard deduction, combined with lower tax rates and an increased child tax credit, may result in less taxes. However, if you usually itemize deductions, the larger standard deduction may change this. Also, the TCJA eliminates or limits many of the itemized deductions.
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. For 2018–2025, the TCJA reduces the limit on home acquisition debt to $750,000. For married taxpayers filing separately, the debt limit is halved to $375,000. Also, the TCJA generally disallows home equity debt interest.
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. Starting in 2018, the TCJA doubles the child tax credit to $2,000 per qualifying child under age 17. It also allows a new $500 credit (per dependent) for any of your dependents who aren’t qualifying children under 17. There is no age limit for the $500 credit, but the tax tests for dependency must be met. The TCJA also substantially increases the “phase-out” thresholds for the credit. Starting in 2018, the total credit amount allowed for a married couple filing jointly is reduced by $50 for every $1,000 (or part of $1,000) by which their AGI exceeds $400,000. The threshold is $200,000 for all other taxpayers. So, if you were previously prohibited from taking the credit because your AGI was too high, you may now be eligible to claim the credit.
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. One way to combat this is to bunch or increase charitable contributions in alternating years. This may be accomplished by donating to donor-advised funds. Also known as charitable gift funds or philanthropic funds, donor-advised funds allow donors to make a charitable contribution to a specific public charity or community foundation that uses the assets to establish a separate fund. Taxpayers can claim the charitable tax deduction in the year they fund the donor-advised fund and schedule grants over the next two years or other multiyear periods. This strategy provides a tax deduction when the donor is at a higher marginal tax rate while actual payouts from the account can be deferred until later.
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. It’s important to emphasize that pre-TCJA rules apply to already-existing divorces and separations, as well as divorces and separations that are executed before 2019.
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.
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. Although there is some uncertainty surrounding this new deduction, there are some planning strategies we can consider. For example, there are ways to adjust your business’s W-2 wages to maximize your qualified business income deduction. Also, it may be helpful to convert your independent contractors to employees, assuming the benefit of the deduction outweighs the increased payroll tax burden. Other planning strategies include investing in short-lived depreciable assets, restructuring the business, and leasing or selling property between businesses. We will work with you to determine which strategies produce the best outcome. Conclusion 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.