When the formal tax reform process began during the second half of 2017, the key goals were to simplify the tax code, eliminate certain unpopular taxes, reduce taxes for the middle class and significantly reduce the corporate tax rate. In the end, we have the Tax Cuts and Jobs Act, which addresses many of those areas to some degree, but might not simplify taxes to the extent some were hoping. In addition, many of the provisions are scheduled to expire after 2025, which means steps will likely be taken over the coming years to make various tax laws permanent or else run the risk of creating another “Fiscal Cliff” situation as was the case several years ago. The following are some key provisions, which impact individual tax payers:
1. The highest marginal income tax rate will decrease from 39.6% to 37%. While there was a lot of talk about reducing the number of income tax brackets, the new law continues to have seven brackets 10%, 12%, 22%, 24%, 32%, 35%, and 37%.
In general, these brackets allow for moderately lower marginal rates for most filers. However, married filers making between $400,000 and $424,950, and single filers with income between $200,000 and $424,950 will move into a higher 35% bracket. The prior law kept those filers in the 33% bracket.
2. The tax rates on long-term capital gains and qualified dividends do not change with rates of 0%, 15% and 20%. Although the rates are attached to specific dollar amounts, not the new income tax brackets.
3. The 3.8% Medicare surcharge on net investment income was not repealed and therefore, the maximum rate for long-term capital gains continues to be 23.8%, plus possible state tax.
4. The personal exemption, a deduction allowed for each taxpayer and their dependents, is permanently repealed.
5. The Standard Deduction almost doubled to $24,000 for married, $18,000 for head of household, and $12,000 for singles. With a much higher Standard Deduction, which is a permanent change, fewer taxpayers will choose to itemize, which can simplify the filing process for many.
6. There is a larger Child Tax Credit of $2,000 per qualifying child under 17, with much higher income phase-outs of $400,000 for married and $200,000 for heads of households and singles. There is also a $500 credit for dependents not eligible for the child credit.
7. The deduction for state and local taxes (SALT) has not been fully repealed, as outlined in early proposals. The SALT deduction is capped at $10,000 and was a late compromise to satisfy taxpayers in high tax states.
8. The mortgage interest deduction for first and second homes is lowered to a maximum loan of $750,000 from $1 million for mortgages after December 15, 2017. Existing mortgages can be grandfathered under the current law of $1 million.
9. The Alternative Minimum Tax (AMT) has not been repealed, despite rumors of its demise. However, the new law increases the exemption amounts significantly to $109,400 for married filers and $70,300 for singles. The phase out for the exemption increases from $150,000 to $1 million for married filers and from $112,500 to $500,000 for singles. This AMT change expires in 2025.
10. Medical expenses can be deductible in 2017 and 2018 if they exceed 7.5% of Adjusted Gross Income (AGI). In 2019, it returns back to 10% of AGI.
11. Various expenses that fall under Miscellaneous Itemized Deductions e.g., tax preparation fees, investment fees, trustee fees and union dues, are no longer deductible.
12. Charitable contributions remain deductible. In fact, cash gifts to public charities can now be deductible up to 60% of AGI, up from 50%. It remains to be seen how much the higher standard deduction impacts charitable donations since fewer filers will be itemizing.
13. The estate tax exemption is doubled to $11.2 million per person (or $22.4 million for married couples) with a 40% tax rate. Lifetime gift and generation-skipping transfer tax exemptions are also increased to the same level. The exemption is indexed to inflation until 2025, then will revert back to 2017 levels (adjusted for inflation).
14. 529 plan assets can now be used to fund K-12 education up to $10,000 per year. Early proposals eliminated the ability to contribute to Coverdell Account, which can also fund K-12 expenses, but the final Bill allows for contributions.
15. Roth IRA conversions can no longer be re-characterized which means that investors must be fully committed to a conversion before making a decision. Contributions to Roth IRAs can be re-characterized.
16. The mandatory FIFO rule to determine the cost basis of securities sold is not in the new law. This means that investors will continue to have the option to identify specific lots of a security to sell, if they own multiple lots, for possible tax advantages.
There are key provisions in the Tax Cuts and Jobs Act which will impact individuals and businesses in 2018 and beyond. Our team is available to answer specific questions you have. To stay up to date on tax reform and other important topics, subscribe to our blog.
