The tax reform legislation recently passed by Congress significantly changes the landscape for individuals beginning January 1, 2018, and continuing for many years come. For many taxpayers, the changes made by the legislation present a host of tax planning challenges and opportunities going forward. Due to the elimination or limitation on itemized deductions, and the elimination of personal exemptions, a key consideration in planning for 2018 is to first look at ways to lower your taxable income. You should thus consider maximizing all pre-tax contribution opportunities such as your 401(k). Also, despite the headlines, it will remain important for you to keep track of your medical expenses, mortgage interest, property and state income or sales tax payments and charitable contributions made during 2018 due to new restrictions on itemized deductions. Highlighted below are some of the more significant changes made by the reform legislation and possible challenges and opportunities to lower your tax bill for 2018 and beyond.
Lower Individual Tax Rates — The legislation creates lower individual income tax brackets of 10%, 12%, 22%, 24%, 32%, and 35%, and lowers the top rate from 39.6% to 37%, respectively. (The current rates would be restored in 2026, i.e., 10%, 15%, 25%, 28%, 33%, 35%, and 39.6%, respectively).
Modification of the Alternative Minimum Tax (AMT) — The legislation retains the AMT for individuals but increases the exemption amount and phaseout thresholds so fewer people will pay it. From 2018 through 2025, a higher AMT exemption will apply to income, beginning with $109,400 for joint filers and $70,300 for other taxpayers in 2018. The exemption will phase out at $1 million for joint filers and $500,000 for other taxpayers. The thresholds will be adjusted for inflation.
Increase in the Standard Deduction — Beginning in 2018, the standard deduction increases significantly from $12,700 to $24,000 for joint filers, from $9,350 to $18,000 for heads of households, and from $6,350 to $12,000 for singles. Since you can claim the higher of the standard deduction or itemized deductions, you will want to closely compare the two methods as you may now benefit from a higher standard deduction given the many changes to itemized deductions.
Elimination of Personal Exemptions — In exchange for lower tax rates and increase in the standard deduction, personal exemptions no longer may be claimed beginning in 2018.
Child and Dependent Credits — From 2018 through 2025, the reform legislation increases the value of the child tax credit to $2,000 per child under 17 from $1,000. As much as $1,400 of the credit will be refundable, thus allowing recipients to benefit even if they don’t owe taxes.
You will need to provide your child’s Social Security number to claim the refundable portion through 2025. The refundable portion of the credit will be indexed for inflation. The legislation also expands eligibility for the credit by increasing the phaseout threshold to $400,000 of adjusted gross income for joint filers (up from $110,000 under current law), with a threshold for all other filers set at $200,000. A $500 nonrefundable credit for dependents other than children will be available through 2025, (and no Social Security number is required).
$10,000 Cap on State and Local Tax Deduction — In a significant departure from prior law, the legislation will allow individuals to deduct no more than $10,000 of any combination of the following taxes – state and local income taxes, state and local property taxes, and sales taxes. This overall limitation may result in the enhanced standard deduction yielding a larger deduction against your adjusted gross income and thus a lower tax bill.
Limits on Mortgage Interest Deduction — The tax reform act reduces the amount of mortgage indebtedness on which taxpayers may deduct interest to $750,000 for mortgages incurred after December 15, 2017. (The $1 million limitation remains for older debt). Interest on your principal residence and a second home are deductible. Importantly, however, beginning in 2018, interest on home equity indebtedness no longer is deductible, regardless of when it was incurred.
Medical Expense Deduction — All individuals may deduct medical expenses for 2017 and 2018 if the expenses exceed 7.5% of adjusted gross income, regardless of age. However, the AGI threshold returns to 10% of adjusted gross income in 2019 for all taxpayers, regardless of age. Again, you will need to review whether claiming such expenses, when combined with other allowable itemized deductions, yields a higher deduction than the standard deduction.
Elimination of Deduction for Unreimbursed Employee Business Expenses — The reform act eliminates the deduction for miscellaneous itemized deductions through 2025. Thus deductions (subject to the 2% floor of adjusted gross income) for costs related to the production or collection of income, such as appraisal fees, investment fees, and safety deposit box rent are now nondeductible, and, importantly, expenses related to employment, such as uniforms, professional society dues, computer used for work, and job-hunting expenses also are non-deductible.
Employees who incur significant unreimbursed business expenses may want to ask their employer about adjusting their compensation or establish an accountable expense reimbursement plan that would allow the employer to reimburse the employee tax-free while also entitling them to a deduction against their business income.
Alimony Deduction — The tax legislation repeals the above-the-line deduction for alimony paid for divorces or separations executed after December 31, 2018. After that date, alimony payments will not be included in the recipient’s income and the payments no longer will be deductible by the payor.
Estate Taxes — The legislation doubles the estate and gift tax exclusion amount and the GST exemption to $10 million (to be adjusted for inflation from a base year of 2010 as is the current exclusion amount), effective for decedents dying and transfers made after 2017 and before 2026. After 2025, that increased amount would sunset, returning the exclusion amount to an amount calculated under current law ($5.49 million for 2017).