Tax Reform – Tax Cuts and Job Act Of 2017On Friday, December 22, 2017, President Donald Trump signed into law what is commonly referred to as the Tax Cuts and Jobs Act of 2017. This historic piece of legislation is the largest overhaul of the Internal Revenue Code since the Tax Reform Act of 1986 signed by then President Ronald Reagan. Most of the new tax provisions become effective January 1, 2018 so most taxpayers are anxious to learn how they will be affected. Although many of the new provisions are set to lapse in 2025, the following are a few of the most notable changes coming to the Tax Code in the New Year:
Although the President and many Republican members of Congress promised a “simpler” Tax Code, the final bill is anything but that. For starters, despite the push for fewer tax brackets, the final bill includes seven final tax brackets, which is the same number of brackets under the previous law. The new law outlines seven tax brackets: 10%, 12%, 22%, 24%, 32%, 35%, and 37%. To find out which bracket you are in you can read the bill here.
Taxpayers can either take a standard deduction or itemize their deductions if the total of the itemized deductions exceed the standard deduction. Under the old provisions, single taxpayers were given a standard deduction of $6,350 and married filers were given a standard deduction of $12,700 (adjusted for inflation). Under the new provisions, single filers are given a deduction of $12,000 and taxpayers filing MFJ (married filing jointly) are given a deduction of $24,000. Head of Household filers will now be allowed a standard deduction of $18,000.
Under the [now] old Tax Code, taxpayers were allowed an exemption of $4,050 for themselves, their spouse (if filing MFJ), and for each qualifying child. Under the Tax Cuts and Jobs Act personal exemptions are completely repealed. The repeal of the personal exemption is nearly offset by the expansion of the standard deduction (see above) and larger Child Tax Credit (see below).
CHILD TAX CREDIT
The Child Tax Credit is being raised from $1,000 to $2,000 under the new bill. Additionally, $1,400 of the new Child Tax Credit is refundable. Tax credits reduce tax liability dollar-for-dollar. Under the new law, if the Child Tax Credit reduces your liability beyond what you owe, you will receive a refund (free money) up to $1,400. Under the old law, no part of the Child Tax Credit was refundable. With phase-outs beginning at $200,000 ($400,000 for MFJ), this credit is especially helpful to middleclass families.
The deduction for charitable contributions has previously been capped at 50% of adjusted gross income (AGI) with any excess being carried forward to future years (up to 5 years). Under the new tax law, the charitable deduction limit is expanded to 60% of AGI but charities may still be negatively affected. Since charitable contributions are included in itemized deductions, a taxpayer’s itemized deductions must exceed the standard deduction in order for charitable deductions to have any effect on their tax liability. Since the new law doubles the standard deduction and limits SALT deductions (see below), most taxpayers will utilize the standard deduction and will receive no tax benefit by giving to charity. As a result, charitable organizations may begin to see a decline in contributions in 2018.
STATE AND LOCAL TAX (SALT) DEDUCTION
Another itemized deduction change is the new provision regarding SALT deductions. Under the new law, state income tax and property tax deductions are capped at $10,000 per year. This largely affects residents of California and New York where there is typically higher income, a significant state income tax, and higher property taxes compared to other states. This provision – along with the expanded standard deduction – will significantly decrease the number of taxpayers that itemize their deductions.
MORTGAGE INTEREST DEDUCTION
The mortgage interest deduction is now limited to $750,000 in acquisition indebtedness (previously $1,000,000). In addition, the deduction for home equity debt (including the HELOC) is repealed.
ESTATE TAX EXEMPTION
The Estate tax exemption (including lifetime gifts) is doubled from $5,600,000 to $11,200,000. Married couples can now leave $22,400,000 to their heirs without paying a dime to Uncle Sam.
Beginning in 2019, there will be no tax penalty for failing to obtain qualified health insurance.
For divorce agreements entered into beginning January 1, 2019, alimony payments will no longer be tax deductible by the payer and alimony payments received will no longer be taxed to the payee. Under current law, the payer is entitled to a deduction and the payee must report the alimony as income. Provisions for child support are unaffected; payments are not deductible by payer and not included in income by the payee.
Under the old tax law, employees were able to deduct qualified moving expenses in connection with relocating to a new place of work. On the other hand, employees were able to exclude certain payments from employers for qualified moving expenses. Under the new tax law both provisions are repealed except for members of the military. Employees can no longer deduct moving expenses and they cannot exclude moving expense reimbursements from their income.
CORPORATE TAX RATE/AMT
The new tax law reduces the corporate tax rate from 35% to 21% effective 2018.
Alternative Minimum Tax (AMT) is a parallel tax system that determines the minimum tax a corporation must pay. Under the new tax law, the corporate AMT is repealed and the corporate tax rate is fixed at 21%.
NET OPERATING LOSSES (NOL’s)
Previously, corporations have been permitted by law to “carryback” their net operating losses (NOL’s) to the previous two taxable years and/or “carryforward” their losses to the following twenty years. Traditionally, NOL’s could offset taxable income completely. Under the new provision, carrybacks are generally disallowed and the carryforward period becomes indefinite. Additionally, NOL’s can now only offset 80% of taxable income.
Flow-through entities – also referred to as pass-through entities – are business structures that pass income through to the shareholder(s) personal tax return and the income is taxed at the individual’s tax rate. Flow-through entities include: sole proprietorships, LLC’s, Partnerships, S-Corporations, Trusts, and Estates. Under the new tax law certain pass-through entities will be allowed a 20% deduction from AGI based on a percentage of wages paid and/or a percentage of basis of qualifying property. The application of this provision is still a bit ambiguous as to which entities qualify and the calculation of applicable wages and basis in property.
FLOW-THROUGH LOSS LIMITATION
The new tax law limits active flow-through business losses to $250,000 ($500,000 for MFJ). Any excess losses are carried forward as NOL’s. Under the previous tax law, there were no deduction limits for active losses.
LIKE-KIND EXCHANGES (§1031)
Under the new tax law, like-kind exchanges apply only to real property. Previously, §1031 exchange rules applied to almost any kind of like-kind property. Many speculate that this change is correlated to the recent surge in popularity of the buying, selling, and trading of Cryptocurrency. Section 1031 exchanges allow taxpayers to defer gains and/or losses on the property(s) disposed of.