How Does the New Tax Law Affect You?
The 2017 Tax Cuts and Jobs Act has become law, and it will go into effect for the tax year 2018. For many, there will be benefits and savings. For others, there may be some adjustments to be made. Although this law simplifies the tax code, there is still quite a bit of information to wade through. It will take several pages to go through all of the changes, but I will focus on some major items now and more in future posts.
The tax brackets have changed to increase the income thresholds for seven tax brackets, and the tax rates have been reduced across the board.
The Standard Deduction
For starters, the Standard Deduction has almost doubled. What does this mean? If people don’t have enough deductions on the Schedule A-Itemized Deductions form that are higher than the Standard Deductions, they don’t have to file the Schedule A, and they get the Standard Deduction, which may be more than they would have been able to deduct. Typically, those who will benefit from this change are those who don't own a home, don't make large charitable contributions, or don't have significant health expenses.
Although the Standard Deduction increases, the personal exemption deduction has been eliminated. For married filing jointly, the 2017 Standard Deduction is $12,700, and it increases by $1,300 for taxpayers over age 65. The personal exemption is $4,050 per filer and dependent. If we compare the new Standard Deduction of $26,600 ($24,000 plus $2,600 over 65 deduction) for a couple over age 65 filing jointly to 2017 calculations, the total combined deduction for 2017 would be $23,400 ($12,700 plus $8,100 exemptions plus $2,600 over age 65 deduction), and results in an increased 2018 deduction of $3,200 for senior filers, which would be taxed at lower tax rates (based on their taxable income) for a financial saving.
For younger joint filers, the difference could be felt based on the number of personal exemptions for dependents. A married couple with 2 children will lose the personal exemptions they could have claimed for each dependent. However, the expanded child tax credit, which is a dollar for dollar reduction in their income tax bill, would provide a reduction in their taxes. For example, a couple with two under age 17 children would be claiming the $24,000 Standard Deduction in 2018 versus the 2017 $12,700 plus $16,200 personal exemptions for a total of $28,900. However currently, the child tax credit income threshold is $110,000 of joint modified adjusted gross income (MAGI). The new law expands the threshold to $200,000 Individual and $400,000 joint MAGI before phasing out the credit. The credit provides for $2,000 per child (versus $1,000 in 2017) with up to $1,400 refundable, based on earned income criteria. This makes up for the difference for most families resulting in a net tax bill reduction.
For those who would still itemize their deductions, some changes are going to affect how much you can itemize.
- Medical deductions are still allowed. If your medical expenses exceed your Adjusted Gross Income (AGI, on the bottom of page 1 of your return) by more than 7.5%, you can deduct the amount that exceeds 7.5%. If your AGI is $100,000, you can deduct amounts in excess of $7,500. The 7.5% limit will be in place for 2017 and 2018, then will revert to 10%, the threshold currently in place for those under age 65.
- State and Local Income (SALT), and Real Estate Taxes are all allowed deductions, but cannot exceed $10,000 combined. If you pay $10,000 in State taxes, and another $8,000 in Real Estate taxes, you are limited to $10,000. Let’s face it, you pay state taxes one way or another, so those states with low income taxes may have higher real estate taxes. This evens it out across the board for most states.
- Mortgage interest is deductible on current mortgages in place as of December 15, 2017 on principal balances up to $1,000,000. This limit drops to $750,000 after January 1, 2018. Interest on Home Equity Loans will no longer be deductible unless the debt was used to acquire, build or substantially improve the property, versus being deductible on loans up to $100,000 previously.
- Charitable deductions are still allowed, and now increased to allow up to 60% versus 50% of AGI.
- 2% Miscellaneous deductions are no longer allowed, which means expenses that were higher than 2% of your AGI that were unreimbursed employee business expense, tax prep fees, investment advisory fees and such are no longer deductible. Note that advisory fees paid from pre-tax IRA accounts are themselves tax-free, as they reduce a balance that would be subject to income tax when distributions are made.
- Casualty losses that exceed insurance reimbursements were deductible for amounts over $100 and under 10% of AGI. These deductions are now limited to losses attributable to a declared national disaster.
- The phase out of itemized deductions based on AGI thresholds has been eliminated. This “Pease Limitation” of up to 3% loss of itemized deductions was essentially an increase in taxes for those affected. This essentially reduces the tax rates for those who qualified.
AGI income and expenses are used to calculate the amount that other deductions are based on. Here are some changes coming:
No Longer Deductible
- Moving expenses, which were generally allowed when you relocated for a job over 50 miles further to work from your prior home (with some exceptions for active military). Other restrictions also applied. Moving expense reimbursements by employers are no longer deductible to the company, and these will now be taxable income for the employees.
- Alimony paid based on divorce agreements after December 31, 2018. Recipient would not claim the income as well. Payments and deductions on divorces prior to that date would remain the same as they were.
- Student loan interest deductions are unchanged up to $2,500 and deducted on page 1
- Teacher education expenses are still deductible up to $250, also on page 1
- Grad School Tuition Waivers are not taxable, so tuition discounts are not considered income
- Adoption assistance tax credit
- Elderly and Dependent care tax credit
- Electric Vehicle (plug-in) tax credit
- Private activity bond tax preferences
- Exclusion of up to $250,000 (single) or $500,000 (joint) capital gains on the sale of a primary residence (living there 2 out of the last 5 years)
- Capital Gains and Qualified Dividends will continue to be taxed at 0%, 15% and 20% rates; however, the brackets have changed slightly that move the rates and don’t cleanly line up with the new tax rates.
- The 3.8% Medicare surtax on net investments will also continue to apply for those with AGI over $200,000 individual and $250,000 joint filers.
Other Items to Note
- 529 College Savings Plans can now be used to pay for private elementary and secondary school expenses up to $10,000 per year. Homeschooling expenses are not eligible.
- The individual mandate tax penalty paid by those who did not purchase health insurance is being eliminated. This does not go into effect until tax year 2019.
- The Alternative Minimum Tax is still in the tax code; however, fewer filers would be affected by this. The thresholds have increased for individuals and joint filers for exemption from the tax, and with the reduced number of deductions, it will significantly reduce the numbers that will be impacted.
One of the goals of this tax reform was to simplify the tax code and make it easier for the vast majority of tax filers to understand and for the vast majority to see a reduction in their taxes overall. The final product is not as simple as was hoped. Tax planning has not gone away entirely, and the more complex your financial situation, the more it will still apply.
My next post will address impacts to businesses and estate taxes and some of the more technical changes taking place.
Wood Smith Advisors, a woman-owned Registered Investment Advisor (RIA), is a fee-only financial services firm that partners with its clients to simplify their financial lives. We focus on women, entrepreneurs and individuals with complex financial situations, providing objective and competent advice, education and services to help them develop and build their businesses and reach their financial goals. We can be reached by clicking here.
"Finance Made Simple" blog posts are intended for educational purposes and not for specific advice. Each person’s situation is different. Consult your financial advisor for advice relating to topics discussed.