The government just signed into law a new tax bill on December 22, 2017 called the Tax Cuts and Jobs Act. Here’s how it affects you:
New Tax Bill Changes for Individuals
1) Increase Standard Deduction Amounts – The new tax bill nearly doubles your standard deduction from changing a single filer’s deduction from $6,350 to $12,000 ($13,550 if you’re 65 or older). Families can now deduct $24,000 ($26,500 if you’re 65 or older), which is an increase from $12,700 in 2017 (Don’t get too excited families: your tax bill will likely increase because of the elimination of personal exemptions. See #5 below). Most people will now simply claim the standard deduction on their taxes instead of itemizing deductions. This is especially the case since some of the deductions simply went away.
2) Lower Tax Rates – The new tax bill lowers your tax rates at all levels except for the first bracket. The new highest tax bracket is 37%. The vast majority of hard-working middle class Americans will see their taxes drop by a little less than 3%. Both the 2nd and 3rd tax brackets dropped by 3% with the 4th bracket dropping by 4%. The low income and high income brackets dropped less than the middle income brackets.
3) Eliminates Many Deductions – The new tax bill eliminates most deductions like alimony, moving expenses, home equity loan interest, unreimbursed business expenses for employees, and tax preparation fees.
4) Some Deductions Stay As-is – The new tax bill keeps deductions for charitable contributions, retirement savings, and student loan interest.
5) Eliminates Personal Exemptions – Your personal exemptions were eliminated with the passage of the Tax Cuts and Jobs Act. You used to get one exemption for yourself and one for each dependent. This exemption was worth $4,050 per person in the 2017 tax year. A family of four filing jointly for the 2017 tax year would get $16,200 in personal exemptions: 2 adults and 2 children.
This is going to have a huge negative impact on families with more than two kids. The increase in the standard deduction offsets the elimination of the personal exemptions for smaller families. However, if you have three or more kids, you’ll be hit with a tax increase that isn’t likely to be offset by the lower tax brackets. For example, a family with three kids will have about $20,250 (5 exemptions x $4,050) eliminated from exemption with only a $11,300 increase ($24,000 – $12,700) in the standard deduction. That’s about $9,000 in income that they will now have to pay taxes on when they didn’t before the new tax bill.
Lower income and lower-middle income families will likely see a tax increase because of the elimination of personal exemptions. Folks on the lower income side won’t benefit as much from the reduced tax brackets as higher income earners. This is akin to a regressive tax on the poor because it will hit them harder than middle to upper-middle income earners. A 3% tax break for someone making $50,000 is less on an absolute basis than a 3% tax break on someone making $200,000. I don’t think this issue with the tax bill is widely known yet, but people are going to be really upset when their companies start withholding more from their paycheck and their take home pay is reduced.
6) Child Tax Credit Increase – The child tax credit is $2,000 per child for the 2018 tax year, which is double the amount previously allowed. This should help offset the tax increase on families to a degree. The income threshold for phaseouts were also raised. Phaseouts begin at $400,000 AGI for couples and $200,000 AGI for all other filers. Also, if you take care of your parents and they qualify as dependents (live with you and you support them) then you get $500 per non-child qualifying dependent. See your tax advisor for what is considered a non-child qualifying dependent.
7) Changes the Floors and Caps of Deductions
The new tax bill lowers the floor on medical and dental expenses from 10% to 7.5% of your adjusted gross income. If you have adjusted gross income of $20,000 and have $5,000 in medical expenses, you’ll be able to deduct $3,500 ($5,000 – ($20,000 x 7.5%)).
State and local taxes (SALT), income, and property taxes are now capped in the aggregate at $10,000 for joint filers ($5,000 for single and filing separately). Real estate investors: you can still deduct property taxes on your rentals. There is no cap for items which are deductible on Schedule C, E, and F.
The new tax bill limits the deduction on your mortgage interest to $750,000 of the loan. The GOP originally wanted to cap the mortgage interest deduction to $500,000 but it appears that was adjusted higher in the final bill per Section 163(h)(3) amendment. The old amount prior to any mention of the new tax bill was $1 million. This means that if your loan amount on your primary residence is greater than $750,00, you won’t be able to deduct all the interest but you’ll still be able to deduct an amount related to the cap.
8) Estate Tax Doubles – The estate tax doubles to about $11 million if you’re single and $22 million for married couples. This is the amount that is sheltered from the death tax so your heirs don’t have to pay tax on this amount.
9) Long Term Capital Gains & Dividend Taxed the Same – There’s no change to the long term capital gains and dividend income tax rate; however, there are now income thresholds for the taxable amounts instead of using the brackets. The rates are 0% for joint filers and surviving spouse with a $77,200 income ($38,600 for individuals); 15% for joint filers between $77,200 and $479,000 in income; and 20% for joint filers with incomes above $479,000. These amounts are indexed to the chained CPI like most of the new indexing.
New Tax Bill Changes for Corporations
1) Lower Tax Rate – Corporations will receive a lower max tax rate of 21% starting in 2018. This is by far the biggest change in the tax bill. The maximum corporate tax rate was 39% previously. Businesses will now have more profit because they won’t be paying as much to the federal government. I think they’ll use the added capital on dividends, stock buybacks, and reinvestment in their businesses. The latter could translate into better jobs and higher wages, but it has indirect employee impact.
2) Increased Section 179 Deductions – These are the accelerated deductions that a lot of small corporations live for. Corporations will be able to deduct $1 million instead of $500,000 for short-lived capital investments.
3) Pass-Through Entity Income Deduction – The new tax bill allows for a 20% deduction on qualified business income. This doesn’t apply to healthcare firms, law firms, or other professional services.
4) Net Interest Expense Deduction Limits – The Tax Cuts and Jobs Act limits the deductions for net interest expense to 30% of EBITDA for 4 years and 30% of EBIT after the 4th year.
5) Eliminates NOL Carrybacks – This bill eliminates net operating loss carrybacks. Corporations will no longer be able to take their NOLs back to readjust previous tax bills and get a benefit. Also, there’s a limit on carryforwards of NOLs to 80% of taxable income.
Make sure you take any and all deductions you can in 2017 because you won’t get credit for many in 2018. Also, you’re not very likely to itemize your deductions in the 2018 tax year. I heard something like 95% of taxpayers will simply claim the standard deduction because it will be incredibly high going forward. This should make your taxes much easier to complete going forward; however, there are still some quirky happenings in the tax bill. See what you can do to use software to plan your income, investments, and tax liability.