The recently enacted Tax Cuts and Jobs Act (TCJA) is a sweeping tax package. Here is a look at some of the more important elements of the new law. This is not a comprehensive review, but rather a summary of those items that we feel are the most relevant to our individual and business clients.
While the TCJA will lower rates at many income levels, determining the overall impact on any particular individual or family will depend on a variety of other changes made by the Act. These changes include increases in the standard deduction, loss of personal and dependency exemptions, a dollar limit on itemized deductions for state and local taxes, and changes to the child tax credit and the taxation of a child’s unearned income, known as the Kiddie Tax. We have included a brief explanation of these and other changes below. Unless otherwise noted, all individual changes discussed below are effective for tax years beginning in 2018 through 2025.
Tax Rates – Individuals are subject to income tax on “ordinary income,” such as compensation, and most retirement and interest income, at increasing rates that apply to different ranges of income depending on their filing status. The TCJA reduced the top tax rate from 39.6% to 37%. The tables below compare the dollar ranges of the previous and new brackets for single and married filing joint taxpayers. While these rate changes will not affect the 2017 tax return you will soon file, they will immediately affect the amount of withholding from 2018 wages or your 2018 estimated payments.
Capital Gains – The TCJA generally keeps the existing capital gains tax rates: 0% for net capital gain that would be taxed at the 10% or 15% rate if it were ordinary income; 15% for gain that would be taxed above 15% and below 39.6% if it were ordinary income, or 20% for gain that would be taxed at the 39.6% ordinary income rate. With the tax rate changes, for 2018, the 15% breakpoint is: $77,200 for joint returns and $38,600 for single. The 20% breakpoint is $479,000 for joint returns and $425,800 for single taxpayers.
AMT – Alternative Minimum Tax is a second tax system that was designed to reduce a taxpayer’s ability to avoid taxes by using certain deductions and benefit items. No single factor automatically triggers AMT liability, but some common factors in the past have been itemized deductions for state and local income taxes; itemized deductions for miscellaneous expenditures; and differences in depreciation of fixed assets. With the removal of some of these deduction items and the increase in the standard deduction as discussed later, the individuals subject to AMT will decrease. The TCJA has also increased the exemption amount and the phase out amounts related to the exemptions for AMT, making it less likely to hit at lower income levels. If you have questions as to whether AMT may apply to you in future years, please call our office.
Exemptions – The new law suspends the deduction for personal exemptions. Thus, starting in 2018, taxpayers can no longer claim personal or dependency exemptions. The rules for withholding income tax on wages will be adjusted to reflect this change (see business section below).
Standard Deduction – The new law increases the standard deduction to $24,000 for joint filers, $18,000 for heads of household, and $12,000 for singles and married taxpayers filing separately. These figures will be indexed for inflation after 2018. Given these increases, many taxpayers will no longer be itemizing deductions on their federal tax returns. However, many states, including Mississippi, have a much lower standard deduction; therefore, many taxpayers will still be itemizing their deductions for state purposes.
Itemized Deductions – Several itemized deductions have been revised or eliminated. Please refer to the chart below. Also, the overall limitation on itemized deductions, which formerly applied to taxpayers whose adjusted gross income exceeded specified thresholds, has been suspended.
Note: Business and rental property interest and real estate taxes are not restricted by this TCJA provision. Depending on your personal situation, there may be other restrictions to currently deducting these items. Please consult your tax advisor.
Moving expenses – The deduction for job-related moving expenses has been eliminated, except for certain military personnel. The exclusion from taxable wages for employer-reimbursed moving expenses has also been suspended.
Alimony – For post-2018 divorce decrees and separation agreements, alimony will not be deductible by the paying spouse and will not be taxable to the receiving spouse. Please note, the current rules continue to apply to already-existing divorces and separations, as well as divorces and separations that are executed before 2019. Under a special rule, if taxpayers have an existing (pre-2019) divorce or separation decree, and they have that agreement legally modified, then the new rules don’t apply to that modified decree, unless the modification expressly provides that the TCJA rules are to apply.
Section 529 Plans – A 529 plan distribution is tax-free if it is used to pay “qualified higher education expenses” of the beneficiary (student). Before the TCJA made these changes, tuition for elementary or secondary schools was not a “qualified higher education expense.” The TCJA provides that qualified higher education expenses now include expenses for tuition in connection with enrollment or attendance at an elementary or secondary public, private, or religious school. The amount of cash distributions from all 529 plans per single beneficiary during any tax year cannot, when combined, include more than $10,000 for elementary school and secondary school tuition incurred during the tax year.
Kiddie Tax – The “kiddie tax” rules were simplified. The net unearned income of a child subject to the rules will be taxed at the capital gain and ordinary income rates that apply to trusts and estates. Thus, the child’s tax is unaffected by the parent’s tax situation or the unearned income of any siblings. Depending on the situation, the child’s unearned income may now be taxed at a higher rate than the parents’ tax rate.
Child and family tax credit – The new law increases the credit for qualifying children (i.e., children under 17) to $2,000 from $1,000, and increases the refundable portion of the credit to $1,400. It also introduces a new (nonrefundable) $500 credit for a taxpayer’s dependents who are not qualifying children. The adjusted gross income level at which the credits begin to be phased out has been increased to $200,000 ($400,000 for joint filers).
Federal Estate and Gift Tax – Effective January 1, 2013, the maximum federal estate tax rose to 40 percent, but continued to apply an inflation-adjusted exclusion of $5 million. For decedents dying and gifts made from 2018 through 2025, the TCJA doubles the base estate and gift tax exemption amount from $5 million to $10 million. Indexing for post-2011 inflation brings this amount to approximately $11.2 million for 2018. The annual gift exclusion for 2017 remains at $14,000 and increases to $15,000 for 2018.
Health care “individual mandate” – Starting in 2019, there is no longer a penalty for individuals who fail to obtain minimum essential health coverage. You will still need to consider the mandate in making your health care decisions for 2018. There is no change to the large employer mandate to provide insurance.
Tax Rates for C Corporations – C corporations currently are subject to graduated tax rates of 15% for taxable income up to $50,000, 25% (over $50,000 to $75,000), 34% (over $75,000 to $10,000,000), and 35% (over $10,000,000). Personal service corporations pay tax on their entire taxable income at the rate of 35%. Beginning with the 2018 tax year, the TCJA makes the corporate tax rate a flat 21%. It also eliminates the corporate alternative minimum tax.
Deduction for Qualified Business Income from a Partnership, S Corporation or Sole Proprietorship – The new law provides a 20% deduction for “qualified business income,” defined as income from a trade or business conducted within the U.S. by a partnership, S corporation, or sole proprietorship. Investment items, reasonable compensation paid by an S corporation, and guaranteed payments from a partnership are excluded. The deduction reduces taxable income but not adjusted gross income. For taxpayers with taxable income above $157,500 ($315,000 for joint filers), (1) a limitation based on W-2 wages paid by the business and the basis of acquired depreciable tangible property used in the business is phased in, and (2) the deduction is phased out for income from certain service related trades or businesses, such as health, law, consulting, athletics, financial or brokerage services, or where the principal asset is the reputation or skill of one or more employees or owners. The complexities surrounding this substantial new deduction can be formidable, especially if your taxable income exceeds the threshold discussed above. Please call our offices to discuss further impact on your particular situation.
Bonus Depreciation – Before the TCJA, taxpayers were allowed to deduct 50% of the cost of most new tangible property (other than buildings and some building improvements) and most new computer software in the year placed in service. The “50% bonus depreciation” was to be phased out and then completely repealed for the year 2020. But for property placed in service and acquired after Sept. 27, 2017, the TCJA raised the 50% rate to 100%. Additionally, the post-Sept. 27, 2017 property eligible for bonus depreciation can be new or used. This 100% expensing is decreased to 80% for property placed in service in calendar year 2023, 60% in 2024, 40% in 2025, 20% in 2026 and 0% in 2027 and afterward.
Code Section 179 Expensing – Before the TCJA, most smaller taxpayers could immediately deduct the entire cost of section 179 property up to an annual limit of $500,000 adjusted for inflation. The annual limit was reduced by one dollar for every dollar that the cost of all section 179 property placed in service by the taxpayer during the tax year exceeded a $2 million threshold adjusted for inflation. But for tax years beginning after 2017, the TCJA increases the annual limit to $1 million (inflation-adjusted for tax years beginning after 2018) and adjusts the phase down threshold to $2.5 million (similarly inflation adjusted). It also expands the definition of qualified property.
Other rules for real property depreciation – If placed in service after 2017, qualified improvement property will now have a 15 year depreciation period (rather than the usual 39 year period for non-residential buildings). Also, qualified improvement property will no longer be eligible for bonus depreciation, but will now qualify as Section 179 property.
Luxury automobile depreciation limits – For passenger automobiles placed in service after December 31, 2017 for which bonus depreciation is not claimed, the maximum amount of allowable depreciation is increased to: $10,000 for the year in which the vehicle is placed in service, $16,000 for the second year, $9,600 for the third year, and $5,760 for the fourth and later years in the recovery period. For passenger automobiles placed in service after 2018, these dollar limits are indexed for inflation. For passenger automobiles taking bonus first-year depreciation, the additional first-year depreciation allowance remains at $8,000.).
Farm property – For items placed in service after 2017, the TCJA shortens the depreciation period for most farming equipment and machinery from seven years to five and allows many types of farm property to be depreciated under the 200% (instead of 150%) declining balance method.
Entertainment expense and Club Dues – Under the TCJA, for amounts paid or incurred after December 31, 2017, no deduction is allowable with respect to an activity generally considered to constitute entertainment, amusement, or recreation. Also, no deduction is allowed for amounts paid or incurred for membership in any club organized for business, pleasure, recreation, or other social purpose. Also, for tax years beginning after December 31, 2025, the TCJA will disallow an employer’s deduction for expenses associated with meals provided for the convenience of the employer on the employer’s business premises, including the operation of an employer-operated eating facility.
Net Operating Losses – For NOLs generated under prior law, there is generally a carryback period of two years and a carryforward period of 20 years. Under TCJA, for NOLs generated for the tax years 2018 forward, the carryback provision is eliminated and these NOLs can be carried forward indefinitely. However, the amount of the allowable deduction attributable to these post-2017 NOLs would be limited to 80 percent of taxable income for that tax year.
Like-Kind (Section 1031) exchanges – In a like-kind exchange, a taxpayer does not recognize gain or loss on an exchange of like-kind properties if both the relinquished property and the replacement property are held for productive use in a trade or business or for investment purposes. For exchanges completed after Dec. 31, 2017, the TCJA limits tax-free exchanges to exchanges of real property that is not held primarily for sale. Thus, exchanges of personal property, including automobiles, and intangible property cannot qualify as tax-free like-kind exchanges.
Withholding on employee wages – As mentioned above, the TCJA makes major changes to the income tax rates, increases the standard deduction, and eliminates personal exemptions, effective for tax years beginning after Dec. 31, 2017. As a result, the withholding tables for 2018 will have to be revised. The IRS says that employers and payroll service providers will be encouraged to implement in February 2018 the revised guidance it will issue in January. The IRS also emphasized that the information will be designed to work with the existing Forms W-4, Employee’s Withholding Allowance Certificate, that employees have already filed.
While the President and GOP have for many years called for a simplification of the Tax Code, the TCJA only simplified tax filings for select taxpayers. Also, most of the individual provisions sunset after year 2025 unless future laws are passed. Our office will continue to keep you informed regarding further developments and any IRS regulations issued in relation to the TCJA that may be pertinent to you or your business.
If you have any questions about the Tax Cuts and Jobs Act, please contact our office to speak with a tax advisor or set up an appointment to discuss how the TCJA will affect your personal tax position.
- 4 Jan, 2018
- Jacqueline Cran
- 0 Comments