Amidst the busyness of the holidays, you might have caught a glimpse of the headlines that major tax changes are on the horizon. Indeed, the pending legislation represents the most significant change to the U.S. tax law since 1986. It is important to note that nearly all the changes are scheduled to expire in 2025.
What will it mean for you and your family? It depends. In general, New York fares quite poorly under the new legislation. Particularly harmful to New Yorkers is the bill’s limitation on the deduction for state and local taxes to $10,000. New Yorkers who wish to purchase homes will also be hit by the bill’s limit on the amount of mortgage principal eligible for the mortgage interest deduction. Under current law, you may deduct interest on up to $1 million in loans used to purchase a new home. The new law reduces that limit to $750,000. In most parts of the country, $750,000 will buy you a mansion, but it hardly buys you a one-bedroom apartment in Manhattan. If you considering buying a home, re-do the math. It will cost you more than you thought.
The most favorable provisions of the bill are reserved for corporations and business owners. The most significant of these are the 40% reduction in the corporate tax rate and the new rules granting a 20% deduction for pass-through business income. As a result of these changes, your stock portfolio is likely to increase in value, as corporations will have substantial savings. If you own your own business, you will have substantial savings, as the legislation provides a 20% deduction on all passthrough business income. Unlike the changes for individual taxpayers, the business-related changes of the legislation are not scheduled to sunset in 2025.
The effect of other changes to the law will vary depending on your financial situation. Below is a summary of the changes.
Changes to Standard Deduction
The legislation significantly increases the standard deduction for individual taxpayers.
|Head of Household||$9,350||$18,000|
Elimination of Personal Exemption
The benefit of an increased Standard Deduction is somewhat offset by the elimination of the Personal Exemption.
Under current law, you can reduce your taxable income by a Personal Exemption of $4,050 for each member of your household. A married couple with two children can currently deduct $12,700 in the form of the Standard Deduction and $16,200 in the form of Personal Exemptions, for a total deduction of $28,900. Under the new law, the family would be entitled to a Standard Deduction of about $24,000, with no Personal Exemption, so they would be worse off under the new rules. The more children your family has, the more negatively you will be impacted by this new rule.
The loss of the Personal Exemption for children and other dependents is partially offset by the increase in the child tax credit from $1,000 to $2,000. However, the child tax credit is not available for children between 17-to-24 years old, so families with older children may end up worse off.
Change in Tax Rates
Most families will see a reduction in their tax rates in the short run. Married couples filing jointly in particular will benefit from the new rates. Single taxpayers and Head of Household taxpayers earning between $200,000 and $400,000 may see a slight increase in their tax rate.
Changes to the tax rates may be enhanced or offset by changes to various credits and deductions. In addition, the legislation will implement a new inflation index that is less favorable than the current index. Unlike the temporary change to the tax rates, the change to the inflation index is permanent. This means that, when the rate changes expire after seven years, you may be subject to a higher tax rate than you would be under current law, even if your income is unchanged.
Below is a comparison of the new and current tax rates.
Married Filing Jointly
Head of Household
Married Filing Separately
Estates & Trusts; Kiddie Tax (New)
Change to Alternative Minimum Tax
The AMT is a complicated rule that limits the amount of deductions that taxpayers above certain income levels can claim. The legislation will increase the income threshold for application of the AMT, limiting its application.
The good news is that you may no longer be subject to the AMT rules as a result of an increase in the income threshold. The bad news is that this change is unlikely to provide much benefit, since many of the deductions that the tax targets have been eliminated.
Changes to Credits and Deductions
Below is a summary of the law’s changes to non business related tax credits and deductions.
Child Tax Credit. The legislation makes the child tax credit available to more families, increases the credit amount from $1,000 to $2,000 per child, and adds a $500 non-child dependent credit. In the past, the credit was not available for married parents with incomes over $110,000 per year and single parents with incomes over $75,000 per year. Under the new law, the credit is available for married parents with an income of up to $400,000 per year and single parents with an income of up to $200,000 per year.
Limitation on State and Local Income Tax Deduction. The law limits the state and local income tax deduction to $10,000.
Limitation on Mortgage Interest Deduction: The law limits the deduction for mortgage interest to indebtedness of $750,000 or less. Existing mortgages will be grandfathered in.
Elimination of Home Equity Interest Deduction. The new law eliminates the deduction for interest on home equity loans. There is no grandfathering provision, so your taxes may go up if you have an home equity loan.
Elimination of Pease Limitation. If your income exceeds approximately $300,000 (married)/$250,000 (single), you may currently be subject to the “Pease Limitation,” which, in addition to the AMT, limits the amount of deductions you can claim. The new law repeals this limitation, although the elimination of or limitation on many deductions will counter the benefit of this change.
Expansion of Medical Expense Deduction. Current law permits you to deduct unreimbursed medical expenses if they exceed 10% of your Adjusted Gross Income. Under the new law, you may deduct such expenses if they exceed 7.5% of your Adjusted Gross Income.
Elimination of Deduction for Moving Expenses and Exclusion for Moving Expenses Paid by Employers. Current law allows you to deduct certain moving expenses and to exclude from taxable income the cost of moving expenses paid by your employer. The new law repeals both of these benefits.
Miscellaneous Itemized Deductions. The law eliminates Miscellaneous Itemized Deductions, including tax preparation fees, investment advisory fees, and unreimbursed employee business expenses.
Elimination of Personal Casualty and Theft Losses. Current law allows you to deduct losses from fire, theft, or natural disaster, to the extent to which the losses exceed a certain percent of your income. The new law would eliminate the deduction for such losses, other than for those incurred as the result of a federally-declared disaster.
Repeal of Exclusion for Bicycle Commuting Expenses. This is bad news if you bike to work. Current law allows employees who commute by bicycle and receive reimbursement for related expenses from their employers to exclude such reimbursement from their income. The legislation eliminates this provision.
Elimination of Foreign Property Tax Deduction. The current rule allowing for the deduction of foreign property taxes has been repealed.
Elimination of Alimony Deduction. The legislation eliminates the alimony deduction for the payor; likewise, alimony payments will not be treated as income to payee. The change applies only to agreements entered into after December 31, 2018.
Change to the Kiddie Tax
The current “kiddie tax” applies to unearned income in excess of about $2,000 received by (1) any child under age 19 or (2) any child under the age of 24 who is a full-time student. The current rules effectively apply the parents’ tax rate to the child’s unearned income over the threshold amount.
The new law will subject such income to the tax rates applicable to trusts and estates instead of the parents’ own tax rate. This change will provide an opportunity for parents to shift income from their own high tax bracket to a child’s lower tax bracket, up to a certain amount.
Restriction on Unwinding Roth IRA Conversions
Under current law, you can convert a traditional IRA to a Roth IRA and then reverse the transaction before the end of October of the following year in response to market conditions. For example, you might convert a $100,000 traditional IRA to a Roth IRA, incurring taxes on the $100,000. If the market subsequently falls and the $100,000 becomes $70,000, you can unwind the transaction and avoid paying taxes on the $100,000.
Under the new law, you would no longer be able to unwind the Roth conversion.
Increase in the Gift and Estate Tax Exemption
The legislation increases the gift and estate tax lifetime exemption from $5.45 million per person to $10.7 million per person. As under current law, those figures are indexed for inflation each year. In 2018, the exemption will increase to $11.2 million per person.
New York's estate tax will remain in tact, so estate tax planning for New Yorkers will remain largely unchanged.
Elimination of Penalty for Failure to Maintain Health Insurance Coverage
The law eliminates the penalty for taxpayers who do not maintain adequate health insurance coverage under the Affordable Care Act.
Changes to 529 College Savings Plans to Private School Tuition
The legislation will allow up to $10,000 per year to be used from a 529 account for private elementary or secondary school – not just college expenses.
Year End Tax Moves
There isn't much time to do a whole lot of planning in anticipation of the changes, but here are some things you should consider:
1. Accelerate Payments of State and Local Taxes.
You can prepay your 2018 property taxes before the end of the year and deduct them for 2017. The legislation forecloses this strategy for state and local income taxes, although, if you pay estimated taxes, you can pay your fourth quarter payment (due January 16) before the end of the year.
There is a big caveat here: Prepaying or accelerating state and local taxes will not benefit most New Yorkers because they will be subject to the AMT in 2017, eliminating the benefit of the deduction. Check your tax return from last year to see if you paid the AMT. If you did, you will probably be subject to the AMT again in 2017.
2. Accelerate Employee Business Expenses.
Unreimbursed employee business expenses will no longer be deductible, so accelerating those expenses to 2017 could be beneficial. Again, the AMT may stymie this strategy as well.
3. Delay Income
If you will be subject to a lower income tax rate under the new legislation, postponing income until next year could produce tax savings. This strategy does not apply to long-term capital gains, for which the applicable rate will remain unchanged.
4. Accelerate Losses.
You can deduct up to $3,000 in capital losses against ordinary income each year, so selling losers is good tax planning in any year.
5. Accelerate Retirement Contributions
It's a good idea to maximize your retirement contributions this year if your tax rate will be lower in 2018.
6. Maximize 529 Account Contributions
In any year, maximizing the deduction for college savings contribution is good tax planning. There is no deduction for contributions under federal law, but New York allows married parents to deduct up to $10,000 per year for 529 contributions and single parents to deduct up to $5,000.
7. Use up balance in FSAs
Flexible Spending Accounts are generally "use it or lose it." You can only carry forward up to $500 into the following year, so be sure to use up any amount in excess of this amount. Check with your employer about what expenses are eligible.