Preparing Taxes for 2018 is Not Business As Usual
The change behind tax reform has the way most taxpayers are thinking about and planning for their taxes. Preparing taxes in 2018 is no longer business as usual. For those who think it is are in for a rude awakening come tax time next year.
Increase In Standard Deduction and Loss of Personal Exemptions
For most taxpayers, the most significant change is the increase in their standard deduction. On the surface the standard deduction seems like a big benefit. But don’t overlook the fact that the same tax reform that nearly doubled the standard deduction took away the personal exemption as a deduction.
Here is an example, under old tax law for 2018, a married couple’s standard deduction would have been $13,000. Their two personal exemptions would have been $8,300 (2 x $4,150). This made a total deduction of $21,300. Under the new tax law, that same couple will be able to deduct $24,000, which is the new standard deduction for 2018. So, their total increase over what they normally got under prior law is only $2,700. If they have four children, their deductions for 2018 under prior law would have been $37,900 ($13,000 plus 6 x $4,150); and, under the new tax law it is only $24,000. So, who wins in this deal?
Well, for individuals with children under age 17, the child tax credit for 2018 went up to $2,000 (with $1,400 being refundable). This is up from the prior $1,000, in many cases making up for the loss in the exemption deduction. Note that a credit is a dollar-for-dollar reduction of the tax, while a deduction reduces the income that is taxable.
Changes to Itemized Deductions
Tax reform also put into place some limitations on itemized deductions by limiting the amount that can be claimed for state and local taxes, as well as totally eliminating the deduction for employee business expenses. These, along with some other commonly encountered deductions are below. Thus, the remaining allowable itemized deduction categories are medical (in excess of 7.5% of AGI), up to $10,000 of state and local taxes, home acquisition debt interest, investment interest, charitable contributions and gambling losses (limited to the amount of gambling income).
Here is an interesting area where preparing taxes for 2018 is not typical. Some taxpayers may be able to employ the “bunching” strategy as a workaround. This strategy has the taxpayer taking the standard deduction one year and itemizing the next. This is accomplished by doubling up charitable contributions in one year and skipping donations the next year, deferring or pre-paying medical expenses where possible, and paying state estimates in advance for the year of itemizing and prepaying all assessed property taxes, while keeping in mind that the maximum deduction for taxes in any year is $10,000. This strategy should only be used if the shifting of deductions results in total itemized deductions being greater than the year’s standard deduction.
Employee Business Expenses
Another huge issue is the loss of employee business expenses. This means the likes of long-haul truckers, traveling salespeople and others with large employee business expenses should seek out accountable expense reimbursement plans with their employers, even if they have to reduce their pay to balance it out.
Business Expensing – 20% Flow-through Income Deduction
For taxpayers in business, tax reform offers 100% expensing of purchased tangible business assets other than structures. At the same time, it also offers a new 20% flow-through business deduction. The combination of these two deductions must be carefully thought through. The reason is that expensing rather than depreciating the cost of equipment, machinery, etc., will reduce the business’s profit. This in turn will reduce the flow-through deduction. On the flip side, the new 20% deduction for certain higher-income individuals has limits. Also, reducing income by expensing capital purchases may actually help one to qualify for the deduction.
Change in Treatment of Alimony
Married couples who contemplate divorce must understand how the law changes will affect their situation and whether they should finalize the divorce before the end of the year. Currently, alimony is deductible by the payer and taxable to the recipient. Tax reform has changed that long-standing rule for divorce agreements entered into after December 31, 2018. Also, the modification of pre-existing agreements after that date, has a new provision that states alimony is no longer deductible by the payer. And, likewise, this also means that the alimony is not income to the recipient. Of course, the treatment of alimony can be adversarial and can also be a planning issue for 2018.
Other Issues of Importance:
Business entertainment expenses are no longer deductible.
Up to $10,000 of Qualified Tuition Plan (Sec. 529) funds are available for elementary and high school expenses, should the plan permits.
Taxpayers who convert their traditional IRA to a Roth IRA can no longer change their minds and undo the conversion.
Casualty Losses, Home Equity Interest and Moving No Longer Deductible
What are some other areas where preparing taxes for 2018 is not business as usual?
Casualty losses, other than those incurred in a federally declared disaster area, are no longer deductible, so you should consider whether you have adequate insurance.
Moving expenses are no longer tax deductible. Likewise, employer reimbursement for moving costs is now taxable income. If an employer requires an employee to relocate, consider having the employer provide a tax gross-up reimbursement.
Home Interest Mortgage Deduction Change
Regarding taxpayers who base their ability to purchase a home on the tax deduction they will get from the interest they’ll pay pay close attention. They need to be aware that for homes they bought after 2017, the limit on home mortgage interest deduction. The deduction is only good on the interest paid on the first $750,000 ($375,000) of home acquisition debt.
Home Equity Debt
Taxpayers who have tapped their home’s equity in the past should be aware that they can no longer deduct home equity debt interest. This includes if the debt was taken on before 2018 and is $100,000 or less.
States with State Income Tax
For taxpayers residing in a state that has a state income tax, some or all of the federal tax reform changes may not apply for state filing purposes. Or, they may apply only if the state legislature enacts conforming legislation.
Preparing Taxes for 2018 is NOT Business as Usual
As you can see, preparing taxes for 2018 is definitely not business as usual. It may all seem overwhelming, considering all the tax code changes that are intended to make tax preparation easier. However, the keyword here is preparation, gathering all the documentation for the actual tax return. Feel free to call me, Alex Franch, BS|EA at 781.849.7200 or email us at email@example.com. Or, if you prefer, you can book an appointment online here.
I’m very interested in your comments below about your business experience or about the new tax law. Do you think you will make money or lose it in the future and why?
Alex Franch, BS EA
Alex is a Tax Specialist and Partner at Joseph Cahill & Associates / WorthTax. He has a diverse background including a Bachelor of Science from Boston College in Mathematics and extensive military service. Alex is an Enrolled Agent and has a decade of tax preparation experience. He is passionate about serving businesses with tax and financial planning strategies.
Mr. Franch is licensed by the Financial Industry Regulatory Authority (FINRA). He holds a Series 6, 63, 65, and 7, and by the Commonwealth of Massachusetts Division of Insurance.
Alex Franch is a registered representative of, and offers securities and investment advisory services through, Commonwealth Financial Network. He is a registered broker-dealer, Member FINRA/SIPC.