The IRS Gives Insight into Entertainment Expenses (Hint: Can You Say Bye-Bye?)

Hello everyone! Over the past several months I have been heavily asked questions by various business people about how the new tax laws (officially named the Tax Cuts and Jobs Act) will effect their businesses and specifically about business entertainment and its deductibility for taxes.

So, I thought that it would be helpful to address how business entertaining will be handled, for tax purposes, in tax years 2018 and beyond (or until Congress makes changes to the ‘new’ tax law effecting business entertaining).

Take note, that if you would like to learn more about the new tax law (or would like a refresher) I have written five articles giving a more in-depth look at the new tax law. You can read Part 1 here.

So, the rules surrounding business meals and entertainment have been complex for some time. It’s not so much what’s deductible and what isn’t, it’s the record keeping associated with the meals that is challenged most often by the IRS. You can only deduct 50% of the cost of most business meals and, in the past, entertainment. (There are some limited exceptions to the 50% rule for business meals).

The Tax Cuts and Jobs Act (TCJA), passed in 2017, generally disallows a deduction for expenses with respect to entertainment, amusement, or recreation. Entertainment has been defined to be any activity which is of a type generally considered to constitute entertainment, amusement, or recreation such as entertaining at night clubs, cocktail lounges, theaters, country clubs, golf and athletic clubs, or sporting events. The term “entertainment” may include an activity, the cost of which is claimed as a business expense by the taxpayer, which satisfies the personal, living, or family needs of any individual, such as providing food and beverages, a hotel suite, or an automobile to a business customer or the customer’s family. The term “entertainment” does not include activities which, although satisfying personal, living, or family needs of an individual, are clearly not regarded as constituting entertainment, such as (a) supper money provided by an employer to an employee working overtime, (b) a hotel room maintained by an employer for lodging of employees while in business travel status, or (c) an automobile used in the active conduct of trade or business even though also used for routine personal purposes such as commuting to and from work (but other rules apply in this situation).

Unfortunately, the TCJA didn’t specifically address the deductibility of expenditures for business meals. It seemed clear that meals out-of-town on a business trip or at a business convention were still deducible (subject to the 50% rule). But the question of whether or not taking a client to lunch was still deductible was unanswered because that can be construed as entertainment. The IRS has just issued some guidance, in the form of Notice 2018-76 (which you can read right here) in explaining its position on the issue. The notice also announced the IRS intends to publish proposed regulations which will discuss the deductibility of certain business meals. Until the proposed regulations are effective, taxpayers may rely on Notice 2018-76 for guidance.

Under prior law, entertainment expenses such as a ball game, theater tickets, etc. would be deductible only if the taxpayer could show the item was directly related to the active conduct of the taxpayer’s trade or business (“directly related” exception) or in the case of an item directly preceding or following a substantial and bona fide business discussion (including business meetings at a convention or otherwise), that the item was associated with the active conduct of the taxpayer’s trade or business (“business discussion” exception).
Example–The directly related exception applies if you take a client out to lunch or dinner and discuss business during the meal. However, the IRS does make a distinction between a meal at a restaurant and a meal at a facility that wouldn’t be conducive to a business discussion. For example, having dinner at a pub with entertainment. (But that might qualify under the second exception).

Example–The business discussion exception applies if you have a bona fide business meeting and thereafter take the client for a quiet business meal. For example, you drop in on a client to show him new services your company offers. You’re discussing business from three in the afternoon to five. You take the client out for a business meal, but don’t discuss any business at dinner.

The new law doesn’t change the definition of entertainment. The IRS has noted that the legislative history of the TCJA clarifies that taxpayers generally may continue to generally deduct 50 percent of the food and beverage expenses associated with their trade or business. The IRS intends to publish proposed regulations clarifying when business meal expenses are nondeductible entertainment expenses and when they are 50 percent deductible expenses. Until the proposed regulations are effective, taxpayers may rely on the guidance in Notice 2018-76.

Taxpayers may deduct 50 percent of an otherwise allowable business meal if:

  1. The expense is an ordinary and necessary expense, paid or incurred during the taxable year in carrying on a trade or business;
  2. The expenses is not lavish or extravagant under the circumstances;
  3. The taxpayer, or an employee of the taxpayer, is present at the furnishing of such food or beverages;
  4. The food and beverages are provided to a current or potential business customer, client, consultant, or similar business contact; and
  5. In the case of food and beverages provided during or at an entertainment activity, the food and beverages are purchased separately from the entertainment, or the cost of the food and beverages is stated separately from the cost of the entertainment on one or more bills, invoices, or receipts.

Notice 2018-76 also says that the entertainment disallowance rule may not be circumvented through inflating the amount charged for food and beverages.

Requirements 1, 2, 3, and 4 above are not totally new. But, because of the overall new restrictions on entertainment, they may get closer scrutiny. The third item, requiring the taxpayer or an employee to be present is unlikely to cause a problem. But, you should be aware that you can’t just tell a customer to take his or her spouse with them to a local restaurant and put it on your tab and still get a 50 percent deduction.
Example–Bob invites Michael and Joseph, both customers of Bob’s company to a round of golf. After the game Bob buys lunch for the three of them at the golf club. The cost of the round of golf including any associated fees is entertainment and not deductible. The cost of lunch for the three, assuming all the other requirements are met, is deductible, subject to the 50 percent rule.

Example–Cindy invites Peter and Paul, both vendors for Cindy’s company to a football game. The company maintains a suite at the stadium and food and drinks are part of the cost of the suite. Since the food and drinks are not separately stated, none of the expense is deductible. If the food and drinks were separately billed, they would be 50% deductible.

While the notice answers some of the big questions, there are many nuances that it doesn’t. Many may be addressed in forthcoming regulations. The fact that entertainment is no longer deductible will affect trips on the company aircraft, deductions at country clubs, etc. The IRS may concentrate on finding any such disguised deductions when auditing 2018 and later year returns. Heavier scrutiny of meals could also be an expected consequence.

———–>Give Solid Tax Solutions (SolidTaxSolutions.com) a call at (845) 344-1040 to discuss the new tax rules and how it will affect you.

Bruce

___________________________________________________________________________________________________________________________

Bruce – Your Host at The Tax Nook

Our Firm’s Website: SolidTaxSolutions.com

Other Social Media Outlets: Facebook.com/SolidTaxSolutions.

Twitter: Twitter.com/@SolidTax1040 (BTW, We Follow-Back).

Four States Sue the IRS Regarding the Cap on the State and Local Tax Deduction (SALT)

Well, well, well, four states are not taking the new (2018) cap on state and local taxes lying down.

New York, Connecticut, Maryland and New Jersey have filed a lawsuit against the IRS, the Department of the Treasury, and the United States of America seeking injunctive relief to invalidate the new $10,000 cap on the federal tax deduction for state and local taxes (SALT).

The lawsuit argues that the SALT deduction is essential to prevent the federal tax power from interfering with the states’ sovereign authority to make their own choices about whether and how much to invest in their own residents businesses, infrastructure and more. They note that the SALT deduction has been available since 1861.

The states make three claims of unconstitutionality that the SALT cap violates the 10th Amendment (states’ rights), that it violates the 16th Amendment (federal power to tax incomes) and that it violates Article I, Section 8 (Congress’s power to tax).

For more on the effect of the new $10,000 cap take a look at one of my prior articles here.

Just in case you are curious and would like to read the lawsuit 😂 you can take a look at it right here.

If you need help with your SALT (or other tax items), don’t be shy,  just reach out to us (Solid Tax Solutions) at
(845) 344-1040 ☛ year round.

$$$

_____________________________________________________________________________________________________________________

Bruce – Your Host at The Tax Nook

Our Firm’s Website: SolidTaxSolutions.com

Other Social Media Outlets: Facebook.com/SolidTaxSolutions.

Twitter: Twitter.com/@SolidTax1040 (BTW, We Follow-Back).

How Might the Recent Supreme Court Ruling on Sales Tax Affect You?

In a 1992 landmark decision (Quill Corp. vs. North Dakota) the Supreme Court said that a seller had to have a physical presence in a state before that state could require it to collect sales tax. For example, ABC, Inc. a New York corporation, not having offices elsewhere sells through a catalog delivered by mail. A customer in Maine orders snow shoes. Under that decision ABC, Inc. would not have to charge sales tax on the snow shoes. If ABC, Inc. opened a manufacturing plant with one employee, or stored inventory in Maine, that state could require it to collect sales tax.

But, in 1992 online sales barely existed. Now, they account for a substantial, and fast growing, segment of the overall market. Many states have devised ways to capture some of those lost sales and have devised a number of ways to create a “connection” between an out-of-state seller and the state. One of the most popular is the “click-through nexus law”. Basically, if a buyer clicks on an ad on a website maintained in the state where the sale is made. There’s usually a threshold on such sales. For example, the rule doesn’t apply until sales in the state top $10,000. There are other approaches that are not as popular. Finally some states have not yet addressed the issue.

In the current case decided by the U.S. Supreme Court, South Dakota vs. Wayfair, Inc., South Dakota enacted a law in 2016 that required out-of-state retailers that deliver more than $100,000 in goods or services or make 200 or more transactions annually in the state to collect and remit sales tax. The law was written in such a way to enhance its chances for surviving a court battle that did, indeed, come to pass. The Court found a number of faults with the 1992 Quill decision and noted the changes created by the internet since then. The Court found that the 2016 South Dakota law was valid, noting that the safe harbor threshold for activity did not unduly burden businesses.

So, what does this all mean? Look for most states to enact laws to tax out-of-state sellers using a safe harbor threshold similar to that in use by South Dakota. Using the same threshold would make challenging the state law impossible. A lower threshold could leave the state vulnerable. States with dissimilar approaches currently may change their laws. It’s possible Congress could enact legislation to avoid a multitude of different laws. That seems unlikely given the current state of Congress. If you sell via the internet and your sales could reach the thresholds mentioned above, you would be wise to start adapting your systems to track sales by state and, if appropriate, by local jurisdiction.

Do you think the recent Supreme Court ruling is fair?

___________________________________________________________________________________________________________________

Bruce – Your Host at The Tax Nook

Our Firm’s Website: SolidTaxSolutions.com

Other Social Media Outlets: Facebook.com/SolidTaxSolutions.

Twitter: Twitter.com/@SolidTax1040 (BTW, We Follow-Back).

 

The Tax Cuts and Jobs Act (TCJA) – Part 5

Hello again everyone and welcome to the fifth installment of our discussion about how the new Tax Cuts and Jobs Act can affect you. I hope that you find these articles enlightening.

To start off, if you haven’t read my introduction to the new law, please go to → Tax Cuts and Jobs Act–Part 1.

In this fifth installment I will be continue the discussion about items affecting individuals but with a business slant. There are a number of changes to the provisions applicable to business. Many are straight-forward, some are complex and will require regulations by the IRS to fully implement. I’ll start this discussion with some of the easier ones.

Immediate (Section 179) Expensing of Depreciable Assets

There are a number of ways of treating depreciable tangible personal property and certain other qualifying real property. Taxpayers can expense an asset with a cost of no more than $2,500 ($5,000 for certain taxpayers) under a safe harbor rule. That works well for small items such as laptops, calculators, small tools, etc. largely because it involves less paperwork and follows financial accounting rules. But there are some restrictions. For larger assets Section 179 allows an immediate deduction, but you must make an election to do so. In addition, there’s an income limitation. But it’s still simpler than taking annual depreciation.

Under prior law the Section 179 election was limited to $510,000 (adjusted for inflation) of assets in any one year and that amount was decreased for taxpayers who put more than $2,030,000 of tangible personal property in service during the year. There was a $25,000 restriction on SUVs (not adjusted for inflation) and for property used in connection with certain lodging facilities.

Increased Expensing Limits The new law increases the amount of property that can be expensed in any one year to $1 million and the investment limitation is increased to $2.5 million from $2 million. The higher $1 million limit on qualifying property means many small businesses won’t have to worry about depreciation of most assets. By combining the $2,500 safe harbor for lower-cost assets and the Section 179 option, over $1 million can be written off in any one year.

Tax TipTaxpayers doing business as a pass-through entity (S corporations, partnerships, etc.) may not want to use the full available amount. That’s because of the graduated rates for individuals where the pass-through income is taxed. Taking a large deduction in one year that drops your income into a low bracket only to push yourself into a high bracket in the following year will result in overall higher taxes. You do have some options and you don’t have to decide to depreciate or expense an asset until you file your return.

Qualified Real Property Definition The provision expands the definition of qualified real property eligible for expensing to include certain improvements to non-residential real property placed in service after the date such property was first placed in service. The improvements include roofs, heating, ventilation, and air-conditioning property, fire protection and alarm systems and security systems. This change not only allows a direct deduction for such improvements that are often encountered several times during the life of a building and that frequently generated controversy. Qualified improvement property continues to include certain leasehold improvement property, retail improvement property, and restaurant improvements and buildings. As under prior law, qualified improvement property is an improvement on the interior of a building. Modifications that enlarge the building do not qualify. The new law repeals the requirement that the improvement qualifies only if placed in service more than three years after the building is placed in service.

Property Used in Connection with Lodging The provision also expands the definition of Section 179 property to include certain depreciable tangible personal property used predominantly to furnish lodging or in connection with the furnishing of lodging. In the past longer-term lodging such as an apartment was distinguished from lodging such as a hotel, motel, inn, etc. Property used predominantly to furnish lodging or in connection with the furnishing of lodging generally includes beds and other furniture, refrigerators, ranges, and other equipment used in the living quarters of a lodging facility such as an apartment house, dormitory, or any other facility where sleeping accommodations are provided.

Sport Utility Vehicle Limitation The new law changes the rule with respect to the $25,000 limitation on sport utility vehicles such that this amount will be adjusted for inflation. The sport utility rule applies not only to the general definition of a sport utility vehicle but also a vehicle not subject to Section 280F and which is rated at not more than 14,000 pounds gross vehicle weight and has a seating capacity of less than 10 persons or truck with an interior cargo bed shorter than six feet.

 

Bonus Depreciation

Background For a number of years the law has contained a “bonus depreciation” provision, the intent of which has generally been to increase capital investment. Under normal rules, the first years’ depreciation is one-half of double the straight-line rate. The one-half is to account for the fact the property is in service for only a portion of the year. (Property placed in service in January gets 1/2 year of depreciation; so does property placed in service in December.) Bonus depreciation front loads the depreciation deduction even more. Under 50% bonus depreciation you can deduct half the asset’s value in the first year, plus you can take the regular depreciation on the other half. That was the rule in effect prior to the new law.

New Law The new law allows 100% bonus depreciation rather than 50% on property placed in service after September 27, 2017 and before January 1, 2023. Bonus depreciation drops to 80% for property placed in service after December 31, 2022 and before January 1, 2024; 60% in the following year then 40% in the following year and 20% for property placed in service after December 31, 2025 and before January 1, 2027. No bonus depreciation is allowed for subsequent years. Property subject to a written binding contract for its acquisition entered into before September 28, 2017 does not qualify. The placed in service dates for property with a longer production period and noncommercial aircraft are extended by one year. Bonus depreciation applies to both new and used property. (Under prior law it only applied to new property.) Special rules apply to prevent abuse. They include:

  • the property can not have been used by the taxpayer before purchase,
  • the taxpayer must have acquired the property by purchase,
  • the property can’t have been acquired from a related party if loss would be barred under Sec. 267 of the Internal Revenue
    Code.

Qualified leasehold improvement, restaurant property and qualified retail property retains a 15-year depreciation life, but now can be depreciated using MACRS (a faster method) rather than straight-line depreciation and the bonus depreciation rules apply.

The 100-percent bonus depreciation rules do not apply to assets used in a trade or business where the property has had floor plan financing indebtedness.

Bonus depreciation can be taken on qualified film, theatrical productions, or television shows placed in service after September 27, 2017.

Luxury Auto Limits Under Sec. 280F depreciation deductions for vehicles are capped on an annual basis. Under the old law it could take nine years to depreciate a $30,000 auto. The new law changes the limits for vehicles placed in service after December 31, 2017 and for which 100-percent bonus depreciation is taken. The new amounts are:

$10,000 for the first year,
$16,000 for the second year,
$9,600 for the third year,
$5,760 for the fourth and subsequent years.

These amounts will be adjusted annually for inflation.

Farm Assets The new law shortens the recovery period from 7 to 5 years for any machinery or equipment (other than any grain bin, cotton ginning asset, fence, or other land improvement) used in a farming business if the original use of the property commences with the taxpayer and is placed in service after December 31, 2017. The provision also repeals the required use of the 150-percent declining balance method for property used in a farming business (3-, 5-, 7-, and 10-year property only). The 150-percent method will continue to apply to 15- and 20-year property. A farming business electing out of the limitation on the deduction for interest (see later) must use the ADS method of depreciation any property with a recovery period of 10 years or more (e.g., single purpose agricultural or horticultural structures).

Computers Listed property is property of a type that could be used for recreational purposes such as autos, computers, cameras, audio equipment, etc. Computers used in an office environment aren’t included, but those used at home are. In order to secure a deduction for listed property special record keeping requirements apply. That generally means keeping a log. Cellphones were removed from this list a number of years ago. The new law removes this computers and peripheral equipment from the definition of listed property (and the stricter substantiation requirements) effective for property placed in service after December 31, 2017.

Tax TipBeing able to write off the full value of an asset in the first year will maximize cash flow for that year, but it could result in higher taxes down the road. You can elect out of the bonus depreciation for any class of asset for the year. If you do business as a pass-through entity (e.g., S corporation, LLC, partnership, etc.) the income or loss is passed through to the shareholders, partners, etc. and subject to the progressive tax rates. Moreover, you can generally no longer carry back losses to an earlier year. That means you could be getting a current deduction and saving taxes only to put yourself in a higher bracket in a subsequent year. There’s no easy rule of thumb–you’ve got to work through the numbers. You should be looking at making an election if you’re in a lower bracket and the depreciation deduction will be a substantial percentage of your before depreciation income.

Tax TipBuy or lease? It’s a frequent question when it comes to vehicles. Depreciation deductions are capped. Deductions for lease payments are restricted through the lease inclusion amount. But that restriction on lease payments appears to be less than those on depreciation under the old law. The new law may favor purchase and depreciation of an auto, at least for less expensive vehicles. While it’s a point for consideration, the IRS has yet to release the lease inclusion tables for 2018 and there are other factors to take into account when leasing a vehicle for business purposes.

Tax TipWhile the new law removes the stringent record keeping requirements for computers, the IRS can still challenge the business use of any property. You should be able to show that the computer is used regularly in your business. In many cases it’s obvious. Let’s say that you’re an independent salesperson on the road and take and place orders with your office using the computer. That probably won’t be questioned. On the other hand if you have a landscaping business and keep all your records using a paper ledger, you may want to be able to prove the business use in some way.

Solid Tax Solutions is available to help you with preparing your tax return as well as show you how the new tax laws will affect you.

Just give us a call at (845) 344-1040.

☛(845) 344-1040☚

_______________________________________________________________________________________________________________________________________

Bruce – Your Host at The Tax Nook

Our Firm’s Website: SolidTaxSolutions.com.

Other Social Media Outlets: Facebook.com/SolidTaxSolutions.

Twitter: Twitter.com/@SolidTax1040 (BTW, We Follow-Back).

The Tax Cuts and Jobs Act (TCJA) – Part 4

If you haven’t yet read the introduction to my first article on the new law 😟 (or you would like a refresher), please go and have a look at: → Tax Cuts and Jobs Act–Part 1.

In this 4th installment I am going to continue discussing items affecting individuals.

Recharacterization of IRA Contributions

If you make a contribution to an IRA (Traditional or Roth) for a taxable year, you’re permitted to recharacterize the contribution as a contribution to the other type (Roth or Traditional) by making a trustee-to-trustee transfer to the other type of IRA before the due date for your income tax return of that year. In a recharacterization, the contribution is treated as having been made to the transferee IRA (and not the original, transferor IRA) as of the date of the original contribution. Both regular contributions and conversion contributions to a Roth IRA can be recharacterized as having been made to a traditional IRA. In both cases, the recharacterization essentially undoes the conversion.

The new law repeals the special rule allowing a conversion contribution to a Roth IRA to be recharacterized as a contribution to a traditional IRA, but still allows an original contribution from a traditional or Roth IRA to be recharacterized as a contribution to the other type. That is, recharacterization can no longer be used to unwind a Roth conversion. For example, Ted makes a $5,000 contribution to his traditional IRA in 2018. He can recharacterize that as a contribution to Roth as late as October 15, 2019 (the extended due date of his return). Barbara makes a $5,000 contribution to a Roth IRA in 2018. She can recharacterize it as a contribution to a traditional IRA as late as October 15, 2019. In 2018 Suzanne converts $20,000 of her traditional IRA into a Roth, paying tax on the $20,000 of income. In June 2019 the value of the converted shares declines substantially under the new law she can’t recharacterize (undo) the conversion and is stuck with the consequences.

While not done all that frequently, this change will require taxpayers making a conversion contribution to a Roth to consider their actions carefully since they can no longer be undone. This provision applies to tax years beginning after December 31, 2017.

Qualified 2016 Disaster Distribution

Distributions from qualified retirement plans that occur before the participant reaches age 59-1/2 and don’t qualify for any other exception are generally subject to a 10% early withdrawal tax. Under the new law, an exception to the 10% tax applies in the case of a qualified 2016 disaster distribution from a qualified retirement plan, a Sec. 403(b) plan, or an IRA. In addition, income attributable to such a distribution may be included in income ratably over three years, and the amount of a qualified 2016 disaster distribution may be recontributed to an eligible retirement plan within three years. A qualified 2016 disaster distribution is a distribution from an eligible retirement plan made on or after January 1, 2016 and before January 1, 2018, to an individual whose principal place of abode at any time durng calendar 2016 was located in a 20-16 disaster area and who sustained an economic loss by reason of the events giving rise to the Presidential disaster declaration. Only the first $100,000 of distributions qualify for such treatment.

Rollovers of Plan Loan Offset Amounts

If you take a loan from a defined contribution plan and fail to repay the amount or default on the loan the outstanding balance is income and subject to the 10% early withdrawal tax. If an employee terminates employment their obligation to repay a loan is accelerated and, if the loan is not repaid, it’s canceled and the amount in employee’s account balance is offset by the amount of the unpaid loan balance. The loan offset is treated as an actual distribution from the plan and the amount of the distribution is eligible for tax-free rollover to another eligible retirement plan within 60 days. However, the plan is not required to offer a direct rollover. The new law extends the period during which a qualified plan loan offset may be contributed as a rollover contribution is extended from 60 days to to the due date (including extensions) for filing the Federal income tax return for the taxable year in which the plan loan offset occurs.

Qualified Tuition Program Distributions

The income on contributions made to a Section 529 Qualified Tuition Plan (QTP) are not taxable on distribution if made to pay qualified higher education expenses. Under the new law qualified higher education expenses also include tuition in connection with enrollment or attendance of the beneficiary at a public, private or religious elementary or secondary school. Qualified distributions under this provision is limited to $10,000 per tax year. The $10,000 limitation applies on a per-student, rather than a per-account basis.

The provision also modifies the definition of higher education expenses to include certain expenses incurred in connection with a home school. Those expenses are curriculum and curricular materials; books or other instruction materials; online educational materials; tuition for tutoring or educational classes outside of the home (but only if the tutor or instructor is not related to the student; dual enrollment in an institution of higher education; and educational therapies for students with disabilities.

Rollovers Between Qualified Tuition Programs and Qualified ABLE Programs

A qualified ABLE program is a tax-favored savings program intended to benefit disabled individuals. The program is established and maintained by a State agency or instrumentality. The new law allows for amounts from qualified tuition programs (Section 529) to be rolled over to an ABLE account without penalty, provided that the ABLE account is owned by the designated beneficiary of the 529 account, or a member of such designated beneficiary’s family. Such rolled over amounts count towards the overall limitation on amounts that can be contributed to an ABLE account for a taxable year. Any amount rolled over that is in excess of this limitation shall be includible in the gross income of the distributee.

Filing Thresholds

The requirement to file an income tax return for a citizen or a resident alien is based on a certain income level. The thresholds vary by filing status and age (65 or older) and whether or not a taxpayer is legally blind. The thresholds are adjusted for inflation every year. Because of the increased standard deduction, the filing thresholds are higher for every filing status. The new thresholds (assuming no inflation) for 2018 are:

Single $12,000
for 65 or older or blind add $1,600
for 65 or older and blind add $3,200

Married, filing separate $12,000

Married, filing joint $24,000
one spouse 65 or older or blind add $1,300
one spouse 65 or older and blind add $1,300
both spouses 65 or older or blind add $2,600
both spouses 65 or older and blind add $5,200

Head of Household $18,000
for 65 or older or blind add $1,600
for 65 or older and blind add $3,200

Qualifying Widow(er) (surviving spouse) $24,000
for 65 or older or blind add $1,300
for 65 or older and blind add $2,600

The new law also adds to the due diligence requirement of tax preparers to ensure clients qualify for the education and earned income tax credits the requirement a client qualifies to file as head of household. The penalty for failure to do so is $500.

Estate and Gift Tax

The new law increases the federal estate, gift, and generation-skipping transfer tax exemption to $10 million for the estates of decedents dying and gifts and transfers made after 2017. This provision expires at the end of 2025. Before the adjustments for inflation in the old law, the exemption is doubled. The $10 million amount is also adjusted for inflation. The $10 million amount is essentially doubled for a married couple because of the availability of the Deceased Spousal Unused Exclusion (DSUE). The obvious result is that far fewer taxpayers will have to worry about the estate tax in their financial planning. In 2016 only 4,142 returns were filed with a gross estate that exceeded $10 million and only 2,204 of those contained a tax liability. (Those returns represent decedents who died in earlier years, but the return was filed in 2016.) The step-up in basis rule remains in effect.

A new concern is that the exemption will revert to the lower amount when the new law expires at the end of 2025. Taxpayers who could exceed that lower amount should seriously consider careful estate planning. While making gifts may make sense for estate tax purposes, the basis rules for gifts dictate a carry-over basis rather than a step-up basis. That’s an important consideration. Making gifts to lower generations can make sense with the larger exemption, but the portability exemption does not apply to the generation skipping tax exemption amount of $10 million.

Rollover of Gain on Publicly Traded Securities

Under the prior law, a taxpayer could elect to roll over tax-free any capital gain realized on the sale of publicly-traded securities to the extent of the funds used to purchase common stock or a partnership interest in a specialized small business investment company within 60 days of the sale. There were dollar limits on the amount of the gain that could be rolled over. That provision has been repealed under the new law, effective for sales after December 31, 2017.

Self-Created Property not Capital Asset

Also under the prior law, property created by a taxpayer (whether or not associated with his trade or business) was considered a capital asset and would qualify for long-term capital gain treatment on a sale. Certain items were specifically excluded from favorable treatment such as inventory property, certain self-created intangibles, and property subject to depreciation. Self-created intangibles subject to the exception are copyrights, literary, musical or artistic compositions, letters or memoranda, or similar property which is held either by the taxpayer who created the property, or for whom the property was produced. A taxpayer could elect to treat musical compositions and copyrights in musical works as capital assets.

The new law amends Section 1221(a)(3) of the tax code, resulting in the exclusion of a patent, invention, model or design (whether or not patented), and a secret formula or process which is either held by the taxpayer who created the property or a taxpayer with a substituted or transferred basis from the taxpayer who created the property (or for whom the property was created) from the definition of a capital asset. Thus, gains or losses on such assets will not receive capital gain treatment. The provision applies to dispositions after December 31, 2017.

Whew, that is a lot of information.

What do you think about the new tax law and how it will affect you?

And business owners, I didn’t forget about you. In the next post (i.e., Part 5), I will talk a bit about some of the new tax provisions and how they will affect your business. You can find it right here.  👓

Remember, Solid Tax Solutions is available to help you with preparing your tax return as well as show you how the new tax laws will affect you.

Just give us a call at (845) 344-1040.

☛(845) 344-1040☚

 

_________________________________________________________________________________________________________________

Bruce – Your Host at The Tax Nook

Our Firm’s Website: SolidTaxSolutions.com.

Other Social Media Outlets: Facebook.com/SolidTaxSolutions.

Twitter: Twitter.com/@SolidTax1040 (BTW, We Follow-Back).

The Tax Cuts and Jobs Act (TCJA) – Part 3

So, welcome back boys and girls for Part – 3 of how the The Tax Cut and Jobs Act can affect you.

If you haven’t read the introduction to my first article on the new tax law, please go to Tax Cuts and Jobs Act (TCJA) – Part 1. In this third installment I will continue the discussion of itemized deductions that I started in Part 2 (and you can find Part 2 right here).

 

Gambling Losses

This change is a positive one. The new law makes it clear that losses from wagering transactions includes both the costs of the wagers and other expenses related to the activity of gambling. That could include travel to and from the casino.

 

Charitable Contributions

Charitable contributions that may be deducted in any one year are limited to a percentage of Adjusted Gross Income (AGI). The percentage depends on the type of contribution and the organization receiving the contribution. For cash or property that has not appreciated in value, contributions to public charities under the old law were limited to 50% of AGI. Lower percentages apply to capital gain property and contributions to non-operating private foundations. Under the new law, the 50% limit on contributions to public charities is increased to 60%. Under both prior and new law, charitable contributions deductions disallowed because of the 60% limitation in any year may be carried forward five years.

The new law repeals the deduction for payments made to a college or university in exchange for which the payor receives the right to purchase tickets or seating at an athletic event.

Under prior law you did not have to have a contemporaneous written acknowledgment from a charitable organization for contributions of $250 or more if the donee organization reports the contribution to the IRS. This exception to the general rule has been repealed, effective for the 2017 tax year. Thus, if you made a contribution in 2017 of $250 or more, you’ll need a statement from the charity in order to secure a deduction. This provision does not expire.

 

Casualty and Theft Losses

This change could be particularly difficult for taxpayers in the position of having a casualty loss. Under prior law such net losses were deductible if they exceeded 10% of a taxpayer’s Adjusted Gross Income (AGI) plus $100. The same rules apply to casualty losses sustained in a federally declared disaster. Taxpayers in the later situation could deduct the loss on their current year’s return or the prior year. Any net casualty gains (for example, your insurance reimbursement exceeds your tax loss) are taxable. A deduction for such losses could be taken only if you itemized.

Under the new law any personal casualty losses are not deductible unless attributable to federally declared disaster. This provision applies to tax years beginning after December 31, 2017. Personal casualty gains can still be used to offset losses.

The new law changes other rules for 2016 and 2017. Taxpayers who incur a net casualty loss as a result of a federally declared disaster in 2016 or 2017 are subject to a $500 per casualty threshold, but not to the 10% of AGI rule. In addition, a taxpayer can use the loss to increase their standard deduction. That is, they need not itemize to take the deduction.

Because of the 10% of AGI limitation, most taxpayers wouldn’t be able to deduct small casualty losses such as $2,500 in auto damage not covered by insurance because of a deductible. And even under prior law, a $50,000 deductible loss (after the 10% threshold) as a result of a house fire would only result in $12,500 in tax savings for a taxpayer in the 25% bracket, that’s still a significant saving. You may want to check your insurance policies to make sure you’re adequately covered. You should also check your policy for exclusions.

These changes don’t apply to business property.

 

Moving Expenses

Moving expenses were not deductible as an itemized deduction, but toward Adjusted Gross Income. In order to qualify as a deduction, the expenses had to be business related and there was a distance requirement associated with the move. Moving expenses were limited to the cost of transporting household goods and personal effects and to travel to the new residence.

The new law repeals the deduction for these expenses, with the exception of qualified moving expenses of members of the Armed Forces. And they may continue to exclude from income in-kind expenses and exclude from income any reimbursement for the expenses. The move must be related to a military order and a permanent change of station.

In addition, prior law allowed employers to reimburse qualified moving expenses and exclude them from the employee’s income. Under the new law any moving expense reimbursement must be included in the employee’s income–that is included on his or her W-2. Again, the exclusion for members of the Armed Forces continues to apply.

This change could make some employees think twice about switching jobs and moving to another area of the country. It could also make it less attractive to relocate an employee. Of course, an employer can still reimburse for the moving expense, but it would be taxable income. Thus, reimbursing an employee $4,000 for his moving expenses would increase his income by that amount and result in additional taxes. For example, for an employee in the 24% bracket that would result in additional $960 for just federal income taxes. An employer could “gross up” the payment, in effect paying the taxes (that creates more income for the employee, but makes him whole for his taxes). But, of course, that increases the cost to the employer.

 

Alimony and Separate Maintenance Payments

For many years the rule was that alimony and separate maintenance payments were deductible by the payor and income to the recipient. However, in order to qualify as alimony, the payments had to meet certain requirements. Many taxpayers tried to deduct property settlements or child support as alimony. A poorly worded divorce decree could cloud the issue and often resulted in tax litigation.

Under the new law alimony and separate maintenance payments are no longer deductible by the payor or income to the payee. The new rules don’t apply to existing agreements, but only to ones executed or modified after December 31, 2018. Changes made in the agreement after 2018 are considered modifications only if the modification expressly provides that the amendments made apply to such modification.

Tax professionals and attorneys crafting divorce agreements and taxpayers need to take the new rules into account. The new law will change the calculus of computing settlements. It won’t be possible to create a situation where a payor in a high bracket secures a substantial deduction while a spouse in a lower bracket has the income. In short, there’s less of a chance the government will be helping to finance a divorce.

 

Qualified Bicycle Commuting Reimbursements

Under prior law up to $20 per month of employer reimbursements for qualifying bicycle commuting expenses were excludable from the employee’s income. The reimbursements applied to a 15-month period. Qualifying expenses included the purchase of a bicycle, repair and storage. The new law repeals the exclusion for these reimbursements beginning with taxable years after December 31, 2017.

 

Like-Kind Exchanges

Generally, and an exchange of property for other property is, just like a sale for cash, a taxable event. However, for many years Section 1031 has allowed like-kind exchanges. In a like-kind exchange no gain is recognized on the exchange unless you receive unlike property in return. For example, Hector exchanges a two-family rental property for a strip mall. He receives no other property in return. He reports no gain (or loss) on the exchange. Now assume Fred receives both the strip mall and a backhoe used to maintain the property. At least some of the gain will be taxable. Gain isn’t avoided; it’s just deferred until the property received in the exchange is finally sold. In order to qualify the two properties must be of like-kind and the property must be held for productive use in a trade or business or for investment. (In addition, Sec. 1031 does not apply to stocks, bonds, notes, interests in partnerships, certain exchanges of livestock or foreign property). In addition, there are strict time requirements for identifying the replacement property and consummating the transaction. In the case of tangible property the definition of like-kind has been strictly interpreted. Thus, a car for a car is a like-kind exchange; a truck for a car is not. That’s generally not true for real estate. You can exchange vacant land for an office building and secure Sec. 1031 treatment.

Under the new law, like-kind exchange treatment will only apply to real property. The old law continues to apply to property relinquished or the replacement property is received on or before December 31, 2017. The 45-day identification period and requirement that receipt of the property must occur within 180 days applies.

While the most of the big dollar amounts in like-kind exchanges involve real estate, far more transactions probably involve tangible personal property. Every time you trade in a business vehicle, machinery, or other equipment you’re most likely doing a like-kind exchange. That means you’re deferring any gain on the exchange of the equipment; you’re also deferring any loss. Under the new law you’ll have to recognize gain, or loss, each time you “trade in” equipment. Because of changes in the depreciation rules, that may not make any difference, at least for federal tax purposes.

Example–Oak Inc. purchases a backhoe for $40,000 in 2018 and writes off the entire purchase price. In 2020 Oak Inc. trades in the backhoe for a small bulldozer costing $45,000 paying an additional $10,000 (it’s equivalent to selling the old backhoe for the amount allowed on the trade in, $35,000). The backhoe has been fully depreciated so the trade in produces a gain of $35,000 ($45,000 for the new unit less the $10,000 additional payment). Oak Inc. should be able to write off the full cost of the bulldozer offsetting the $35,000 gain with a $45,000 deduction.

Certain problems can arise. First, the depreciation allowed for state purposes may not be the same as for federal. Second, if the sale and purchase of the two machines occur in different years, there will be no “offset” and Oak Inc. could have a significant a gain in one year and a big deduction in the next.

Having to recognize any loss on a trade in may be advantageous, but not always.

You should talk to your tax adviser —> Solid Tax Solutions before engaging in significant trade ins or other activities that can be affected by the Tax Cut and Jobs Act.

BTW, you can find the next installment of this highly informative series – Part 4 right here.

__________________________________________________________________________________________________________________

Bruce – Your Host at The Tax Nook

Our Firm’s Website: SolidTaxSolutions.com.

Other Social Media Outlets: Facebook.com/SolidTaxSolutions.

Twitter: Twitter.com/@SolidTax1040 (BTW, We Follow-Back).

The Tax Cuts and Jobs Act (TCJA) – Part 2

In this second blog post I’ll be discussing individual itemized tax deductions that are taken on Schedule A (And, If by chance you missed Part 1 of this article about the Tax Cuts and Jobs Act you can read it here).

Everyone has been talking about the limit on state and local taxes, but there are additional cutbacks. As under prior law you want to take the larger of the standard deduction or your itemized deductions. The big increase in the standard deduction reduces your chances of your itemized deductions exceeding the standard. That’s made even more difficult by the new restrictions on state and local taxes, mortgage interest, and the elimination of miscellaneous itemized deductions. (Note: There are sometimes reasons to itemize even when you’d come out ahead with the standard deduction.)

For example, Fred and Wilma had state and local income taxes in 2017 $14,000; mortgage interest of $13,000 and charitable contributions of $1,000. Thus, instead of taking the standard deduction of $12,700 they itemized and deducted $28,000. Assuming the same expenses for 2018, because of the $10,000 limit on state and local taxes, their itemized deductions will only total $24,000, the same as the standard deduction.

Clearly, fewer taxpayers are likely to itemize for federal purposes. But that may prove disadvantageous for state purposes. For example, New York (and many other states) uses your federal itemized deductions and disallows the deduction for state income taxes. If, in 2018, Fred and Wilma lived in New York and had real estate taxes of $9,000, interest of $13,000 and $1,000 in charitable contributions they could take itemized deductions of $23,000 for state purposes. Their standard deduction for state purposes would be a bit above $16,050 substantially less (Side note: As of the date of this post the New York State Department of Taxation and Finance has not released their standard deduction amount for 2018, therefore I used the 2017 NYS standard deduction amount of $16,050 for a married couple filing jointly for illustration. Based on history, I do not expect the 2018 NYS standard deduction amount to be significantly higher than the 2017 NYS standard deduction amount). They may have to compute their itemized deductions just for state purposes. But there’s another hitch. Many states don’t allow you to itemize for state purposes if you didn’t itemize for federal. More than likely, a number of states will revise their rules to accommodate the federal changes.

There is some offsetting good news. First, the new law removes the limitation on itemized deductions (the Pease limitation) that’s based on Adjusted Gross Income (AGI). Under the old law taxpayers with AGI of more than $320,000 (married, joint; $266,700 for single individuals) would see their itemized deductions phased out.

Second, state and local taxes, certain interest deductions, etc. were not deductible for Alternative Minimum Tax (AMT) purposes. So many higher-income taxpayers ended up receiving little or no benefit from some of their deductions. The changes in the Alternative Minimum Tax make that much less likely.

 

State and Local Taxes

This change may be the one most talked about, and it’s also one of the most straightforward. Your deduction for state and local income, property, and sales taxes (if you use that option), combined, is limited to $10,000 ($5,000 married filing separate). No deduction is allowed for foreign real property taxes paid in the years 2018 through 2025; foreign income taxes are still deductible, subject to the restrictions on all taxes. If you prepaid state and local income taxes for 2018 in 2017, they’re not deductible until 2018. Real property taxes that are assessed in 2017 are deductible if paid in 2017, if you’re allowed to do so under local law.

There is an exception for state and local real or personal property taxes paid or accrued in carrying on a trade or business or income-producing activity. So let’s say that you have an auto repair business operated as a sole proprietorship. You own the building that is used by the business. The real property taxes would be fully deductible, but on Schedule C. Property taxes related to rental property should be taken on Schedule E as part of the rental expenses.

There are some issues here that will probably be addressed in guidance from the IRS.

If you have a vacation home that’s not being used, you might consider renting it to secure a deduction on Schedule E.

If you are self-employed and use a portion of your home for business, the business portion of the taxes (and other expenses) are deducted on Schedule C (or Schedule F for farm income). For example, you use 20% of your home for business. Your real estate taxes are $10,000 for the year. Of the total $2,000 (20%) would be deductible on Schedule C, the remaining $8,000 would be deductible on Schedule A, subject to the overall $10,000 limit rule.

 

Home Mortgage Interest Deduction

This change, too, is pretty simple. Mortgage interest on acquisition indebtedness on a qualified residence incurred on or after December 15, 2017 is deductible, but only to the extent of the interest on the first $750,000 ($375,000 if married filing separate) of debt, not the $1 million limit under the old law. No deduction is allowed for home equity debt, regardless of when incurred.

A qualified residence is your principal residence plus one other residence. That includes a vacation home, or a boat or recreational vehicle with living accommodations. The old rules continue to apply as well to other definitions. For example, the debt must be secured by the residence and acquisition indebtedness includes refinanced debt not in excess of the original debt. Acquisition debt includes debt incurred in the purchase, construction, or substantial improvement of the residence. There are other rules with respect to refinanced debt including that the refinancing cannot extend the term of the original loan. The qualifying debt on a mortgage refinanced that was taken out before December 15, 2017 can be as much as the old limitation, $1 million.

The two changes here are the loss of a deduction for home equity interest and the lower maximum indebtedness. Like other provisions in the new law, both of these restrictions expire after 2025.

While there are no “loopholes” there are steps you can take to make sure you don’t give away an interest deduction. For example, many taxpayers use their home equity line to add a room, redo a kitchen, finish the basement, etc. Under the prior law the first $100,000 of home equity interest was deductible, so it really didn’t make much difference if the amount was incurred for a addition to the home or a new foreign sports car. But for home improvements the home equity loan is really acquisition debt and the interest on the portion of the total debt used for these purposes should still be deductible, subject to the overall limits. Interest on home equity debt incurred to purchase a new car would not be. If you do use the home equity line for this purpose you need to keep accurate records of the date and amount spent and be able to tie it to the amount withdrawn from the home equity line. Talk to Solid Tax Solutions about the fine points of record keeping here.

Example–In 2017 Bill and Carol drew down $30,000 on a $100,000 home equity line to purchase a car. On July 1, 2018 they take $60,000 from their home equity line to pay for a new kitchen and an additional bathroom. The interest on the $60,000 home improvement debt would be deductible in 2018. But that amount was outstanding for only half the year. Bill and Carol would have to determine the amount of interest on that $60,000 for the last six months of 2018.

Business owners can encounter the situation where they borrow on their home to finance their business or for the purchase of a rental property. In both of these situations the loan and the interest really belongs on the business or the rental property and should be deducted on that business. Debt related to these types of loans is not subject to the $750,000 restriction. For example, John and Susan have a home worth $2.3 million. They borrow $1.25 million to finance their business. Interest on the entire debt would be deductible, but not as an itemized deduction on Schedule A. Again, talk to Solid Tax Solutions about the record keeping and mechanics, both of which can be critical.

Investors can still deduct investment interest. Amounts borrowed through a home equity line should be allocated to the investment interest deduction.

While the interest isn’t deductible, that doesn’t mean taking out a home equity loan no longer makes sense. If you got into financial difficulty and ran up your credit cards, using a home equity loan at 4% or a similar interest rate to pay off 22% credit card balances makes sense. On the other hand, car loans currently carry a low rate. It may make more sense to finance a new car with an auto loan rather than use home equity money. A home equity line can still prove useful in many situations, but you shouldn’t use it indiscriminately.

 

Medical Expense Deduction

Here, the change is a positive one. Under prior law only unreimbursed medical expenses that exceeded 10% of AGI were deductible for regular or AMT purposes. The new law lowers the percentage threshold to 7.5% for both regular and AMT purposes, but only for 2017 and 2018. (It had been 7.5% some years ago.) For example, under the 10% threshold a taxpayer with AGI of $50,000 would be able to deduct only the amount of unreimbursed medical expenses that exceeded $5,000 (10% of $50,000). Under the new law, that same taxpayer would get a deduction for expenses that exceeded $3,750 (7.5% of $50,000). Medical expenses includes health insurance, long-term care insurance (subject to restrictions), unreimbursed doctor and hospital bills, tests, prescriptions, etc.

This change applies to tax years beginning after December 31, 2016. That means it applies to 2017 tax returns, one of the few changes that does.

There’s a downside here though. The lowered threshold only applies to tax years beginning before January 1, 2019. For almost all taxpayers that means it only applies to tax years 2017 and 2018.

 

Miscellaneous Itemized Deductions

Unfortunately, here we will see another cut courtesy of the Tax Cut and Jobs Act. These miscellaneous itemized deductions (subject to a 2% of AGI threshold) include a broad range of expenditures from job hunting expenses, union dues, professional uniforms, an employee’s home office, unreimbursed employee business expenses (e.g., travel, lodging, meals and entertainment), continuing education expenses, to professional subscriptions and dues. The expenses deductible under this category also include expenses for the production and collection of income such as the cost of preparing your tax return, investment advisory publications and advisory fees. They may also include attorney’s fees for the collection of income a safety deposit box, and appraisal fees. Finally, expenses related to “hobby losses” are deductible here.

Many taxpayers don’t break the 2% threshold required to deduct any of these expenses, or do so only sporadically, but the category is such a catchall that more than a few taxpayers, particularly professionals who are employees will feel the pinch on a regular basis.

Taxpayers who are self-employed (that includes partners in a partnership and LLC members) or do business through a regular corporation or ‘S’ corporation should be particularly careful who the expenses belong to and who pays them. For example, you may have been deducting unreimbursed business expenses on Schedule A where you could be deducting them on your S corporation. Talk to Solid Tax Solutions about the correct treatment.

Business owners may have to reconsider their reimbursement policies. If the business had a policy of not reimbursing employees for meals that were business related, the employee will now be forced to absorb the entire bill. In order to placate and retain employees you may have to start reimbursing for items you didn’t in the past.

Please feel free to share this post and any other of our blog posts with your friends and family.

Also, Part 3 is soon to follow. The wait is over 😃. Part 3 is ready and you can read it here.

Call and talk to your tax adviser at Solid Tax Solutions (Web: SolidTaxSolutions.com) about these and other ways the Tax Cut and Jobs Act will affect your 2018 AND 2017 taxes.

→(845) 344-1040←

 

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Bruce – Your Host at The Tax Nook

Our Firm’s Website: SolidTaxSolutions.com.

Other Social Media Outlets: Facebook.com/SolidTaxSolutions.

Twitter: Twitter.com/@SolidTax1040 (BTW, We Follow-Back).

The Tax Cuts and Jobs Act (TCJA) – Part 1

Lately I’ve received a lot of calls as well, as impromptu questions when I am moving around town, of people wanting to know what the heck is the ‘new tax law’ all about and how these changes will affect them.

So, I thought the best and most efficient way to get preliminary information out to everyone is through this blog with a “brief” (Lol) overview.

And, off to the races we go……

Soooo, there have been many claims on both sides of the political aisle about the Tax Cuts and Jobs Act which is also referred to as the TCJA (and as a side note the TCJA is over 500 pages). Will your taxes go down? By how much? For middle class taxpayers it will ultimately depend on your particular situation. There’s no doubt that some taxpayers in states with high income and/or real estate taxes could see their taxes go up. And it can also depend on what other deductions you’re losing. But higher-income taxpayers won’t feel the pinch as much. That’s because their deductions under the old law may be phased out or lost because of the Alternative Minimum Tax (AMT). Most taxpayers will see a decline in their taxes, a few will see an increase. The higher your income the bigger the benefit, both in absolute and percentage amounts. The increase in the exemption for the Alternative Minimum Tax will mean far fewer taxpayers will be caught in the trap. In fact the estimate is that only about 200,000 taxpayers will pay the tax, down from 4.4 million. For many taxpayers that can be a big saving.

Home ownership will not be as attractive as it was, particularly in high tax states. And that could depress home prices. On the other hand, new benefits for landlords will make owning a rental more profitable. That could be enhanced because more people may be renting.

Business owners should fare well under the new rules. While owners of business in certain services (medicine, accounting, legal, etc.) may not do as well as others, everyone will get a benefit. For C corporations (otherwise known as a regular corporation) tax rates will be materially lower; for owners of S corporations and other pass-through entities, the benefits are less clear, but should be significant. But there are some changes that could reduce the benefits. For example, an employee who is asked to move to another location may want more of an incentive since his moving expenses are no longer deductible.

One issue that I haven’t heard mentioned more than once is the effect on state income taxes. Most states tie their computation of taxable income to the federal rules. Some do it automatically (when the fed makes a change, the state automatically does), some have to pass a legislation to follow the change. Most states have modifications to federal taxable (or adjusted gross) income. For example, New York State excludes state and federal pensions and allows an exclusion for up to $20,000 in other pension income. It also exempts all of Social Security income. But it doesn’t follow some of the federal depreciation rules.

Some deductions were eliminated in total. For example, moving expenses are no longer deductible (with an exception for the armed forces). But unless a provision of existing law was mentioned, it’s still in effect. The 0.9% medicare tax on wages of higher income individuals as well as the 3.8% tax on net investment income. The special benefits for capital gains and dividends were largely untouched.

Most amounts in the new law are adjusted for inflation using the ‘chained consumer price index’ (C-CPI-U) approach (for your reference, a quick read primer about the ‘chained consumer price index’ (C-CPI-U) is here. This is a method, that will be used going forward, that results in smaller annual increases in tax brackets, thresholds, etc.

Finally, keep in mind that most of the provisions take effect January 1, 2018. (Technically, they apply to tax years beginning after December 31, 2017; I’ll point out any that don’t). Most of the provisions that apply to individuals expire on December 31, 2025.

Beginning with this article you and I will take a look at all the important changes in the law and how it will affect taxpayers.

 

Individual Tax Rates

 

Tax Rates Based on Filing Status

 

There’s no question that income tax rates are lower across the board (with the exception of estates and trusts). But how much varies with your situation. Of course, you could still pay higher taxes if your taxable income is higher because you can’t deduct some of your state and local taxes, can’t claim a credit, etc. That’s why it’s important to work through your numbers. Unless you take the standard deduction and never have any unusual circumstances, trying to make them arrive at generic examples is very difficult =>(Solid Tax Solutions can work the numbers for you).

Tax Rates: Single Taxpayers–>2018
      Taxable income:                   Tax:
  Over     But not over         Tax       +%   On amount over            

$      0     $  9,525        $    0.00   10       $      0
   9,525       38,700           952.50   12          9,525
  38,700       82,500         4,453.50   22         38,700
  82,500      157,500        14,089.50   24         82,500
 157,500      200,000        32,089.50   32        157,500
 200,000      500,000        45,689.50   35        200,000
 500,000      .......       150,689.50   37        500,000
 

Tax Rates: Married Individuals Filing Joint and Surviving Spouses–>2018
      Taxable income:                   Tax:
  Over     But not over         Tax       +%   On amount over            

$      0     $ 19,050        $     0.00  10       $      0
  19,050       77,400          1,905.00  12         19,050
  77,400      165,000          8,907.00  22         77,400
 165,000      315,000         28,179.00  24        165,000
 315,000      400,000         64,179.00  32        315,000
 400,000      600,000         91,379.00  35        400,000
 600,000      .......        161,379.00  37        600,000 
 
Tax Rates–Head of Household–>2018
      Taxable income:                   Tax:
  Over     But not over         Tax       +%   On amount over            

$      0     $ 13,600        $     0.00  10       $      0
  13,600       51,800          1,360.00  12         13,600
  51,800       82,500          5,944.00  22         51,800
  82,500      157,500         12,698.00  24         82,500
 157,500      200,000         30,698.00  32        200,000
 200,000      500,000         44,298.00  35        200,000
 500,000      .......        149,298.00  37        500,000 
 
Tax Rates: Married Filing Separate–>2018
      Taxable income:                   Tax:
  Over     But not over         Tax       +%   On amount over            

$      0     $  9,525        $     0.00  10       $      0
   9,525       38,700            952.50  12          9,525
  38,700       82,500          4,453.50  22         38,700
  82,500      157,500         14,089.50  24         82,500
 157,500      200,000         32,089.50  32        157.500
 200,000      300,000         45,689.50  35        200,000
 300,000      .......         80,689.50  37        300,000 
 
Tax Rates: Estates and Trusts–>2018
      Taxable income:                   Tax:
  Over     But not over         Tax       +%   On amount over            

$      0     $  2,550        $     0.00  10       $      0
   2,550        9,150            255.00  24          2,550
   9,150       12,500          1,839.00  35          9,150
  12,500      .......          3,011.50  37         12,500 
 

So what are the savings? I computed the tax using several levels of taxable income. I didn’t take into account different situations such as the loss of tax deductions or the higher standard deductions or the Alternative Minimum Tax. I used 2017 rates for the “old” rates because many taxpayers want to compare last year to the new rates. If the law hadn’t been enacted, 2018 rates would be slightly lower after accounting for the annual cost-of-living adjustment.

Here’s how a married couple would fare under four different taxable income assumptions.

Taxable Income of $40,000– Jack and Jill have taxable income of $40,000. Under the new law they’ll pay tax of $4,419 versus $5,068 under the old law. That’s a savings of $649.

Taxable Income of $100,000– Assume taxable income of $100,000. They’ll pay $13,879 under the new law versus $16,478 under the old. A savings of $2,599.

Taxable Income of $375,000– With taxable income of $375,000 they’ll pay $83,379 versus $98,967 for a $15,588 savings.

Taxable Income of $600,000– Taxable income of $600,000 will result in $161,379 under the new law, down from $182,831 under the old law. A savings of $21,452.

I also computed the saving at taxable income of $75,000. That was $1,699, in between the $40,000 and $100,000 savings amounts.

For single individuals, I computed the differences at taxable income of $100,000 and $500,000. At $100,000 there’s a savings of $2,692; at $500,000 the savings rise to $3,129.

There’s no question that the tax rates are lower, and higher-income taxpayers will see the biggest savings, both in absolute and percentage amounts. But all taxpayers should benefit. The question is how will this be offset by the loss of deductions? That depends on your particular situation. Both the rates and brackets generally combine to lower taxes. For example, in 2017 the 25% rate for a married couple filing joint started at $75,901; under the new law, the rate is 22% and the bracket starts at $77,401. But there are some anomalies, such as the 35% bracket for married, filing joint starts at $416,701 under the old law and $400,001 under the new.

Capital Gain Rates and Related Taxes

The tax rate on long-term capital gains follows the old rules updated for the new rates. For example, under the old rules, you’d pay no tax on qualified dividends or long-term capital gains if you’re in the 10% or 15% bracket. There is no 15% bracket under the new law. The 12% bracket is substituted. Thus, if you’re in the 10% or 12% bracket, you pay no tax on qualified dividends or long-term capital gains. Above that, qualified dividends and long-term capital gains are taxed at 15% until you reach the top bracket. If you’re in the top bracket, they’re taxed at 20%.

The maximum tax rate on unrecaptured Section 1250 gains remains at 25%; the maximum tax on collectibles is 28%, as under prior law.

The Net Investment Income Tax (NIIT) of 3.8% remains in effect. This tax generally applies to dividends, capital gains, and passive income. The additional medicare tax of 0.9% continues to apply to Medicare wages in excess of the threshold amounts.

 

Alternative Minimum Tax

Congress did not eliminate the alternative minimum tax for individuals, but by making two strategic changes it slashed its impact.

The first change is the exemptions. Under prior law the exemption was $84,500 for a married couple filing joint. That’s increased to $109,400. For single individuals or head of household, the exemption increases from $54,300 to $70,300; for married filing separate it goes from $42,500 to $54,700. Under both prior and new law the exemption is phased out 25 cents for each $1 that the Alternative Minimum Taxable Income (AMTI) exceeds the thresholds. That was a big trap for many taxpayers. Under prior law the phaseouts began AMTI of $160,900 (married, joint), $120,700 (single, head of household), and $90,450 for a married couple filing separately. Under the new law, phaseout of the exemption begins at $1 million for a married couple filing joint and $500,000 for all other filers. That, coupled with the fact that only the first $10,000 of state and local taxes are deductible for regular tax purposes (state and local taxes are not deductible for AMT purposes) significantly reduces a major add-back.

The rates for the AMT are unchanged from prior law (after adjustment for inflation). The 26% rate applies to AMTI up to $191,500 ($95,750 if married, filing separate) for 2018; the 28% rate applies to income above those amounts.

For many taxpayers who either paid or had to consider the AMT in the past, they should discuss the tax with their advisor. There’s a good chance a few rules of thumb may provide them with relief from having to consider the tax.

 

Standard Deduction, Personal Exemption and Child Tax Credit

This is where things start to get more complicated. Under prior law, the standard deduction for a single taxpayer was $6,500 and $13,000 for a married couple filing jointly. Each individual was entitled to a personal exemption of $4,150. These were the amounts released by the IRS in November that would have taken effect for 2018. Thus, a single taxpayer, taking the standard deduction would have been entitled to deduct $10,650 from their adjusted gross income to arrive at taxable income. A married couple with no children could deduct $21,300 ($13,000 standard deduction plus two $4,150 exemptions). They could deduct another $4,150 for each dependent child. In addition, a single individual or married couple with children could take a tax credit of $1,000 for each child under the age of 17. The personal exemption and child credit were phased out for higher-income individuals.

Under the new law the standard deduction is increased to $12,000 for a single individual; $24,000 for a married couple filing jointly and $18,000 for head of households. The amounts are adjusted annually for inflation. That seems generous, but the new law also eliminates the personal exemption. That would be $4,150 per person. Thus, the standard deduction isn’t going from $13,000 to $24,000 for a married couple with no children, in effect it’s going from $21,300 to $24,000. For a single individual the deduction is going from $10,650 to $12,000. It’s an increase, but a more modest one than appears on the surface.

A bigger issue is the exemptions for dependent children. These are also eliminated. In their place is a higher child tax credit.

Under prior law taxpayers could claim a tax credit of $1,000 for each child under the age of 17 at the end of the year. The credit is phased out ($50 for every $1000) for taxpayers with Modified Adjusted Gross Income (MAGI) above $110,000 (married, joint) $75,000 (single). Part of the credit may be refundable. There are other restrictions.

Under the new law the credit is increased to $2,000 per qualifying child. Phaseout begins at $400,000 (married, joint); $200,000 for any other filing status. The phaseout is the same as under the old law. In addition, a $500 credit can be claimed for each dependent who doesn’t qualify for the child credit. The maximum refundable portion is $1,400 per qualifying child. The refundable portion is equal to 15% of a taxpayer’s earned income in excess of $2,500 to the amount the tax credit exceeds the taxpayer’s tax liability. In addition, there are new requirements for a proper taxpayer identification number. A social security number will be valid only for a person who is a U.S citizen or is authorized to work in the U.S. Without this, the refundable credit is limited to $500.

So, are you better or worse off under the new law? Here it depends on your tax rate. A credit is a direct reduction in taxes. The tax savings doesn’t depend on your tax rate. With a deduction, the value depends on your tax rate. For example, Bob and Susan can get a $1,000 tax credit or a $4,150 deduction (the amount of the personal exemption for a child). They’re in the 10% bracket. The tax credit will save them $1,000 in taxes, but a $4,150 deduction will only reduce their taxes by $415 (10% of $4,150). Jack and Jill can also choose between a $1,000 credit or a $4,150 deduction, but they’re in the 35% bracket. The $4,150 deduction will reduce their taxes by $1,452.50. They’re better off with a deduction.

Under the old law a qualifying child would give you a $1,000 credit and a $4,150 deduction. Continuing the example above, under the new law Bob and Susan now have $2,000, much better than the $1,000 credit and a personal exemption which would save $415 in taxes. Jack and Jill get a $1,000 credit (which they would not have gotten under prior law because of the phaseout of the credit). But they also get another $1,000 credit instead of a $4,150 deduction which would have been worth $1,452.

There’s another important difference here. Under prior law a qualifying child for the dependency exemption had to be either under age 19 or, if a full-time student, under age 24 at the end of the calendar year. For the $2,000 credit the child must be under the age of 17. For a dependent older than that you’re only entitled to a $500 credit. Offsetting this is the phaseout of the child credit under the new law which occurs at a much higher income level.

Stay tuned ladies and gentlemen there is more TCJA fun to follow, you can find Part 2 of this article here.

You can reach Solid Tax Solutions by ☎ at: (845)344-1040.

You can also visit us on the web at: SolidTaxSolutions.com.

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Bruce – Your Host at The Tax Nook

Our Firm’s Website: SolidTaxSolutions.com.

Other Social Media Outlets: Facebook.com/SolidTaxSolutions.

Twitter: Twitter.com/@SolidTax1040 (BTW, We Follow-Back).

A New Presidential Administration Will Soon Be Upon Us. What Tax Changes Can We Expect???

Effects on Businesses

What do the election results mean to your business? Your taxes? There’s no one answer to that. As far as the effect on your business, with small exceptions, it should be positive. Most experts believe they’ll be a move away from regulations that have negatively impacted many businesses. But the actual impact will vary widely. The plumber working on his own faces regulation on the local, county, and town level. Federal rules probably have little, if any, effect. Some health care businesses will do much better, as evidenced by the surge in prices for drug companies. Some will do worse as many hospitals believe the demise of Obamacare will hurt their business.

Donald J. Trump
Donald J. Trump

It can get far more complicated. Will home prices rise? It depends. If immigration (legal and illegal) is severely restricted, new home prices will rise because smaller contractors often use immigrant labor. Higher interest rates, which some professionals predict, would also have an effect on home prices. On the other hand, reduced regulation of banks could ease lending rules which could offset higher interest rates. And a lower tax rate would increase available income.

From a business standpoint, the best advice is to analyze the situation, listen to any trade organizations, and don’t overreact in either direction. While it seems fairly certain Obamacare will be attacked rather quickly, many other changes could take much more time.

Effect on Taxes

What will happen to taxes? Some changes are fairly predictable, some aren’t. Here’s my brief rundown of the most predictable ones. These are based on President-Elect Trump’s proposals.

Individual Tax Rates: They’re heading lower, at least the top rates. The proposed rates are 12 percent, 25% and 33%. The lowest rate would apply to the first $75,300 for those married folks filing jointly ($37,650 for single); 25% on taxable income up to $231,450 ($190,150 single). Everything above those levels would be taxed at 33%. The 3.8% tax on net investment income would be eliminated. The head-of-household filing status would be eliminated.

NoteThe income breakpoints indicated are based on a House of Representatives proposal.

Capital Gains: The capital gain rates might be unchanged, with the exception of eliminating the 3.8% tax on investment income. The same rates would apply to qualified dividends.

Deductions: The standard deduction would increase to $30,000 for married filing jointly ($15,000 for single). There would be a $200,000/$100,000 cap on itemized deductions. No personal exemptions.

Childcare: An above the line deduction for child and elder care expenses limited by a taxpayer’s income.

Alternative Minimum Tax: Trump’s proposal would be to eliminate the tax.

Corporate Tax Rates: The corporate rate would drop to 15% under Trump’s proposal. That may be unrealistically low. Passthrough entities would be taxed at 15%, but taxed again on distributions. Good news for businesses that retain a substantial share of their income.

Section 179 Expensing: The limitation would increase from $500,000 to $1 million per year.

Estate Taxes: The estate tax would be eliminated. But so could the stepped up basis on assets at death, at least on assets above the current estate tax threshold.

Those are the highlights, the ones that affect the most taxpayers, and the ones that have the best prospect of passing.

But the devil is in the details. Here are some points to consider.

Congress: The Republicans do have a majority in both houses, but the Senate for one, is thin and not all members vote the party line. That means some compromise might be necessary. In addition, the Trump plan isn’t the only one. The House has its own plan. And many individual members have their own thoughts.

Paying for the Cuts: The cuts have to be paid for in some way. Some estimates put the 10-year deficit increase at $9 trillion. There is some sleight-of-hand that can be used to ignore at least part of the problem currently, but it’ll show up quickly. That’s happened in the past. The economy will have to grow faster than it has in some time to solve the problem. If not, tax rates could creep higher after the initial cuts. That’s happened in the past. It might be avoided with significant spending cuts, but that approach has proved elusive in the past. And at some point spending cuts will be felt at the voting booth.

Fewer People will Itemize: That’s definitely true. And for a number of taxpayers, taxes will be simpler. But having three tax rates rather than seven won’t help much. Most tax returns are prepared by professionals on computer. Few people actually use the tax tables to compute their tax liability. And for many taxpayers, itemizing isn’t the problem. It’s dealing with capital gains, education expenses, rental properties, a sole proprietorship, etc. and that will continue to cause headaches.

State Taxes: Most states use federal taxable income as a starting basis for their tax. Many states use the same itemized deductions, some with modifications. Unless they change their approach, you still could be itemizing.

Retirement Plans: Look for additional benefits for contributions to retirement plans.

Other Changes: It’s more than likely that Trump’s proposals will be incorporated into a host of other changes. Where this will end up is hard to predict. Overall tax liabilities are almost sure to be lower, but deductions for individuals reduced. There could be cutbacks in certain credits and other deductions for particular industries or taxpayer benefits. Thus, some taxpayers may benefit less than others. Once more information is available, you should discuss your situation with your tax advisor.

Timing of Changes: Clearly nothing will happen in 2016 to affect 2016 returns. Any changes will be in 2017 although the actual timing is difficult to predict. At this point many experts predict early attention to taxes, but it may be far enough along in the year that some of the changes will not be retroactive to the beginning of 2017.

Tax Planning: The safe bet now is to defer income into 2017 and take deductions this year. For a more detailed discussion of tax planning and to see how any upcoming tax changes will affect you, contact Solid Tax Solutions (SolidTaxSolutions.com). We can be reached, all year-long, at (845) 344-1040.

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Bruce – Your Host at The Tax Nook

Our Firm’s Website: SolidTaxSolutions.com (or just click on the icon on right sidebar of this page).

Other Social Media Outlets: Facebook.com/SolidTaxSolutions (or just click on the icon on right sidebar of this page).

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The House Has Passed Legislation Regarding the Itemization of Medical Expenses!

Hello Everyone! I just wanted to share some good news with you about a possible change regarding itemizing medical expenses.

The U.S. House of Representatives Voted on a Bill That Could Affect Your Taxes.
The U.S. House of Representatives Voted on a Bill That Could Affect Your Taxes.

So, last week (September 13 to be exact), the U.S. House of Representatives passed a bill titled ‘Halt Tax Increases on the Middle Class and Seniors Act’ (the bill is H.R. 3590 which you can view right here => H.R. 3590), by a vote of 261 to 147, that would lower the Adjusted Gross Income (AGI) threshold for an itemized deduction for unreimbursed medical expenses—from 10% to 7.5%—for all taxpayers, regardless of age under the Affordable Care Act (ACA).

Under the ACA, taxpayers may deduct from their AGI, to reach their taxable income, the cost of unreimbursed medical expenses that exceed a certain percentage of their AGI. Following a law change in 2013, individual taxpayers under the age of 65 could only deduct medical expenses when they totaled at least 10% of their AGI – the value of expenses above this 10% threshold can be deducted.

The Bill passed by the House of Representatives would prevent a change to the threshold for those over 65 years of age, which from the end of this year (2016) would have increased the threshold applying to this category of taxpayers from the current 7.5% to 10%.

The House Ways and Means Committee Chairman Kevin Brady (R – Texas) welcomed the Bill, he said: “Before Obamacare, Americans could find some relief in their ability to deduct high-cost, out-of-pocket medical expenses on their taxes. … This Obamacare provision is a tax hike, plain and simple. It makes paying for care even more difficult for individuals, families, and seniors who may already be struggling to afford the care they need.”

The National Taxpayers Union added that the Bill would “have an enormous impact on the budgets of American families. … Over 10 million taxpayers every year use this deduction to cushion the burden of medical expenses and this tax increase would cause an undue financial burden to seniors and those struggling with chronic medical conditions.”

However, the Center on Budget and Policy Priorities noted that “Congress has already delayed the medical device tax, the health insurance tax, and the excise tax on high-cost health plans (the so-called Cadillac tax). Repealing the increase in the medical expense deduction threshold would encourage efforts to scale back still other revenue provisions of health reform.”

Ways and Means Committee Ranking Member Sander Levin (D – Michigan) also criticized the unfunded nature of the legislation, and pointed out that it would reduce revenues by $32.7 billion over 10 years, according to the Joint Committee on Taxation. He went on to say, “approximately two-thirds of the tax benefit from [the bill] will accrue to taxpayers earning $100,000 or more.”

Mr. Levin noted that the White House has issued a Statement of Administration Policy that “strongly opposes” the Bill and confirmed that it would be vetoed if presented to President Obama for his signature. The Statement added that the Bill “would repeal a provision of the Affordable Care Act that limits a regressive, poorly targeted tax break for health care spending.

If you would like to see the results of the final House vote for this bill you can view them here.

Do you think this has any chance of actually becoming law?

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Bruce – Your Host at The Tax Nook

Our Firm’s Website: SolidTaxSolutions.com (or just click on the icon on right sidebar of this page).

Other Social Media Outlets: Facebook.com/SolidTaxSolutions (or just click on the icon on right sidebar of this page).

Twitter: Twitter.com/@SolidTax1040 (BTW, We Follow-Back).