The new tax law expands into many areas. Most of the changes are effective for tax years 2018-2025, but we will note where dates are different. Following are the changes that will affect most of our clients.
- Individual tax rates will range from 10%-37%
- Capital gains will still be taxed at 0%/15%/20%, depending on the individual’s level of income
- The 3.8% net investment income tax and .9% additional Medicare tax remain intact
The new tax rates alone will lower most individual’s tax liabilities. The highest rate for 2017 is 39.6%.
- State income tax and real estate taxes are limited to a combined $10,000 deduction
- Medical expense deduction threshold is reduced to 7.5% of AGI
- Home mortgage interest to acquire a home is limited to $750,000 of debt – for any acquisition indebtedness that occurs after 12/15/17. Previously, acquisition indebtedness was limited to $1,000,000
- No deduction for home equity interest
- Miscellaneous itemized deductions have been suspended (this includes unreimbursed employee expenses, investment fees, safe deposit box rental, among others)
- Casualty and theft losses have been suspended (unless in a Federally declared disaster area)
- There is no income limitation phase-out for itemized deductions
For those that do not itemize (or may not anymore because of the state and local income tax deduction limitation), the standard deduction is increasing to:
- $12,000 for single and married filing separately filers
- $18,000 for head of households
- $24,000 for married filing jointly and qualifying widow(er)s
Both the personal and dependency have been suspended
- The child tax credit increased to $2,000
- The phase-out for the credit has increased to $400,000 for married filing jointly and $200,000 for all others
- A $500 credit may be allowed for certain non-child dependents (e.g. your dependent college student)
These credits partially make up for the loss of the exemptions for many taxpayers. The credit is a dollar-for-dollar tax savings, rather than the exemption which was a deduction from income. Many individuals could not previously take the $1,000 child tax credit because the income threshold was much lower.
Some higher income taxpayers may be able to take this credit, when previously their exemptions were partially phased-out.
Alimony will no longer be a deduction for the payor or taxable income to the recipient, for divorces that take place after 12/31/2018. Anyone already divorced through 12/31/18 with alimony in the decree can still take this deduction.
The tax rates for all C-corporations is reduced to 21%. Because the majority of our business clients are pass-through entities (S-corps and partnerships) many are asking if they should convert to a C-corp.
The main drawback that still exists to C-corps is the double taxation. Even though the tax rate on net income is lower than the individual rate, any drawings distributed to the owners are taxed again at the capital gains rate. For most of our small business clients, this creates an effective rate just as high as the individual rate.
Many of our clients will be able to take advantage of a new deduction for pass-through entities and self-employed individuals. The IRS regulations need to come out before we can go into too much detail on how the deduction will be determined and who is eligible. However, for those that can, 20% of the qualified business income will be a deduction.
Depreciation, Section 179, and Bonus Depreciation
- Passenger autos placed in service after 12/31/2017 can deduct $10,000 of depreciation in the first-year, $16,000 for the second year, $9,600 for the third year, and $5,760 for the fourth and later years
- Section 179 is increased to $1 million for property placed in service after 12/31/2017. The threshold phase-out begins at $2.5 million
- Bonus depreciation, for eligible property, has been extended with increased cost recovery to 100% for property placed in service 9/28/2017 – 12/31/2022.
Bonus depreciation is no longer restricted to “new” assets only. Purchases of used equipment will now qualify.
There are differences as to when you can take Section 179, and when bonus depreciation is allowed. We will maximize the tax benefit available when we prepare your return.
Other Changes to Business Taxes
- Interest expense in excess of 30% of adjusted taxable income is not deductible (adjusted taxable income does not include the depreciation deduction)
- The Domestic Production Activities Deduction (DPAD) has been repealed
- Like-kind exchanges are limited to real estate
- Deductions for entertainment are not allowed (NOTE – business meals may be defined as a form of entertainment. We will update our website once the IRS has finalized regulations in this area.)