Year-End Planning for Individuals
On December 22, 2017, President Trump signed sweeping federal tax reform into law, which significantly changed the U.S. tax system for both individuals and businesses. The changes under the new tax law are extensive and complex. They may also provide opportunities for additional tax savings. In order to maximize these savings, we will need to obtain and evaluate significantly more information regarding your tax situation. As a result, we anticipate that our tax preparation fees may increase due to the increased time and expertise involved.
Technology is constantly changing all businesses and the opportunities that it can offer us. In an effort to embrace this new technology and increase the convenience to our clients, WellsColeman has adopted a secure, reliable, and easy-to-use system that will allow our clients to electronically sign certain forms on their 2018 individual income tax returns. Through this new system, individual taxpayers will be able to review their tax returns before signing the return. We will be sending a more detailed email in January to fully introduce this new process to you.
Please remember, we’re available by telephone, email, or in-person to assist you with any of your year-end questions and planning needs. We wish you and your families a wonderful holiday season.
Nearly one year later, tax reform is still making headlines and we continue to learn more about its broad implications. Whether your previous tax filing posture was straightforward or complex, you will be impacted by the myriad of changes to the tax code. Some of the most impactful measures from tax reform affecting individuals include:
- The suspension of miscellaneous itemized deductions
- The near-doubling of the standard deduction
- The $10,000 cap on the state and local income and property tax deduction
- The suspension of personal exemptions
- The Section 199A deduction for pass-through business owners
- The increase of alternative minimum tax (AMT) exemptions for individuals
Now more than ever, it is imperative to thoughtfully consider year-end tax planning opportunities and ensure you are positioned to be in compliance with the new rules. Now is a good time to review your current year tax projections based on your income and deductions year to date. To help get the conversation started, below are some items we can help you think through.
- Tax Rates and Brackets
- Timing Income/Losses/Deductions
- Retirement Plan/IRA Strategies
- Deductions modified under the new tax reform
- Section 199A deduction for business owners
- Children’s Taxes (Kiddie Tax)
- Preparer Documentation Requirements
Tax Rates and Brackets
The Tax Cuts and Jobs Act of 2017 provides seven new tax brackets, with most rates being two to three points lower than the ones under the old tax law (the top rate goes from 39.6 percent to 37 percent). The top rate kicks in at higher levels of taxable income for all filers.
Higher-income earners have unique concerns to address when mapping out year-end planning. They must be wary of the 3.8% surtax on certain unearned income (NII) and the additional 0.9% Medicare (hospital insurance, or HI) tax on earned income
If your modified adjusted gross income (MAGI) exceeds certain limits, these surtaxes may affect you. If affected, you should consider ways to minimize (e.g. through deferral) additional NII for the balance of the year, and/or reduce your MAGI.
In cases where the 0.9% additional Medicare tax may apply (the earned income from wages and self-employment on your return exceeds certain thresholds), you may want to take action either to defer income to 2019, or to revise withholding or estimated tax payments.
- Realize gains or losses on stock while substantially preserving your investment position. These techniques are used when you already have realized gains or losses for the year, or carryover losses, and allow you to fully utilize losses, or reduce the impact of gains. Please let us know if you anticipate utilizing these techniques, so we can make sure that you and your investment advisor have all the information you need to take informed action.
- Postpone income until 2019 and accelerate above the line and allowable itemized deductions into 2018 to lower your 2018 tax bill. This strategy may enable you to claim larger deductions, credits, and other tax breaks for 2018 that are phased out over varying levels of adjusted gross income (AGI). These include child tax credits, higher education tax credits, and deductions for student loan interest. Postponing income also is desirable for those taxpayers who anticipate being in a lower tax bracket next year due to changed financial circumstances. Note, however, that in some cases, it may pay to actually accelerate income into 2018. For example, this may be the case where a person’s marginal tax rate is much lower this year than it will be next year.
- It may be advantageous to try to arrange with your employer to defer, until early 2019, a bonus that may be coming your way.
- Consider using a credit card to pay deductible expenses before the end of the year. Doing so will increase your 2018 deductions even if you don’t pay your credit card bill until after the end of the year.
- You may be able to save taxes this year and next by applying a bunching strategy to charitable deductions, medical expenses and other itemized deductions.
- For 2018, the “floor” beneath medical expense deductions for all taxpayers is 7.5% of AGI. If you are eligible to contribute, maximize your 2018 health savings account (HSA) contributions prior to year end.
Retirement Plan / IRA Strategies
- If you have not already done so, consider whether it is advantageous to maximize your permitted salary deferrals into an employer plan by deferring additional amounts from your regular pay and/or from bonuses to be received before the end of the year. Consider deferring an amount that will at least maximize any matching employer contribution on your behalf.
- If you reached age 70-½ during 2018, consider whether you should take your first required minimum distribution (RMDs) from your IRA or 401(k) plan (or other employer-sponsored retirement plan) in 2018, rather than bunching 2 years’ distributions into 2019. RMDs from IRAs must begin by April 1 of the year following the year you reach age 70-½. That start date also applies to company plans, but non-5% company owners who continue working may defer RMDs until April 1 following the year they retire. Failure to take a required withdrawal can result in a penalty of 50% of the amount of the RMD not withdrawn. RMDs must begin no later than April 1 following the year in which the IRA owner attains age 70-½, but can begin in the calendar year you turn 70-½. Thus, if you turn age 70-½ in 2018, you can delay the first required distribution to 2019, but if you do, you will have to take a double distribution in 2019 – the amount required for 2018, plus the amount required for 2019. Think twice before delaying 2018 distributions to 2019, as bunching income into 2019 might push you into a higher tax bracket or have a detrimental impact on various income tax deductions that are reduced at higher income levels. However, it could be beneficial to take both distributions in 2019 if you will be in a substantially lower bracket that year.
- IRA owners and beneficiaries who have reached age 70-½ are permitted to make cash donations directly from their IRAs totaling up to $100,000 per individual IRA owner per year – $200,000 per year maximum on a joint return if both spouses make qualified charitable distributions of $100,000 to IRS approved public charities directly out of their IRA. These qualified charitable distributions are tax free to you, but you get no itemized charitable deduction on your Form 1040. The benefit is that you get tax free treatment of the distribution which equates to an immediate 100% federal income tax deduction of the contribution. To qualify for this tax break, the funds must be transferred directly from your IRA to the charity
- If you believe a Roth IRA is better than a traditional IRA, consider converting traditional-IRA money invested in beaten-down stocks (or mutual funds) into a Roth IRA, if eligible to do so. Keep in mind, however, that such a conversion will increase your AGI for 2018. Please consult with us regarding the potential tax impact of such a move prior to taking action.
- If you do not have an IRA, but have a qualified retirement plan account, consider rolling over amounts that are not required distributions into a regular IRA account so you can take advantage of the above charitable contribution distributions in later years.
Deductions Modified Under the New Tax Reform
State and Local Deduction
Tax reform introduced a $10,000 cap on the itemized deduction for state and local, sales, income or property taxes for tax years beginning in 2018 and before 2026. The cap limits taxpayers’ SALT deductions to $10,000 per return, and married taxpayers who file separately can only deduct up to $5,000 each, for itemized deductions.
A significant change for individuals resulting from tax reform was the near doubling of the standard deduction amounts. However, individual tax reform is temporary and is scheduled to sunset in 2026. The 2018 standard deduction is $12,000 for taxpayers who file single returns and $24,000 for taxpayers who file married filing joint returns. Taxpayers age 65 and older receive an additional amount. Taxpayers should consider strategies to maximize the benefits of the standard or itemized deductions.
The deduction for personal exemptions is suspended through 2025.
The 2017 tax reform suspended most miscellaneous itemized deductions for tax years 2018 through 2025, including:
- Deductions for employee business expenses
- Tax preparation fees
- Investment expenses, including investment management fees
- Employment related educational expenses
- Job search expenses
- Hobby losses
- Safe deposit box fees
- Investment expenses from pass-through entities
Home Mortgage Interest
A full regular tax deduction is allowed for interest on new home acquisition debt used to acquire, construct, or improve a principal or secondary residence to the extent this debt does not exceed $750,000 for joint filers ($375,000 for single filers or married taxpayers filing separate returns). Home acquisition debt incurred on or before December 15, 2017, is grandfathered under the previous $1,000,000 limitation for joint filers ($500,000 for single filers or married taxpayers filing separate returns).
Home equity loan interest is now only deductible if the proceeds are used to acquire, construct or improve a residence, subject to the above limitations.
Section 199A Deduction for Qualified Business Income
Tax reform lowered the corporate tax rate to a flat rate of 21 percent. In turn, the new legislation may create a new 20 percent deduction for “qualified business income” from sole proprietorships, S corporations, partnerships and LLCs taxed as partnerships. The new tax break is subject to some complicated restrictions and limitations. The deduction, which is available to both itemizers and nonitemizers, is claimed by individuals on their personal tax returns as a reduction to taxable income. For 2018, if taxable income exceeds $315,000 for a married couple filing jointly, or $157,500 for all other taxpayers, the deduction may be limited based on whether the taxpayer is engaged in a service-type trade or business (such as law, accounting, health, or consulting), the amount of W-2 wages paid by the trade or business, and/or the unadjusted basis of qualified property (such as machinery and equipment) held by the trade or business. The limitations are phased in for joint filers with taxable income between $315,000 and $415,000 and for all other taxpayers with taxable income between $157,500 and $207,500.
Children’s Taxes (Kiddie Tax)
Beginning in 2018, unearned income of a child under age 18 is taxed at ordinary income and preferential rates applied to trusts and estates. Earned (compensation) income received by a child under age 18 is taxed at the rates applied to single filers.
The kiddie tax applies to full-time students who have not attained the age of 24 by the end of the taxable year and non-full-time students who have not attained the age of 19 by the end of the taxable year, but in either case, only if the child’s earned income does not exceed one-half of the amount of the child’s support.
A child with earned income may claim a standard deduction up to $12,000 for 2018 and may be eligible for the $5,500 deductible IRA contribution. Therefore, the child may earn $17,500 without paying federal income tax. The child should also consider a contribution to a nondeductible Roth IRA.
Preparer Documentation Requirements
- Paid tax preparers will continue to be required to ask additional questions of their clients when the taxpayer will claim the child tax credit, head of household status, or education credits. Please be understanding when we ask you these questions. We’re required by IRS to do so.
- Make gifts sheltered by the annual gift tax exclusion before the end of the year and thereby save gift and estate taxes. The exclusion applies to gifts of up to $15,000 in 2018 to each of an unlimited number of individuals. You cannot carry over unused exclusions from one year to the next. The transfers also may save family income taxes where income-earning property is given to family members in lower income tax brackets, if those individuals are not subject to kiddie tax.
- Tax reform increased the applicable estate and gift exemption for individual taxpayers and doubled the generation-skipping transfer tax exemption amounts to $11,180,000 ($22,360,000 for married couples), for tax years beginning after December 31, 2017, and before January 1, 2026. These amounts will be adjusted for inflation each year.
- You can also pay medical expenses or education expenses on behalf of another person without it being considered a gift, if the payments are made directly to the provider.