February 13, 2018|
The historic new tax reform law—the Tax Cuts and Jobs Act (TCJA)—was finally signed into law by President Trump on December 22, 2017. This massive overhaul of the tax code, the largest in more than 30 years, includes sweeping changes for both individuals and businesses, beginning in 2018. At the same time, various tax breaks, such as deductions for charitable donations and preferential capital gains treatment, are preserved.
Individual Tax Provisions
Most individual tax provisions in the TCJA are scheduled to “sunset” after 2025. The following are some of the main items on the list:
Tax rates: The current tax rate structure is modified by reducing tax rates and adjusting bracket income amounts. Under the new law, the seven brackets are 10%, 12%, 22%, 24%, 32%, 35% and 37%. In future years, income amounts will be changed under an inflation index that is likely to produce smaller bracket increases than the prior method.
Standard deduction: The standard deduction is essentially doubled to $12,000 for single filers and $24,000 for joint filers. As a result of this change and the repeal of certain itemized deductions, more filers will opt to take the standard deduction.
Personal exemptions: All personal exemptions, including exemptions for dependents, are eliminated. This will be offset for some filers by the increase in the standard deduction.
Child tax credit: The new law increases the child tax credit from $1,000 to $2,000, of which $1,400 will be refundable. It also allows a $500 credit for non-child dependents. These credits begin to phase out at $200,000 of modified adjusted gross income (MAGI) for single filers and $400,000 for joint filers. Current rules for the adoption credit are retained.
State and local taxes: The deduction for state and local taxes (SALT) is limited to $10,000 annually. This may consist of (1) state and local property taxes or (2) state and local income taxes or sales taxes or (3) a combination of the two.
Mortgage interest: The new law generally retains the deduction for mortgage interest, but it reduces the maximum threshold for acquisition debt for new purchases from $1 million to $750,000, while eliminating deductions for interest qualifying as home equity debt.
Medical expenses: Thanks to a late amendment, the medical deduction is preserved and temporarily enhanced. For 2017 and 2018, the deduction is available for unreimbursed medical expenses above 7.5% of adjusted gross income (AGI), the threshold prior to the Affordable Care Act (ACA), down from 10% of AGI.
Other itemized deductions: Certain other itemized deductions are repealed. The deduction for casualty losses is limited to federal disaster-area losses.
Alternative minimum tax: Despite calls to outright repeal the alternative minimum tax (AMT) for individuals, the new law keeps it in place but increases the exemption amounts and phaseout thresholds. As a result, fewer taxpayers will be affected by the AMT.
Education: The two credits for higher education—the American Opportunity Tax Credit (AOTC) and the Lifetime Learning Credit (LLC)—are retained, along with the deduction for student loan interest. However, the new law does not revive the tuition-and-fees deduction. Also, use of Section 529 plans is expanded to cover private K–12 schools.
Health insurance: The individual health insurance mandate under the ACA is abolished after 2018. Conversely, the new law does not address other tax provisions in the ACA, including the 3.8% surtax on net investment income (NII) and the 0.9% additional Medicare tax on wages.
Business Tax Provisions
Unlike the individual tax provisions in the new law, the key provisions related to businesses are generally permanent. The following is a brief rundown:
Corporate tax rates: The current top corporate rate of 35% is lowered to 21%, instead of the highly publicized 20% rate proposed in both the House and Senate versions of the bills.
Pass-through entities: The new law allows pass-through entities—such as partnerships, S corporations and limited liability companies (LLCs)—to claim up to 20% of deduction earnings, subject to certain restrictions. This deduction is not available to most personal service providers, such as physicians and attorneys, who have a high income.
Section 179 deduction: Under Section 179 of the tax code, a business can currently deduct, or “expense,” the cost of qualified property up to a specified maximum, subject to a phaseout threshold. The new law doubles the maximum allowance from $500,000 to $1 million and increases the phaseout threshold from $2 million to $2.5 million.
Bonus depreciation: The percentage for first-year bonus depreciation, which was 50% for the cost of qualified property placed in service in 2017, has fluctuated over the last 15 years. The new law sets the percentage at 100% for 2018, subject to a gradual reduction after five years.
Luxury cars: The new law raises the caps on depreciation deductions allowed under the “luxury car” rules. The schedule, based on the year the vehicle is placed in service, is as follows:
Year New law 2017
First year* $10,000 $3,160
Second year $16,000 $5,100
Third year $9,600 $3,050
Each succeeding year $5,760 $1,875
*Not including bonus depreciation.
Section 199 deductions: The new law repeals the Section 199 deduction that applies to qualified domestic property activities.
Corporate AMT: The corporate AMT is repealed. This will enable some firms to realize the full tax benefits of the research credit.
Entertainment deductions: The deduction for business-related entertainment is repealed.
Interest deductions: Deductions for business interest expenses are capped at 30% of adjusted taxable income, subject to certain special rules. Exception: A small business with annual average gross receipts of $25 million or less for the past three years is exempt.
Repatriation tax: A one-time repatriation tax of 15.5% for liquid assets and 8% for illiquid assets is imposed on earnings from overseas activities.
Family leave credit: The law creates a new 12.5%-to-25% credit for employer-paid family or medical leave through 2019.
International taxation: A complex new tax regime applies to foreign earnings of U.S. corporations.
Reminder: This is just the tip of the iceberg. The new tax reform law includes numerous other changes that will affect individuals and businesses. More details will come in future issues of this publication.