RVG Tax Reform – Individuals

TAX BRACKETS
Retains the current structure of seven tax brackets, but modifies the rates to: 10%, 12%, 22%, 24%, 32%, 35%, and 37%. The top rate of 37% applies to individuals with annual earned income of $500,000 or more, or $600,000 for married couples filing jointly.

CAPITAL GAINS AND DIVIDENDS
Preferential rates on capital gains and qualified dividends retained.

STANDARD DEDUCTION
Increased through 2025 to $24,000 for married taxpayers filing jointly, $18,000 for heads of households, and $12,000 for all other individuals. The standard deduction will be indexed for inflation.

PERSONAL EXEMPTIONS
Deductions for personal exemptions are repealed through 2025.

CHILD TAX CREDIT
Increased to $2,000 per qualifying child and $500 nonrefundable credit for qualifying non-children dependents through 2025. The $2,000 child tax credit is partially refundable. The phaseout threshold would be increased to $400,000 for married taxpayer filing jointly and $200,000 for other taxpayers.

INDIVIDUAL MANDATE
The individual health care mandate under Obamacare is eliminated. The bill will reduce to $0 the penalty amount imposed on the taxpayer who does not obtain insurance that provides at least minimum essential coverage. This would be effective January 1, 2019.

401(K) PLANS
Pretax contributions to 401(k) plans is retained.

HEALTH SAVINGS ACCOUNTS
Deductions for contributions to health savings accounts is retained.

ESTATE TAX
The estate tax exemption amount has doubled to almost $11 million per individual, allowing married filing jointly couples to pass up to $22 million to their heirs without paying the estate tax.
ITEMIZED DEDUCTIONS
MORTGAGE INTEREST EXPENSE
Deduction is retained as an itemized deduction but would be modified to reduce the limit on acquisition indebtedness to $750,000, from the current $1 million. A taxpayer who enters into a contract prior to December 15, 2017, to close on the purchase of a principal residence before January 1, 2018, and who purchases that residence before April 1, 2018, will be considered to have incurred acquisition indebtedness prior to December 15, 2017 and therefore be allowed the current law limitation of $1 million.

HOME EQUITY LOAN INTEREST EXPENSE
Interest expense deduction for home equity indebtedness is repealed through 2025.

PERSONAL CASUALTY AND THEFT LOSSES
Deduction for personal casualty and theft losses suspended through 2025. Personal casualty losses incurred in a Federally declared disaster area are exempt from the suspension.

MEDICAL EXPENSES
The Threshold to deduct medical expenses is reduced to 7.5% of AGI for all taxpayers for years after December 31, 2016, and before January 1, 2019.

LIMITATION ON ITEMIZED DEDUCTIONS
The “Pease limitation”, which limited itemized deductions based on Adjusted Gross Income is repealed.

MISCELLANEOUS ITEMIZED DEDUCTIONS
Deduction for miscellaneous itemized deductions subject to 2% of AGI floor is suspended through 2025.

STATE AND LOCAL TAXES
The State and Local tax deduction, commonly referred to as the SALT deduction is limited to $10,000 through 2025. The limitation applies to the sum of nonbusiness state and local income tax, sales tax, and property tax deductions. Taxpayers cannot take a deduction in 2017 for prepaid 2018 state income and property taxes.

CHARITABLE CONTRIBUTIONS
Charitable contribution deductions are retained, the AGI limitation for cash donation to public charities increased to 60%.
EDUCATION
SECTION 529 PLANS
Eligible section 529 plan expenses will be modified to include up to $10,000 in expenses for tuition incurred at an elementary or secondary school. Certain homeschool expenses would also qualify as eligible expenses.

STUDENT LOAN INTEREST
Student loan interest deduction retained in its current form.

EDUCATION CREDITS AND DEDUCTIONS
American Opportunity Tax Credit, Hope Scholarship Credit, and Lifetime Learning Credit are retained to assist with the burden of educational costs. The tuition and fees deduction is also retained in its current form.
OTHER CHANGES
ALIMONY
Alimony payment is no longer deductible by the payor and not included in income by the payee for any divorce or separation agreement executed after December 31, 2018.

MOVING EXPENSES
Moving expenses are no longer a deductible above the line expense through 2025.

MOVING EXPENSE REIMBURSEMENT
Moving expenses reimbursed, by the employer to the employee, will no longer be excluded from gross income and wages through 2025.

ALTERNATIVE MINIMUM TAX
The exemption amount and phase-out thresholds of the individual Alternative Minimum Tax are increased for years beginning after December 31, 2017, and before January 1, 2026. The exemption amount is increased to $109,400 for married filing a joint return and $70,300 for single filers. The phase-out thresholds have increased to $1 million for married filing a joint return and $500,000 for other taxpayers (other than estates and trusts).

RVG Tax Reform – Business

CORPORATE TAX RATE
Reduced to a flat corporate tax rate of 21%; down from graduated rates as high as 35%. Personal service corporations are no longer subject to a special rate.

PASS-THROUGH BUSINESS INCOME
Introduces a new 20% deduction for “qualified business income” from an S corporation, partnership, or sole proprietorship. The deduction does not apply to specified service businesses unless the taxpayer’s taxable income is below the threshold amounts of $157,500 for single filers and $315,000 for jointly filed returns.

The deduction for service businesses starts to phase out at the threshold amount of $157,500 for single filers ($315,000 for married filing jointly) and is completely phased out at $207,500 for single filers ($415,000 for married filing jointly).

A specified service business is any trade or business involving the performance of services in the health, law, financial services, consulting, athletics, brokerage services, OR any business where the primary asset of the business is the reputation or skill of one or more of its employees or owners.

Also, businesses that involve the performance of investing, investment management trading, securities dealings, partnership interests, and commodities are considered specified service businesses.

The 20% deduction is also subject to wage limitations. The W-2 wage limitation does not apply if the taxpayer earns less than $157,500 for single filers and $315,000 for married filing jointly. Specifically, the deduction cannot exceed 50% of the partner, sole proprietor, or shareholder’s share of the W-2 wages paid by the business during the year.

Alternatively, the limitation can be computed, using 25% of taxpayer’s share of total W-2 wages plus 2.5% of the unadjusted basis of property, used in the production of income. The unadjusted basis is computed as the amount immediately after acquisition.

As a general, high-level example, the deduction works as follows:
Shareholder 1 is a 60% shareholder in XYZ manufacturing company (a company not defined as a specified service business). Shareholder 1’s share of taxable income during 2018 is $500,000 and his share of total W-2 wages is $150,000. Shareholder 1 will receive a deduction equal to the lesser of:
1. 20% multiplied by Shareholder 1’s share of taxable income. In this example, 20% of $500,000 = $100,000 OR
2. 50% of Shareholder 1’s share of total W-2 wages. In this example, 50% of $150,000 = $75,000.

Therefore, Shareholder 1 can take a deduction equal to $75,000.

DIVIDEND RECEIVED DEDUCTION
Corporations that receive dividends from other corporations are entitled to a deduction for dividends received. This deduction is reduced from 80% to 65% for corporations that own at least 20% of the stock of another corporation and is reduced from 70% to 50% for a corporation that owns less than 20% of the stock of another corporation.

ALTERNATIVE MINIMUM TAX (“AMT”)
The corporate AMT is repealed for tax years beginning after December 31, 2017.

SECTION 179 EXPENSE
Increases section 179 expensing to $1 million and increases the phase-out to $2.5 million. For years after 2018, these amounts are indexed for inflation.

FULL EXPENSING FOR CAPITAL INVESTMENTS
One hundred percent bonus depreciation is allowed for qualified property acquired after September 17, 2017, and before January 1, 2023. The bonus depreciation amount is reduced to 20% after January 1, 2023. Also, the one hundred percent depreciation is not allowed for both new and used property.

DEPRECIATION RECOVERY PERIODS
Straight-line depreciation for most real property remains at 39 years for nonresidential real properties and 27.5 years for residential real properties.

The separate definition for qualified leasehold improvement, qualified restaurant, and qualified retail improvement property are removed and categorized under one general 15 year, straight-line recovery period called Qualified Improvement Property.

NET OPERATING LOSSES (“NOL”)
NOL carrybacks are repealed after 2017 with the exception of a special two-year carryback for certain losses incurred in the farming trade or business. NOL’s can now be carried forward indefinitely, but are subject to utilization each year equal to 80% of the taxpayer’s taxable income for losses arising in years beginning after December 31, 2017.

MEALS AND ENTERTAINMENT DEDUCTION
Deduction for entertainment expenses is 100% disallowed. No deduction is allowed for entertainment, amusement, or recreation activities, facilities, or membership dues relating to such activities.

The 50% deduction for meals associated with operating a business is retained and expanded to include meals provided through an in-house cafeteria, or otherwise on the premise of the employer.

SECTION 199 DEDUCTION (“DPAD”)
For years beginning after December 31, 2017, the DPAD is repealed for non-corporate taxpayers. The DPAD is repealed for corporate taxpayers for years beginning after December 31, 2018.

RESEARCH AND DEVELOPMENT TAX CREDIT
Credit is retained.

WORK OPPORTUNITY TAX CREDIT
Credit is retained.

LIKE-KIND EXCHANGES
Favorable section 1031 gain deferral treatment will only be available for real property that is not held primarily for sale.

INTEREST EXPENSE LIMITATION
Limit’s the deduction for interest expense incurred by a business to 30% of the adjusted taxable income. Adjusted taxable income is calculated as taxable income before depreciation, amortization, and depletion deductions.

BUSINESS LOSSES
For years beginning after December 31, 2017, and before January 1, 2026, a new restriction is placed on the excess business losses of noncorporate taxpayers. Excess business losses deducted each year for noncorporate taxpayers are limited to $500,000 for married filing jointly and $250,000 for single filers.

In general, under the new rules business losses in excess of the $500,000 ($250,000) limitations cannot offset nonbusiness income. Excess losses not taken in the current year would be carried forward as a net operating loss.

CASH ACCOUNTING METHOD
In general, corporations or partnerships with a corporate partner may now use the cash method of accounting if its average gross receipts for the three prior years do not exceed $25 million.

ACCOUNTING METHOD – INVENTORY In general, businesses with average gross receipts for the prior three years of $25 million or less can use the cash method of accounting even if the business has inventory.

EXCLUSION FROM 263A
For years after December 31, 2017, businesses with average gross receipts for the prior three years of $25 million or less are exempted from the application of 263A.

Prepaid Real Property Taxes

One strategy to avoid the $10,000 limitation in 2018 is to prepay the 2018 property tax bills by December 31, 2017. Since the limitation is not in place during 2017, those taxpayers who are able to deduct the prepayment in 2017 will receive a deduction in 2017 that they may not otherwise receive in 2018. On December 27, the IRS issued guidance on the 2017 deductibility of these prepaid property taxes. The advisory notice issued by the IRS is linked below.

https://www.irs.gov/newsroom/irs-advisory-prepaid-real-property-taxes-may-be-deductible-in-2017-if-assessed-and-paid-in-2017

In general, according to the notice, a prepayment of anticipated real property taxes that have not been assessed prior to 2018 are not deductible in 2017. State or local law determines whether and when a property tax is assessed, which is generally when the taxpayer becomes liable for the property tax imposed. This will be a county by county or city by city analysis of whether or not the property tax is assessed.

Example 1

ABC county assesses property taxes on July 1, 2017, for the period July 1, 2017, through June 30, 2018. On July 31, 2017, ABC county sends notices to residents notifying them of the assessment and billing the property tax in two installments. The first installment due September 30, 2017, and the second installment due January 31, 2018. Assuming the taxpayer has already paid the first installment in 2017, the taxpayer may choose to pay the second installment on or before December 31, 2017, and may claim a deduction for this prepayment on the taxpayer’s 2017 tax return.

Example 2

DEF county assesses and bills property taxes on July 1, 2017, for the period July 1, 2017, through June 30, 2018. DEF county intends to make the usual assessment in July 2018 for the period July 1, 2018, through June 30, 2019. However, because county residents wish to prepay their 2018-2019 property taxes in 2017, DEF county has revised its computer systems to accept prepayment of property taxes for the 2018-2019 property tax year. Taxpayers who prepay their 2018-2019 property taxes in 2017 will not be allowed to deduct the prepayment on their federal tax returns because the county will not assess the property tax for the 2018-2019 tax year until July 1, 2018.

Each taxpayer’s situation is different, so be sure to contact your trusted professional at RVG & Company if you have any questions.

2017 Tax Reform: Last Minute Year-End Moves

Lower tax rates coming

The Tax Cuts and Jobs Act will reduce tax rates for many taxpayers, effective for the 2018 tax year. Additionally, many businesses, including those operated as pass-throughs, such as partnerships, may see their tax bills cut. The general plan of action to take advantage of lower tax rates next year is to defer income into next year. Some possibilities follow:

• If you are about to convert a regular IRA to a Roth IRA, postpone your move until next year. That way you’ll defer income from the conversion until next year and have it taxed at lower rates.

• Earlier this year, you may have already converted a regular IRA to a Roth IRA but now you question the wisdom of that move, as the tax on the conversion will be subject to a lower tax rate next year. You can unwind the conversion to the Roth IRA by doing a recharacterization-making a trustee-to-trustee transfer from the Roth to a regular IRA. This way, the original conversion to a Roth IRA will be canceled out. But you must complete the recharacterization before year-end. Starting next year, you won’t be able to use a recharacterization to unwind a regular-IRA-to-Roth-IRA conversion.

• If you run a business that renders services and operates on the cash basis, the income you earn isn’t taxed until your clients or patients pay. So if you hold off on billings until next year-or until so late in the year that no payment will likely be received this year-you will likely succeed in deferring income until next year.

• If your business is on the accrual basis, deferral of income till next year is difficult but not impossible. For example, you might, with due regard to business considerations, be able to postpone completion of a last-minute job until 2018, or defer deliveries of merchandise until next year (if doing so won’t upset your customers). Taking one or more of these steps would postpone your right to payment, and the income from the job or the merchandise, until next year. Keep in mind that the rules in this area are complex and may require a tax professional’s input.

• The reduction or cancellation of debt generally results in taxable income to the debtor. So if you are planning to make a deal with creditors involving debt reduction, consider postponing action until January to defer any debt cancellation income into 2018.

Disappearing or reduced deductions, larger standard deduction

Beginning next year, the Tax Cuts and Jobs Act suspends or reduces many popular tax deductions in exchange for a larger standard deduction. Here’s what you can do about this right now:

Individuals (as opposed to businesses) will only be able to claim an itemized deduction of up to $10,000 ($5,000 for a married taxpayer filing a separate return) for the total of (1) state and local property taxes; and (2) state and local income taxes. To avoid this limitation, pay the last installment of estimated state and local taxes for 2017 no later than Dec. 31, 2017, rather than on the 2018 due date. But don’t prepay in 2017 a state income tax bill that will be imposed next year – Congress says such a prepayment won’t be deductible in 2017.

The IRS came out with additional clarification on the 2017 deductibility of prepaid 2018 property taxes in an advisory notice issued on December 27. In general, according to the IRS, “A prepayment of anticipated real property taxes that have not been assessed prior to 2018 are not deductible in 2017. State or local law determines whether and when a property tax is assessed, which is generally when the taxpayer becomes liable for the property tax imposed.”

https://www.irs.gov/newsroom/irs-advisory-prepaid-real-property-taxes-may-be-deductible-in-2017-if-assessed-and-paid-in-2017

The itemized deduction for charitable contributions won’t be chopped. But because most other itemized deductions will be eliminated in exchange for a larger standard deduction (e.g., $24,000 for joint filers), charitable contributions after 2017 may not yield a tax benefit for many because they won’t be able to itemize deductions. If you think you will fall into this category, consider accelerating some charitable giving into 2017.

The new law temporarily boosts itemized deductions for medical expenses. For 2017 and 2018 these expenses can be claimed as itemized deductions to the extent they exceed a floor equal to 7.5% of your adjusted gross income (AGI). Before the new law, the floor was 10% of AGI, except for 2017 it was 7.5% of AGI for age-65-or-older taxpayers. But keep in mind that next year many individuals will have to claim the standard deduction because, for post-2017 years, many itemized deductions will be eliminated and the standard deduction will be increased.

If you won’t be able to itemize deductions after this year but will be able to do so this year, consider accelerating “discretionary” medical expenses into this year. For example, before the end of the year, get new glasses or contacts, or see if you can squeeze-in expensive dental work such as an implant.

Other year-end strategies

Here are some other last-minute moves that can save tax dollars in view of the new tax law:

The new law substantially increases the alternative minimum tax (AMT) exemption amount, beginning next year. There may be steps you can take now to take advantage of that increase.

For example, the exercise of an incentive stock option (ISO) can result in AMT complications. So, if you hold any ISOs, it may be wise to postpone exercising them until next year. And, for various deductions, e.g., depreciation and the investment interest expense deduction, the deduction will be curtailed if you are subject to the AMT. If the higher 2018 AMT exemption means you won’t be subject to the 2018 AMT, it may be worthwhile, via tax elections or postponed transactions, to push such deductions into 2018.

Like-kind exchanges are a popular way to avoid current tax on the appreciation of an asset, but after Dec. 31, 2017, such swaps will be possible only if they involve real estate that isn’t held primarily for sale.

So if you are considering a like-kind swap of other types of property, do so before year-end. The new law says the old, far more liberal like-kind exchange rules will continue to apply to exchanges of personal property if you either dispose of the relinquished property or acquire the replacement property on or before Dec. 31, 2017.

For decades, businesses have been able to deduct 50% of the cost of entertainment directly related to or associated with the active conduct of a business.

For example, if you take a client to a nightclub after a business meeting, you can deduct 50% of the cost if strict substantiation requirements are met. But under the new law, for amounts paid or incurred after Dec. 31, 2017, there’s no deduction for such expenses. So if you’ve been thinking of entertaining clients and business associates, do so before year-end.

The new law suspends the deduction for moving expenses after 2017 (except for certain members of the Armed Forces), and also suspends the tax-free reimbursement of employment-related moving expenses. So if you’re in the midst of a job-related move, try to incur your deductible moving expenses before year-end, or if the move is connected with a new job and you’re getting reimbursed by your new employer, press for a reimbursement to be made to you before year-end.

Under current law, various employee business expenses, e.g., employee home office expenses, are deductible as itemized deductions if those expenses plus certain other expenses exceed 2% of adjusted gross income.

The new law suspends the deduction for employee business expenses paid after 2017. So, we should determine whether paying additional employee business expenses in 2017, that you would otherwise pay in 2018, would provide you with an additional 2017 tax benefit.

Also, now would be a good time to talk to your employer about changing your compensation arrangement, for example, your employer reimburses you for the types of employee business expenses that you have been paying yourself up to now, and lowering your salary by an amount that approximates those expenses. In most cases, such reimbursements would not be subject to tax.

Please keep in mind that I’ve described only some of the year-end moves that should be considered in light of the new tax law. If you would like more details about any aspect of how the new law may affect you, please do not hesitate to contact a member of our team.