We were promised simpler taxes! Remember the “you’ll be able to file taxes on a postcard-sized form?” Despite what you may have read about the Tax Cuts and Jobs Act, the new laws did simplify taxes for many in the middle class. In simplistic terms, the law doubled the standard deduction and eliminated several tax deductions.
Ideally, fewer people will itemize; however, many may pay less in taxes.
While there are still seven marginal tax brackets, only the lowest bracket remains unchanged. The other income brackets have lower marginal rates attached, meaning most Americans should see more take-home pay in February when withholding tables are modified. Next, the standard deduction has nearly doubled from $12,700 to $24,000 for married filing jointly and from $6,350 to $12,000 for single filers.
Tax credits are dollar for dollar against your tax liability, making them more powerful than deductions
Personal exemptions being eliminated seems to be the biggest blow—the deduction you could take per taxpayer and dependent. Essentially, this was rolled into the larger standard deduction. The child tax credit doubled from $1,000 to $2,000, and the phase-out level for this credit increased to $400,000 for married couples. Before, this credit began phasing out at $110,000 for married filing jointly. Tax credits are dollar for dollar against your tax liability, making them more powerful than deductions. While some families may see an increase in their tax liability, the higher take-home pay may still feel beneficial as monthly cash flow can be very meaningful.
Let’s look at a family that files married filing jointly and has three children. Their adjusted gross income is $130,000. Under the old tax laws, they itemized, taking deductions for state and local taxes of $6,300, mortgage interest of $12,300, and property tax of $2,127. As a family of five, they had personal exemptions of $20,250. Their taxable income was $89,023, and they owed $13,733 in income tax. They received no benefit from child tax credits since their AGI was above the phaseout. Under the Tax Cuts and Jobs Act, their standard deduction is $24,000—$3,273 more than their itemized deductions. Without the personal exemptions, their taxable income is $106,000. With the 22% marginal tax bracket, they would owe $15,199 in taxes. However, with the child tax credit of $6,000 for their three children, their net federal tax liability is reduced to $9,199 – a tax savings of $4,534. Note, married couples in the same financial situation with no children will save $1,572 under the new law.
The most popular itemized deduction, according to The Tax Foundation, are state and local taxes, which are now combined with property taxes and capped at $10,000. This limitation affects those who live in high tax states most. While mortgage interest is still deductible, it is only deductible on the first $750,000 in principal value. With the median price of homes in the United States around $259,000, this limitation seems to affect the wealthy. All taxpayers are losing the deduction for home equity loan interest after Dec. 31, 2017.
If you’re moving for work, reimbursements from your employer for moving expenses will now be included in your gross income for tax purposes. Unreimbursed moving expense deductions are eliminated. Additionally, job expenses and certain miscellaneous itemized deductions were also eliminated through 2025. Before, you could deduct certain miscellaneous itemized deductions to the extent they exceeded 2% of your adjusted gross income. These included unreimbursed employee expenses, investment expenses, and tax preparation fees.
While this seems like a lot of deductions to lose, the Tax Cuts and Jobs Act is meant to stimulate economic growth. The most significant tax cuts are for corporations, which should result in more corporate spending. More specifically, it could also result in corporations paying higher wages and bonuses, incurring more capital expenditures, and hiring more people. Ideally, this growth drives the economy. While some wealthier taxpayers may be hurt by the loss of tax deductions, they may be able to make it up in potential market gains.
William G. Lako, Jr., CFP®, is a principal at Henssler Financial, a financial advisory and wealth management firm that has been delivering comprehensive financial solutions to its individual, corporate, and institutional clients for 30 years. Mr. Lako is a Certified Financial Planner™ professional.
EYE ON YOUR MONEY: Not All Business Tax Cuts Are Simple
One of the key promises during President Trump’s campaign was to lower taxes for businesses from 35 percent to 15 percent and eliminate the corporate alternative minimum tax. The final version of the tax bill did eliminate the corporate alternative minimum tax, and lowered the tax for corporations to 21 percent in 2018. Furthermore, businesses organized as “pass-throughs” could get taxed at a less than 30 percent rate.
Taxes are never simple – despite the promise to simplify the tax code
Pass-through businesses are your LLCs, partnerships, S corporation, and sole proprietorships, in which the entity is not subject to income tax. Owners are taxed individually on the income, calculating tax on their share of the profits and losses. Because these business owners were at the mercy of their individual tax rates, some business owners could be taxed as much as 39.6 percent, not including the phase out of itemized deductions for high income earners.
In the finalized bill, pass-through businesses receive a 20 percent deduction of their qualified business income. Because taxes are never simple—despite the promise to simplify the tax code—the deduction is actually the lesser of: 20 percent of the taxpayer’s “qualified business income” or the greater of: 50 percent of the W-2 wages with respect to the business, or 25 percent of the W-2 wages with respect to the business plus 2.5 percent of the unadjusted basis of all qualified property.
OK, you want this in English. Qualified business income is income less ordinary deductions that you earn from a pass-through business, such as an LLC, sole-proprietorship, S corporation, or partnership. This does not include wages you earn as an employee. Let’s say you have an LLC (not a “specified service” trade or business), and your share of the qualified business income is $500,000. Multiply that by 20 percent and you get a deduction of $100,000. Woo hoo! Not so fast. There are limitations on the calculation that were added to prevent abuse of the rules.
How does this work? Let’s look at the example of your LLC of which you only own 40 percent. The company produced $1.25 million in ordinary income. The company paid W-2 wages of $455,000 and holds $200,000 in property. Your allocation of the wages is $182,000 and 50 percent of that is $91,000. One more calculation: 25 percent of the W-2 wages with respect to the business plus 2.5 percent of the unadjusted basis of all qualified property—in our example, this comes to $47,500 ($45,500 + $2,000). You’ve got two numbers: $91,000 and $47,500. The greater of the two is $91,000. This is your income limitation. So, your deduction on your $500,000 qualified business income is now $91,000 versus the simple 20 percent. Mindboggling, isn’t it? And this example was highly simplified for your convenience.
Now, not every LLC is making $1.25 million. Lots of small businesses make around $125,000 a year. There is an exception for you! If your taxable income is less than $157,500 or $315,000 for married filing jointly, you should be able to ignore the W-2 income limitations.
To make things more complicated if you are part of a “specified service” trade or business you will be faced with a phase out.
Wait, what? Yes, “Any trade or business involving the performance of services in the fields of health, law, engineering, architecture, accounting, actuarial science, performing arts, consulting, athletics, financial services, brokerage services, or any trade or business where the principal asset of such trade or business is the reputation or skill of one or more of its employees.” Will be deemed to be a “specified Service”.
This means if your income is above $207,500 for individuals and $415,000 for joint filers you will not be eligible for the deduction. Welcome to simpler taxes.
William G. Lako, Jr., CFP®, is a principal at Henssler Financial, a financial advisory and wealth management firm that has been delivering comprehensive financial solutions to its individual, corporate, and institutional clients for 30 years. Mr. Lako is a CERTIFIED FINANCIAL PLANNER™ professional.
ARMAGEDDON? Visa RAISING EMPLOYEE BENEFITS Following GOP Tax Cuts
House Minority Leader Nancy Pelosi’s dire predictions of “Armageddon” and the “end of the world” regarding the GOP tax cuts continued to evaporate on Monday, with credit card giant Visa announcing it would be expanding benefits to its US-based workers following the business-friendly legislation.
According to CNBC, Visa announced the company would be “raising its 401(k) matching for employees in response to tax reform.”
“JUST IN: Visa is raising its 401(k) matching for employees in response to tax reform; company also will examine other long-term investments.”
JUST IN: Visa is raising its 401(k) matching for employees in response to tax reform; company also will examine other long-term investments. pic.twitter.com/aoo5jT8ns1
— CNBC Now (@CNBCnow) January 8, 2018
The move makes the company the latest American corporation to drastically increase benefits and bonuses to workers following the GOP tax cut. American Airlines, AT&T, Boeing, Southwest Airlines, and others all announced renewed investments after President Trump signed the bill.
Hours before the law’s passage, former Speaker of the House Nancy Pelosi slammed the legislation; saying the new tax cuts would spark “Armageddon,” adding that it would bring about “the end of the world” for hard-working American families.