By Allen Giese, ChFC®, CLU®
Allen: We're halfway through the year, and most of you are done with your 2017 taxes by now. Now, as I'm sure you're aware, we had a pretty big tax law change in December that went into effect in 2018.
So what's different? What should we be doing now that's different than in 2017? Well, I asked Andrew Kramer, CPA, with Laskin, Kramer, & Weiss here in Fort Lauderdale, what we should be aware of now with this new tax law change, and I think you'll find this interesting.
Hi, Andy. I want to thank you for taking some time out of your day and talking to our clients about this new tax law that comes into effect this year.
Andy: Thanks, Allen. Yeah, a lot of big changes are in store that we've been talking about and planning for as we've gone through tax season and now as we're going through the year.
Allen: OK. What parts of it do we need to be aware of that are unique or different from 2017?
Andy: I think the biggest issue, or change, that people have been talking about has to do with the tax rates. The tax rates prior to the tax act being put into place—the maximum rate was 39.6%. The new maximum rate is 37%, so not a huge amount but significant. And the brackets themselves have also been scaled down from there. So that will definitely be a plus for people—a bit of a tax savings for 2018.
All right. That's the first point. The next point has to do with deductions, and mainly itemized deductions. The big one has to do with taxes. Most people who live in a home, and have a mortgage or non-itemized deductions, now that cap is at $10,000, whether it's real estate taxes, sales tax, and/or state income tax. That's going to have a significant impact on most taxpayers.
The other change has to do with miscellaneous itemized deductions being taken away. So those people who were outside salespeople who took what's called 2106 expenses, that's off the table for 2016—or, 2018, I'm sorry—as would be the deduction for tax preparer fees, investment advisory fees, estate planning fees, safe deposit boxes, which isn't that big of a deal, but that's pretty significant.
One thing that the IRS did deal with with this new act is to increase the standard deduction. It was at a little over $12,000 for married filing joint and $6,000 for single. It is now $24,000 for married filing joint and $12,000 for single, so that's a significant change.
Allen: Yeah. I guess they doubled it.
Andy: They did. One more thing too: They took away the deduction for personal exemptions. So that'll hopefully get offset a little bit by that increased standard deduction. That's about it as far as the deductions go.
Now, one of the biggest changes has to do with small business owners. What's referred to as pass-through business entities, meaning S corporations and partnerships. Previously, whatever somebody had on their schedule K1, as you know, would flow through to their personal tax return from the corporate or partnership return. There's now going to be allowed a 20% deduction of that, what's called qualified business income. And again, these are all new terms, and taxpayers are going to have to get used to that—clients as well as preparers. There's a whole schedule and way to calculate what the qualified business income is and whether the people who are shareholders or partners are allowed to take that 20% deduction.
Allen: Hmm. OK.
Andy: What the other thing that Congress did with the act is they've disallowed that to a certain extent for professional people, such as accountants, attorneys, doctors. Not quite sure what their thinking was with that, but that's just where it's at. So, again, it's important for any taxpayers who have their returns prepared, and who are involved in these situations, to communicate with their accountants or tax preparers.
Allen: Sure, sure. OK. Are there any specific actions that you can think of that people might want to consider taking in 2018 that are different in 2017?
Andy: Yeah. So getting back to that pass-through entity deduction, they definitely need to communicate with their advisors on this because there could be strategies that would help them enhance or increase that 20% deduction, such as taking enough salary, monitoring the profits, and so on and so forth. Communication is really important at this point.
Something else that's real important—and I know you'll agree with this one—is that the deduction for retirement plans, 401(k), etc., has not changed. It's up a little bit. The maximum deferral amount is $18,500 for 2018. If you're over 50, there's another $6,000. So I strongly encourage clients to do that if it makes sense for them. Certainly, it's a great tax savings, and I think you agree with this. You can't put away enough money for retirement, so that's a good strategy.
The other issue is that they have not changed the capital gains tax rates, and so it's 15 or 20%. That's still a strong, strong planning tool to use because it's still going to be lower than the regular tax rates.
Allen: Yeah. You're looking at 37% on dividends and income, versus 20% on capital gains.
Andy: Well, yeah. 37% on ordinary income, whereas dividends sometimes would fall under that qualified dividends exclusion and be treated the same as capital gains.
Allen: On the estate tax side, I think they doubled the exemption there?
Andy: Yes. So from your standpoint and my standpoint as well, you're referring to the estate tax—the doubling of the exemption of non-taxable estate. That's up to $11 million, and that certainly changes the planning. We'll see where that goes. I haven't heard a lot about that from clients so far, but as we go on, that will certainly affect the planning.
Allen: One question going back to the pass-through entities: If somebody has a pass-through entity, like an S corp, for example, is this a time when they might want to be considering changing their status over to a C corp?
Andy: I don't think so. I'm glad you brought that up, because one of the other big changes—and I'm sure everybody's read about it—is the change in the corporate tax rate. The maximum corporate tax rate is now 21%, but that has to do with C corporations.
So, for most of my clients and the people that I deal with, which are small businesses, it doesn't make sense for them to be a C corporation because they'll be taxed at 21% on the corporate profits. And then if they want to take distributions out as dividends, they'll still be taxed at 15 to 20% on that, and there's really no savings there. I don't see that as a valid strategy.
I really think that it's important for people to look at maximizing their tax benefits on the qualified business income deduction that's available now.
One other thing that I did want to mention—and this is a small change, but it could affect a lot of people. The 529 plans, generally known as college savings plans, those have now been allowed or approved for primary and—actually, kindergarten through 12th grade, for qualifying institutions. So, for people that are sending their kids to private school, they might not have a lot of lead time to do that, but if you know you're going to send your child to a private school, it might make sense to start putting that money away and at least have it grow tax-free, used for that purpose.
Andy: And one other thing—
Allen: To the 529 plans with these new ABLE accounts—and this would be for our clients who have special needs children, and they'll understand what an ABLE account is—but you can now transfer the money out of a 529 plan tax-free into an ABLE account.
Andy: Correct. And, that's a nice benefit too, especially if those are your needs and that's your situation. So, that's about it. You know, there were so many little nuances and small things that were affected by this, but I think we've covered most of the bigger changes and the changes that will affect the people that we are involved with and advise.
Allen: Yeah, I think so. Well, thanks a lot for your time. I appreciate it.
Andy: Thanks, Allen. Good talking to you, as always.
Allen: Many thanks to Andrew for taking the time to talk with us today. I hope you found it both interesting and helpful. If you have any questions about any of what you just heard, feel free to drop us a line or give us a call. Thanks for watching.