The Tax Cuts and Jobs Act of 2017 is the biggest overhaul of the tax code in a generation. So, depending on your circumstances, the process of completing and filing your taxes this year could be different than in years past.
To help you sort through the relevant details and prepare, the below primer covers some of the key provisional changes and planning issues as we head into our first tax season under the new law.
Overall, most tax brackets are now lower, potentially influencing when variable income is recognized, for example, or how retirement accounts are scheduled.
The standard deduction for single filers has nearly doubled, increasing from $6,350 in 2017 to $12,000 for 2018. For those married and filing jointly—as well as qualified surviving spouses—the amount increases from $12,700 to $24,000.
For the many taxpayers accustomed to itemizing deductions for charitable contributions, mortgage interest and other items, this change could have a major impact.
Frequently referred to by the acronym SALT, state and local taxes could be set to play a reduced role in your federal tax return: For 2018 the amount for all these items combined that can be included in your itemized deductions is capped at $10,000. Those in areas with high property values and/or a high state income tax rate the amount of these taxes could easily top that cap—an effective tax increase.
Tougher to itemize
The increased standard deduction levels and SALT limitations alone will likely reduce the number of taxpayers choosing to itemize deductions for 2018 and beyond. After all, for many taxpayers, SALT and mortgage interest represent their two largest itemized deductions.
On the other hand, the increased standard deduction levels are helpful for those who might not generally have itemized—or those at lower income levels. In both cases, this change could ultimately serve as a tax cut.
Finally, those whose itemized deductions fall short of the standard deduction threshold might consider bunching deductible expenses—charitable deductions or elective medical costs, for example—into a single year to get to a level that exceeds the standard deduction levels for that tax year.
Increased child tax credit
For 2018, the child tax credit is worth up to $2,000 per child. Further, the level where the credit begins to phase out has been increased to $200,000 and $400,000 for those filing joint and married.
Remember, a tax credit is a direct reduction in the amount of tax due—rather than a deduction that lowers your taxable income by a percentage of the amount spent based on your tax bracket. Which essentially means that more taxpayers will be able to take advantage of this credit for minor children who are 17 and under.
Mortgage interest deduction
Beginning this year, there is a cap on the amount of home mortgage debt that can be used for an interest deduction. For loans taken out in 2018, only the interest on the first $750,000 in mortgage debt can be deducted. Loans in place prior to 2018 are grandfathered and not impacted by this change.
This change will affect both buyers and sellers: The former will have to calculate what is effectively a new cost when considering more expensive homes in higher cost areas—or, if already in homes, may make a decision to relocate more attractive.
For sellers, this new inability to fully deduct the interest on a larger mortgage could drive up the cost of home ownership up and potentially make for a harder to sell.
Also, interest on home equity loans is no longer deductible unless the money is used for home improvement. A home improvement is considered to be any work that substantially adds to the value of your home, increases its useful life or adapts it to new uses. According to the IRS, an addition to your home is likely still deductible as a home improvement, as opposed to using the proceeds from the loan to pay down personal credit card debt would not be. And unlike with the new home mortgage caps, there is no grandfathering of existing home equity lines. So whether a new line or an existing one, the interest can no longer be deducted starting in 2018.
Other items of note
- The alternative minimum tax (AMT) is an alternative tax system that has affected taxpayers with certain types of income for many years. The income exemption levels and the levels where the tax phases out have been increased meaning that fewer taxpayers will be impacted.
- There were no changes in the amounts that can be contributed to or deducted for a 401(k), IRA or other retirement plans.
- There were no changes in the deduction for student loan interest.
- The ability to deduct losses from a casualty such as a fire or natural disaster has been suspended unless the situation is a federally declared disaster.
- Expenses associated with relocating for a job are no longer deductible, except for active military personnel who move based upon military orders.
For the most part, the new rules are temporary (for now), going into effect during the 2018 tax year and up for revision and/or extension after 2025.
The 2017 tax overhaul was expansive. It’s important to consult with your financial and tax advisors prior to the end of the year to ensure that you have done everything you can to put yourself in the best position at tax time.