Tax reform has taken a big leap with the Tax Cuts and Jobs Act, which was officially signed into law by the President on Friday after passing in both the House and Senate last week.
The final bill will result in significantly different tax returns for the 2018 tax year for many individuals and corporations. Noteworthy changes include a sharp reduction in the corporate tax rate, the formation of new, lower tax brackets and elimination of certain deductions and credits. Considering this, tax planning strategies will also need to be reevaluated for the coming year. To help clients, prospects and others understand the final tax bill and how it will impact them, Hanson & Co. has provided a summary of key changes below.
Key Business Tax Changes
- Corporate Tax Rate – The corporate tax rate will be reduced from 35% to 21% for tax years beginning after December 31, 2017.
- Alternative Minimum Tax (AMT) – The corporate AMT is eliminated for tax years beginning after December 31, 2017.
- Foreign Earnings – Foreign earnings repatriated to the U.S. will be taxed at a rate of 15.5% for cash or cash equivalents and 8% for reinvested earnings. This change will allow companies to repatriate profits domestically at a much lower rate than previously anticipated.
- Pass-Through Income Deduction – Owners of pass-through entities such as S-corporations and partnerships currently pay tax on company earnings based on their personal tax rates. This means that the highest earners would pay a top rate of 37%, starting in 2018. The law creates a new deduction, equal to 20% of eligible pass-through income. It’s important to note that certain professional service businesses (including the fields of health, accounting, law, and financial services) are not fully eligible for this deduction unless the owner’s taxable income is below $157,500 for single filers or $315,000 for joint returns. There is also a process in place designed to prevent high-income earners from reclassifying wage income to pass-through income to obtain the benefit of the 20% deduction.
- Bonus Depreciation – The new law permits 100% bonus depreciation on capital investments for the next five years and then phases out the benefit by 20% each year over the following five years. This will give companies the opportunity to deduct capital purchases that previously were depreciated over several years, resulting in an immediate tax benefit.
- Section 179 Expensing – Under the new law, the small business expensing limitation has been increased to $1 million. The total amount that can be deducted is reduced dollar for dollar, as the total cost of eligible property exceeds $2,500,000.
- Deductions for Meals & Entertainment – Deductions for entertainment expenses have been eliminated. The 50% deduction for food and beverage expenses for qualifying business meals associated with normal business operations (employee meals while traveling for work) is still deductible.
- Domestic Production Deduction – This popular deduction for qualifying production activities, currently set at 9%, is repealed for tax years beginning after December 31, 2017.
Individual Tax Provisions
- New Tax Brackets – Despite efforts to reduce the number of individual tax brackets, the final law will keep seven, but most taxpayers will experience a reduction in overall tax rates. The new brackets are 10%, 12%, 22%, 24%, 32%, 35% and 37%. The last bracket, down from 39.6%, will be for single taxpayers with income above $500,000 and couples with income above $600,000. It’s important to note that the brackets will expire in 2025 when Congress will have to act to extend them.
- Standard Deduction – The standard deduction will almost double and will be set to change according to inflation beginning in 2018. The new deduction will be $24,000 for married filing jointly, $18,000 for head-of-household and $12,000 for all other individuals. The increased standard deduction is designed to make it easier for taxpayers to receive a tax benefit without itemizing.
- Personal Exemptions – The personal exemption is repealed starting in 2018. This means that taxpayers can no longer claim exemptions for themselves, dependents or others. The repeal is set to expire at the end of 2025.
- Mortgage Interest Deduction – Interest on mortgages up to $750,000 is deductible in the new legislation, which is a reduction from the current $1M cap. It’s important to note that loans entered into before December 15, 2017, will still be subject to the existing $1M cap.
- State and Local Tax Deductions – Starting in 2018, taxpayers will only be able to deduct a maximum $10,000 of combined state and local income taxes and property taxes.
- Miscellaneous Itemized Deductions – Deductions for unreimbursed employee business expenses, tax preparation fees, investment advisor fees, and other investment-related expenses will not be allowed as an itemized deduction, beginning in 2018.
- Charitable Contributions – The adjusted gross income limitation on cash contributions to charities and foundations is increased from 50% to 60%. This change is effective beginning in 2018 and is currently scheduled to phase out after 2025.
- Expansion of Child Tax Credit – The Child Tax Credit is increased to $2,000 per child, with $1,400 of this amount is refundable. It also calls for a $500 nonrefundable credit for non-child dependents. This change is effective after December 31, 2017, and is currently scheduled to phase out in 2026.
- Alimony Payments – These payments are no longer deductible, and the receipt of alimony is no longer includible in gross income. These changes are effective for divorce or separation agreements executed after December 31, 2018.
- Alternative Minimum Tax Changes – There will be changes to both the AMT exemption amounts and the income phase-out thresholds for those exemptions beginning in 2018. The new exemption amounts will be $109,400 for married taxpayers filing jointly, $70,300 for single taxpayers and $54,700 for married taxpayers filing separately. The new income thresholds for purposes of the exemption phase-out have increased to $1,000,000 for married filing jointly, $500,000 for single filers and $500,00 for married filing separately.
- Estate Tax Changes – While there won’t be a repeal of the estate tax as originally proposed, there have been changes. Under the new law, the estate tax of 40% will only impact the wealthiest taxpayers. The exemption will double, allowing $11M per individual – up from $5.5M – to be passed on without taxation.
The Tax Cuts and Jobs Act includes some major changes for both individuals and businesses – mainly in the form of lower tax rates and the shift away from deductions and credits. If you would like to learn more about these changes or if you have questions about tax planning in light of the reform, Hanson & Co. can help. For additional information please call us at (303) 388-1010, or click here to contact us. We look forward to speaking with you soon.