2017 year-end tax planning – a year of uncertainty

President Trump and the Republicans Congress are working to pass a new tax law. However, not all details are known. Furthermore, the current House and Senate bills differ on many significant provisions. Also, more revisions are expected as the two bills are reconciled and brought to the floor for votes. Finally, the Republicans failed to repeal the Affordable Care Act, so many provisions could change, if any changes are ever enacted.

With all the uncertainty, how do you plan? Very carefully – you need to augment your traditional year-end planning by anticipating likely changes.

Practical planning steps

First, be practical:

  • Determine what income and deductions you can move from 2017 to 2018 or vice versa.

Second, review the impact:

  • What happens if you shift any of these amounts of income and deductions to the other year?

Finally, watch for the impact of the Alternative Minimum Tax (“AMT”):

  • If the AMT is repealed next year, how does that change your analysis? Deductions lost to the AMT this year could have value in 2018.

Income

Both the House and Senate bills lower the tax brackets, so income should be subject to less tax in 2018. Furthermore, if the Medicare tax is eliminated, pushing income into 2018 could save significantly.

Conclusion: You probably want to move income to next year if you can.

One possible exception is the sale of your home: both bills move the residency requirement from two of the last five years to five of the last eight years. So, if you are selling to sell a home you lived in less than five years, try to close in 2017.

Exemptions and standard deduction

Both bills raise the standard deductions to $12,000 single/$24,000 married. This may offset deductions that you lose, as discussed below.

Conclusion: You probably want to move deductions to 2017.

Itemized Deductions and Credits

The deduction for state income taxes would be eliminated and deduction of property taxes either eliminated or capped at $10,000 (the current amount).

Mortgage interest on new home purchases would be deductible only on loans of up to $500,000 on the primary residence only.

And these deductions could be eliminated: student loan interest, moving expenses, tax preparation fees, casualty losses, medical expenses. Also, the deduction of alimony could be eliminated for divorces occurring after 2017 and electric car credits and bike to work exclusions could end.

Conclusion: If these deductions are capped or eliminated, you will want to move these amounts into 2017.

Pass-through businesses

Income from an LLC, partnership or S Corporation could see a top tax rate of 17.4 to 25%. However, to avoid abuse (as seen with a similar law in Kansas), rules would be applied so that taxpayers will not simply create entities to have all of their income tax at the lower rate.

Conclusion: wait and see, read the fine print, then see if there are any opportunities to exploit.

Estate taxes

Either the tax on estates would be eliminated or the credit doubled.

Conclusion: you may want to postpone your year-end gift planning.

 

Summary

Carefully review any income and deductions that you can still affect to see if moving will lessen the total taxes you pay for 2017 and 2018.

Good luck and best wishes for the holidays!

If you have any questions, please contact me.

Tax Law change under the new Trump Administration? Maybe, but too soon for planning

Enacting Major Changes Will Take Time

President Trump made tax reform a key issue in his campaign. He is now president and Republicans are in charge of the House and Senate, so the likelihood of overhauling the federal tax system is better than they have been for decades.

However, President Trump and Congress are trying to enact changes to the Affordable Care Act as well as addressing budget issues and foreign relations. Also, dealing with all the recent hearings involving the FBI have diverted attention. Finally, there are many details that need to be worked out, making it unlikely that major changes will happen until 2018.

Change in IRS Regulations

President Trump has already made changes in IRS regulations. On his first day in office, he temporarily froze tax regulations and then shortly thereafter, ordered that two existing regulations had to be removed for each one that was added. What is the impact?

  • The Trump administration has stated that the two-for-one exchange rule only applies to significant regulatory actions. The rule may not affect the many IRS regulations that are procedural in nature or are needed by taxpayers.
  • One new regulation that has been threatened is the Department of Labor’s new fiduciary rules for retirement advisers. This updated regulation requires retirement advisers to act in their clients’ best interests, which is a stricter standard than was previously required.
  • Also affected are the new partnership audit procedure. A 2015 law streamlined the exam process of large partnerships. The IRS released proposed regulations which implemented the regime on January 18. However, it later pulled the regulations in response to the freeze.

Possible Tax Law Changes – Lower Corporate Tax Rate

Currently, the corporate tax rate tops out at 35%. House Republicans want to lower it to 20% with 25% for businesses that pass income through their owners and for those that are self-employed. President Trump is calling for a 15% corporate tax. In 2014, nearly 25 million Americans filed taxes as sole proprietors (Schedule C), so the change affects many taxpayers.

Tax strategy: Under this change, individuals who are high-earning could become independent contractors or set up LLCs to shift income and advantage of the lower corporate tax rate. Additionally, those who own pass-through businesses could reduce their salaries and take higher profits.

This is how residents of Kansas responded to a similar state law. The state is now working to repeal a law passed in 2012 that exempted pass-through firms from state income tax. The result was that many individuals and businesses in the state restructured their business as pass-through entities or created new businesses to take advantage of the tax break. In just a few years, the number of pass-throughs in the state almost doubled. The state is now facing a large budget deficit as a result because the pass-through exemption is estimated to have cost the state $472 million in 2014 alone. The cost for 2015 was even higher.

The impact of this tax strategy on the 15% tax at the federal level would be expensive. It is estimated to cost up to $1.95 trillion in lost tax revenues over the next ten years. The Trump administration is considering ways to prevent abuse of this low tax rate but any attempt to prevent gaming the system will likely add more complexity to the tax code. Tax-savvy practitioners will likely still be able to find loopholes.

Tax only on Income Earned inside the US

Worldwide income is taxed presently, with credits for foreign taxes paid. The proposed law would generally tax only income that is earned within U.S.

Multinational Tax: A new, low tax on multinationals is part of the proposed tax, added to raise revenue to fund other rate reductions.

Estate Tax Repeal

Republicans would like to repeal the estate tax. President Trump would impose a tax on pre-death appreciation of assets, with a $10 million per couple exemption. There would be no step up in basis at death. And it is likely that gift tax rules would be retained.

Even if the federal estate tax law is repealed, many states will continue to impost a tax. Massachusetts only exempts $1 million of assets passing to someone other than a spouse, such as a trust. New York and other states have higher exemptions. Thus, planning is still important for most people.

Planning Opportunities

With the uncertainty of any change being enacted, this is not an easy year for planning. For example, this may not be the year for a Roth conversion, if tax rates will go down next year. It may not be the time for complex estate planning techniques involving irrevocable transfers, if the estate tax is eliminated in 2018.

We will keep monitoring this to assess any moves that do make sense and update this post when the likelihood of real changes becomes clear.

Plan now to avoid surprises from the Affordable Care Act when filing 2014 taxes

2014 was the first year Americans had access to health insurance options through the Affordable Care Act (the “ACA”). With this new access to insurance came the obligation to purchase it or face new tax consequences. If you opted not to buy health insurance in 2014, you may be faced with a penalty when you file your 2014 tax returns. Even if you did buy insurance through one of the insurance marketplaces, you may have new tax forms to complete and some surprises when it comes to your refund or tax bill.

For most taxpayers, the impact on their tax filing will be minimal, requiring those who were covered to simply check a box indicating they had insurance throughout the year. Those who received subsidies to purchase insurance and who later had increases in their 2014 salary may be required to pay back some of that subsidy. Those whose salary decreased may receive a larger than expected refund.

As these provisions are new to everyone, there may be confusion for taxpayers and tax preparers alike. Unfortunately, due to recent budget cuts, the IRS expects to be able to speak with only half of the people who call in for assistance.

While gearing up for the 2014 tax season, it’s helpful to understand some the most important provisions of the ACA:

  • 1. Exemptions: The ACA provided some exemptions that allow taxpayers to opt out of purchasing insurance without any penalties, including hardship, affordability and religion. There are different methods for applying for an exemption depending on the type of exemption you are requesting. To learn more, go to: https://www.healthcare.gov/fees-exemptions/apply-for-exemption/
  • 2. Penalties: Those who do not qualify for an exemption, were insured for only part of the year, or remain uninsured will be required to pay a penalty called “The Individual Shared Responsibility Payment.” The penalty is set to increase over the coming years, so compare not to see if it is more beneficial for you to pay the penalty or buy insurance. The Tax Policy Center has designed a calculator to help you determine your penalty is you opt to remain uninsured: http://taxpolicycenter.org/taxfacts/acacalculator.cfm.
  • 3. Reconciling: Those who purchased subsidized insurance on the exchanges received an advance on a tax credit. At the time of requesting the subsidy for insurance in 2014, the amount of the subsidy was calculated based on the taxpayer’s 2012 income. The amount of the subsidy granted will be reconciled in the taxpayer’s 2014 filing using the taxpayer’s actual 2014 income and that will affect the taxpayer’s refund or bill. Changes in an individual’s personal circumstances, such as divorce, marriage or a new child can also impact those numbers.
  • There’s still time to plan. Taxpayers facing a loss in premium subsidies because of an increase in income can reduce their income to qualify for the credits. For example, they can contribute to an IRA by April 15, 2015, for the 2014 tax year.

    Planning for the ever-changing Medicaid rules

    The Affordable Care Act fills in current gaps in coverage for the poorest Americans by creating a minimum Medicaid income eligibility level across the country. Beginning in January 2014, individuals under 65 years of age with income below 133 percent of the federal poverty level (FPL) will be eligible for Medicaid.

    For many of our clients, Medicaid coverage is not an option. Nonetheless, there are still important steps that one can take to guard assets, protect your estate, and prepare for the possibility that you or your spouse will need long-term care: purchase long-term care insurance or self-insure.

    Long-term care insurance generally covers home care, assisted living, adult daycare, respite care, hospice care, nursing home and Alzheimer’s facilities. From a tax perspective, premiums paid on long-term care insurance product may be eligible for an income tax deduction and benefits paid from a long-term care contract are generally excluded from income.

    Self-insuring fits if your investment assets are sufficient to earmark a portion of your net-worth to cover possible long-term care needs. Before you decide, keep in mind that, once a change of health occurs, insurance may not be available. As always with financial planning, the best time to think about your long-term care strategy is before you need it.

    Massachusetts enacts the Massachusetts Uniform Probate Code (“MUPC”) Many other states have or will do the same

    (While the following applies to Massachusetts, there are many other states that have recently made the same changes)
    Massachusetts adopted the “MUPC” on March 31, 2012. It affects almost every aspect of the law of wills and the administration of estates including changes outlined below:
    • Personal Representative: The law does away with classifications of executors, temporary executors, administrators, special administrators and the like by adopting the one-size-fits-all title of “personal representative.” The personal representative acts for people with a will (“testate”) or people without (“intestate”).
    • Descendants: Any portion of the estate which passes to the decedent’s descendants will pass under a new system of distribution called “per capita at each generation.” Under this rule, living children inherit equally. If a child pre-deceases the parents, and has living children, the shares of all deceased children are combined and divided equally among all the surviving children.
    • Effect of Divorce on the Estate Plan: The impact of divorce is broadened from partially revoking wills and unfunded revocable trusts to expressly apply to non-probate transfers, such as life insurance policies and trusts, whether funded or unfunded, in the case where an individual has the sole power to make certain changes to at the time of the divorce or annulment. The new law also operates to revoke bequests to relatives of the ex-spouse, as well as appointments of such relatives of executor or trustee under certain situations.
    • Effect of Marriage on Will: Where marriage used to automatically revokes a prior will, the MUPC does not provide for such automatic revocation. Instead, the will survives, and any legacy to descendants of the decedent (who are not descendants of the new spouse) is preserved. If any part of the estate is left to persons other than such descendants, the new spouse would receive his or her intestate share under law, to be satisfied from the assets left to such other persons (and from any bequests made to the surviving spouse, if any, in the premarital will). The testator’s choice of personal representative and guardian of minor children is also preserved. Note that this rule can be avoided by updating the will after marriage.
    Because of these changes to the MUPC, it is important that your estate planning documents are up to date. If you have not updated your estate plan recently, be sure to do so as soon as possible.