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  • If the AMT is repealed next year, how does that change your analysis?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.

Holiday Planning Series with the Squash Brothers, part III, debt management

Watch our Holiday Planning Series, Part II, as Steven and the Squash Brothers discuss debt management so you do not overspend and end up with credit card debt you can’t pay off.

Thanks for watching our series!

Holiday Planning Series with the Squash Brothers, part II, cash management

Watch our Holiday Planning Series, Part II, as Steven and the Squash Brothers discuss cash flow planning so you have more to spend (or to save!).

Next time, debt management.

Holiday Planning Series with the Squash Brothers, part I, tax planning

Watch our Holiday Planning Series, Part I, as Steven and the Squash Brothers discuss taxes, “starting backwards with tax planning now so you pay less next April.”

Next time, they discuss cash management.

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.