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The Tax Cuts and Jobs Act (TCJA) led to major changes to the US tax law. You should be aware of tweaks that could affect your 2018 return.
1. Tax Rates Are Lower for Most Taxpayers
Like in previous years, there are still seven tax brackets but the new rates are lower for almost all taxpayers.
There are also changes in the income thresholds for each tax bracket. The highest tax bracket will apply to joint filers with an income of $600,000 or more and for single filers with taxable income over $500,000.
The new tax brackets are as follows:
Married Filing Jointly
Up to $9,525
Up to $19,050
$9,526 to $38,700
$19,051 to $77,400
$38,701 to $82,500
$77,401 to $165,000
$82,501 to $157,500
$165,001 to $315,000
$157,501 to $200,000
$315,001 to $400,000
$200,001 to $500,000
$400,001 to $600,000
Remember that the US has marginal tax rates. That means that you pay different amounts on different portions of your income. For example, on the first $9,525 of your income, if you are single, you will pay 10% federal income tax. On the amount from $9,526 to $38,700, you will pay 12%, etc.
In addition to federal income tax, you will owe FICA taxes (Social Security and Medicare) in the amount of 6.2% of your wages in Social Security tax on your first $128,400 in income (another 6.2% is paid on your behalf by your employer) and 1.45% of your wages in Medicare tax (another 1.45% is paid by your employer) with no cap. The major 2018 change is that the social security cap went up a bit from $127,200 to $128,400. Having no cap on Medicare tax means that the 1.45% is applied to all of your wages, no matter how high. In fact, if you earn more than $200,000 ($250,000 if married filing jointly), you pay an additional 0.9% in Medicare taxes.
2. The Standard Deduction Has Increased For All Taxpayers. Other Deductions Have Also Been Tweaked
Taxpayers have the option itemize their deductions or take the standard deduction to determine their taxable income. In 2018, the standard deduction became a lot more appealing and it is expected that more taxpayers will take the standard deduction as opposed to itemizing starting this year. Fewer than 5-10% of taxpayers are expected to itemize in 2018.
Under the new tax reform package, the standard deduction is almost double its original amount. Until 2025 unless extended by Congress, single filers can claim a $12,000 standard deduction, up from $6,350 in 2017.Joint filers can claim $24,000 in 2018, instead of the $12,700 they could claim in 2017.
In addition, mortgage interest can only be deducted for the first $750,000 of indebtedness. The new law also imposed a $10,000 limit on deductions for State and Local Taxes (SALT). This will be felt most strongly by taxpayers in high tax states like New York and California.
Since the standard deduction is so high, other deductions that would have been taken as itemized deductions may be found to be non-applicable to 90% of taxpayers. For instance, charitable deductions would only be taken if a taxpayer had itemized deductions that were all together in excess of the standard deduction ($12,000 for individuals, $24,000 for married couples). If taxpayers still want to deduct charitable contributions, they should look into bunching or bundling their contributions into alternate years in an attempt to consolidate them into an amount that makes it worthwhile to itemize over taking the standard deduction.
Using donor-advised funds (DAFs) for bundling is also becoming a popular strategy. Instead of making charitable contributions every other year, DAFs allow taxpayers to claim the full deduction for the year even if the funds are allocated across multiple years.
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3. The Child Tax Credit Has Increased And Is Available To More Taxpayers
In 2018, the Child Tax Credit increased to $2,000 from $1,000. The child has to be under 17 on December 31st for the taxpayer to claim the credit. The Child Tax Credit is “refundable” which means it can reduce your tax liability beyond zero allowing you to actually get a refund even if you didn’t pay that much in taxes. In 2018, the refundable portion is $1,400. It will be adjusted for inflation in future years. The Child Tax Credit calculation is a little tricky and a good reason to use a tax advisor like MYRA in preparing your taxes.
Not all taxpayers are eligible for the Child Tax Credit. Once your income surpasses $200,000 ($400,000 for joint filers), the “phase-out” begins. The credit is reduced by $50 for every $1,000 of additional modified adjusted gross income above the phase-out threshold. This is a big change for 2018 because in previous years, the phase-out started a lot earlier: In 2017, the phaseout for married taxpayers was $110,000, $55,000 for married filing separately, and $75,000 for single filers. Also worth noting, the child must have a valid SSN for you to claim the Child Tax credit. Immigrant children who do not have a Social Security Number will not qualify for the child tax credit. Children who do not have an SSN but would otherwise qualify for the child tax credit are eligible for the $500 nonrefundable family tax credit.
You can check if your child will qualify for the Child Tax Credit or Credit for Other Dependent using this IRS Test.
These changes are valid until 2025 unless extended by Congress.
4. Pass-Through Entities Can Get a 20% Deduction Against Qualified Business Income (QBI)
The new tax law introduces the 199A deduction for pass-through business. Entities such as S corporations, sole proprietorships, partnerships, and LLCs taxed as sole proprietorships or partnerships may be eligible for up to 20% deduction from their Qualified Business Income.
5. Alimony Payments Are No Longer Deductible
The tax law makes a permanent change on the treatment of alimony payments. For divorce and separation agreements modified or signed on or after January 1, 2019, alimony payments are no longer tax deductible.
The old tax law treated alimony payments as a deductible expense for the party making the payment. The recipient then reports the alimony payment as income.
Alimony payment deductions have been disallowed. As a result, the recipient will no longer declare alimony payments as income.
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6. The Unreimbursed Business Expenses Deduction is Gone
The new law suspends deductions for unreimbursed business expenses until 2025. These expenses may have included job-specific expenses like tools or supplies needed for your job or travel expenses that you incurred as part of your regular W2 job. If your employer does not reimburse these expenses, you can no longer deduct them.
If you are incurring a large number of expenses as part of your regular job, you should ask your employer if they will reimburse you since the expenses are no longer deductible.
You may still be able to deduct business expenses which are not part of your W-2 wages, such as expenses you incurred as part of a small business or as a freelancer. These expenses will be deducted on your Form 1040, Schedule C. A tax advisor like MYRA can help you maximize your deductions if you have expenses relating to a business or sole proprietorship.
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7. The Moving Expense Deduction Is Gone, But Members Of The Military Can Still Take It
Deduction for work-related moving expenses is suspended until 2025 except for active military personnel. Members of the US Armed Forces as well as their spouses and dependents can claim the deduction if they have to move because of a military order calling for a permanent change in station.
In addition, employees who receive reimbursements for moving expenses can no longer exclude these payments from their income. The reimbursements will form part of the employees’ wages except for members of the US Armed Forces or if the move happened before January 1, 2018. That means that if your employer pays for your move, it will be considered income to you and you will have to pay taxes on it.
8. SALT Deductions Are Now Capped At $10,000
SALT expenses, which stands for “State and Local Taxes”, are deductible if you itemize your deductions. Since many taxpayers will be taking the standard deduction, SALT deductions will no longer be available to them. For those taxpayers that are itemizing their deductions, the SALT deduction is still allowed but as of 2018, there is now a $10,000 limit. SALT expenses include property taxes paid, state & local income taxes paid, and sales taxes paid.
Taxpayers from states with high property and real estates taxes such as California, Connecticut, Illinois, Massachusetts, New Jersey, and New York will feel the biggest impact from the limited SALT deduction. The $10,000 cap is valid until 2025 unless extended.
9. The Estate Tax Exemption Increased Significantly
Estate tax exemption for US tax residents has been increased to $11.18 million for individuals and $22.4 million for couples until 2025. These levels are double the amount of exemption in the old tax law. For non-resident aliens with US situs assets, the exemption remains at $60,000 and the annual exclusion for a non-citizen spouse remains at $152,000.
What does exemption mean? The estate tax exemption refers to the estate value which is tax-free. Estates with a value lower than the exemption are not taxable. Only the amount over the estate tax exemption is subject to federal estate tax. For instance, if you die and have a $20M estate, only the amount over $11.18M would be subject to estate tax. The maximum rate for federal estate tax is currently 40% and that applies only if you exceed the exemption. Under the prior tax law, 99.8% of estates paid no federal estate tax. Now that the exemption is even larger, the number of estates paying taxes will likely be even smaller.
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10. ACA Individual Mandate Penalty No Longer In Effect
The Affordable Care Act or ACA made it compulsory for taxpayers to purchase health insurance. Americans who did not have healthcare coverage had to pay penalties when they filed their taxes unless they qualified for an exemption. This penalty was based on their income.
Starting in 2019, the mandate changed and consumers without health insurance will no longer be penalized with a tax bill.
It’s Important To Keep Up With Tax Changes!
The tax reform law changes the landscape for all taxpayers. It pays to know how new policies affect you.
To help taxpayers, the IRS issued a primer on the tax changes for individuals and families for 2018. However, with several changes in tax laws, it can be challenging to file your taxes on your own. It’s better to consult a tax expert to see what steps you can take to maximize your deductions and to take full advantage of the policies set in the tax reform package.