The end of the year is traditionally a good time to tackle tax planning. You have an idea of what your total income will be, so you can make decisions with an eye on tax efficiencies.
This year, the back-and-forth on tax reform has narrowed the window of opportunity a bit. The House and the Senate have finally agreed on a final version of tax reform legislation (click here for a summary). However, it is not law yet. The House voted today to pass it, and the Senate is scheduled to vote tonight. While some uncertainty remains, there are a number of actions you can take before 2017 wraps up to save tax dollars. Below are several strategies with limited downside risk should the bill fail to become law.
**Note: Please talk to your advisor as soon as possible if you would like to pursue any of these strategies. Some require paperwork and may be subject to custodian deadlines.
(IF you’re not subject to AMT)
Because these deductions are limited in 2018 ($10,000 cap), it’s best to accelerate payment if you can. However, if you expect to pay Alternative Minimum Tax (AMT) in 2017, you lose the benefit of the deduction for state and local taxes and accelerated payments will not provide a benefit. When it comes to prepaying state and local income taxes keep in mind that you can only deduct amounts related to 2017 tax liabilities. This limitation on prepayment of taxes does not apply to property taxes.
Update as of 12/27/17:
The IRS clarified today the ability to deduct 2018 property taxes paid in 2017. To be deductible, the taxes must be assessed by the local tax jurisdiction and paid in 2017. So, if your city or county has not yet sent you an assessment of your 2018 property taxes, you cannot estimate them, pay that amount in 2017 and take a related deduction. Some localities have made special early assessments to allow their residents to pay early. However, at this point, this is the exception and not the rule.
(IF your taxable income exceeds $500,000 [single] or $600,000 [married filing jointly and not in AMT])
You may consider accelerating income you might otherwise recognize in 2018—including options, capital gains, etc.—into this year. If you’re in a state with high income tax rates (>6%), and you’re not in AMT for 2017, the ability to deduct the related state income taxes on the accelerated income would outweigh the reduced top bracket in 2018 (39.6% v 37%).
Under current law you have the option to itemize your deductions (state income taxes, real estate taxes, charitable contributions, etc.) or take the standard deduction. Whichever is higher. In 2017 the standard deduction for single filers is $6,350 and $12,700 for married filers. Under the proposed bill, these amounts would increase to $12,000 and $24,000, respectively. The increase to the standard deduction, and the limitation/elimination of some itemized deductions, will significantly decrease the number of taxpayers that itemize their deductions.
If you think your 2018 itemized deductions will not exceed the new standard deduction, consider paying those items early. Due to the proposed limitation on state and local taxes, I may not itemize my deductions next year. So, my wife and I decided to accelerate a donation we planned to make in March 2018 into December of this year. This guaranteed we would receive a benefit from the deduction. The same thought process applies to any other expense you can currently itemize (medical expenses above AGI floor, etc.)
(Especially beneficial if you send your children to private school)
The new tax plan extends 529 plans to apply to K-12 (up to $10,000 annually), as well as post-secondary education (unlimited), but you can’t take a distribution for K-12 expenses until next year. If your state allows an income tax deduction for 529 contributions, and you have not already maxed out that deduction, you might consider funding an existing plan—or quickly opening one—before the end of the year. That way, you can make K-12 tuition payments in 2018 with those contributed dollars.
Pay attention to the tax law in your state for deductions related to 529 contributions. There is generally a limit on how much you can deduct in one tax year. In Missouri the deduction is limited to $8,000 per individual taxpayer or $16,000 for a married couple. Many states, like Missouri, allow you to deduct contributions to any 529 plan. Other states, like Illinois, only allow deductions for contributions to that state’s plan. Still others, like California, do not allow a deduction at all.
A final note … 529 plan contributions are subject to gift tax rules. Contributions do qualify for the gift tax annual exclusion amount ($14,000 per done in 2017). You should consider whether you have made other gifts to the 529 plan beneficiary before making a 529 plan contribution.
As a business owner, you can fully take advantage of the new 100% expensing of qualified business property (“modified bonus depreciation”) in 2018 through 2022. However, you may realize an even greater benefit for a deduction in 2017, since the tax rates under current law are generally higher than the new tax rates which will apply beginning in 2018.
As a result of tax reform, the tax rates will generally decrease for taxpayers and a 20% deduction will be allowed against “Qualified Business Income”. The 100% expensing of qualified business property provision is one of the few that was made retroactive (applies to property placed into service after September 27, 2017) and applies to both new and used qualified business property.
We are still evaluating the proposed legislation. Additional planning ideas will come to light as we spend more time with the proposed bill. We plan to provide more communication around tax reform planning opportunities throughout the first quarter of 2018. In the interim please contact your Wealth Manager to discuss any of the strategies mentioned above or other questions you may have regarding federal tax reform.