2018 Tax Reform Impact on 2017 Income Taxes

Update 12/28/17 4:37 PM

There have been lots of questions about prepaying property taxes this week.  The IRS issued guidance on Wednesday that in order for paid property taxes to be deductible in 2017 they have to have already been assessed- i.e. a bill needs to exist against which to apply a payment.  Stated another way, you can not assume your 2018 property tax bill (in New Hanover County that bill would be the one due 1/5/19) will be the same as the current one, prepay it in 2017, and claim the deduction for it.  Most people should be OK with what you’ve been doing (paying existing property tax bills) but we wanted to spread the word in case you are thinking about getting crazy with your prepayment of property taxes.

Update 12/23/17 9:45 AM

The tax reform bill has now been signed into law.

Business Owners

On the business side, the name of the game (where you can) is to defer income and accelerate expenses. On the income side if you have receipt of income you need to recognize it as income. Something easier to control is accelerating expenses (paying expenses for the future now). You can’t prepay too far into the future (beyond 12 months) or else you no longer have an expense but instead have a prepaid asset. You can only deduct expenses for service related contracts (think cleaning service) for those services provided within 3 1/2 months. If you are considering a prepayment of an expense, consult with us first to make sure there are not any surprises that will cause issues down the road. For example, there are special considerations regarding prepayment of rent.

One of the 2017 tax law changes on the business side is that for equipment bought and placed in service after 9/27/17 (yes, that’s the correct date) you can claim 100% bonus depreciation (expense the entire amount) for both new and used (new to you) equipment. Vehicles have some other limitations- so if you are looking at a business vehicle for this provision be sure to let us know.

Update 12/20/17 4:25 PM

All the bill is waiting on is for signature from the President.  That may not happen until early 2018, due to budget rules and impacts.  A new update with some thoughts focused on itemized deductions is below:

Itemized vs Standard Deductions

One of the big changes of the 2018 income tax reform is that fewer people are going to itemize their income tax deductions due to increases in the standard deduction (differences in standard deduction shown below).  Itemizing deductions means deducting things like medical expenses, state and local taxes, mortgage interest, and charitable contributions, among others.   In addition, if you itemize in 2018 and beyond, the state income, property, and real estate tax deductions are capped at $10,000 per year.  Finally, itemized deduction subject to the 2% of your Adjusted Gross Income (AGI) limitations will not be available beyond 2018.  This includes items like individual tax preparation, unreimbursed work expenses, financial advisor fees. If your standard deductions are greater than your itemized deductions then you want to take the standard deduction to minimize your income tax.

What does this mean for me in 2017?

In general, income tax rates in 2018 will be lower than 2017 – providing an opportunity for tax arbitrage.  Stated another way, a deduction in 2017 is worth more than a deduction for the same situation in 2018.  We recommend evaluating how close to the new standard deduction you will be.  Will you itemize in the future?  Should you be paying additional state and local taxes in 2017 (be careful of the Alternative Minimum Tax)?  Should you be making more charitable contributions in 2017?

We know tax preparation fees, unreimbursed employee expenses, investment advisor fees will not be deductible on individual income tax returns in 2018 and beyond (they will still be for businesses).  Should and can you pay those in 2017?

What does this mean for me in 2018 and beyond?

Again, you’ll need to evaluate how close you are to the standard deduction threshold.  If you are over the threshold, then continue business as usual with your itemized deductions.  If you are close to or below the itemized threshold, consider paying 2 years of real estate taxes in one year (assuming it doesn’t push you over the $10,000 tax deduction limit), consider the timing of start of year and end of year mortgage payments, and consider doing charitable contributions for multiple years in one year.  In short, while it may appear that there is not a way to get a benefit out of itemized deductions, if you are smart about it and craft your strategy you may be able to do so.

As always, tax advice and tax planning are specific to your situation.  This document is intended to educate you on some of the issues tax reform planning ideas for 2017 and beyond.  Please reach out to us so that we can help you with your specific situation and ensure that you are making the appropriate decisions and taking the appropriate action before year-end.

Update 12/18/17 7:47AM:

The federal income tax reform situation is still pretty fluid.  However, it is expected that it will pass congress and get enacted into law.  Most of the changes are for 2018 and beyond, however you may still want to consider 2017 actions before the year is up.

  • Evaluate your 2016 federal income tax return.  Did you itemize deductions (does your return include a Schedule A after the first two pages of your 1040)?  If not, there’s not a lot specific to 2017 and income tax reform that you can do for income tax planning.
  • If you did itemize, how close was your itemized amounts to the new 2018 itemized minimums ($12,000 for single, $24,000 for a married couple)?  If below these new thresholds for your filing status, you may not end up itemizing in the future and may need to cram in as many additional itemizations as you can in 2017.  You do, however, have to be careful of impacts of Alternative Minimum Tax (AMT) on your itemized deductions.  In layman’s terms, with AMT your income tax is calculated a second way and you are assessed the worst tax of the two scenarios.
  • How much did you itemize in taxes you paid (line 9 of Schedule A)?  Under the new tax code, the deduction for state income, property, and real estate taxes will be limited to $10,000 annually.  If you have been close to or exceeded $10,000, you may want to consider what state income taxes or property taxes you can pay in 2017 since you will be losing part of the deduction in 2018.  The new bill specifically spells out that you can’t prepay 2018 state income taxes to get a 2017 federal deduction, but does it make sense for your scenario to prepay 2017 state income taxes?  Upcoming property taxes?  If so, how much?  Again, this is an area where you want to be really careful of any unexpected AMT impact.
  • There is potential tax arbitrage between 2017 and 2018 income tax rates.  As much as you have control over it, you may want to consider deferring income and accelerating expense in 2017. Realize, however, that you have to recognize income when you have constructive receipt of the income.

As always, tax advice and tax planning are specific to your situation.  This post is intended to educate you on some of the issues regarding 2017 and income tax reform.  Please reach out to us so that we can help you with your specific situation and ensure that you are making the appropriate decisions and taking the appropriate action before year-end.