2017 Tax Cuts and Jobs Act

  • Act provides for lower tax rates compared to the earlier code
  • No changes to capital gains and dividend tax rates
  • Higher standard deduction will limit itemization for many filers
  • State and Local property tax deduction capped at $10,000
  • Increased gift limit to $15,000 and estate tax exemption doubled to $11.2 million

On December 22, 2017, President Trump signed the Tax Cuts and Jobs Act of 2017 (TCJA) into law. Most provisions of this legislation became effective as of January 1st , and will remain in place for seven years, until midnight, December 31, 2025.

Of greatest interest to taxpayers are the anticipated reduction in individual income tax rates, and the broader reform of the individual income tax code. While the number of income tax brackets remains the same (7), the gradation in individual income tax rate brackets declines modestly at most levels to 10%, 12%, 22%, 24%, 35% and 37% as of January 1, 2018, with the top bracket of 37% affecting single persons on taxable income exceeding $500,000, and married persons filing jointly on taxable income exceeding $600,000.

Qualified dividend income and long-term capital gain income will still be entitled to preferential income tax rate treatment under TCJA at 0%, 15% or 20%, depending upon a taxpayer’s ordinary income tax bracket. This approach is consistent with prior tax law, but the breakpoints don’t exactly line-up with the revised ordinary income tax brackets under TCJA. The 0% rate on long-term gains and qualified dividends will end for individuals filing single, and for married filing joint, on income up to $38,600, and $77,200, respectively. The 15% rate will end for individual taxpayers at $452,400 (single) and $479,000 (married, filing jointly). The 3.8% Medicare surtax on net investment income will continue to apply on adjusted gross income exceeding $200,000 for single persons, and $250,000 for married persons.

Personal and dependency exemptions have been repealed as of January 1st, and the standard deduction has been increased to $12,000 for single individuals, and $24,000 for those who are married and file jointly. For those taxpayers who formerly itemized deductions, only medical expenses exceeding 7.5% of AGI for 2017 and 2018 (10% afterward), state and local income, and property taxes, up to an aggregate limit of $10,000, mortgage interest expense, and charitable contributions remain deductible as itemized deductions. Miscellaneous itemized deductions that were previously subject to a 2% of AGI phase-out are no longer deductible, while net casualty losses are only deductible to the extent they are attributable to a federally-declared disaster, and the net amount exceeds 10% of a taxpayer’s AGI. Individuals who were previously eligible to itemize deductions, but were limited in the amount that could be claimed due to high levels of AGI (“Pease Limitation”), will now be eligible to claim the full amount of itemized deductions without limitation.

Employed individuals who may find it more beneficial to claim the standard deduction rather than to itemize deductions beginning in 2018 may wish to review their current contributions to retirement plans, as this will enable them to reduce their adjusted gross income (AGI), and reduce their income tax liability. As of January 1, the salary deferral limit to 401(k) and 403(b) arrangements has been increased to $18,500. Employees who are age 50 and over may make an additional $6,000 “catch-up” contribution, for a total annual contribution of $24,500. A review of other employee benefit arrangements that may be available, such as Flexible Spending Accounts (FSAs) and Health Spending Accounts (HSAs), may also make sense, as employee contributions to these plans also serve to further reduce adjusted gross income. Regular IRA and Roth IRA contribution limits remain at $5,500 per taxpayer, with an additional $1,000 “catchup” contribution permitted for taxpayers age 50 and over. Adjusted gross income (AGI) phase-out limitations apply based on whether one or both spouses are covered by an employer plan.

The Alternative Minimum Tax for individuals (AMT) remains under the new law, but the exemption amount of alternative minimum taxable income increases from $54,300 to $70,300 for single taxpayers, and from $84,500 to $109,400 for taxpayers who are married filing jointly. The thresholds for the phase-out of the AMT exemption increases substantially for single persons from $120,700 to $500,000, and for married filing jointly taxpayers from $160,900 to $1,000,000.

Special tax rules that applied to unearned income of a child, defined as being under the age of 19, or a full-time student under the age of 24, were restructured under TCJA. Earned income (wages or income from self-employment) of a child will continue to be subject to income tax at the child’s own income tax bracket. Unearned income (portfolio and savings income), however, which was formerly stacked on top of the parents’ income and taxed at the parents’ highest marginal income tax rate, is now subject to income taxation using the separate tax rate schedule for decedents’ estates and personal trusts. The estate and trust income tax rates are the most compressed tax rates in the Internal Revenue Code, resulting in the top estate and trust income tax rate of 37% being applied at only $12,500 of unearned income in 2018. Admittedly, a child would need a rather substantial portfolio (>$680,000) to reach this level at the dividend yield (1.82%) of the S&P 500, but it may be beneficial to consider a possible reevaluation of investment strategies (growth vs. income) for portfolios of children, as defined above.

Prior to the passage of TCJA, the annual exclusion amount for present interest gifts was set to increase to $15,000 per recipient beginning January 1, 2018. The annual exclusion amount was not affected by TCJA. Parents who presently, or who are considering, funding education programs for children may wish to continue, or initiate, contributions to a 529 Plan this year. Prior to the passage of TCJA, 529 Plans were available to only fund college education expenses on an income tax-free basis. Under the new tax law, 529 Plans are now available for financing elementary and secondary school expenses, in addition to college expenses, all on a tax-free basis. Special “front-loading” provisions applicable to 529 Plans, permit parents, grandparents and other relatives or family friends to contribute up to five years’ worth of annual exclusion amounts ($75,000) to a 529 Plan for each child at one time. For a married couple with two children, each child’s 529 Plan may receive up to $150,000 ($15,000 x 5 years x 2 parents) in a lump sum. The trade-off in making a five-year lump sum funding in one year is that any future gifts made to the child during the five-year period will begin to consume the donor’s lifetime applicable exclusion amount, now set at approximately $11.2 million per individual as of January 1st.

Affluent persons may wish to consider the creation and funding of various wealth transfer planning vehicles in the next several years while the applicable exclusion amount is at the current level of approximately $11.2 million per individual. Under the “sunset” provisions of TCJA, the applicable exemption amount will effectively be halved beginning January 1, 2026. The current low interest rate environment, coupled with the doubling of the applicable exemption amount, makes the use of various split-interest trust arrangements very attractive at this time. We recommend thorough discussions with accountants and tax professionals before embarking upon any tax planning strategies. If we can be of assistance in any way, please don’t hesitate to contact us.