As we enter the 4th quarter, you will need to start planning for a new set of income tax rules. The Tax Cuts and Jobs Act was the most sweeping tax reform in 30 years. In this issue, we will go over many of the rules affecting individuals.
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MANY CHANGES TO ITEMIZED DEDUCTIONS
The act completely changed the planning for itemized deductions. Here is a summary of the changes, with some recommendations on what you might do in your planning:
- Estimated payments and withholding – most people will see some reduction in their taxes. However, your withholding may be reduced even more, with the result you may be assessed an underpayment penalty. Recommendation; Either adjust your withholding or increase your estimated payments, to avoid a penalty.
- Standard deduction is almost doubled. The standard deduction for a married couple was increased to $24,000, and to $12,000 for a single taxpayer. Combined with the limitation on state and local taxes, discussed below, most of you will no longer itemize.
- Home mortgage interest: going forward, mortgage interest deduction is capped at loans of $750,000. Existing loans at January 1 are not affected. The deduction for interest on home equity lines of credit is abolished, and existing lines of credit are not grandfathered. You therefore should consider refinancing as soon as possible, since interest rates are increasing.
The biggest changes were in the state and local taxes, which will affect the deduction for mortgage interest and gifts to charity.
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THE BIGGEST CHANGE: LIMITATION ON STATE AND LOCAL TAXES
The new law caps the deduction for all state and local taxes at $10,000. This includes local property taxes, sales tax and state income tax. In addition, you cannot prepay your 2019 property taxes in 2018.
Excluded: real estate taxes on business property, such as schedule C (self employed individuals), schedule E (rental property) and schedule F (farms). In addition, property on a corporation or partnership return is not affected.
This limitation will have a significant impact on your ability to deduct charitable gifts. For example: suppose your local property taxes are $10,000, which is true of so many people in the 6 county Chicago area. You would have to have mortgage interest and charitable deductions of more than $14,000 to itemize your deductions.
How to adjust? First, remember that most people will pay less in income taxes. How much will depend on your own situation.
Second: if you may qualify for the office in the home deduction, consider taking it even though it may present a higher audit risk. You may be able to save some of the deduction.
Third, consider charitable giving options other than cash. These would include gifts of appreciated stock and charitable IRA rollover. We will discuss these in more detail in the next issue.
Finally, be careful if your state has passed an attempted workaround on the SALT limitation. For example: The IRS has ruled that if you give to a 501(c)(3) organization of a state government in exchange for a tax credit, your deduction would be limited to the difference between the contribution and the credit. Illinois has not yet passed such a plan.
If you need planning to get the best result under the new rules, call us.
CHANGES TO ESTATE PLANNING
There was only one major change, an increase in the exemption from FEDERAL estate tax to $11 million per person or $22 million per couple. Even fewer people will file federal estate tax returns.
THE ILLINOIS EXEMPTION IS STILL AT $4 MILLION. If you don’t plan to avoid the tax, your family could pay thousands of dollars to Illinois. A $5,000,000 estate will generate a tax of $285,700.
Second, the annual gift tax exclusion is at $15,000 per recipient. You should consider annual gifts, if your estate is taxable.
People who don’t have a current estate plan increase the chances of fights. Prince did not have an estate plan. Neither does Aretha Franklin. Keep your estate plan up to date to reduce the risk of fights and reduce income taxes.
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This newsletter contains general information only. It is not intended to create an attorney-client relationship. If you need advice on how these rules apply to you, please call us for an appointment.
