Part 1: The 10 Most Expensive Tax Mistakes, Are You Satisified With the Taxes You Pay?

“There is nothing wrong with a strategy to avoid the payment of taxes. The Internal Revenue Code doesn’t prevent that.” – William H. Rehnquist

The first mistake is the biggest mistake of all. It’s failing to plan.

I don’t care how good you and your tax preparer are with a stack of receipts on April 15. If you didn’t know you could write off your kid’s braces as a business expense, there’s nothing we can do.

Remember the last time you drove a car? If you’re like most people, you probably sat down in the driver’s seat, strapped on your seat belt, turned the ignition, put the car in reverse, then backed your way to your destination, steering by what you could see out the rear view mirror.

Wait a minute… you mean that’s not how you do it?

Well, that’s how most tax preparers work. They spend lots of time looking back at what you did last year. But they don’t spend much time looking forward. They can tell you all about what you did yesterday. But they don’t tell you what you should do today, or when you should do it or how you should do it.

Tax planning, on the other hand, gives business owners like you two powerful benefits you can’t get anywhere.

First, it’s the key to your financial defense. As a business owner, you have two ways to put cash in your pocket. There’s financial offense, which means making more. And there’s financial defense, which means spending less. For most of you reading this book, spending less is easier than making more.

And for most of you reading this book, taxes are your biggest expense. So it makes sense to focus your financial defense where you spend the most. Sure, you can save 15% on car insurance by switching to GEICO. But how much will that really save in the long run?

Second, tax planning guarantees results. You can spend all sorts of time, effort, and money promoting your business – and that still won’t guarantee results. Or you can set up a medical expense reimbursement plan, deduct the cost of your teenage daughter’s braces, and guarantee savings.

But those guaranteed results start with planning. You can’t ever deduct money you spend on a medical expense reimbursement plan if you don’t set it up in the first place.

Now that we understand why planning is so important, let’s take a quick look at how the tax system works. This will “lay a foundation” for understanding the specific strategies we’ll be talking about soon.

The process starts with income. And this includes pretty much everything you’d think the IRS is interested in:

  • Earned income from wages, salaries, bonuses, and commissions
  • Profits and losses from your own business
  • Interest and dividends from bank accounts, stocks, bonds, and mutual funds
  • Capital gains from sales of property
  • Income from pensions, IRAs, and annuities
  • Alimony received
  • Gambling winnings

Even illegal income is taxable. The IRS doesn’t care how you make it; they just want their share! The good news, if you’re operating most illegal businesses, is that you can deduct the same expenses as if you were running a legitimate business. For example, if you’re a bookie, you can deduct the cost of a cell phone you use to take bets. The only exceptions include expenses “contrary to public policy” and most businesses involving illegal drugs.

Once you’ve added up total income, it’s time to start subtracting “adjustments to income.” These are a group of special deductions, listed on the first page of Form 1040, that you can take whether you itemize deductions or not:

  • IRA contributions
  • Moving expenses
  • ½ of self-employment tax
  • Self-employed health insurance
  • IRA and self-employed retirement plan contributions
  • Alimony payments
  • Student loan interest up to $2,500

Total income minus adjustments to income equals adjusted gross income” or “AGI.” Adjustments to income are also called “above the line” deductions, because you take them “above” the line that separates total income from AGI.

Once you’ve determined your adjusted gross income, you can take a standard deduction that varies according to your filing status. Or you can itemize deductions. Obviously, it will pay to take whichever choice gives you greater deductions.

Specific itemized deductions include:

  • Medical expenses, to the extent they top 10% of your AGI (7.5% if you’re above age 65)
  • State and local taxes paid
  • Foreign taxes paid
  • Mortgage and investment interest
  • Casualty and theft losses, to the extent they exceed 10% of your AGI
  • Charitable gifts
  • Miscellaneous itemized deductions, to the extent they exceed 2% of your AGI

If your total itemized deductions don’t add up to more than the standard deduction, just take the standard. For 2017, standard deductions are $6,350 for single taxpayers, $9,350 for heads of households, $12,700 for joint filers, and $6,350 each for married couples filing separately. Those amounts are high enough that only about a third of taxpayers itemize.

For most of us, itemizing doesn’t pay until we buy a home and start substituting deductible mortgage interest and property taxes for nondeductible rent. Here are the 2011 average itemized deductions for the five most common categories, along with the percentage of taxpayers in each group who actually take those deductions.

Tax deductions reduce your taxable income. If you’re in the 15% bracket, an extra dollar of deductions cuts your tax by 15 cents. If you’re in the 35% bracket, that same extra dollar of deductions cuts your tax by 35 cents.

You can also deduct a personal exemption of $4,050 for yourself, your spouse, and any dependents.

BUT – your deductions and personal exemptions start phasing out once your income hits certain levels. For 2016, those levels are $261,500 for singles and $313,800 for joint filers. The “Pease” limit, named for Ohio Congressman Bob Pease, costs you three cents of itemized deduction for every dollar of income above those amounts. (Bob can’t be too happy with that legacy.) And the Personal Exemption Phaseout, or “PEP limit,” costs you $50 of personal exemption for every $2,500 of income above those amounts.

Once you’ve subtracted deductions and personal exemptions, you’ll have your “taxable income.” At that point, you’ll consult the table of tax brackets to see how much to pay.

If you’re self-employed, and your business is taxed as a proprietorship or partnership, you’ll also owe self-employment tax on your business income. Self-employment tax replaces the Social Security and Medicare you and your employer would pay if you were a regular employee. (We’ll talk more about these business entities in Chapter Three.)

Some types of income aren’t taxed at the regular rate. For example, tax on “qualified corporate dividends” and most long-term capital gains is capped at 20%. Tax on “unrecaptured Section 1250 gain” (mainly from sales of real estate used in your business) is capped at 25%. And tax on “collectibles” (art, jewelry, etc.) is capped at 28%.

There’s also a new 3.8% “unearned income Medicare contribution” on investment income for single taxpayers earning more than $200,000 and joint filers earning more than $250,000. (Doesn’t “unearned income Medicare contribution” sound better than “tax”?) For purposes of this new rule, “investment income” includes interest, dividends, capital gains, rental income, royalties, and annuity distributions. You might be in the 35% bracket for regular income, but pay 23.8% on capital gains – even though there’s no such thing as a “23.8% bracket” per se.

The bottom line is that “tax brackets” and “tax rates” aren’t as simple as they might appear. Your actual tax rate on any particular dollar of income can be quite a bit higher or lower than your supposed “tax bracket.” Having fun yet?

Now, here’s where it gets really complicated. That’s because, after you go through all those steps to calculate your “regular” tax, you get to start all over again and see if you owe alternative minimum tax.

Alternative minimum tax (“AMT”) is a parallel tax system designed to prevent “the rich” from using regular deductions to avoid tax entirely. In 2009, it hit 4.5 million taxpayers nationwide, primarily in states with high income and property taxes. (This included former IRS Commissioner Mark Everson, who announced in 2004 that he had been hit for the first time.) But the tax wasn’t permanently indexed for inflation until the 2013 “fiscal cliff” legislation, and it’s become a de facto “flat tax” for upper-middle income taxpayers.

The AMT system starts with regular taxable income, then adds back specific “preference items.” These include:

  • Medical expenses between 7.5% and 10% of AGI (for those over 65 who would use the lower threshold)
  • State and local taxes deductible on Schedule A
  • Home equity interest not used to buy, build, or improve your primary residence
  • Miscellaneous itemized deductions (entirely)
  • Investment interest (figured according to special rules)
  • Part of post-1986 accelerated depreciation
  • Gains from incentive stock options
  • Interest from most “private activity” municipal bonds

Once you’ve determined your AMT income, you’ll subtract an exemption of $54,300 for single filers or $84,500 for joint filers. These exemptions phase out by 25 cents for every dollar of AMTI above $120,700 for single filers or $160,900 for joint filers. Finally, the tax itself is 26% of AMTI up to $93,900 for single filers or $187,800 for joint filers, plus 28% of AMTI above those amounts (2017).

Okay now, which is higher? Your regular tax, or your AMT? Pay that one, thankyouverymuch.

Finally, you’ll subtract any available tax credits. These are dollar-for-dollar tax reductions, regardless of your tax bracket. So if you’re in the 15% bracket, a dollar’s worth of tax credit cuts your tax by a full dollar. If you’re in the 35% bracket, an extra dollar’s worth of tax credit cuts your tax by the same dollar.

Here are some of the more popular tax credits:

  • Child Tax Credit (families with children under 17)
  • Earned-Income Tax Credit (low-income working families)
  • American Opportunity Tax Credit
  • Lifetime Learning Tax Credits
  • Foreign Tax Credit (That’s right, if you pay foreign taxes – or, more likely, if a mutual fund you own pays foreign taxes – you can take a deduction or a credit, whichever saves more. Generally, it’s the credit.)
  • Business tax credits (from pass-through entities including partnerships and S corporations)

Done! That wasn’t so hard, was it?

Ultimately, there are two kinds of dollars in this world: pre-tax dollars, and after-tax dollars.

Pre-tax dollars are great, because you don’t pay any tax on them. Earn a dollar, spend a whole dollar!

And after-tax dollars aren’t bad. If you go to the grocery store to buy dinner for your family, the check-out clerk won’t turn up her nose and say “sorry, we can’t accept these after-tax dollars.” But they’re not as good as pre-tax dollars, simply because you don’t get to spend the tax you pay on them.

So, here’s the bottom line. You lose every time you spend after-tax dollars that could have been pre-tax dollars. We’re going to spend the rest of this book talking about how proactive planning can turn as many of your after-tax dollars as possible into pre-tax dollars.

ABOUT PROVIDENT CPA & BUSINESS ADVISORS

Winning the game of chess and being successful in business share something in common: Both require strategic thinking and diligent execution. Provident CPA & Business Advisors serves successful professionals, entrepreneurs, and investors who want to get more out of their business and work less, so they can make a positive impact in their lives and communities. Typically, our clients reduce their taxes by 20 percent or more and create tax-free wealth for life and win the chess game of business. If you want more information, follow us on social media.

To learn more call 1-85-LOWERTAX, or email katie.clawson@providentcpas.com.

Intro: The 10 Most Expensive Tax Mistakes, Are you Satisfied with the Taxes You Pay?

Are you confident you’re taking advantage of every available break?

Is your tax advisor giving you proactive advice to save on taxes?

If you’re like most business owners, your answers are “no,” “no,” and “huh?”

And if that’s the case, I’ve got bad news and I’ve got good news.

The bad news is, you’re right. You do pay too much tax – maybe thousands more per year than the law requires.

You’re almost certainly not taking advantage of every tax break you can. Our tax code is thousands of pages long, with tens of thousands of pages of regulations. There are thousands more pages of IRS guidance, along with volumes of court cases interpreting all those laws, regulations, and guidance. The sad reality is, there’s probably no one alive taking advantage of every tax break they’re entitled to, simply because there are so many of them out there.

And most tax advisors aren’t very proactive when it comes to saving their clients money. They put the “right” numbers in the “right” boxes on the “right forms,” and getting them filed by the “right” deadlines. But then they call it a day. They do a fine job recording the history you give them. But wouldn’t you prefer someone to help you write history?

The good news is, you don’t have to feel that way. You just need a better plan. And you’ve already taken a giant step in that direction, whether you realize it or not. Owning your own business is the biggest tax shelter left in America. Now you just need to take advantage of what you already have!

In this blog series, we’re going to talk about some of the biggest mistakes that business owners make when it comes to their taxes. Then we’re going to talk about how you can solve those problems – legally and ethically.

I’m not here to make you an expert on taxes. Albert Einstein once said “the hardest thing in the world to understand is the income tax,” and if taxes were hard for the guy who came up with the theory of relativity, it’s OK if they’re hard for the rest of us.

Are you making the right choices? Or are you, like most business owners and professionals, leaving money on the table and wasting money on taxes you just don’t have to pay?

Supreme Court Justice Oliver Wendell Holmes once called taxes “the price we pay for civilization.” But he never said we have to pay retail!

We are excited to announce that this upcoming 10-part blog series will help you start finding discounts throughout your return and get you on the right track to start winning at the tax game.

Stay tuned for part 1 of 10!

ABOUT PROVIDENT CPA & BUSINESS ADVISORS

Winning the game of chess and being successful in business share something in common: Both require strategic thinking and diligent execution. Provident CPA & Business Advisors serves successful professionals, entrepreneurs, and investors who want to get more out of their business and work less, so they can make a positive impact in their lives and communities. Typically, our clients reduce their taxes by 20 percent or more and create tax-free wealth for life and win the chess game of business. If you want more information, follow us on social media.

To learn more call 1-85-LOWERTAX, or email katie.clawson@providentcpas.com.

How the Senate’s Tax Reform Bill is Different Than the House Version

The U.S. Senate Finance Committee released their proposed tax reform bill, the Tax Cuts and Jobs Act, on November 9th, one week following the House Ways and Means Committee’s release of their original version of the bill, which was revised this week.  Click the links to read our previous analysis of the House bill on individuals and businesses.

Many of the provisions in the Senate bill are similar to the House bill, but differs in several major areas.  The purpose of this article is to summarize some of the key differences and help you determine which one is better for you.  The Senate bill still needs to be marked up and then the differences with the House bill will need to be resolved before the bill can be enacted.  We will keep you posted with any updates so that you can take advantage of the new changes.

Provision: Individual Income Tax Brackets
Senate Version
Retains seven brackets while reducing rates, bringing the top marginal rate to 38.5 percent and avoiding a bubble rate.
House Version
Consolidates current seven income tax rates into four, while retaining the top marginal rate of 39.6 percent and including an income recapture provision which phases out the effect of the 12 percent bracket for high earners, sometimes called a “bubble rate.”

Provision: Standard Deduction
Senate Version
$12,000 for single filers, $18,000 for heads of household, and $24,000 for joint filers, indexed to chained CPI.

House Version
$12,200 for single filers, $18,300 for heads of household, and $24,400 for joint filers, indexed to chained CPI.

Provision: Child and Family Tax Credits
Senate Version
Eliminates the state and local tax deduction except for taxes paid or accrued in carrying on a trade or business; keeps the mortgage interest deduction for acquisition debt, but eliminates the deduction for equity debt.
Increases credit value to $1,650, with the phase-out for joint filers beginning at $1 million; and keeps the current adoption credit.
House Version
Retains state and local property tax deduction, capped at $10,000, while eliminating the remainder of the state and local tax deduction, except for taxes paid or accrued in carrying on a trade or business; limits the mortgage interest deduction to the first $500,000 in principle value.
Increases child tax credit value to $1,600, with the phase-out for joint filers beginning at $230,000, while creating a new $300 per-person family tax credit for those not eligible for the child tax credit, to expire
after five years; repeals adoption credit.

Provision: Itemized Deductions
Senate Version
Eliminates the state and local tax deduction except for taxes paid or accrued in carrying on a trade or business; keeps the current deduction for medical expenses that exceed 10% of adjusted gross income and mortgage interest deduction for acquisition debt, but eliminates the deduction for equity debt.
House Version
Retains state and local property tax deduction, capped at $10,000, while eliminating the remainder of the state and local tax deduction, except for taxes paid or accrued in carrying on a trade or business; limits the mortgage interest deduction to the first $500,000 in principle value.

Provision: Treatment of Pass-Through Income
Senate Version
Adopts a 17.4 percent deduction for pass-through income, which may provide benefits to smaller businesses less able to take advantage of the House provisions; both proposals restrict many service providers from preferential treatment, though the Senate’s restrictions are broader.
House Version
Caps the pass-through rate at 25 percent and adds a lower minimum rate (added in markup), then sets anti-abuse rules that begin with the rebuttable presumption that 70 percent of pass-through income is wage income (subject to the regular rate schedule), while 30 percent is business income (subject to the lower rate cap)

Provision: Corporate Rate Reduction Timing
Senate Version
Cuts rate to 20 percent, delayed to tax year 2019
House Version
Cuts rate to 20 percent, effective tax year 2018

Provision: Section 179 Expense
Senate Version
Raises Section 179 small business expensing cap to $1 million with a phaseout starting at $2.5 million, and shortens the depreciation of real property to 25 years
House Version
Increases the Section 179 small business expensing cap from $500,000 to $5 million, with the phaseout beginning at $20 million, and maintains current depreciation schedules for real property

Provision: Tax Treatment of Interest
Senate Version
Caps net interest deduction at 30 percent of earnings before interest and taxes (EBIT)
House Version
Caps net interest deduction at 30 percent of earnings before interest, taxes, depreciation, and amortization (EBITDA)

Provision: Net Operating Losses
Senate Version
Eliminates net operating loss carrybacks while limiting NOL carryforwards to 90 percent of taxable income
House Version
Eliminates net operating loss (NOL) carrybacks while providing for indefinite net operating loss carryforwards, increased by a factor reflecting inflation and the real return to capital, while restricting the deduction of NOLs to 90 percent of current year taxable income

Provision: Cash Accounting
Senate Version
Increases small business eligibility for small businesses, from $5 million to $15 million
House Version
Increases small business eligibility for small businesses, from $5 million to $25 million

Provision: Business Credits and Deductions
Senate Version
Modifies, but does not eliminate, the rehabilitation credit and the orphan drug credit, while retaining certain other preferences eliminated in the House version
House Version
Eliminates credits for orphan drugs, energy, private activity bonds, rehabilitation, and contributions for capital, among others

Provision: Retirement Accounts
Senate Version
Eliminates catch-up contributions for high-wage employees and consolidates contribution limits for 457(b)s to match 401(k)s and 403(b)s.
House Version
No major changes

Provision: Estate Tax
Senate Version
Doubles the estate tax exemption
House Version
Increases exemption to $10 million, indexed for inflation, with repeal after six years

ABOUT PROVIDENT CPA & BUSINESS ADVISORS

Winning the game of chess and being successful in business share something in common: Both require strategic thinking and diligent execution. Provident CPA & Business Advisors serves successful professionals, entrepreneurs, and investors who want to get more out of their business and work less, so they can make a positive impact in their lives and communities. Typically, our clients reduce their taxes by 20 percent or more and create tax-free wealth for life and win the chess game of business. If you want more information, follow us on social media.

To learn more call 1-85-LOWERTAX, or email katie.clawson@providentcpas.com.

Part II: How the GOP Tax Bill Impacts Small Businesses: Who wins and who loses? How does this affect tax planning?

The Tax Cut and Jobs Act, introduced on November 1, 2017, by the U.S. House of Representatives Ways and Means Committee, contains sweeping changes for individual and business taxpayers.  The new tax legislation could be the largest rewrite of the U.S. Tax Code in decades, and will no doubt bring a tremendous amount of debate and scrutiny before it becomes law.  The purpose of this article is to summarize some of the key provisions that impact small businesses.  We previously addressed how the Tax Cut and Jobs Act will impact individual taxpayers in our previous article.  Click on the link to see how individuals will be affected:  How the GOP Tax Bill Impacts Individual Taxpayers: Who wins and who loses?

Corporate tax rates:  Under current law, federal tax rates on corporate taxable income vary from 15% to 25%.  Under the GOP bill, the maximum corporate tax rate would be reduced to 20%, the corporate Alternative Minimum Tax (AMT) would be eliminated, and pass-through business income (i.e., S corporations and partnerships) would be subject to a maximum rate of 25%, subject to anti-abuse rules and limitations.

Section 179 expense:  The Section 179 expensing limit would be increased to $5 million (compared to $500,000 under current tax law), with an increased phaseout threshold.

Net operating losses:  The GOP bill restricts the deduction of net operating losses (NOLs) to 90% (100% under current tax law) of next taxable income and allows NOLs to be carried forward indefinitely (twenty years under current tax law), increased by a factor reflecting inflation and real return on investment, but eliminates NOL carrybacks (two years for most businesses, five years for farming NOLs, and ten years for certain other types of NOLs, under current tax law).

Domestic production activities deduction:  The domestic production activities deduction will be eliminated (under current tax law, up to 9% of qualified production activities expenses are deductible).

Section 1031 like-kind exchanges:  Section 1031 treatment for exchanges for personal property will be eliminated under the GOP bill, but will still be allowed for exchanges of real property.

Local lobbying expenses:  The business deduction for local lobbying expenses will be eliminated under the GOP bill.

Entertainment expenses:  The GOP bill eliminates the deduction for entertainment, amusement or recreation activities, facilities, or membership dues relating to such activities or other social purposes.  In addition, no deduction would be allowed for transportation fringe benefits, benefits in the form of on-premises gyms and other athletic facilities, except to the extent that such benefits are treated as taxable compensation to an employee.  The current 50% limitation to qualifying business meals would continue to apply.

Employer-provided benefits:  The GOP bill would eliminate:

  1. Tax-free employer-paid dependent care assistance programs (currently up to $5,000 per year)
  2. Tax-free employer-provided adoption assistance programs (currently up to $13,840 per year)
  3. Tax-free employer-paid moving expense allowances

Rehabilitation credit for historic buildings:  The 20% credit for qualified rehabilitation expenditures with respect to a certified historic structure would be repealed under the GOP bill.

Work Opportunity Tax credit:  The GOP bill would also repeal the 40% credit for qualified first-year wages of employees belonging to certain targeted groups.

New Markets Tax credit:  Under the bill, the 5% credit for the first three years, and the 6% credit for the next 4 years, in qualified community development entities would be discontinued for any new investments.

Expenditures to provide access to disabled individuals:  The 50% credit for qualified expenditures made by a small business for providing access to disabled individuals would be repealed.

The Bottom Line:  The business winners under the GOP bill include corporations in the 20% tax bracket or higher, businesses that purchase more than $500,000 annually in depreciable assets with a useful life of 20 years or less, businesses with gross income between $5million and $25 million who would prefer to use the cash method rather than the accrual method of accounting.  The business losers include employer who employ certain targeted group of employees or provide child care reimbursements to employees, businesses who incur entertainment, amusement, or recreation activities for their employees or customers, and businesses who have more than $10 million in gross income who must capitalize part of its general and administrative expenses as inventory, or businesses with a net operating loss in the current year who had taxable income in at least one of the two previous tax years.

ABOUT PROVIDENT CPA & BUSINESS ADVISORS

Winning the game of chess and being successful in business share something in common: Both require strategic thinking and diligent execution. Provident CPA & Business Advisors serves successful professionals, entrepreneurs, and investors who want to get more out of their business and work less, so they can make a positive impact in their lives and communities. Typically, our clients reduce their taxes by 20 percent or more and create tax-free wealth for life and win the chess game of business. If you want more information, follow us on social media.

To learn more call 1-85-LOWERTAX, or email katie.clawson@providentcpas.com.

Part I: How the GOP Tax Bill Impacts Individual Taxpayers: Who wins and who loses? How does this affect tax planning?

The Tax Cut and Jobs Act, introduced on November 1, 2017, by the U.S. House of Representatives Ways and Means Committee, contains sweeping changes for individual and business taxpayers. The new tax legislation could be the largest rewrite of the U.S. Tax Code in decades, and will no doubt bring a tremendous amount of debate and scrutiny before it becomes law. The purpose of this article is to summarize some of the key provisions that impact individual taxpayers. We will address how the Tax Cut and Jobs Act will impact businesses in our upcoming article.

Individual tax rates on ordinary income: For 2018, the GOP bill reduces the number of individual tax rates from seven to four – 12%, 25%, 35%, and 39.6%. The proposed highest rate is the same highest rate under current tax law.
  1. Married joint-filers: Under $90,000 (12% bracket), there would be mostly winners compared to the current tax rates. Between $90,000 and $260,000 (25% bracket), without the impact of other changes, there would only be winners in this income range. Again, looking only at tax rates, between $260,000 and $1,000,000 (35% bracket), there would be mostly winners but some losers in this income range depending upon which current tax rate applies. And above $1,000,000 (39.6% bracket) would be only winners because the threshold for the 39.6% rate would be much higher than under current tax law.
  2.  Head of Household filers: Under $67,500 (12% bracket), there would be mostly winners compared to the current tax rates. Between $67,500 and $200,000 (25% bracket), without the impact of other changes, there would only be winners in this income range. Again, looking only at tax rates, between $200,000 and $500,000 (35% bracket), there would be mostly winners but some losers in this income range. And above $500,000 (39.6% bracket) would be only winners because the threshold for the 39.6% rate would be much higher than under current tax law.
  3. Single filers: Under $50,000 (12% bracket), there would be mostly winners compared to the current tax rates. Between $50,000 and $200,000 (25%), without the impact of other changes, there would be only winners in this income range. Again, looking just at tax rates, between $200,000 and $500,000 (35% bracket), there would be mostly winners but some losers in this income range. And above $500,000 (39.6% bracket) would be only winners because the threshold for the 39.6% rate would be much higher than under current tax law.
  4. Married separate filers: Under $50,000 (12% bracket), there would be mostly winners compared to the current tax rates. Between $50,000 and $130,000 (25%), without the impact of other changes, there would be only winners in this income range. Again, looking just at tax rates, between $130,000 and $500,000 (35% bracket), there would be mostly winners but some losers in this income range. And above $500,000 (39.6% bracket) would be only winners because the threshold for the 39.6% rate would be much higher than under current tax law.
  5. Bottom line: Under these new tax rate brackets, most taxpayers would be better off.

WARNING: Before you conclude whether you’ll be better off, read below how your deductions and credits may be eliminated or reduced). Looking only at the tax rates, anyone who is in the 39.6% bracket could be much better off because the threshold for the 39.6% would be higher; however, the 12% rate would be phased out for joint-filers above $1.2 million and other taxpayers above $1 million, so the actual marginal rate for these individuals would be higher than the 39.6% as advertised.

Income tax rates on long-term capital gains and dividends: The GOP bill retains the existing three tax rates on long-term capital gains and qualified dividends: 0%, 15% and 20%, and the income brackets would be almost identical to current tax law. Bottom line: no winners or losers.
Exemptions and standard deductions: The GOP bill would completely eliminate personal and dependent exemption deductions, and in their place, the standard deductions would be increased: $24,400 for married joint-filers (compared to $13,000 under current tax law), $18,300 for heads of household (compared to $9,550 under current tax law), and $12,200 for other individual taxpayers (compared to $6,500 under current tax law). Bottom line: many individuals who currently itemize deductions will be claiming the standard deduction, especially those who would be affected by the proposed limitations to itemized deductions (see below); so depending on the number of exemptions and amount of itemized deductions, you may be a winner or loser under the GOP bill.

Other deductions: Itemized deductions would be eliminated except home mortgage interest, charitable contributions, and state and local property taxes.

  1. Home mortgage interest: Home mortgage interest for new loans would be deductible on up to $500,000 in original mortgage debt (compared to $1 million plus another $100,000 of home equity debt under current tax law). For existing home mortgages, the current loan limits would continue to apply; however, you could only deduct mortgage interest on one qualified residence (compared to two under current tax law).
  2. Charitable contributions: Cash charitable contributions to an IRS-approved public charity would be increased to 60% (compared to 50% under current tax law).
    3. State and local property and income taxes: Local property taxes would be subject to a $10,000 limit for joint filers ($5,00 for others), but possible more detrimental is that state and local income taxes would be nondeductible.
  3. Other itemized deductions: Other itemized deductions, such as medical expenses, personal casualty losses, tax preparation fees, and unreimbursed employee business expenses would be eliminated.
  4. Above-the-line deductions: Certain above-the-line deductions, such as alimony payments (for divorce or separation agreements after 2017) and qualified moving expenses would be eliminated.
  5. IRA conversions: Lastly, converting traditional IRA conversions to Roth IRAs will be eliminated under the GOP bill.

Bottom line: home owners with new mortgages over $500,000, and vacation or second homeowners with mortgages, lose under the GOP bill. Individuals subject to state and local income taxes, with significant medical, personal casualty losses or miscellaneous itemized deductions will lose under the GOP bill. For individuals in the higher tax brackets, up to 80% of their deductions could be eliminated or phased out, so they may lose the most under the GOP bill.

AMT and tax credits:
  1. Alternative Minimum Tax: The Alternative Minimum Tax (AMT) will be eliminated. Bottom line: individuals who were subject to the AMT due to the elimination of personal and dependent exemptions and deductions for state and local income taxes may be winners under the GOP bill.
  2. Child care credit: The child care tax credit would be increased from $1,000 to $1,600 per child, and the income level before the credit starts being phased out is increased to $230,000 for joint filers (compared to $110,000 under current tax law) and $115,000 for other taxpayers (compared to $75,000 for singles and heads of households and $55,000 for married separate filers under current tax law). A new $300 ($600 for joint filers) family tax credit would apply for taxpayers, and a $300 family tax credit for dependents who are not qualifying children. Bottom line: Many middle-income taxpayers with qualifying children would win under the GOP bill.
  3. Education credits and deductions:
    1. The American Opportunity Tax Credit of up to $2,500 per year per qualifying student would be retained and increased to five years (compared to four years under current tax law); however, the Lifetime Learning Tax Credit (currently up to $2,000) and contributions to Coverdell Education Savings Accounts (currently up to $2,000) would be eliminated.
    2. Section 529 plans will be more popular under the GOP bill for a number of reasons. Up to $10,000 of qualified annual withdrawals will be tax-free and Coverdell Education Savings Accounts (contributions to which will be eliminated) can be rolled over to Section 529 plan accounts.
    3. The existing deduction for up to $2,500 of annual student loan interest, tax-free treatment for U.S. savings bond interest used for qualifying education expenses, tax-free treatment for tuition discounts offered to employees (and their spouses and dependent children) of educational institutions, employer educational assistance programs (currently up to $5,250 annually) would be eliminated.
    4. Bottom line: It will be a mixed bag of education-related winners and losers here.
  4. Adoption and electric vehicle credits: The GOP bill would eliminate the credit for qualified adoption expenses (currently up to $13,840 per year) and the cost of purchasing a new plug-in electric vehicle (currently up to $7,500).

 

Home sale gain exclusion tightened: Under the GOP bill, the exclusion of up to $250,000 ($500,000 for joint filers) of gain from selling your principal residence will apply only if you have owned and used your home as your principal residence for five years out of the eight-year period (compared to two years over a five-year period) ending on the sale date. Also, the gain exclusion could be taken once every five-years, and would be phased out for individuals with adjusted gross income exceeding $250,000 ($500,000 for joint filers). Bottom line: Higher income home owners who sell their principal residences after this year will lose due to the phase out of the gain exclusion.
Employer-provided benefits: The GOP bill would eliminate:
  1. Tax-free employer-paid dependent care assistance programs (currently up to $5,000 per year);
  2. Tax-free employer-provided adoption assistance programs (currently up to $13,840 per year); and
  3. Tax-free employer-paid moving expense allowances.
Estate, gift and generation-skipping taxes: The GOP bill would increase the estate, gift and generation-skipping tax exemption to $10 million ($5.6 million in 2018 under current tax law). The estate and generation-skipping taxes would be repealed for 2024 and beyond; however, the gift tax exemption would remain in effect. Bottom line: The estate, gift and generation-skipping tax would apply for the more affluent taxpayers, however, the current estate, gift and generation-skipping tax planning strategies to avoid or minimize these taxes will not be impacted by the GOP bill.

The Bottom-Bottom Line: The GOP bill will make significant changes for individual taxpayers. But until it becomes law, there will certainly be a lot of changes made to the current proposal. Stay in touch for updates.

ABOUT PROVIDENT CPA & BUSINESS ADVISORS

Winning the game of chess and being successful in business share something in common: Both require strategic thinking and diligent execution. Provident CPA & Business Advisors serves successful professionals, entrepreneurs, and investors who want to get more out of their business and work less, so they can make a positive impact in their lives and communities. Typically, our clients reduce their taxes by 20 percent or more and create tax-free wealth for life and win the chess game of business. If you want more information, follow us on social media.

To learn more call 1-85-LOWERTAX, or email katie.clawson@providentcpas.com.

NEXT UP: Be looking for our upcoming article, ” How the GOP tax bill may impact businesses: Who wins and who loses