Tax Cuts and Jobs Act
The recently enacted tax reform legislation represents the most significant overhaul of our tax laws in over 30 years. The Act contains substantial changes to the taxation of businesses, individuals, multi-national companies, tax-exempt organizations and others. The following outlines some key provisions included in the Act.
For many of the provisions in the Act affecting individuals the law was changed but only through December 31, 2025. Provisions which, unless extended by future legislation, revert back to the law prior to the Act are indicated below.
Individual Tax Rate
The individual tax rates were reduced starting in 2018 with rates ranging from 10% to 37%. Prior to 2018 the individual tax rates were 10 percent to 39.6 percent. Generally, a given amount of taxable income will be subject to a lower effective tax rate. As an example, the maximum rate on taxable income of $75,900 for a married couple filing jointly is 15 percent in 2017. The maximum rate on taxable income of $77,400 for a married couple filing jointly is 12 percent in 2018. Individual tax rates revert back to pre-Act law starting in 2026. The alternative minimum tax is retained but with higher exemptions amounts.
Standard Deduction Increased, Personal Exemption Suspended
For tax years beginning after December 31, 2017 and before January 1, 2026, the standard deduction increased to $24,000 for married individuals filing a joint return, $18,000 for head-of-household filers and $12,000 for all other taxpayers. Additional standard deductions for elderly and blind still apply. The standard deduction for 2017 is $12,700 for married individuals filing a joint return and $9,350 for head-of-household filers and $6,350 for all other taxpayers.
Personal exemptions are suspended (exemption is zero) for years beginning after December 31, 2017 and before January 1, 2026. Personal exemptions for 2017 are $4,050 each for taxpayer, taxpayer’s spouse and each dependent.
Capital Gain Rates for Individuals
The Act generally retains present law maximum rates of 0 percent, 15 percent or 20 percent, depending on taxable income, on net long-term capital gains and qualified dividends. In addition, the 3.8 percent net investment income tax remains in place.
State and Local Tax Deduction
For 2017 individual taxpayers can deduct as an itemized deduction several types of taxes paid to state and local governments including real and personal property taxes and income taxes or sales taxes. For tax years beginning after December 31, 2017 and before January 1, 2026, the itemized deduction for these taxes is limited to $10,000.
Miscellaneous Itemized Deductions
For 2017 individual taxpayers can deduct certain miscellaneous itemized deductions to the extent they exceed in the aggregate, 2% of the taxpayer’s adjusted gross income. For tax years beginning after December 31, 2017 and before January 1, 2026, the Act suspends miscellaneous itemized deductions that are subject to the 2% floor.
Moving Expenses Deduction
For 2017 individual taxpayers can claim a deduction for certain moving related expenses incurred in connection with starting a new job if the new workplace was at least 50 miles farther from the taxpayer’s former residence than the former place of work. For tax years beginning after December 31, 2017 and before January 1, 2026, the deduction for moving expenses is not allowed except for moves by members of the Armed Forces on active duty pursuant to a permanent change of station.
Child Tax Credit
For tax years beginning after December 31, 2017 and before January 1, 2026, the child tax credit is increased to $2,000 per qualifying child under the age of 17. In addition, the phase-out limits and the refundable amount of the credit are increased. For 2017 the child tax credit is $1,000 per qualifying child under the age of 17.
Corporate Tax Rate
The top corporate tax rate was reduced to 21 percent on January 1, 2018. The 21 percent rate is a “flat” tax that will apply regardless of a regular corporation’s taxable income; the progressive rate structure imposing a maximum 35 percent corporate tax rate is eliminated. Personal service corporations will also be subject to the 21 percent rate. For a fiscal year regular corporation, with a tax year ending in 2018, the new 21 percent rate will be “blended” with the rates in place prior to January 1, 2018. The Act also repeals the corporate Alternative Minimum Tax for tax years beginning after December 31, 2017.
For tax years beginning after December 31, 2017, the Act generally allows a new deduction for individuals, trusts and estates of 20 percent of the domestic qualified business income generated by certain sole-proprietorships and pass-through entities (partnerships, S corporations and LLCs). Depending on taxable income, the deduction may be subject to a limit based on wages paid by the business or wages paid plus a capital amount, and certain service business activities may not qualify for the deduction. This deduction is slated to expire after 2025 like most other individual tax provisions in the Act. In those instances where the full 20 percent deduction is available, the top federal tax rate for pass-through owners drops from 37 percent (the new top rate for individuals under the Act) to 29.6 percent. In light of the tax rate changes, pass-through owners may want to re-evaluate the pros and cons of their current business structure.
Limitations on Net Interest Expense
Deductions for net interest expense are limited to the sum of (1) business interest income, (2) 30 percent of a business’s “adjusted taxable income,” and (3) floor plan financing interest for the tax year. Disallowed business interest expense is carried forward indefinitely. Adjusted taxable income is a specially defined term, and the definition changes after 2021 in a manner that will potentially make the limitation’s impact more significant. Businesses with average gross receipts of $25 million or less are exempt from this provision. In addition, certain businesses in the real estate and farming businesses can elect for the interest expense limitation to not apply.
Depreciation-Full Expensing of Business Assets
Qualifying new business property placed in service from January 1, 2017, through September 27, 2017, will qualify for 50 percent expensing. Qualifying business property, generally whether new or used, acquired and placed in service after September 27, 2017, and before January 1, 2023, will qualify for 100 percent expensing. For the first tax year ending after September 27, 2017, a taxpayer can elect to claim 50 percent first-year bonus depreciation instead of 100 percent bonus depreciation. Bonus depreciation phases down 20 percent per year starting in 2023.
The Act also increases the section 179 expensing limits. The Act increases the maximum Section 179 deduction from $510,000 for assets placed in service in 2017 to $1,000,000 for assets placed in service in 2018. It also expands the definition of section 179 property, for property placed in service after 2017, to include tangible personal property used in furnishing lodging (such as furniture and beds in hotels and apartments) and certain improvements to non-residential real property (such as roofs, HVAC property, fire and alarm systems and security systems).
Cash Method of Accounting for “Small” Businesses
The Act increases the gross receipts threshold for regular corporations and partnerships with regular corporation partners (other than tax shelters) that can use the cash method of accounting to $25 million. In light of this change, affected taxpayers now using the accrual method of accounting may want to consider a change to the cash method. In addition, under the Act, this increased threshold for gross receipts can simplify accounting for inventories and complying with the sometimes difficult uniform capitalization rules.
Like-kind exchanges (under section 1031) completed after 2017 are generally limited to exchanges of real property not primarily held for sale. An exception allows, in certain cases, the completion of deferred like-kind exchanges of personal property after 2017. Although like-kind exchanges will no longer apply for personal property placed in service after 2017, e.g. farm implements, the expensing provisions on new property acquisitions will in most cases offset the gain on sale (trade).
Estate and Gift Tax Changes
For estates of decedents and gifts made after December 31, 2017, and before January 1, 2026, the estate and gift tax exemption amount increases from $5.6 million to approximately $11.2 million. The exemption amount remains unified for estate and gift tax purposes and eliminates the estate and gift tax on property transferred under these amounts via death or gift. Any use of the exemption for gift taxes decreases the estate tax exemption available at death. Current law permitting a “step-up” in tax basis of assets to fair market value at death continues.