Congress is enacting the biggest tax reform law in thirty years, one that will make fundamental changes in the way you, your family and your business calculate your federal income tax bill, and the amount of federal tax you will pay. Since most of the changes will go into effect next year, there’s still a narrow window of time before year-end to soften or avoid the impact of crackdowns and to best position yourself for the tax breaks that may be heading your way. Here’s a quick rundown of last-minute moves you should think about making.
Lower Tax Rates Coming
The Tax Cuts and Jobs Act will reduce tax rates for many taxpayers, effective for the 2018 tax year. Additionally, many businesses, including those operated as pass-through entities, such as partnerships and S-Corporations, may see their tax bills cut.
The general plan of action to take advantage of lower tax rates next year is to defer income into next year. Some possibilities follow:
- If your business is taxed on the cash basis, the income you earn is not taxable until you collect the payment. If you hold off on billing for services until next year you will not be taxed on this income. If you are on the accrual basis you could delay completing delivery which may defer recognizing income.
- Consider making purchases before year-end to reduce your taxable income for the year.
- If you are about to convert a regular IRA to a Roth IRA, postpone your move until next year. That way you’ll defer income from the conversion until next year and have it taxed at lower rates. If you have already completed a Roth conversion you may consider unwinding it by doing a recharacterization – making a trustee-to-trustee transfer from the Roth to a regular IRA. Starting next year, you won’t be able to use a recharacterization to unwind a regular Roth conversion.
- Cancellation of debt generally results in taxable income to the debtor. So if you are planning to make a deal with creditors involving debt reduction, consider postponing action until January to defer any debt cancellation income into 2018.
Disappearing or Reduced Deductions, Larger Standard Deduction
Tax Cuts and Jobs Act disallows or reduces many popular tax deductions in exchange for a larger standard deduction. Starting in 2018 the standard deduction is doubled to $24,400 for married couples, $12,200 for single filers. Because of the larger standard deduction many taxpayers may not have to itemize next year so here is what you can do about this right now:
- State income tax can be a large deduction for higher-income taxpayers in states with high state taxes including MN. Starting in 2018, state income and property taxes will be combined with property taxes and limited to $10,000. Taxpayers who are not in Alternative Minimum Tax (AMT) should pay their final 2017 State estimated tax payment before the end of the year to avoid this limitation. You may also consider pre-paying your property taxes for next year to take advantage of the deduction when it may be limited next year. However, Congress said that you may not prepay your state income taxes for next year. If this is something you are considering you should talk to your tax adviser.
- The deduction for charitable contributions remains but because of the larger standard deduction next year many individuals may not get a benefit for charitable contributions in 2018. If you think you will fall in this category, consider accelerating charitable giving into 2017.
Other Year-End Strategies
Here are some other last minute moves that can save tax dollars in view of the new tax law:
- The new law substantially increases the alternative minimum tax (AMT) exemption amount, beginning next year. There may be steps you can take now to take advantage of that increase. For example, the exercise of an incentive stock option (ISO) can result in AMT complications. So, if you hold any ISOs, it may be wise to postpone exercising them until next year. And, for various deductions, e.g., depreciation and the investment interest expense deduction, the deduction will be curtailed if you are subject to the AMT. If the higher 2018 AMT exemption means you won’t be subject to the 2018 AMT, it may be worthwhile, via tax elections or postponed transactions, to push such deductions into 2018.
- Like-kind exchanges are a popular way to avoid current tax on the appreciation of assets but after Dec. 31, 2017, such swaps will only be available for real estate transactions. If you are considering a like-kind exchange of other types of property it would make sense to complete this before year-end.
- Businesses have been able to deduct 50% of entertainment expenses related to the active conduct of a business. For example, if you take a client to sporting event after a meeting, you can deduct 50% of the cost if substantiation requirements are met. Under the new law, entertainment expenses will not be deducted going forward. If you’ve been thinking of entertaining clients and business associates it would make sense to do so before year-end.
- The new law suspends the deduction for moving expenses after 2017 and also suspends the tax-free reimbursement of employment-related moving expenses. So if you’re in the midst of a job-related move, try to incur your deductible moving expenses before year-end, or if the move is connected with a new job and you’re getting reimbursed by your new employer, press for a reimbursement to be made to you before year-end.
- Under current law employee business expenses are deductible as itemized deductions if those expenses plus certain other expenses exceed 2% of adjusted gross income. The new law suspends the deduction for employee business expenses paid after 2017 so if you have expenses coming up it may make sense to pay them before the end of the year. It would also be a good time to talk to your employer about changing your compensation arrangement to allow for reimbursement of employee business expenses. This could include reducing your salary by the amount of these expenses to get around the limitation.
Please keep in mind that we’ve described only some of the year-end moves that should be considered in light of the new tax law. If you would like more details about any aspect of how the new law may affect you, please do not hesitate to call.