2017 Tax Reform: Last-minute, Year-end Moves in Light of Tax Cuts and Jobs Act
Congress is enacting the biggest tax reform law in 30 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 is 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 is 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-throughs such as partnerships, 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 you are about to convert a regular IRA to a Roth IRA, postpone your move until next year. That way, you will defer income from the conversion until next year and have it taxed at lower rates.
- Earlier this year, you may have already converted a regular IRA to a Roth IRA; but now you question the wisdom of that move since the tax on the conversion will be subject to a lower tax rate next year. You can unwind the conversion to the Roth IRA by doing a recharacterization (making a trustee-to-trustee transfer from the Roth to a regular IRA). This way, the original conversion to a Roth IRA will be cancelled out; but you must complete the recharacterization before year end. Starting next year, you will not be able to use a recharacterization to unwind a regular-IRA-to-Roth-IRA conversion.
- If you run a business that renders services and operates on a cash basis, the income you earn is not taxed until your clients or patients pay. So if you hold off on billing until next year — or until so late in the year that no payment will likely be received this year — you will likely succeed in deferring income until next year.
- If your business is on an accrual basis, deferral of income till next year is difficult — but not impossible. For example, you might, with due regard to business considerations, be able to postpone completion of a last-minute job until 2018 or defer deliveries of merchandise until next year (if doing so will not upset your customers). Taking one or more of these steps would postpone your right to payment, and the income from the job or the merchandise, until next year. Keep in mind that the rules in this area are complex and may require a tax professional’s input.
- The reduction or 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. Beginning next year, the Tax Cuts and Jobs Act suspends or reduces many popular tax deductions in exchange for a larger standard deduction. Here is what you can do about this right now:
- Individuals (as opposed to businesses) will only be able to claim an itemized deduction of up to $10,000 ($5,000 for a married taxpayer filing a separate return) for the total of (1) state and local property taxes; and (2) state and local income taxes. To avoid this limitation, pay the last installment of estimated state and local taxes for 2017 no later than December 31, 2017, rather than on the 2018 due date. Do not prepay in 2017 a state income tax bill that will be imposed next year; Congress says such a prepayment will not be deductible in 2017. However, Congress only forbade prepayments for state income taxes, not property taxes, so a prepayment on or before December 31, 2017, of a 2018 property tax installment is apparently okay.
- Itemized deduction for charitable contributions will not be reduced. Because most other itemized deductions will be eliminated in exchange for a larger standard deduction (e.g., $24,000 for joint filers), charitable contributions after 2017 may not yield a tax benefit for many because they will not be able to itemize deductions. If you think you will fall into this category, consider accelerating some charitable giving into 2017.
- The new law temporarily boosts itemized deductions for medical expenses. For 2017 and 2018, these expenses can be claimed as itemized deductions to the extent they exceed a floor equal to 7.5% of your adjusted gross income (AGI). Before the new law, the floor was 10% of AGI, except for 2017 it was 7.5% of AGI for age-65-or-older taxpayers. Keep in mind that next year many individuals will have to claim the standard deduction because, for post-2017 years, many itemized deductions will be eliminated; and the standard deduction will be increased. If you will not be able to itemize deductions after this year, but will be able to do so this year, consider accelerating “discretionary” medical expenses into this year. For example, before the end of the year, get new glasses or contacts or see if you can squeeze in expensive dental work such as an implant.
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. 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 will not 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 an asset, but after December 31, 2017, such swaps will be possible only if they involve real estate that is not held primarily for sale. So if you are considering a like-kind swap of other types of property, do so before year end. The new law says the old, far more liberal, like-kind exchange rules will continue apply to exchanges of personal property if you either dispose of the relinquished property or acquire the replacement property on or before December 31, 2017.
- For decades, businesses have been able to deduct 50% of the cost of entertainment directly related to or associated with the active conduct of a business. For example, if you take a client to dinner after a business meeting, you can deduct 50% of the cost if strict substantiation requirements are met. But under the new law, for amounts paid or incurred after December 31, 2017, there is no deduction for such expenses. If you have been thinking of entertaining clients and business associates, do so before year end.
- The new law suspends the deduction for moving expenses after 2017 (except for certain members of the Armed Forces) and also suspends the tax-free reimbursement of employment-related moving expenses. If you are in the midst of a job-related move, try to incur your deductible moving expenses before year end. If the move is connected with a new job and you are getting reimbursed by your new employer, press for a reimbursement to be made to you before year end.
- Under current law, various employee business expenses (e.g., employee home office expenses) are deductible as itemized deductions if those expenses plus certain other expenses exceed two percent of adjusted gross income. The new law suspends the deduction for employee business expenses paid after 2017. You should determine whether paying additional employee business expenses in 2017 (that you would otherwise pay in 2018) would provide you with an additional 2017 tax benefit. Also, now would be a good time to talk to your employer about changing your compensation arrangement. For example, your employer reimbursing you for the types of employee business expenses that you have been paying yourself up til now and lowering your salary by an amount that approximates those expenses. In most cases, such reimbursements would not be subject to tax.
Please keep in mind these are 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 contact us.
Source: Checkpoint Contents, Federal Taxes Weekly Alert Newsletter 2017, 12/21/17 – Volume 63, No. 51