The passing of the Tax Cuts and Jobs Act (“TCJA”), P.L. 115-97, ushered into law the most far reaching tax law change in over thirty years. The primary thrust of the TCJA is to fundamentally change how businesses will be taxed after December 31, 2017. However, there are a number of significant last minute planning moves both businesses and individuals should consider making prior to January 1, 2018 as well as new planning opportunities for 2018 and beyond.
2017 YEAR END AND IMMEDIATE CONSIDERATIONS
- Defer Income. Consider deferring income, when possible, into 2018. The TCJA reduced ordinary income tax rates and expanded tax brackets. Deferring income when possible (e.g., not sending out bills until next year, or not aggressively collecting receivables for cash basis taxpayers) will defer income into next year when income tax rates are lower as a result of the TCJA.
- Engage in Like-Kind Exchanges. Generally effective for transfers after December 31, 2017, 1031 like-kind exchanges (exchanges which legally defer taxable income generated on an exchange of property) are limited to transfers of real property not held primarily for sale. However, under a transition rule, this rule does not apply to exchanges of personal property if the taxpayer either disposed of the relinquished property or acquired the replacement property on or before December 31, 2017. Consider a like-kind exchange prior to December 31, 2017 if this TCJA provision will affect you.
- Accelerate Deductions into 2017. Due to tax rates and bracket changes under the TCJA, as well as the limitation and in some cases complete elimination of certain deductions, consideration should be given to taking the following deductions in 2017:
- Equipment Purchases. Consider purchasing qualifying equipment (e.g., certain tangible personal property, certain computer software, etc.) before the end of the year to take advantage of expensing or cost recovery rules. In general, accelerating the purchase of depreciable assets to take advantage of the 100% bonus depreciation provision included in the TCJA for property placed in service after September 27, 2017 (used property now qualifies for bonus depreciation as a result of the TCJA) to offset income taxable at 2017’s higher tax rates.
- Disallowance of deduction for entertainment expenses. Amounts incurred or paid after December 31, 2017, for entertainment will not be deductible, except for certain meals which may be 50% deductible. Taxpayers should try to pay for any already-incurred expenses during the last days of December as well as incurring expenses (e.g., buy tickets to events) and paying for those newly incurred expenses, during the last days of December.
- Changes to net operating loss deduction rules. For net operating losses (“NOLs”) arising in tax years ending after December 31, 2017, the current-law two-year carryback is, in almost all cases, repealed. As a result, increasing a current year NOL has a greater value, since creating such an increase will not only increase your refund from a carryback, but also will be your last chance to get a carryback at all.
- Defer Income. The TCJA reduced ordinary income tax rates and expanded tax brackets. Deferring bonuses, commissions, maximizing annual IRA and other deferred compensation contributions, etc., for cash basis taxpayers, will defer income into next year when income tax rates are lower as a result of the TCJA.
- Accelerate Deductions into 2017. Due to tax rates and bracket changes under the TCJA, as well as the limitation and in some cases complete elimination of certain deductions, consideration should be given to the following deductions:
- State and Local Taxes. You should determine with your accountant if you will receive a tax benefit by paying any estimated state income taxes on 2017 income prior to December 31 (rather than waiting until January 15) in order to take a 2017 deduction for the state income tax paid. Additionally, you should consider paying your liability for 2017 real estate taxes by December 31. Both of these state and local taxes will be capped in 2018 at a combined deductible limit of $10,000 under the TCJA. However, care will need to be exercised in prepaying these taxes, as under current law the alternative minimum tax (“AMT”) can disallow some or all of the tax benefit of these deductions.
- Miscellaneous Itemized Deductions. Consider paying miscellaneous itemized deductions, including deductions for expenses paid or incurred, for the production or collection of income and unreimbursed expenses attributable to the trade or business of being an employee, before December 31, 2017. The TCJA repeals these deductions effective January 1, 2018. However, as these deductions are currently subject to the AMT, care must be taken in order to ensure that you realize a tax benefit from payment of these expenses.
- Charitable Giving. Consider making charitable gifts in 2017 if you are unlikely to itemize deductions in 2018 as a result of the TCJA’s increased standard deduction of $12,000 for individuals and $24,000 for married filing jointly.
- Make Annual Exclusion Gifts. Annual gifts each year of up to $14,000 per person may be made to an unlimited number of individuals without consuming any lifetime exemption amount (currently at $5.49 million per donor but doubling as a result of the TCJA as of January 1, 2018) or incurring a gift tax. A married couple together is able to gift $28,000 to each donee in 2017.
- Complete Crummey Notices. Make sure all necessary “Crummey Notices” have been sent to appropriate parties to ensure corresponding gifts made in trust qualify for the annual exclusion.
THINGS TO CONSIDER GOING FORWARD INTO 2018
The TCJA’s rewrite of how businesses are taxed will require a review and possible modification of most privately-owned business structures. C Corporations will become more attractive than in the past and businesses that continue to operate as a “pass-through” should seek to qualify their operations for a significant new deduction. Strikingly, businesses with international operations will undergo some of the most sweeping changes since the 1960s. Specifically, some of most significant of the TJCA business provisions are:
- Permanent Cut in the Corporate Tax Rate. The TCJA reduces the corporate income tax to 21%, effective January 1, 2018. Additionally, this new rate is a flat rate of tax, meaning all taxable income will be taxed at this rate, regardless of amount. C Corporations will now be attractive for growth companies, holding companies, and an alternative to the use of foreign corporations for deferred purposes.
- Permanent Elimination of the Corporate Alternative Minimum Regime. The TCJA repeals the Corporate Alternative Minimum scheme, a separate tax system under which certain deductions were reduced or eliminated as a means of ensuring all corporations paid some level of tax.
- New Pass Through Business Deduction. A new deduction of up to 20% for pass-through business income was created by the TCJA. Qualifying for the new deduction is subject to a number of different rules that will require analysis and possible changes in business operations in order to qualify. However, for those businesses that do qualify, the deduction reduces the maximum tax rate on ordinary income to 29.6% (assuming the new top 37% ordinary income rate would otherwise apply). Your structure may need to be revised to maximize the income subject to this new pass-through deduction.
- Limited Interest Deductibility. The TCJA generally caps the deduction for interest expense incurred at 30% of adjusted taxable income, with modifications based upon the particular year in which a taxpayer is seeking to deduct interest. Additionally, limited exceptions to this rule are provided to certain industries (e.g., inventory floor financing for motor vehicles).
- Net Operating Losses Cannot be Carried Back and Carry Forwards are Limited. The TCJA generally repeals the ability to carry back net operating losses (“NOLs”), imposes an 80% limit on the amount of taxable income that can be offset by NOLs going forward, and now permits NOLs to be carried forward indefinitely.
- International Changes. The extensive scope of revisions to the international taxation laws will be subject to a separate alert. It is worth noting that the TCJA moves the U.S. to a territorial tax system, effectively exempting foreign earnings from U.S. income taxation. However, a series of new taxes (e.g. base erosion anti-abuse tax, global intangible low-taxed income tax) as well as expanding the applicability of certain rules (e.g., Subpart F shareholder definitions) are imposed as a means to prevent erosion of the U.S. tax base. Moreover, the TCJA imposes a one-time transition tax (15.5% for offshore business earnings held as cash and cash equivalents and 8% for noncash assets) on all deferred post-1986 foreign earnings to facilitate the transition to a territorial regime. Specifically, each U.S. shareholder owning at least 10% of a foreign corporation (other than PFICs that are not CFCs and other non-CFCs having no U.S. corporate shareholders) must include as Subpart F income the shareholder’s proportionate share of the foreign corporation’s net post-1986 earnings not previously subjected to U.S. tax (the "income inclusion tax"). This tax is payable over a maximum 8 year period at the taxpayer’s election. Basically, all international planning structures should be reviewed to determine if a U.S.-based structure is more impactful for tax reduction and reduced foreign compliance.
- Rate Reduction. The number of tax brackets remains the same at seven, but the rates applicable to each bracket are: 10%, 12%, 22%, 24%, 32%, 35%, and 37% (as opposed to 10%, 15%, 25%, 28%, 33%, 35%, and 39.6% under current law).
- Bracket Expansion. The amount of income taxed at the above rates is generally expanded under the TCJA.
- Increased Standard Deduction. The standard deduction is increased to $24,000 (married filing jointly), $18,000 (head-of-household), and $12,000 (single). These amounts represent an almost doubling over current law amounts.
- Limits on Business Losses. The TCJA disallows excess business losses of a taxpayer other than a corporation. An excess business loss generally means the excess of the aggregate deductions attributable to trades or businesses of the taxpayer over the sum of aggregate gross income or gain attributable to such trades or businesses plus a threshold amount ($250,000 or twice the amount in the case of a joint return). Disallowed losses are carried forward and treated as part of a net operating loss.
- New Limits on Deductible Mortgage Interest. The TCJA reduces the amount of home mortgage indebtedness on which interest payments are deductible. Under current law, taxpayers may deduct interest on up to $1,000,000 in acquisition indebtedness. The acquisition indebtedness for which interest deductions are allowed will be reduced to $750,000 for taxable years beginning after December 31, 2017, and beginning before January 1, 2026 ($375,000 in the case of married taxpayers filing separately). In the case of acquisition indebtedness incurred before December 15, 2017, this limitation is $1,000,000 ($500,000 in the case of married taxpayers filing separately).
- Elimination of Home Equity Interest Deduction. The deduction for interest on home equity indebtedness is eliminated under the TCJA.
- No More Limits on Itemized Deductions. The TCJA repeals the Pease limitation, which generally limits itemized deductions for high-income taxpayers.
- No More Personal Exemption Deductions. The deduction for personal exemptions is eliminated under the TCJA.
- Increased Child Care Credit. The TCJA doubles the child tax credit from $1,000 to $2,000 per qualifying child and provides for a $500 nonrefundable credit for qualifying dependents other than qualifying children.
- No More Individual Mandate. The TCJA eliminates the “individual mandate” under the Affordable Care Act for health coverage status of months beginning after December 31, 2018.
- More Generous AMT Provisions. Increases both the exemption amount and the exemption amount phase-out thresholds of the individual alternative minimum tax.
- Deductible Alimony is Eliminated. For taxable years beginning after December 31, 2018, The TCJA repeals deductions for alimony and separate maintenance payments to the payor and excludes such amounts from income for the payee.
- Increased Ability to Gift Tax-Free. The basic lifetime exclusion amount under the TCJA amount doubles as of January 1, 2018 to $10 million, and after inflation adjustments, will be $11.2 million per person.
As is evident, there is a myriad of new tax and business issues that should be addressed in the wake of the TCJA. Most of these changes will be effective for seven years (until they sunset after 2025, unless changed by Congress before then), while some changes, such as the new 21% corporate flat tax rate, will be permanent. DUGGAN BERTSCH, LLC frequently assists taxpayers with their tax needs, and the TCJA will compel taxpayers to revisit their structures to avoid paying unnecessary taxes in 2018 and beyond. Please contact us for assistance in competently navigating the tax and business consequences associated with the TCJA to optimize your structure.
On behalf of the DUGGAN BERTSCH Team, best wishes for a happy, healthy and prosperous new year!