With the new tax structures coming into effect this year, I’m getting a lot of questions as to what they mean for people and how it will affect their finances. People are curious about ways they can work within a structure that seems limited to maximize their investments while minimizing their tax obligations.
The new tax rules may seem to be a lot of give-and-take at first. Individuals may read them and simply decide that though it’s different, there’s not much to be done about the regulations and it will all even out in the end. The truth is, the tax structures allow a lot of flexibility when it comes to finding money in your budget that you can then use to invest.
I understand that the rules can be difficult to understand. I wanted to create an easy-to-read that explains the rules in language that people who aren’t tax or finance professionals can understand.
Taxes are always a complicated matter and the rules and regulations that govern the tax process often change. I always advise my clients to seek a certified tax professional if they have questions or concerns on how to manage their taxes.
In the meantime, here’s some tax tips that will help you to understand what the changes are and how they are going to affect your finances, and to help you be better prepared when you speak to your tax preparer.
Some tax credits can not be claimed any longer, such as personal exemption and moving expenses. Itemized deductions for theft or personal casualty are also eliminated.
New Tax Rules
529 College Savings Plan: before, you could only use this on higher education costs such as college. Now, these funds can be accessed for children in public, religious, private or home schools at a rate of up to $10,000 annually per child.
ACA Individual Mandate: while individuals who did not qualify or participate in the ACA faced fines and penalties for not having health insurance, this no longer applies.
Alimony: Previously, individuals paying alimony deducted them from their total income, and persons receiving alimony claimed them as income. Now, alimony is not deductible nor claimable. This is not a retroactive rule and only applies to divorces after January 1, 2019.
Alternative Minimum Tax: the exemptions were at the following income levels; $84,500 for married filing joint, $54,300 for single tax filing status, and $42,250 for married filing separately. Now, the exemption level has increased and there is a cap on the AMT. Current rules state that from January 1, 2018, to December 31, 2025 the following applies: married filing jointly are exempt at $109,400, and all other taxpayers at $70,300. Trusts and estates still tax at a different rate. Obviously, this will affect your taxes as the exemption rate has increased. Additionally, $1,000,000 for married couples filing jointly and $500,000 for all other taxpayers are the thresholds for phase-out.
Child Tax Credit: this was another tax structure that underwent a lot of change with the new rules. The old rules stated that each family with an income of $75,000 for single head of household or $110,000 married filing jointly, with penalties at specific income levels. Now this is doubled to $2000 per child with $1,400 available as a refund per child. Additional provisions in the amount of $500 were made for individuals who were living with and supported by the taxpayer who were not children. Lastly, the credit threshold has been raised to $200,000 singles and $400,000 married filing jointly.
Home Sales and Mortgage Exemption
The exemption levels still apply, but where homeowners only qualified if they lived in their residence for two out of five years, it’s now five out of eight.
Deductions for mortgages is lowered to $750,000 on any purchase or refinance after December 15, 2017, but homeowners can still write off interest to a HELOC or home equity loan.
Medical Expenses
The threshold lowers to 7.5 percent of income in expenses.
Standard Exemptions
These thresholds have risen to $12,000 single, $18,000 head of household, and $24,000 married filing jointly.
State and Local Tax Deduction
Exemptions are limited to $10,000 combined. For individuals in higher tax rate states, this lowers your exemption. If you pay a nine percent tax rate in CA on $250,000 a year, you could claim $22,500. Now, you can only claim $10,000 with a remaining $12,500 not deductible.
Student Loan Discharge
If discharged under death or disability, is no longer taxed as income.
That’s the majority of the tax deductions that may affect you. If you need more information or a complete list of the changes, go to the IRS website.
Now that you see the changes, let’s discuss how you might be able to use them to gain a financial advantage. Here are ten tips that may help you benefit from the new tax structure:
1. Roth IRA- If you notice, the tax bracket structure has increased the amount of money you can earn in each tax bracket. The levels have changed, and now people can earn a higher salary without facing additional taxes so long as they remain in their bracket. Or, people may want to look for a way to reduce their taxable income so they stay in a lower tax bracket. While that’s a plus, you might be wondering how to do this. Converting to a Roth IRA is a smart move. Remember that once you convert to a Roth IRA, the benefits include tax-free growth and no tax penalty when withdrawn.
2. Start your own business- If you’ve ever considered branching out on your own, the new tax structures favor business owners, are capped at a lower level than before, and may open your income to tax deductions not available in the personal tax code.
3. Convert to a Corporation-If you already own a business, consider conversion to a corporation. This could potentially allow you to shield a portion of your labor income.
4. Use your corporation-You may be able to put investments into your corporation so they are paid at the corporate rate and not the personal rate.
5. Pass-through exemptions- use pass-throughs whenever possible. Many independent contractors and business owners already qualify, so ask your tax preparer.
6. Consider changing your field- pass-throughs are only applicable to certain professions. So while a lawyer at a firm may not qualify even if she’s an independent contractor status, if she branches out to a field that isn’t a firm she may qualify for pass-throughs because she’s no longer in a ‘specialized service.
7. Monetize your tax savings- if you’re now eligible for a more favorable tax period due to the new brackets, talk to a financial planner about how you can use that to increase investments that won’t increase your tax obligation in kind.
8. While MPL deductions rated decreased, creating more of a tax burden, you can now depreciate a full 100 percent of their value for the next five years.
9. The mandatory FIFO tax rule has been removed, so look at your stock investments. There’s no longer a tax incentive to sell your shared prior to year’s end to avoid the higher tax fallout.
10. You no longer get a tax break for prepaying property tax. While you’ll have to pay same amount, you have the option of paying the owed bill and putting the difference into an investment that may reap a higher return than you would have received in tax benefits.
The benefits of the new tax structure may not be readily apparent, but I hope that you can see how with a few adjustments, you can establish the groundwork for long-term gains. Primarily, you should look at the money that you will save in the new bracket deductions, child care credit, and 529 plans and seek a financial advisor’s advice on how you may be able to utilize the additional funds to make sound investments that you previously couldn’t.
For example, if you receive more of a benefit in child tax credit, can you then put the money into a 529 plan. With tax-free status on the interest earnings, allowable withdrawals under the new tax structures for funds taken to fund education and the potential of your state allowing a tax break for contributions, it might benefit you to divert more money into one.
You can also look at the different ways to adjust your position or company so that you benefit the most from the new structures, taking into account the cost of making the switch. If it won’t benefit your finances, it’s not worth the trouble.
If you’re interested in exploring the ways that you can put the money gained by working with the new tax structures, contact me. As a fee-based financial planner, the only money that I receive from any advice that I give to my clients is the fee they pay for my services.
That means that unlike commission-based financial planners, I do not receive compensation from any other party for my advice or recommendation to invest in a specific area. I work solely for my client’s best interests and only advise them to make financial planning that I believe may benefit their long-term financial goals.