Last Friday, the President signed the ‘Tax Cuts and Jobs Act of 2017’ into law. Now that we have had some time to review the new tax law, we wanted to relay some of the more significant portions of the new tax law which may affect your spending and business decisions beginning on the first day of the New Year:
Prohibition on any entertainment related expenses as a business tax deduction:
Prior to 12/31/17, a business tax deduction was allowed for one-half of all business related entertainment. Meals are still eligible for the 50% deduction; however, those provided on the premises of the employer would be reduced from 100 to 50%.
Restriction of 1031 Exchanges:
1031 Exchanges after 2017 will be limited to real property not held for sale.
Enhanced Bonus Depreciation:
After 9/27/17 and before 1/1/23, Bonus Depreciation will be increased to 100%. Beginning 2023 and every year following, the 100% deduction will be reduced by 20% each year. Unlike prior years, the new law will apply to both new and used qualified property.
Enhanced Sec. 179 Deduction:
Beginning in 2018, the deduction for Code Sec. 179 depreciation is increased to $1 million, with the phase-out threshold increased to $2.5 million. For tax years beginning after 2018, these amounts are indexed for inflation.
Reduction of itemized deduction (Sch A) for State and Local taxes:
Beginning in 2018, a deduction of up to $10K may be taken for the aggregate of property and state/ local income taxes.
Modification of the mortgage interest deduction laws:
There are two significant elements in the new mortgage deduction limitation. Firstly, the deduction for mortgage interest is limited to underlying indebtedness of $750K. However, existing mortgages above the $750K will be grandfathered and allowed for subsequent years; so the new lower limit does not apply to any acquisition indebtedness incurred before 12/15/17. Any loan prior to that date may also be refinanced and retain the prior $1 Million limit (so long as no additional amounts are added to increase the actual amount of debt). Secondly, no interest deduction is allowed for home equity loans (HELOC). Beginning January 1, 2018, interest related to acquisition indebtedness will only be allowed as a tax deduction.
Suspension of all 2% miscellaneous deductions on Schedule A:
Beginning in 2018, no deductions will be allowed for these deductions most commonly taken in the form of unreimbursed employee business expenses; investment expenses such as broker fees and other investment expenses (not investment interest) and tax preparation fees.
Modification of any NOL carry-forwards:
For losses arising after 12/31/17, the NOL deduction is limited to 80% of taxable income. NOLs can be carried forward indefinitely and the special carryback provisions are repealed.
Domestic Production Activities Deduction (DPAD) repeal:
Beginning in 2018, this deduction is repealed for non-corporate taxpayers. Beginning in 2019, the DPAD is repealed for C corporations as well.
Repeal of Partnership Technical Termination Rule:
Prior to 2018, a change of partnership interest of 50% or greater resulted in a technical termination of the partnership entity. This is no longer the case unless no part of any business, financial operation, or business venture of the partnership continues to be carried on by any of its partners in a partnership.
20% deduction for pass-through income:
The actual deduction is allowed for Partnerships, S-corps, sole proprietorships (Schedule C filers), and Trusts with pass-through business income. Unfortunately, there are numerous restrictions and this provision is expected to be clarified in the future months. It does appear that for Partnerships and S-Corps, there will be a limit based on a Partner or Shareholders allocable portion of W-2 wages paid from the entity. Even without W-2 wages, the actual deduction may be limited to 2.5% of the unadjusted basis of property acquired during the year. Numerous exclusions exist for specified service businesses.
Alimony deduction by payor and inclusion by payee suspended:
Beginning in 2019, Alimony will no longer be deductible by the person paying or included in recipients tax return for those divorce agreements executed after 12/31/18 only. Alimony will have no effect on either person’s tax return.
The above listed provisions are not an exhaustive list of new tax laws going into effect. Many more are included in the actual law; many of which may have an effect in 2018 and subsequent years. Some provisions, such as the medical expense deduction (restores the 7.5% floor for medical deductions for one year only) are temporary. Other laws, such as the favorable treatment on net capital gains and qualified dividends will continue and conform to prior income limits.
We also believe the many features of the new law will result in planning opportunities. Beginning in 2018, taxable (earned) income of children will be taxed at the rate of single individuals and unearned income will be taxed at the new Trust rates. While the individual tax rates will be declining in 2018, the loss of specific deductions may still result in an overall increase of Federal income taxes. The President has stated that the IRS will lower the amounts withheld for most taxpayers who retain the same W-4 status from 2017. Such reductions, however, do not contemplate the losses of these key deductions and may have the overall result of lowering the taxes withheld from your paycheck while your total tax liability increases. Also, please keep in mind that CA State has not indicated any conformity with the new tax law. Many of the deductions lost on your federal return will continue to exist for CA and other states. Please contact us if you have any additional questions.
By: Evan Sandler, CPA
Tax Manager, Onisko & Scholz