As we closed out the 2018 tax filing season, we saw significant changes over the last year with most of the tax provisions in the Tax Cuts and Jobs Act (TCJA) taking effect. The last few months of 2019 will provide taxpayers with the opportunity for year-end tax planning as we enter another round of the tax reform era.
To recap, individual taxpayers generally saw a reduction in tax rates, a significant increase in exemption amounts for individual alternative minimum tax (AMT) and estate tax, an expanded availability of child tax credits to higher income earners, and a potentially large tax deduction for owners of qualified trades or businesses.
While itemized deductions prove favorable in many situations, the TCJA made them slightly less impactful than they used to be. Since tax rates on “ordinary income” generally went down, deductions will therefore provide lesser tax savings when rates are lower. Also, in many situations, tax itemized deductions were eliminated as a result of the reform. Uncovering other tax savings may offset any lowered deduction amounts. Be sure to work closely with your advisor on expiring provisions or fluctuating threshold amounts to best position your tax situation and leverage all possible opportunities.
Medical Expense Deductions
As of this writing, one change we are seeing in 2019 is an increase in the threshold amount for itemized deductions on medical expenses. Unless Congress acts before the end of the year, the threshold amount reverts to 10% in 2019 (from 7.5% in 2017 and 2018). If your medical expenses exceed 10% of your adjusted gross income, you may claim a deduction for the amount above that threshold.
If you foresee undergoing elective medical procedures this year or into the future, it may be advantageous to group certain procedures together in order to reach the threshold amount and deduct your expenses.
Qualifying medical expenses include:
- Health insurance premiums
- Qualified long-term-care insurance premiums
- Medical and dental expenses
- Prescription expenses
While the TCJA capped the deduction amount for state and local income, sales and property taxes to $10,000, there is no deduction limit on real estate tax paid on a trade or business or for the production of income. In addition, investment interest is not restricted by the SALT cap and can be deducted as an itemized deduction as related to net investment income.
Note that California did not conform to most of the changes under the TCJA, so tax deductions on your state returns are not limited to the same $10,000, and property taxes exceeding this amount will still lower state taxable income.
If your situation affords flexibility, such as nearing or in retirement, you may consider changing your primary residence to a state with a lower or no income tax like Alaska, Florida, Nevada, South Dakota, Texas, Washington and Wyoming.
Avoid or Reduce AMT
In an effort to offset the SALT cap and provide relief, the TCJA raised the income level and threshold amount for those subject to the AMT. For 2019, the income level is $500,000 for individuals and $1 million for married individuals filing jointly. The top AMT rate under the TCJA is 28%, compared to the top ordinary rate of 37% under current law.
Taxpayers may be able to reclaim the AMT paid in prior years with the new higher income limits. Advisors may calculate prior years’ AMT credit now and the taxpayers affected can reduce their withholding and take the benefit early.
While the TCJA has increased the exemption amounts through 2025 and fewer taxpayers are subject to the liability, many people are still at risk of triggering the AMT. If you forecast being subject to the AMT in 2019 or 2020, work with your advisor on proper planning opportunities and timing strategies may allow you to significantly reduce or avoid paying it.
Some income items that may produce or increase AMT liability are long term capital gains and dividend income (although similar tax rates apply); accelerated depreciation adjustments and related capital gain/loss differences when assets are sold; tax-exempt interest on specific private-activity municipal bonds; and certain incentive stock options.
If you foresee reaching the AMT threshold amount in 2019, you may wish to accelerate income and short-term capital gains in 2019 to take advantage of a lower maximum AMT rate, or you may consider preserving deductions that you cannot take this year and deferring expenses into 2020 that can be deducted under the AMT next year.
If you are in question of your AMT position for next year, you would do the opposite as mentioned above: defer income and sell of any assets that could be subject to the AMT.
Estate and Gift Tax
Estate tax exclusion remains at a record high. The TCJA doubled the lifetime exemption under previous law, now allowing a lifetime exemption of $11.4 million per individual and $22.8 million for couples, indexed for inflation (these amounts increase to $11,580,000 and $23,160,000 respectively in 2019). With proper planning, taxpayers may transfer up to these amounts without being subject to estate or gift tax.
Remember that the gift tax exclusion does not carry over from year to year. You have a $15,000 ($30,000 for couples) non-taxed exclusion available, which needs to be allocated by Dec. 31, 2019.
If you itemize deductions, you are eligible to fully deduct your charitable donations throughout the year. However, since the standard deduction nearly doubled over the last year, it may benefit some taxpayers to bundle their donations into alternating years in order to receive the federal tax benefit.
The maximum deduction for cash donations cannot exceed 60% of your adjusted gross income (AGI), up from the 50% limit under previous law. Any cash donations above 60% will be suspended and carried forward to future years.
If you are considering a large stock donation, one of the most flexible and beneficial charitable gifts is an appreciated publicly traded stock asset because you can deduct the fair market value. In addition, you can take advantage of tax savings by avoiding the capital gains tax that you would have had to pay if the asset was sold.
Child Tax Credit
The TCJA changed the child tax credit in 2018 and will remain the same for the 2019 filing season as well. The reform doubled the deduction amount to $2,000 per qualifying child and allowed a refundable portion equal to 15% of earned income over $2,500, up to $1,400.
If you claim a dependent between the ages of 17 and 24, you may also qualify for a $500 credit. This credit also pertains to disabled or elderly dependents as well.
In addition, the child tax credit will phase out for high income earners married filing jointly at income levels of $400,000 and above.
Proposed Retirement Plan Changes
Looking ahead, the Secure Act is a proposed measure that will provide overall expanded access to retirement plans. It plans to give part-time workers access into retirement plans, shift the minimum distribution age for retirement accounts from 70 ½ to 72 years old, eliminate withdrawal penalties for the birth or adoption of a child, and impose a 10-year time limit for RMDs on non-spouse beneficiaries inheriting IRAs, among other features.
The proposal has been approved in the House of Representatives (417-3 approval vote) and is awaiting approval in the Senate.
We will continue to communicate the status of the proposed bill as we near year-end.
Planning is Key
There are many planning opportunities that will reduce your tax liability. Be sure to fine tune your W-4 withholdings, review flexible spending accounts and use available funds by year-end, sell stocks that may produce a loss if you are predicting net capital gains, and be sure to keep a paper trail to ensure orderly records.
If you have any questions about your year-end tax planning, please contact me at firstname.lastname@example.org or (805) 963-7811.