Prepared by FGMK Tax Partner Charles F. Schultz and Senior Tax Associate Jeffrey Golds
The Conference Committee released its report and legislative text on the final version of the Tax Cuts and Jobs Act on Friday December 15, 2017. It is anticipated to be voted on by the House and Senate and signed into law by President Trump by Christmas, and it provides provisions that will have a profound, long term impact on both individuals and businesses. There are several important last minute, year-end planning strategies that both individual and business taxpayers should consider now to mitigate their overall tax liabilities. Provided below is a summary of these tax planning strategies.
Year-end Planning for Individuals
- Prepayment of 2017 State and Local Income Taxes. Individual taxpayers who itemize and who are not subject to the alternative minimum tax (AMT) should consider the prepayment of all of their estimated 2017 state and local tax liabilities in 2017. The delay of these payments into 2018 will result in the loss of the federal itemized deduction for such payments made in 2018 as state and local taxes will be capped at $10,000 annually. Please note that under the Committee Explanation of this Act, the prepayment of 2018 taxes in 2017 will not provide a federal itemized deduction. Thus, any prepayment of state income taxes should be limited to the estimated 2017 income tax liability. The acceleration of the 2018 state tax payment into 2017 will provide no federal tax benefit.
- Prepayment of State and Local Property Taxes. Under the Act and effective 2018, the state and local property tax deduction will be capped at $10,000 annually. For taxpayers with substantial property tax liabilities, the prepayment of real estate taxes in 2017 appears to remain deductible to the extent the county will accept payment. Simply stated, a taxpayer cannot create a deductible expense where one is yet to exist. States that have real estate taxes paid in arrears, such as Illinois, may afford an opportunity to accelerate this payment, but the availability of this deduction will need to be determined on a case by case basis. It is highly recommended that taxpayers consult with FGMK to determine the viability of this strategy.
- Taking Advantage of Other Deductions. Tax reform is also expected to result in the elimination of other deductions, such as the miscellaneous deduction. Taxpayers should determine which, if any, expenses should be paid in 2017 to protect this deduction otherwise lost in 2018. This is of particular importance to those taxpayers who have routinely been able to claim a miscellaneous deduction on prior year returns.
- Elimination of the Need to Accelerate Capital Gain Recognition. There has been a great deal of debate and uncertainty under the Senate’s proposal that would have required taxpayers to use the first-in, first-out (FIFO) method to calculate the tax basis of shares that are sold. This proposal has been eliminated from the Act. Thus, taxpayers no longer need to accelerate capital gains into 2017 to avoid the adverse impact from this Senate proposal.
- Like-Kind Exchanges. The good news is that the bill is likely to preserve like-kind exchanges for commercial real estate. Like-kind exchanges of real estate will be able to continue without any changes. However, the bill would repeal the use of a like-kind exchange for any type of property other than real estate. If you are contemplating a like-kind exchange of non-real estate property, make sure you begin the transaction before the end of 2017.
- Charitable Contributions. Generally, paying and deducting charitable donations in 2017 would be beneficial for taxpayers who may be in higher tax rate brackets in 2017 versus 2018. However, due to the reduction in itemized deductions (i.e. 3% of income subject to caps) being eliminated in 2018 and the limit on non-property donations increasing from 50% to 60% of AGI in 2018, deferring contribution until 2018 might be beneficial.
- Alternative Minimum Tax (AMT). While the corporate AMT is being eliminated, the individual AMT is being retained. However, beginning in 2018, the Alternative Minimum Tax minimum exclusion will be increased from $78,750 to $109,400, $50,600 to $70,300 for single taxpayers, and from $39,375 to $54,700 for married taxpayers filing separately. All exclusion amounts will be increased for inflation. This increase may allow some taxpayers to avoid AMT by deferring AMT preference items.
- Unwind Roth IRAs Prior to 2018. Beginning in 2018, taxpayers will no longer be able to unwind the conversion of a Roth IRA back to a traditional IRA. This has been an important provision for taxpayers who have seen the value of the IRA drop after its conversion to a Roth IRA. If taxpayers have seen a loss in value after converting it to a Roth, then they will need to consider unwinding this IRA prior to year-end.
- Establishing a Gifting Strategy in 2018. This provision will double the lifetime gift and estate tax exclusion (currently at $5,490,000) beginning in 2018. For those taxpayers looking to make substantial gifts, they will be given a great opportunity to utilize this increased exclusion in 2018.
Year-end Planning for Businesses
- Year-end Tax Planning for C Corporations. The key issue for C corporations is to utilize fully any tax arbitrage opportunities. For example, C corporations should consider accelerating losses to 2017 and delaying income until 2018 to take advantage of the reduced corporate tax rate that is expected to drop from 35% to 21%. The key is to defer C corporation income tax recognition to the lower and more favorable 21% rate.
- Year-end Tax Planning for Pass-Through Businesses. Similarly, taxpayers who own a qualifying business through a pass-through entity, such as an S corporation, partnership, LLC, or trust should also consider accelerating losses to 2017 and delaying income until 2018. Tax reform will, if passed, provide a 20% deduction against a taxpayer’s qualifying business income which will, in turn, lower the effective tax rate.
If you have any questions related to your specific year-end planning needs, please do not hesitate to contact your FGMK tax advisor.
The summary information in this document is based on pending legislative proposals and is being provided for educational purposes only. These proposals are subject to change, and it is believed likely will change from the contents noted herein. Recipients may not rely on this summary other than for the purpose intended, and the contents should not be construed as accounting, tax, investment, or legal advice. We encourage any recipients to contact the authors for any inquiries regarding the contents. FGMK (and its related entities and partners) shall not be responsible for any loss incurred by any person that relies on this publication.