2018 Federal Income Tax Changes: What Helps? What Hurts?
2018 Federal Individual Income Tax Changes
On December 15, 2018, Congress passed and President Trump signed into law the most significant changes to the federal tax law in the last 30 years. While there were many changes for businesses, there were significant changes to the individual tax law also. It is estimated that 65% of taxpayers will see their federal taxes decrease, 6% will see their taxes increase, and the remainder will see no change.
Every taxpayer is a unique situation. Many changes will help most individuals, some will hurt, some will have no effect. Review the changes and see what changes are good and which ones are bad for you.
New Lower Tax Rates
While the number of tax brackets remains the same (seven), the new tax law mostly lowers the tax rates. See the table below for the new marginal tax rates for 2018. At the higher tax brackets, 35% and 37%, filers could actually pay a higher marginal tax rate on some of their income than they would have under the old rates.
The Good: In general, lowering the tax rates and raising the cut-off for each tax bracket should result in lower tax rates for almost everyone if their income and filing status stays the same. Single filers earning under $200,000 and those filing MFJ earning under $400,000 should see their income tax go down.
For most MFJ filers, the marriage penalty has essentially been eliminated. For the lowest 4 brackets, the thresholds for married filers are exactly twice the thresholds for single filers. Married filers earning $400,000 will pay the same tax rate as 2 single filers each earning $200,000. The penalty returns for married couples in the two highest tax brackets.
The Bad: As noted above, upper income earners at the higher marginal tax rates (35% and 37%) could actually pay higher taxes than under the old rate if nothing else changes in their tax situation. However, new lower rates in the lower tax brackets and other changes from the law could minimize or even possibly eliminate this tax increase for some of these higher income taxpayers.
New Tax Rates for 2018
Marginal Tax Rate
Married Filing Jointly
Eased the Burden of the AMT
The Alternative Minimum Tax (AMT) was designed to insure that wealthy tax payers paid their fair share of income tax by limiting some of the deductions they were claiming. Because AMT exemptions were not indexed for inflation, more and more taxpayers at lower and lower incomes were hit with higher tax bills. Many middle class families, for which the original law was never intended to affect, were drawn into the AMT.
The new tax law eliminates the AMT for millions of Americans. By increasing the AMT exemptions to $70,300 for Single filers and to $109,400 for MFJ filers far fewer taxpayers will be hit with this additional income tax. In the future, the AMT exemptions will be indexed for inflation. The income thresholds for phase out of the exemption amounts were also significantly increased to $500,000 for Single filers and $1,000,000 for MFJ filers.
The Good: The tax law change eliminates this additional tax for millions of middle class Americans it was not originally intended to affect.
The Bad: There really doesn't seem to be much downside to this change. While the tax law didn't eliminate the tax for everyone, it will likely only apply to taxpayers with very high incomes. These taxpayers will still have to figure their tax returns twice and pay this additional income tax.
Increased Standard Deduction
The Standard Deduction almost doubles to $12,000 for Single filers and to $24,000 for MFJ. About 30% of filers itemized deductions under the old tax law. This number should be reduced substantially under the new law. Many deductions were eliminated, but several remain.
As discussed below, deductions for state and local taxes (SALT) remain albeit limited to a maximum deduction of $10,000. Deductions for charitable giving as well as medical expenses also remain.
Deductions that did not survive include those for unreimbursed employee expenses, tax preparation fees, miscellaneous deductions limited to the 2% AGI cap, moving expenses, employer-subsidized parking and transportation reimbursement, as well as some casualty and theft losses.
The Good: Far fewer taxpayers will itemize and they will be relieved of that record keeping burden.
The Bad: With the increase in the standard deduction, personal and dependent exemptions were eliminated (see below). Taxpayers with more than 2 dependents could see see this contribute to increasing their taxes.
Elimination of Personal and Dependent Exemptions
While the new tax law increased the standard deduction, it eliminated the $4,150 personal exemption for 2018.
The Good: Taxpayers with less than 4 exemptions will probably make out better with the increased standard deduction. High income taxpayers who lost their personal exemptions through phase outs may also benefit or at least have this result in little or no change in their tax bill.
The Bad: Taxpayers with large families will lose all of their personal exemptions but some of this loss may be made up with the increase in the child tax credit.
SALT is Limited to $10,000
State and Local Tax (SALT) deductions are limited to $10,000. Besides state and local income taxes, this limit also includes real estate taxes. It is the same limit for single and married filers (no doubling for married couples). Tax payers who used the standard deduction previously aren't likely to be affected by this change. Many lower income taxpayers, particularly those living in lower tax states, likely won't exceed this limit.
The Good: For most tax payers, this change is at its best, or worst, neutral. Taxpayers earning between $200,000 to $500,000 and who fell into the AMT under the previous law usually had these deductions limited or eliminated anyway.
The Bad: If you are a high income earner, particularly in a high tax state, and you itemize, you aren't going to be able to deduct all of the state, local, and real estate taxes you pay if the total exceeds $10,000. Taxpayers earning under $200,000 or over $750,000 who took SALT deductions in the past but didn't fall into the AMT are likely to be affected by the new limit.
Home Mortgage Interest is Limited
Under the new law, the interest rate deduction will be limited to new home indebtedness of $750,000, down from $1,000,000.
The Good: Nothing changes for those with mortgages originated before December 15, 2017.
The Bad: Wealthy taxpayers that purchase expensive homes or even taxpayers with more modest incomes that purchase homes in expensive real estate areas after December 15, 2017, may not be able to deduct all of their mortgage interest.
Changes to Equity Line of Credit Interest Deductions
There are also some changes to the rules for deducting Home Equity Line of Credit interest for those taxpayers that originated these loans after December 15, 2017. The interest can only be deducted if the loan was used to purchase or improve the property securing the ELOC.
The Good: Interest on HELOC loans, up to $100,000, that have been used to purchase or improve the property secured by the loan is still deductible.
The Bad: Interest on HELOC is no longer deductible if the money was used to pay for a car, vacation, college expenses, or anything else. You can not deduct the interest if the loan money was used to to purchase or improve another property.
Increased Child Tax Credit
The new law doubles, from $1,000 to $2,000, the Child Tax Credit. In addition, the portion refundable increases from $1,000 to $1,400. There is also a new $500 nonrefundable credit for dependents other than children. Even more families will be eligible for this benefit because the income threshold for phaseout of this tax credit increases from $110,000 to $400,000 for a married couple.
The Good: It is all good: increased credit, increased refundable credit, credit for other dependents, and more taxpayers eligible. Based on the income limits, except for very high earners, most families with children will benefit from this change.
The Bad: This tax law change doesn't seem to hurt anyone.
Health Insurance Tax Penalty
The tax bill eliminated the tax penalty for not having health insurance but it does not go into effect until December 31, 2018. Affected taxpayers will not see this change until they file their 2019 taxes.
The new law also decreased the level of income above which you can deduct out-of-pocket medical expenses. Now, you can deduct these medical expenses to the extent that they exceed 7.5% of your adjusted gross income (versus having to exceed 10% under the old law).
The Good: There is a lower threshold, 7.5% of AGI, to deduct out of pocket medical expenses.
The Bad: The penalty for not having health insurance does not go into effect until 2019.
Changes for Self-employed and Small Businesses
With the corporate tax rate decreasing to 21%, there were additional tax law changes that help small business owners and the self-employed. Taxpayers who earn some or all of their incomes from partnerships, S corps, or as sole proprietors ("pass through entities"), the law creates a new 20% deduction.
Medicare Surtax Remains
High earners are still subject to the extra 3.8% medicare surtax. The lessor of net investment income or adjusted gross income above $200,000 (Single) or $250,000 (MFJ) is subject to an additional 3.8% medicare tax. This is a medicare tax on the investment returns of high earners.
High income taxpayers with income above $200,000 (Single) or $250,000 (MFJ) are also subject to 0.9% additional medicare tax on earned income above these thresholds. This is an additional medicare tax on the earned income of high earners.
New Tax Law, Good or Bad?
Do you think the new tax law will decrease your 2018 taxes?
This article is accurate and true to the best of the author’s knowledge. Content is for informational or entertainment purposes only and does not substitute for personal counsel or professional advice in business, financial, legal, or technical matters.