On December 22, 2017, President Trump signed into law the Tax Cuts and Jobs Act (“TCJA”) one of the most sweeping pieces of tax legislation in the last 30 years. This tax reform could have a significant impact on the tax planning and operations of our clients and business partners.
In some areas, the simplifications have created clarity, like the new 21% flat corporate tax rate and the highest individual tax rate now lowered to 37%. Updated restrictions, like the $10,000 aggregate limit on deductible state (income) and local taxes (i.e. personal property taxes), or elimination of previously deductible items such as the loss of the 50% entertainment deduction, mitigate the net tax savings and create additional complexities for tax planning.
This newsletter provides a broad overview of key aspects that we believe are important for our clients and business partners to know about the TCJA. This document is not intended to be a comprehensive overview or to provide tax planning advice. Please reach out to one of the professionals at BCWS if you have questions about your particular situation.
The Act makes the vast majority of the individual income tax cuts temporary — set to expire after 2025. In contrast, most of the business tax provisions in the Act are permanent.
This document is divided into the following sub-sections:
- Business Taxes
- Real Estate
- Estates and Trusts
Individual Tax Rates
Prior Law: Individual Rates: 10,15,25,28,33,35,39.6%
New Law: Individual Rates: 10, 12, 22, 24, 32, 35, 37%. Top rate would apply to income over $600,000 for married filing jointly; $500,000 for single.
Expires December 31, 2025.
AMT (Alternative Minimum Tax)
Prior Law: AMT is imposed when the minimum tax exceeds the regular tax. The minimum tax equals 26% of the first $187,600 in excess of the exemption amount ($84,500 for joint filers and $54,300 for single filers) and 28% of any excess. The exemption is phased out (by an amount equal to 25% of the amount by which AMT exceeds $160,900 for joint filers and $120,700 for single filers).
New Law: Retains and modifies AMT; exemptions raised to $109,400 (married) and $70,300 (others); phase out of exemption begins at $1 million for joint filers ($500,000 others).
Expires December 31, 2025.
Prior Law: Mortgage Interest Deduction, State and Local Taxes and Medical Expense deductions – Up to 80% of most itemized deductions are lost when adjusted gross income exceeds $313,800 ($261,500 for single taxpayers).
Mortgage interest deduction: $750,000 limit on acquisition indebtedness retained (principal or secondary residence); deduction for home equity loan repealed.
Deduction for state and local income, sales tax and real property taxes limited to $10,000 in aggregate ($5,000 for married filing separately); deduction allowed for state and local taxes on trade or business or if related to production of income.
Deduction for medical expenses (10% AGI, 7.5% AGI ages 65+) retained and expanded (7.5% AGI for all tax payers in 2017 and 2018).
Prior Law: $12,700 ($6,350 if single)
New Law: $24,000 ($12,000 if single), $18,000 for Head of Household
Expires December 31, 2025.
Prior Law: Cash contribution are limited to 50% of donor’s AGI (Adjusted Gross Income).
New Law: Under the Act, the limitation increases to 60%. The provision would retain the 5‐year carryover period to the extent that the contribution amount exceeds 60% of the donor’s AGI.
529 Savings Plans
Prior Law: Currently, funds in 529 Saving Plans can be withdrawn tax‐free if used for only higher education expenses.
New Law: The Act expands the allowance of up to $10,000 per year used for elementary and high school tuition and specifically allowing funds to be used for private and religious schools.
Capital Gains Rates
Prior Law: 0%, 15% and 20% capital gain
New Law: Rates will remain the same; the 20% rate will apply when taxable income exceeds $479,000 (joint) & $425,800 (single).
The TCJA realignment of the personal income tax brackets will create lower tax rates and therefore lowered tax liabilities for many taxpayers. The specific fluctuation in taxes for any taxpayer will depend on how these changes affect the computation of adjusted gross income and taxable income, for instance, significantly limiting itemized deductions for state and local taxes to $10,000 and eliminating personal exemptions completely. Based on initial analysis from various resources, for some taxpayers the reduced tax rates could still produce a higher tax liability with some finding themselves with more income subject to tax because of the loss of exemptions or limitations on deductions.
Taxpayers in the highest tax bracket stand to benefit the most from the reduced tax rates and bracket changes for personal income taxes. High tax bracket taxpayers, who formerly would not have been able to take advantage of certain tax deductions due to phase-out rules on income, will now benefit through claiming a higher itemized deduction as phase-out rules have been suspended and/or standard deductions have increased.
Corporate Tax Rates
Prior Law: Graduated tax structure with a top C-Corp rate of 35%
New Law: C-Corp flat rate of 21% starting 2018
Qualified Business income deduction
Prior Law: Income subject to tax at individual tax rates
New Law: Establishes a 20 percent deduction of qualified business income from certain pass-through businesses. Specific service industries, such as health, law, and professional services, are excluded.
However, joint filers with income below $315,000 and other filers with income below $157,500 can claim the deduction fully on income from service industries.
Expires December 31, 2025.
Prior Law: Interest paid or accrued during the tax year on indebtedness is generally deductible
New Law: Limits the deductibility of net interest expense not to exceed 30 percent of adjusted taxable income. Full deduction for small businesses with gross receipts below $25 million.
Section 179 Expenses
Prior Law: Taxpayers’ annually allowable Code Sec. 179 expense could not exceed $500,000 as adjusted for inflation (the annual dollar limit). The dollar limit had to be reduced (i.e., phased down, but not below zero) by the amount by which the cost of section 179 property placed in service by the taxpayer during the tax year exceeded $2,000,000 adjusted for inflation.
New Law: Raises the pre-inflation-adjusted annual dollar limit from $500,000 to $1 million and the pre-inflation-adjusted annual beginning-of-phase-down threshold from $2 million to $2.5 million.
Net Operating Losses
Prior Law: NOL deduction not subject to limitation based on taxable income
New Law: Limits the NOL deduction to 80% of taxable income, determined without regard to the NOL deduction itself. Carryovers to other years are adjusted to take account of the 80% limitation.
Additionally, NOLs can no longer be carried back but can be carried forward indefinitely.
Prior Law: 50% first-year depreciation for new qualifying property
New Law: Immediate expensing of 100% of new and qualified property placed in service after September 27, 2017 (plus film, TV, and live theater productions upon the first commercial exhibition, broadcast, or live staged performance of a production to an audience) through 2022.
Prior Law: Subject to 50% deduction limit on expenses for activities or facilities generally considered to be entertainment, amusement, or recreation
New Law: Entertainment expenses are no longer allowed
First Year Depreciation Cap. Passenger Auto
Prior Law: Caps were $2,560 for the year the vehicle was placed in service, $4,100 for the second year in the recovery period, $2,450 for the third year in the recovery period, and $1,475 for the fourth, fifth and sixth years of the recovery period (passenger vehicles are 5-year MACRS property).
New Law: Limits are three times higher than those under pre-tax cuts. $10,000 for the year the vehicle was placed in service, $16,000 for the second year in the recovery period, $9,600 for the third year in the recovery period, and $5,760 for the fourth, fifth and sixth years of the recovery period and any years after.
For businesses and their owners, The Tax Cuts and Jobs Act has brought about significant changes to many areas of corporate taxation. Most notably “C Corporations”, formerly subject to graduated tax rates from 15% – 35%, are now subject to a flat 21%.
The offset to this includes the elimination of many deductions: domestic production activity, entertainment, etc. Additionally, restrictions on the use of NOLs to offset only 80% of taxable income mean a business and its owner will need to factor in expenditures for the remaining 20% sooner than before.
The Act should provide a substantial tax benefit to individuals with “qualified business income” from a partnership, S corporation, LLC, or sole proprietorship with specific limitations. The Act permits a non‐itemized deduction of 20% of qualified business income; the reduced amount would then be subject to normal marginal tax rates. For taxpayers not in the top income tax bracket, the value of the deduction will depend on the marginal bracket that would otherwise be imposed on the income.
Taxpayers who are the proprietors of service businesses (e.g., Accounting, Health, Law, etc.) generally are eligible to deduct 20% of their qualified business income (QBI) unless taxable income exceeds $315,000 for married filing jointly ($157,500 for others). The QBI deduction begins to phase-out and is fully eliminated over the next $100,000 for married filing jointly ($50,000 for others). Note: engineering or architectural services are specifically exempted from this restriction.
Like Kind Exchanges
Prior Law: Property that is either held for productive use in a trade or business or held for investment can be exchanged for property of a “like kind.” No gain is recognized on the exchange. Instead, gain is deferred until the replacement property is sold. Taxpayers can exchange not only like-kind real estate but also personal property (cars, airplanes, etc.)
New Law: Section 1031 exchanges are limited to real property only. Personal Property is not eligible.
Prior Law: No holding period, carried interest typically passed through an investment partnership as long-term capital gains.
New Law: Provides for a three-year holding period in the case of certain net long-term capital gain with respect to any applicable partnership interest held by the taxpayer.
Domestic Production Activity Deduction (Section 199)
Prior Law: Domestic production activities deduction (“DPAD”), which was allowed for certain qualifying U.S.-based activities, was equal to 9% of the lesser of the taxpayer’s qualified production activities income or the taxpayer’s taxable income.
New Law: The Tax Cuts and Jobs Act repeals DPAD
The Act contains a few provisions that have either restricted or eliminated key tax planning areas for real estate. TCJA modifies the IRC Section 1031 exchange provisions by limiting their application to real property that is not held primarily for sale. Although a properly structured exchange of real property will continue to enjoy tax-deferred treatment under IRC Section 1031, the portion of any exchange that includes personal property will no longer qualify for tax-deferred treatment.
The repeal of the domestic production activity deduction under code section 199 means real estate developers and construction contractors taxpayers actively involved in the trade or business of construction, engineering and architectural design can no longer offset income with a fully phased in tax deduction of nine percent on income from qualified activities.
Those investors and managers that receive a carried interest now must hold on to the investment for three years or more to receive favorable long-term capital gains treatment. This change does not apply to gain attributable to assets not held for portfolio investment on behalf of third party investors, or to carried interests held (directly or indirectly) by corporations.
Estate, Trust, and Gift
Wealth Transfer (Estate and Gift Tax Exclusion)
Prior Law: 40% rate, $5,490,000 exemption (2017) per individual (indexed for inflation).
New Law: Commencing 2018, exemption for estate, gift and GST tax doubled from $5.6 million to $11.2 million (indexed for inflation).
Expires December 31, 2025.
Prior Law: $14,000 per Donee.
New Law: Present law retained but exemption increased to $15,000 for 2018, adjusted for inflation thereafter.
The language in the Tax Cuts and Jobs Act does not mention generation-skipping transfers, but because the GST exemption amount is based on the basic exclusion amount, generation-skipping transfers will also see an increased exclusion amount.
Because the basic and generation skipping tax (GST) exclusion amount doubled to $11.2M, many estates will no longer be subject to federal estate taxation. Before a taxpayer considers adjusting their estate plan, it is important to determine whether the taxpayer’s state conforms to federal estate exemption. California currently does conform, however CT, DE, DC, HI, IL, MA, ME, MD, MN, NJ, NY, OR, RI, VT, and WA have lower state level exemptions per person.
Doubling the applicable exclusion amount and GST exemption for transfers between 2018 and 2025 is one of the most important estate planning changes under the Act. For most healthy taxpayers, this opens a small window to increase the transfer of wealth during their lifetime under the applicable gift tax exclusion amount. Because there is no certainty that these increases will be preserved after 2025, or potentially eliminated by a political change in leadership in three years, it is imperative to actively continue with any and all estate planning strategies.
To see these changes in an easy table format, download this article as a PDF. Please share it with your network!
- Code Sec. 1(j)(1), as amended by 2017 Tax Cuts and Jobs Act §11001(a)
- Code Sec. 55(d)(4), as amended by 2017 Tax Cuts and Jobs Act §12003(a) Code Sec. 55(d)(4)(A)(ii), as amended by 2017 Tax Cuts and Jobs Act §11002(d)(1)(I)
- Code Sec. 163(j)(1) as amended by 2017 Tax Cuts and Jobs Act §13301(a)
- Code Sec. 179(b)(1) as amended by 2017 Tax Cuts and Jobs Act §13101(a)(1); Code Sec. 179(b)(2) as amended by 2017 Tax Cuts and Jobs Act §13101(a)(2)
- Code Sec. 168(k)(1)(A) as amended by 2017 Tax Cuts and Jobs Act §13201(a)(1)(A); Code Sec. 168(k)(6)(A) as amended by 2017 Tax Cuts and Jobs Act §13201(a)(2) ; Code Sec. 168(k)(6)(A)(I); Code Sec. 168(k)(6)(B) ; Code Sec. 168(k)(6)(B)(I)
- Code Sec. 274(a)(1)(A) as amended by 2017 Tax Cuts and Jobs Act §13304(a)(1)(A); Code Sec. 274(n)(1) as amended by 2017 Tax Cuts and Jobs Act §13304(a)(2)(D)
- Code Sec. 280F(a)(1)(A) as amended by 2017 Tax Cuts and Jobs Act §13202(a)(1)
- Code Sec. 1031(a)(1) as amended by 2017 Tax Cuts and Jobs Act §13303(a)
- Code Sec. 1061, as added by 2017 Tax Cuts and Jobs Act §13309(a)
- Code Sec. 199, repealed by 2017 Tax Cuts and Jobs Act §13305(a)
- Code Sec. 2010(c)(3)(C) as amended by 2017 Tax Cuts and Jobs Act §11061(a))
- CA REV & TAX §§ 13302; 13411