On December 20, the House and Senate passed H.R. 1, “An Act to provide for reconciliation pursuant to titles II and V of the concurrent resolution on the budget for fiscal year 2018” (referred to herein as the “Tax Cuts and Jobs Act” or “TCJA”), enacting the most sweeping tax reform bill in 30 years. President Trump signed the TCJA into law on December 22. Numerous last minute changes were made to the provisions of the House and Senate bills in conference. There have been some indications that a technical corrections bill may be needed to address certain issues with the final bill.
As most of the provisions will go into effect for tax years beginning after December 31, 2017, this client alert highlights a number of the major changes made by the TCJA applicable to individuals. Changes affecting businesses, including provisions affecting corporations, partnerships, S corporations, and their owners, are addressed in a separate client alert.
The TCJA makes a number of important changes to the taxation of individuals. However, many of these provisions would sunset after 2025, after which the rules under current law would come back into effect.
Income Tax Rates
The top income tax rate applicable to individuals will be reduced from 39.6% to 37%. There will be seven tax brackets: 10%, 15%, 25%, 28%, 33%, 35%, and 37%. The 37% top rate will apply to individuals with taxable income over $500,000 for single filers or over $600,000 for joint filers. The alternative minimum tax (AMT) still applies, but the exemption amounts would be doubled, reducing the number of people subject to the AMT.
The standard deduction will be $24,000 for joint returns or returns filed by a surviving spouse, $18,000 for an unmarried individual with at least one qualifying child, and $12,000 for all others. Additional standard deductions apply to taxpayers who are elderly or blind. The personal exemption is eliminated for 2018–2025.
State and Local Property Tax
Individuals may deduct up to $10,000 of state and local taxes, including state and local income, property, and sales tax. However, the TCJA prohibits individuals from avoiding these limitations by prepaying state and local income taxes in 2017. While the TCJA does not specifically prohibit pre-payment of property taxes, the IRS has released an advisory (IR-2017-210) stating that whether a taxpayer is allowed a deduction for the prepayment of state or local real property taxes in 2017 depends on whether the taxpayer makes the payment in 2017 and the real property taxes are assessed prior to 2018. Thus, a prepayment of real property taxes that have not been assessed by the state prior to 2018 are not deductible in 2017. Even if a deduction is available, taxpayers should consult their tax advisors as to whether they would realize a benefit from prepayment or not, particularly if the taxpayer could be subject to alternative minimum tax.
Home Mortgage Interest Deduction
For tax years beginning after Dec. 31, 2017 and before Jan. 1, 2026, interest on home mortgage loans up to $750,000 ($375,000 for married individuals filing separately) on first and second homes would be deductible. Previously deductions had been permitted for mortgage loans up to $1,000,000 ($500,000 for married individuals filings separately). Taxpayers would no longer be able to deduct interest on home equity loans after December 31, 2017 and before January 1, 2026. These changes would not affect existing loans. The new $750,000 limit does not apply to any acquisition indebtedness incurred before Dec. 15, 2017, or pursuant to a binding written contract to purchase a home entered into prior to such date.
Overall Limit Itemized Deductions
The overall limitation on itemized deductions is eliminated for tax years through 2025.
Miscellaneous itemized deductions subject to the 2% floor are eliminated for tax years beginning after December 31, 2017 and before January 1, 2026.
The child tax credit is increased to $2,000, of which $1,400 is refundable. Taxpayers are also be permitted to claim a $500 credit for dependents other than qualifying children.
Medical Expense Deduction
The medical expense deduction will be retained temporarily with some modifications. For tax years beginning after December 31, 2016 and ending before January 1, 2019, the bill would reduce the medical expense deduction floor to 7.5% of adjusted gross income and eliminate treatment of this deduction as an AMT preference that must be added back in calculating AMT liability.
Interest on Student Loans
Interest on student loans will continue to be deductible.
The limit for charitable contributions to public charities is increased from 50% to 60% of a taxpayer’s contribution base. Deductions are no longer allowed for contributions to colleges and universities for athletic seating rights.
Estate and Gift Tax
The exemption amounts from federal estate, gift, and generation-skipping transfer taxes will be doubled for tax years ending prior to 2025.
The individual mandate under the Affordable Care Act, which had required individuals to buy health insurance or pay a penalty, has been permanently repealed.
State and Local Implications
The impact of the TCJA is not limited to changes to federal income tax liability. Changes made by the TCJA could also have significant impacts on state and local income tax liability. Many questions remain to be answered. Taxpayers should carefully consider the impact of these changes on their state and local tax liability.