What the Tax Cuts and Jobs Act Means to You by John Nowak

On November 2nd, Kevin Brady, House Representative for Texas, introduced the “Tax Cuts and Jobs Act” (TCJA).  After two week of review and a few changes, the House passed the tax bill along party lines.  There is no chance the Senate will approve the TCJA with a 60 vote supermajority.  Therefore, the Senate will have to pass their tax reform bill with 50 votes before working with the House to “reconcile” the two bills.  After reconciliation, the TCJA could then be sent to the President for signing into law. 

While the Tax Cuts and Jobs Act will go through many changes if it becomes law, we have reviewed the current proposal and found several areas that will impact your taxes.  We have also calculated and compared taxes for different income brackets using the current tax law and the TCJA to demonstrate how these changes could affect your taxes.  The following is our summary of these changes.

Elimination of AMT (Alternative Minimum Tax)

Nobody likes AMT, but typically only 10% of taxpayers are subject to this tax.  Most AMT payers have incomes between $250,000 and $500,000.  Before everyone jumps for joy, be aware that some rules of AMT will be applied to everyone.  For example, personal exemptions and the deductions for state income and real estate taxes are not allowed for AMT and are on the chopping block for the TCJA (more on that later).

Simplification of Tax Rates

Another win for taxpayers is fewer tax brackets.  The number of brackets will decrease from seven to four.  Below is a comparison of the current and proposed tax rate structure. 

Enhanced Child Tax Credit

To sweeten the deal for families, the TCJA expands the Child Tax Credit.  The current credit amount is $1,000 per child and begins to phase out at joint incomes over $110,000.  The proposed credit is $1,600 and does not begin to phase out until joint incomes exceed $230,000.  The phase-out rate is $50 for every $1,000 over the income limit.

The House Committee on Ways and Means estimated that the elimination of AMT, simplification of the tax brackets, and enhanced child tax credit would reduce income taxes by a whopping $2,296,000,000,000 (over $2 trillion)!  Unfortunately, the TCJA also includes some tax increases to offset these tax reductions.  Next, we will highlight some of these tax increases.

Repeal of Personal Exemptions

Currently, taxpayers (except those in AMT or the 35%/39.6% tax brackets) receive a $4,000 exemption deduction for each taxpayer and dependent.  Sorry parents.  These exemptions are “cut” under the Tax Cuts and Jobs Act.

Restructuring of Deductions

This group of changes is receiving much attention.  Proponents of the bill point to the “enhancement of the standard deduction” while the opponents talk about the elimination and reduction of many deductions.  Below is an abbreviated list of what is changing.

• Standard deduction increasing from $12,700/$6,350 (married/single) to $24,000/$12,000
• State income tax deduction eliminated (same as current AMT)
• Property tax deduction limited to $10,000 (eliminated in current AMT)
• Mortgage interest deduction limited to $500,000 loan (currently $1,000,000)
• Home equity loan interest deduction eliminated
• Medical expense deduction eliminated
• Tax preparation expense deduction eliminated

Repeal of Nonrefundable Credits

Under this provision, the TCJA eliminates a tax credit available for electric plug-in vehicles.  Since I am on the waiting list for the Tesla 3, the elimination of this potential $7,500 tax credit personally upsets me.  Maybe you are on the waiting list too.  I find it difficult to understand why an incentive for investments in energy efficiency is being eliminated, especially when the increased revenue from this change is only $4 billion over ten years.  Fortunately, the House removed the original provision that eliminated a tax credit for adoption.

These tax-raising provisions in the Tax Cuts and Jobs Act increase revenue by $1,900,000,000 (almost $2 trillion)!  Combined with the previously mentioned tax savings, these six changes amount to a tax cut of about $300 billion over ten years and greatly simplify the tax code. 

However, that’s not all, folks!  The TCJA summary is over 70 pages, and the full bill is over 400 pages long.  Some other notable personal tax changes include:

• Estate taxes are eliminated
• Tax rates are reduced for some types of personal business income
• Gain on home sale requires five years of residence within the last eight years (currently two of last five) and is phased out when income exceeds $500,000 (joint)
• Roth IRA conversions are no longer allowed to be recharacterized
• Alimony payments for future marital settlements are no longer included in income by the recipient or deducted by the payer
• Nonqualified deferred compensation plan income will be taxable when there is “no substantial risk of forfeiture”

How Will These Changes Affect You?

To answer this question we compared estimated income taxes according to the current law and the proposed Tax Cuts and Jobs Act assuming a married filing jointly taxpayer with two children.  All income is wages and taxpayers have consistent expenses attributed to state income tax (5% of income), property taxes (6%), mortgage interest (6.75%), and charitable donations (2%).  According to the analysis, the changes from the Tax Cuts and Jobs Act have a minimal impact on federal taxes paid by taxpayers from the $150,000 to $500,000 income levels.

Overall, the bill seems more like a tax simplification act than a tax cut act.  A more simple tax system is a move in the right direction.  I just wish they would not eliminate the electric car credit!  Given the small estimated tax impact of the TCJA and uncertainty over what will be in the final law (if passed), there are few opportunities to make strategic tax decisions before year-end.  A couple last minute ideas are to prepay estimated state income tax liability and next year’s property taxes – ONLY IF you itemized deductions and do not fall into AMT.  If you have some concern about your situation or would like to discuss your tax planning in more detail, we are happy to help and can work closely with your CPA.

For a macroeconomic review of the TCJA, visit the Tax Policy Center or Tax Foundation.