You and the new tax law: engineers-in-Texas edition
You've almost certainly heard that the new tax law has been passed, and while the President hasn't yet signed it in to law, it's effectively a done deal. There's a lot of stuff in there, but what affects you, and how? Here are some highlights from the point of view of a tech professional in Texas, which means we're going to assume that you don't own your business, that you make a decent salary, and that you don't pay state income or estate taxes.
The Big One: the healthcare mandate has been repealed. While it won't take effect until 2019, you can be sure that this will have a large effect on the healthcare world in general.
The Easy/Good One: your tax bracket has almost certainly changed, likely for the better. Unmarried taxpayers who make $100K per year are in a new 24% bracket, and married couples are in a 22% bracket, down from 28% and 25%, respectively. Generally speaking, you're going to see a 1-4% decrease in your marginal tax rate -- with some exceptions, most notably single taxpayers who make between $157.5K and $418.4K.
The Complicated One: the deduction/exemption/Child Tax Credit system has changed significantly. Currently, taxpayers can take a standard deduction from their taxable income of $6,350 for individuals and $12,700 for married couples, or they can itemize their deductions if that would add up to more. In addition, they get an exemption (another subtraction from taxable income) of $4,050 for each member of the household. Above and beyond that, your taxes are directly reduced by $1000 per child under the Child Tax Credit, but the credit phases out at $75K for single taxpayers and $110K for married couples filing jointly.
Under the new law, exemptions are gone, the standard deduction has nearly doubled to $12K for individuals and $24K for married couples, and the Child Tax Credit has increased to $2K per child, with phaseouts (income thresholds at which the credit starts to go away) starting at $200K for individuals and $400K for married couples. This generally will work out in your favor. For individuals, all other things being equal, this means a deduction under the new law of $12K, up from $10.4K. For a families, given that a dollar of tax credit is worth significantly more than a dollar of exemption, this is also advantageous. For example, in the 22% tax bracket, a child's exemption of $4,050 would net you $891 in reduced taxes, while the increase in the Child Tax Credit reduces your tax bill by an additional $1,000 per child (in addition to decreasing your chance of being subject to the income phaseout).
I say this is likely the biggest change to your tax planning because (as many of you have likely realized) this means that itemized deductions are much less likely to be worthwhile now, unless they are nearly double the current $6,350/$12,700 standard deduction. Those of you who employed a "double-up" strategy, in which you paid property taxes/large charitable donations in alternate years, are much less likely to find this strategy meaningful going forward.
If you used to pay AMT, you likely won't anymore. The AMT exemption has increased from $55.4K to $70.3K for individuals, and from $86.2K to $109.4K for married couples. In addition, the AMT exemption phaseout has increased from $123.1K to $500K(!) for individuals, and from $164.1K to $1MM(!!) for married couples.
Home equity interest deductions have changed. Specifically, "home equity indebtedness" (interest on loans you take out for a purpose other than to purchase or expand a home) is no longer deductible, and interest on new "home acquisition indebtedness" is only deductible up to the first $750K of principal, down from $1MM. Note that home acquisition indebtedness from before the law takes effect is grandfathered into the $1MM limit.
Speaking of homes: there now is a $10K cap on property tax deductions (and state income tax). Given that Texans pay no state income tax, that means it's less likely they'll be affected by this law, but it's worth noting.
529 plans can now be used for pre-college education. Specifically, up to $10K in distributions per student per year can be used to pay for elementary and secondary school. However, after a last-minute change, these funds cannot be used for homeschooling.
Some other items of note:
Pass-through businesses (sole proprietorships, parnerships, LLC's, and S-corporations) now receive a 20% income tax deduction for "qualified business income", or QBI. There are rules in place to prevent business owners who actually work in their business (e.g. self-employers) from classifying their income from that work as QBI, but we'll see how well they fare.
The estate tax threshold has doubled to $11MM per individual. I wouldn't worry about that ILIT, if I were you.
The threshold beyond which medical expenses can be deducted has gone down from 10% to 7.5%, but only for 2017 (yes, retroactively) and 2018.
Miscellaneous deductions with a 2% floor -- including investment expenses -- have been eliminated.
This isn't an exhaustive list -- there are a bunch of other items, like a repeal of the Pease limitation and a change in the Kiddie Tax rules -- but these are the highlights.
Note that nearly all changes in this law are scheduled to sunset in 2025...but don't assume they'll go away. It's likely that many of these will be made permanent, similar to what happened to the 10-year sunsets in the 2001 and 2003 tax changes.
"So...what should I do?" Tax planning strategies will begin to emerge as we begin to understand the nuances of the new tax code, but there are two items I would note right now:
Any deductions you take now -- as in, before January 1! -- will likely be more valuable than if you take them later, because (a) your effective tax rate will likely be higher this year, and (b) itemized deductions will be less useful starting next year. For example, pay your property tax now, rather than January, and consider prepaying your charitable contributions for 2018.
Consider "lumping" your charitable contributions, i.e. paying very large amounts once every few years, in order to make your itemized deduction exceed the new standard deduction threshold.(But please, only do this for large charities that won't notice the difference!)