Month: January 2018

Effects of the Tax Cuts and Jobs Act on the Wealthy

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Let’s discuss the impact the new tax law will have on two high levels of income. The first example is an attorney making $500,000 who is married with no children. In 2017, the household will have itemized deductions made up of state and local taxes of $37,285, home mortgage interest of $39,000, and business expenses exceeding 2% of AGI of $10,000. Their itemized deductions will be $80,699 after the Pease deduction (this is a stealth tax from the ACA). Their personal exemptions are totally phased out. Their taxable income will be $419,301 and their regular tax will be $113,638, but their AMT will be $122,671. The effect of the additional Medicare tax from the ACA will not be considered because it is the same in 2017 and 2018. In 2017, their tax liability will be $122,671.  

In 2018, if our same family makes $500,000, then they will have state and local taxes limited to $10,000, they will get all their home mortgage interest of $39,000, and their business expenses from Form 2106 are no longer deductible. Personal and dependent exemptions are repealed.  Their taxable income will be $451,000 and their regular tax liability will be $109,229. AMT is less than the regular tax because the AMT exemption is greater and doesn’t begin to phase out until $1M for couples. Their 2018 tax liability is $109,229. This is a tax savings of $13,442 or put another way, a savings of 11% from 2017 to 2018.

In our second example, we have a married couple with no children. They file jointly and in 2017 they make $1,500,000. They live in beautiful, sunny California and they own their home. Because beautiful California has a 13.3% state income tax and they own their home, they will have $300,000 in state and local tax; they also have $39,000 in home mortgage interest, and their Form 2106 Employee Business Expenses do not exceed 2% of AGI. After the Pease deduction, their itemized deductions are $303,414, their exemptions are phased out and their taxable income is $1,196,586.  Their regular tax liability is $419,079. AMT is not even in the picture.

In 2018, the same family making $1,500,000 will have taxable income of $1,451,000.  Remember SALT deductions are limited to $10,000 plus home mortgage interest of $39,000, and personal and dependency exemptions were repealed. Their tax in 2018 will be $476,249. This is a tax increase of $57,170.  

Please remember that there are those who oppose any type of tax cut for the American people. For most Americans the new law is a tax cut, especially if you live in a low-tax state like Texas. But if you live in a high-tax state like California or you own expensive real estate, then you will very likely have a tax increase. In my experience, most high income taxpayers own a successful small business and they use any tax savings to hire someone young and tech savvy to make their business more efficient. Remember, the American people can allocate their capital and spend their money more equitably and efficiently in the marketplace than the federal government, which is wasteful, inefficient, and inclined toward political favors for special interests.      

That is all today. I look forward to visiting with you next week. In the meantime, please let me know if you have a question. You can call my office at (713) 785-8939 or leave a comment on this post. 

The Tax Cuts and Jobs Act – The Middle Class

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Let’s discuss the impact the new tax law will have on two levels of middle class income. The first example is a school teacher who is single with no children and is making $60,000. In 2017, she will get a standard deduction of $6,350 and a personal exemption of $4,050, so her statutory deductions will total $10,400 and her taxable income will be $49,600. In 2017 her tax liability will be $8,139.

In 2018, if our same teacher makes $60,000, she will get a standard deduction of $12,000 and no personal exemption. Her taxable income will be $48,000 and her tax liability will be $6,500. This is a tax savings of $1,639, or put another way, a savings of 20.1% from 2017 to 2018.

In our second example we have a married couple with two children under age 17. They file jointly and together they make $250,000. They own their home and they have $20,000 in home mortgage interest, $21,000 in real estate tax and sales tax (state and local tax), and $10,000 in charitable contributions. In 2017, their taxable income is $182,800 and their tax liability is $38,069. In 2018, the same family making $250,000 will have taxable income of $210,000 ($250,000 -$20,000 -$10,000 -$10,000). Remember, they only get $10,000 for SALT deductions and personal and dependency exemptions were repealed. Their tax in 2018 will be $34,979. They get a $2,000 child tax credit for each child and the phase-out for joint filers begins at $400,000. This is a tax savings of $3,090 or a savings of 8.1% from 2017 to 2018.

Remember, you can deduct all of your real estate taxes in your business or when related to income-producing property. State and local income taxes are not deductible for a business and only to the extent of $10,000 when combined with all state and local taxes for individuals.

Next week, we will discuss the Tax Cuts and Jobs Act and how it affects those taxpayers with income over $500,000.

That is all today. I look forward to visiting with you next week. In the meantime, let me know if you have a question. Feel free to leave a comment on this post or give me a call to get in touch.

Three Exceptions to the Three-Year Statute of Limitations for Tax Assessments & Refund Claims

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Statutes of limitations are provisions of law that require actions to be initiated for prior events within a certain maximum prescribed time period. Therefore, if an action is to be brought or pursued for a prior event, it typically must be initiated before the maximum prescribed time period expires. The purpose of statutes of limitations is to allow for the best evidence that is available to be presented in the pursuit of the action. As time expires, evidence may become lost or unavailable, witnesses may no longer be available, and prosecuting such untimely actions and defending them will become very difficult. Therefore, statutes of limitations are designed to compel action be initiated before evidence becomes unavailable. Failure to initiate such action within this specified maximum prescribed time period is a valid defense and precludes the pursuit of the action.

Statutes of limitations apply for federal income tax matters, as well as other legal matters, civil and criminal. The Internal Revenue Code prescribes specific provisions for when prior tax matters may be pursued by either the IRS or the taxpayer. It depends on whether the IRS is seeking an additional assessment of tax or the taxpayer is seeking a claim for refund. The general rule for imposing additional tax or claiming a refund is three years from the date the tax return is filed or the due date, whichever is later.

As with any rule, there are exceptions.

There are two exceptions from the general rule for IRS assessment of additional tax. The first exception applies to the substantial omission of income. In the case of substantial omission of income, the statute of limitation for the general rule described above is extended to six years. For this exception to apply, substantial omission of income is defined as more than 25% of the gross income is omitted on the tax return. For example, if the taxpayer has $126,000 of gross income and only reports $100,000, then this will trigger the six-year statute of limitation. If the taxpayer had reported $102,000, then the general rule three year statute of limitation would still apply. It is noteworthy to recognize that the six-year statute of limitation applies only to the substantial omission of income and not to other items such as claiming excessive deductions, etc.

The second exception to the general rule for assessments applies to fraud (the willful intent to evade tax) or to tax returns not filed at all. In either of these cases there is no statute of limitations. There is no time limit for the IRS to assess additional tax or initiate a court action. The burden of proof generally remains with the IRS in cases of fraudulent tax returns or tax returns not filed.

The third exception has to do with how long a taxpayer has to claim a refund for the overpayment of tax. A claim for refund must generally be made within three years from the date the tax return was filed or the due date, whichever is later. If no tax return is filed, then the claim for refund must be made within two years from the date the tax was paid. Any tax deducted and withheld from the wages of a taxpayer is treated as paid on April 15. My advice: If you have a refund, then be sure to file within two years of the due date of the return.

Tax Cuts and Jobs Act

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The new tax law took effect on January 1st, and it is a big win for the American taxpayer. It is too big to cover in one post, so we will be discussing various provisions throughout the year. You will feel it immediately both in your federal withholding and in your quarterly estimated tax payments. The basics include:

  • Rate cuts for all brackets
  • A doubling of the standard deduction
  • A doubling of the child tax credit and a raising of the phaseout starting at $400,000 for MFJ (married, filing jointly)
  • The exemption for the AMT (alternative minimum tax) is increased to $109,400
  • The phaseout begins at $1M for MFJ
  • The phaseout of itemized deductions is gone
  • The unified credit for estates and gifts is doubled to $11.1M per person and the 40% rate stays the same

High income individuals that live in high tax states such as NY, NJ, and CA will not get much of a break. The rate reduction is significantly offset by the fact that they cannot deduct the high state and local taxes that they previously deducted. Say you make $2M and pay $100,000 in state and city tax and then save $40,000 in federal income tax. Now, that deduction and the tax savings are gone, so you cannot say this is a windfall for the wealthy. It is also good economic policy because it does not subsidize high tax states at the expense of the American taxpayer in low tax states. The $10,000 limit on the deduction of state and local tax does not apply to your business or other income producing property.

Regular corporations are getting a rate reduction from 35% to 21%. You may have noticed the stock market is factoring in the new bottom line. Also, foreign profits held overseas are being deemed repatriated at a rate of 15.5% for cash and 8% on other assets. The market gets to figure the effect that will have on values also. For S Corporations, sole proprietors, LLCs, and partnerships, there is a 20% deduction based on the lower of three amounts which is designed to achieve parity with the C corporations. This 20% break is phased out for professional service firms with taxable income between $315,000 and $415,000 for MFJ. The section 179 deduction is being doubled to $1M and bonus depreciation is being increased to 100%. My advice is get in the market.

This is all for today.  If you need more information, please feel free to give me a call at (713) 785-8939 or leave a comment on this post.