The tax reform bill - or the Tax Cuts and Jobs Act - took effect January 1, 2018, for income earned starting in 2018.
Among the main changes are new tax brackets and the elimination of some itemized deductions. In general, the new tax rate structure means lower brackets for most filers, with the top rate dropping to 37% from 39.6%
The 10% tax bracket now extends to almost $10,000 for individuals and $19,000 for married couples filing jointly. In effect, this doubles the amount of income taxed at the lowest rate.
The standard deduction almost doubled. The new legislation temporarily increases the amount of the standard deduction to:
- $24,000 for married individuals filing a joint return
- $18,000 for head-of-household filers, and
- $12,000 for all other individuals
In comparison, for the 2017 tax year, the standard deduction for single taxpayers was $6,350, and $12,700 for married couples filing jointly.
The new tax law temporarily suspended the deduction for personal exemptions and modified the withholding rules to reflect the fact that taxpayers no longer can claim personal exemptions.
Changes to the Form 1040
The 2018 Form 1040 was redesigned and condensed. There are six new Schedules that supplement the 1040, and these additional schedules are used as needed for more complex tax returns.
Many taxpayers will only need to file the shortened Form 1040 and none of the new schedules. However, for a more complicated tax return (claiming certain deductions and credits, or owing additional taxes) taxpayers will need to complete one or more of the numbered schedules to accompany the 1040.
Briefly, here are the highlights of each Schedule:
- Schedule 1 - Additional income and deductions
- Schedule 2 - AMT and advanced premium tax credit repayment
- Schedule 3 - Some nonrefundable credits
- Schedule 4 - Other taxes
- Schedule 5 - Some refundable credits, and other payments
- Schedule 6 - Foreign address and third party designee
The forms 1040A and 1040EZ have been retired.
The Qualified Business Income Deduction
Individuals who are sole proprietors, partners in partnerships, members in LLCs taxed as partnerships, or shareholders in S-corporations, may be eligible to claim a deduction for qualified business income (QBI) under Code Section 199A. Trusts and estates are also eligible for the deduction.
Instead of lowering the tax rate on all pass-through businesses, the final legislation allowed pass-throughs to deduct up to 20% of income.
The deduction is 20% of "qualified business income (QBI)" from a partnership, S-corporation, or sole proprietorship. QBI is the net amount of items of income, gain, deduction, and loss with respect to a qualified trade or business. The business must be conducted within the U.S. to qualify.
- Kristy is a small business owner with a Schedule C who makes $100,000 from her business
- Kristy's taxable income is $70,000
- Kristy's Section 199A deduction (or Qualified Business Income Deduction) is:
20% X $70,000, or $14,000
Income Restrictions There are limits imposed on the 20% deduction based on how much the owner makes in "taxable income". The thresholds are set at the following amounts:
- Individual: $157,500
- Married: $315,000
The thresholds are based on each business owner's income level, not on the total taxable income of the business. The QBI deduction is made available regardless of whether a taxpayer itemizes deductions or takes the standard deduction. For more detailed information and guidance on the Qualified Business Income Deduction, visit the following website: https://www.irs.gov/newsroom/qualified-business-income-deduction
The Corporate Tax Rate Dropped from 35% to 21%
The graduated tax rate structure for corporations, which featured a top tax rate of 35%, is replaced by a flat rate of 21%.
As a result, the overall tax liability of may C corporations is reduced.
Changes to the Home Mortgage Interest Deduction
The new tax legislation provides that in the case of taxable years beginning after December 31, 2017, a taxpayer may treat no more that $750,000 as home acquisition indebtedness. In the case of acquisition indebtedness prior to December 15, 2017, this limitation is $1 million.
Under the new law, interest on a home equity loan used to build an addition to an existing home is deductible. Interest on the same loan when the proceeds are used to pay personal living expenses, such as credit card debt, is not deductible. The equity loan must be secured by the taxpayer's main home or second home.
The Estate and Gift Tax
The Tax Cuts and Jobs Act doubled the estate and gift tax exemption for the estates of decedents who passed away after December 31, 2017.
The exemption was doubled for gifts made after the same date. The basic exclusion amount provided in Section 2010(c)(3) went from $5 million to $10 million.
Change to the Deduction for State and Local Taxes (SALT)
The Tax Cuts and Jobs Act placed a $10,000 limit on the amount of state and local taxes that a taxpayer can use as an itemized deduction on the tax return.
This deduction includes state and local property taxes paid in the calendar year, as well as state and local income taxes OR state sales taxes.
Changes to the Deduction for Casualty Losses
The new law modified prior tax years' deductions for personal casualty and theft losses. For tax years 2018 through 2025, the TCJA suspended the itemized deduction for personal casualty and theft losses, but there is ONE exception to the suspension. The new legislation did retain a deduction for QUALIFIED disaster-related personal casualty losses. To be qualified, the personal casualty loss is one that occurs in a presidentially declared disaster area and is a direct result of the disaster.
For example, if a taxpayer's home was destroyed by a hurricane within an area declared by the president as a disaster area, the taxpayer would be able to deduct any resulting casualty loss. But, if a taxpayer's home was destroyed by an accidental fire that was not in a disaster area, the taxpayer could not claim a casualty loss.
For further details, refer to IRS Publication 547.
Changes to the Deduction for Medical Expenses
The new legislation provided that for tax years beginning after December 31, 2016 and ending before January 1, 2019, the threshold for deducting medical expenses (on Schedule A - Itemized Deductions) is 7.5% of Adjusted Gross Income (AGI).
This means that unreimbursed medical expenses must exceed 7.5% of a taxpayer's AGI to qualify for a deduction. If the qualifying medical expenses are greater than 7.5% of AGI, then the taxpayer may claim a deduction for the balance.
For example: If a taxpayer has qualifying medical expenses totaling $12,600, and 7.5% of the AGI on the tax return equals $8,100, the taxpayer has a medical expense deduction of $12,600 - $8,100 = $4,500.
Beginning in 2019, a 10% threshold will apply to all taxpayers.
Repeal of the Deduction for Alimony Payments
The new tax reform act repealed that part of the Code that states alimony and separate maintenance payments are to be included in income. The act also provided that alimony payments are no longer deductible by the spouse making the payments.
In other words, alimony is no longer taxable as income, and no longer an adjustment to income for the payor spouse.
The new law became effective for any divorce (or separation instrument) executed after December 31, 2018.
The tax treatment regarding child support payments did not change.