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How new tax law impacts you

Posted: February 16th, 2018 | Columns, Featured, Mission Valley Money | No Comments

By Steve Doster | Mission Valley Money

The new tax law was a major change to our current system. It’s extremely complex and not all the details are hammered out yet. We do know three things about the new tax law:

Benefits go largely to corporations and high-income taxpayers.

Individual cuts are temporary (expiring after 2025).

Some parts of the new tax law can impact you!

The first set of changes that apply to everyone are lower tax brackets, higher standard deductions, and elimination of personal exemptions. The standard deduction is now $12,000 for singles and $24,000 for marrieds. If your total deductions are lower than these amounts, then you will not be itemizing deductions on your 2018 tax return. Without getting into all the details, the net result is that you will only see a material tax reduction if you’re single earning over $75,000 or married earning over $150,000.

Homeowners are significantly impacted by the new tax law. There are two areas to look at for homeowners: mortgage interest and taxes. Mortgage interest on new mortgages up to $750,000 is deductible. A new $1 million mortgage means that interest on $250,000 of loan is not deductible. The good news for current homeowners is existing mortgages are grandfathered, so interest is fully deductible on principal of up to $1 million.

Home equity interest is only deductible if the home equity loan was used to improve or purchase your home (subject to the combined maximum of $750,000). Interest is not deductible if the home equity proceeds were used to buy a car, pay off credit cards, or cover college costs.

State taxes and real estate taxes are deductible up to a maximum of $10,000. This is where many California residents will feel the pain. We live in a high-income tax state and real estate taxes are based on very high home values. Let’s say you pay $8,000 in state tax and $5,000 in real estate taxes. In 2017, you’ll get a $13,000 deduction. In 2018, this deduction will be limited to $10,000.

A crucial point on this $10,000 limit for state and real estate taxes: It’s the same whether you are single or married. You do not get a $20,000 limit if you are married. The assumption is that a married couple will be living in the same house (good assumption!), so a double deduction isn’t necessary. However, the standard deduction is $24,000 for marrieds. This makes it more difficult for a married couple to have deductions above this amount. The result is fewer married homeowners will be itemizing in 2018 and beyond.

There are many more changes that cannot be covered in a short article. Instead of going through additional changes, it’s more beneficial to write about a few strategies to consider in 2018.

Bunch strategy

The “bunch strategy” is for people just under the standard deduction. Let’s say there is a married couple with $22,000 of deductions from state taxes, real estate taxes, mortgage interest, and charitable contributions. The standard deduction for marrieds is $24,000. In this scenario, they will take the standard deduction and not itemize deductions on their tax return.

Instead, they can “bunch” deductions into 2018 by pre-paying as many deductions as possible to achieve $27,000 of itemized deductions (just making up numbers here). The following year in 2019, they only have $18,000 of deductions because they prepaid taxes and charitable contributions in 2018. However, the standard deduction is $24,000 so they still get this higher deduction amount in 2019. Their total deductions for 2018 and 2019 are higher ($27,000 + $24,000 = $51,000) than if they just took the standard deduction for both years ($24,000 + $24,000 = $48,000).

Donor advised fund

Another strategy is contributing to a donor advised fund (DAF). You don’t need to be rich to have a DAF. If you are writing checks to charity, then you should have a DAF. The concept is that you donate appreciated shares of stock or mutual funds to your DAF. (Employer stock is great for this purpose! However, it can be any appreciated stock or fund held in a non-retirement account.)

By donating stock or mutual funds to a DAF, you avoid the capital gains tax on the investment, and get the full market value as a deduction! The DAF contributions can be paid to charities over as many years as you wish. You get the full deduction in the year the DAF contributions are made.

This short article is only the tip of the iceberg with the changes brought by this tax law. There are many other changes including business tax code, 529 plans, miscellaneous itemized deductions, and much more. If you don’t already work with a CPA, 2018 is probably the year you want to change that decision. It’s important to know that there are strategies to lower your tax liability.

— Steve Doster, CFP is the financial planning manager at Rowling & Associates – a fee-only wealth management firm in Mission Valley helping individuals create a worry-free financial life. They help people with taxes, investments, and retirement planning. Read more articles at rowling.com/blog.

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