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| The new bill was signed on December 22 by president Trump. |
Last December, Republicans claimed a long-awaited victory by signing the new tax reform, which promised a complete overhaul of the American tax code. Passing by a slight majority in the Senate, the GOP bill entered in force in January 2018 making some critical changes in the way businesses and citizens will pay their taxes in the years to come.
The framework proposes a number of specific changes including: consolidating and reducing individual income tax rates; almost doubling the standard deduction; cutting the business tax rate to 21 percent on both corporations and pass-through businesses; creating a special deduction to certain pass-through businesses, modified the Alternative Minimum Tax (AMT) and estate tax; repealing the 3.8 percent investment surtax from the Affordable Care Act; moving to a territorial tax system; imposing a one-time tax on money held overseas and new rules which were established to calculate deductions and measure inflation used for tax indexing. Here’s how the tax landscape will look like with the new reform:
Corporate taxes reduced
The new tax bill reduces the corporate tax rate from 35 to 21 percent. The reform is expected to help businesses more than individuals, since it drastically cuts taxes for business owners and repeals the corporate alternative minimum tax. With this change, the government hopes to encourage companies to stop shifting their taxable base to low or no-tax jurisdictions through their expatriation of businesses.
The Act will also increase the cap for immediate expense deductions taken for purchases of depreciable business equipment. It’ll be doubled to $1 million. The law also creates a 20% deduction for certain pass-through business income. Specific industries, such as health, most professional services such as law, accounting, consulting financial and brokerage services, are excluded from the preferential rate unless the taxable income is below $157,000 for single filers. When it comes to the net interest deduction, it’ll have a new limit of 30 percent of earnings before interest, taxes, depreciation, and amortization.
Income taxes
Republicans proposed to lower the seven brackets structure down to four or three brackets. However the final brackets are shown in the following table:
New income tax rate
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Income level for taxpayers filing as single
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Income level for taxpayers filing as married-joint
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10%
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$0-$9,525
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$0-$19,050
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12%
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$9,525-$38,700
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$19,050-$77,400
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22%
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$38,700-$82,500
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$77,400-$165,000
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24%
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$82,500-$157,500
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$165,000-$315,000
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32%
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$157,500-$200,000
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$315,000-$400,000
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35%
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$200,000-$500,000
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$400,000-$600,000
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37%
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$500,000+
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$600,000+
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Source: The Balance
The most significant changes in income tax rates along with the reduced number of brackets is that income thresholds between brackets was increased. However, all these changes are to expire by the end of 2025 to keep the cost of the bill within Senate budget rules.
The new income tax policies also eliminate personal exemptions. Taxpayers will no longer be able to subtract $4,150 from income for each family member or person they claimed and those Taxpayers with numerous dependents may see an impact in their tax calculations.
Increased standard deductions
One of the goals of the new tax reform was to increase the standard deduction. It went from $6,350 for individuals and $12,700 for families in 2017 to $12,000 and $24,000, respectively for years 2018 through 2025. The mortgage interest deduction was, at the same time, reduced to interest on mortgages up to $750,000 from $1 million. Mortgage interest deduction used to be a strong incentive for homebuyers, but that could no longer be the case if they stop itemizing and choose standard deductions instead.
Economists are predicting this might cause a drop-in home prices that might not be as negative as some might think. Over the last few years, home prices have been on the rise, discouraging first-time homebuyers and millennials to enter the American housing market
State and local tax deductions
One of the most controversial elements of the new tax reform was the Republican attempt to eliminate State and Local Tax (SALT) deduction. The final bill doesn’t delete them, but critical changes were made, including the mortgage interest deduction that was discussed just before. The Tax Cuts and Jobs Act will now limit the SALT deduction to $10,000, and it will not be indexed for inflation. This is expected to boost taxes by about $36 billion next year, an amount that will rise to more than $90 billion by 2024. Taxpayers will now have to choose between property taxes and income or sale taxes.
Taxpayers residing in high-tax states, such as New York and California, will feel the most negative impact of the reform, especially for high-income households; however, they might still do well because there will be reductions on corporate and individual income taxes. Nevertheless, there will be a slight minority of taxpayers, which classifies on the seventh bracket, who will have to pay an average of $30,000 more due to the SALT limit than if they were fully deductible.
On the other hand, the new reform leaves other deductions, such as charitable contributions and student loans, mostly intact. It does suspend some different itemized deductions, including moving expenses, home office expenses, laboratory breakage fees; licensing and regulatory costs, union dues, professional society dues, work clothes that are not suitable for everyday use, unreimbursed professional expenses, tax preparation fees, theft and casualty losses except for those occurred in federally disaster declared areas.
Child and elder care
The Act also increases Child Tax Credit from $1,000 to $2,000. Parents who don’t earn enough to pay taxes can still claim a refund amount of $1,400 from that credit. The child credit begins to phase out when adjusted gross income exceeds $400,000 (for married couples filing jointly, not indexed to inflation). It also allows a $500 tax credit for each non-child dependent, this helps families caring for elderly parents. These changes will also expire in 2025.
Medical expenses
The past tax law accepted medical expenses as deductibles in the final payment. This applied if you itemized your medical fees, listing them all together along with other health related expenses as deductibles from your income.
With the new tax law, taxpayers find the health deductible expenses to be again those in excess of 7.5% of the adjusted taxable income. This significant cut off has an impact on people with chronic conditions and emergency medical expenses that are not contemplated by their insurance plan, and it’s worse if they are uninsured. But an interesting thing about the modification is that it removes the Obamacare penalization for the lack of mandatory minimums insurance coverage, that previously increased tax burden for taxpayers.
In conclusion
Roughly speaking, nearly everyone’s taxes will be reduced thanks to the new bill at least between 2018 and 2025; however, it will benefit businesses more than it does the middle class. For example, because of the brackets and income rates adjustments, some middle-class taxpayers at lower level tax rates will experience an increase in marginal rate relative to prior law.
Tax cuts always decrease government revenue. The new plan is expected to have a high cost over the next decade, the primary goal of the reform is to provoke economic growth that will compensate for the tax cuts. The Congressional Budget Office estimated the Act would add $1.455 trillion to the national debt over ten years, or about $1.0 trillion after macroeconomic feedback effects. The Tax reform certainly provides more stable and greater benefits to business to promote private investment and economic growth.
To learn more about the reform and how it’ll affect your new tax payments, call Guillen Serrano & Associates and get top-notch consultancy to make the best financial decisions for you and your business. The effects of the new tax bill are still being studied and analyzed, but it’s essential to understand the main aspects and changes to get the best out of the current circumstances. Stay updated with more content on this and many more aspects of the economy that may affect your pocket directly.
Sources: IRS, Journal of Accountancy, The Washington Post, The Balance, Forbes, The Atlantic, Investopedia, Business Insider.
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| Learn what to expect from the new bill. |
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