The 2018 Tax Reform Bill: What You Need to Know
One of the most widely discussed changes in the 2018 tax reform bill involves income tax brackets and marginal tax rates. Tax brackets refer to specific ranges of income and their corresponding tax rates. Marginal tax rates apply to different levels of income—the higher the income, the higher the tax rate. What this means to you is that your income is not taxed at one rate but at several different rates, depending on your income.
For example, if your income is $120,000, your tax rate isn’t a flat 50%. You’re actually taxed 10% on the first $20,000, 20% on the next $20,000 and so on, according to the chart. So instead of paying $60,000 in taxes ($120,000 x 50%), a person making $120,000 would pay $38,000 in income taxes.
For 2018, the tax brackets have shifted, and almost all of the marginal tax rates have been cut. That means nearly everyone will have lower income tax rates (on the same income) in 2018.
2017 Marginal Income Tax Rates and Brackets2017 Marginal Tax RatesSingle 2017 Tax BracketMarried Filing Jointly 2017 Tax BracketHead of Household 2017 Tax BracketMarried Filing Separately 2017 Tax Bracket10%$0 - $9,325$0 - $18,650$0 - $13,350$0 - $9,325
15%$9,326 - $37,950$18,651 - $75,900$13,351 - $50,800$9,326 - $37,950
25%$37,951 - $91,900$75,901 - $153,100$50,801 - $131,200$37,951 - $76,550
28%$91,901 - $191,650$153,101 - $233,350$131,201 - $212,500$76,551 - $116,675
33%$191,651 - $416,700$233,351 - $416,700$212,501 - $416,700$116,676 - $208,350
35%$416,701 - $418,400$416,701 - $470,700$416,701 - $444,550$208,351 - $235,350
39.6%Over $418,400Over $470,700Over $444,550Over $235,350Chart: 2017 Marginal Income Tax Rates and Brackets(2)
A single individual with a taxable income of $100,000 in 2017 paid $20,981.35 in taxes: (8,100 x 0.28) + (53,949 x 0.25) + (28,624 x 0.15) + (9,325 x 0.10).
2018 Marginal Income Tax Rates and Brackets2018 Marginal Tax RatesSingle 2018 Tax BracketMarried Filing Jointly 2018 Tax BracketHead of Household 2018 Tax BracketMarried Filing Separately 2018 Tax Bracket10%$0 - $9,525$0 - $19,050$0 - $13,600$0 - $9,525
12%$9,525 - $38,700$19,050 - $77,400$13,600 - $51,800$9,525 - $38,700
22%$38,700 - $82,500$77,400 - $165,000$51,800 - $82,500$38,700 - $82,500
24%$82,500 - $157,500$165,000 - $315,000$82,500 - $157,500$82,500 - $157,500
32%$157,500 - $200,000$315,000 - $400,000$157,500 - $200,000$157,500 - $200,000
35%$200,000 - $500,000$400,000 - $600,000$200,000 - $500,000$200,000 - $300,000
37%Over $500,000Over $600,000Over $500,000Over $300,000Chart: 2018 Marginal Income Tax Rates and Brackets(3)
Now compare that to the 2018 marginal tax rates. A single individual with a taxable income of $100,000 in 2018 will pay $18,289.50 in taxes: (17,500 x 0.24) + (43,800 x 0.22) + (29,175 x 0.12) + (9,525 x 0.10).
Not only will taxpayers see lower rates, but the shift in tax brackets will also remove what used to be an unintended tax penalty for married filers. Under the 2017 tax thresholds, some married filers were pushed into a higher income bracket when they combined their income with their spouse’s. The new brackets double for joint filers, so any marriage penalty is effectively removed for 2018.
Difference in the Standard Deduction
Another important difference in the 2018 tax reform bill is that the standard deduction has almost doubled.
The standard deduction is an automatic reduction in a taxpayer’s tax obligation. U.S. taxpayers have long had the option of taking the federal standard deduction or itemizing their deductions—identifying which expenses they qualify for and calculating their deductions one by one. Itemizing is more of a hassle, but it’s worth it if your itemized deductions exceed the amount of the standard deduction.
Changes to the Standard DeductionFiling Status2017 Standard Deduction2018
Married Filing Jointly$12,700$24,000
Married Filing Separately$6,350$12,000
Head of Household$9,350$18,000
Chart: Changes to the Standard Deduction(4)
At first glance, the increase in the standard deduction makes itemizing look even less worthwhile. But, the 2018 tax reform bill also eliminates the personal exemption—the amount a taxpayer gets to deduct from their taxable income for themselves and any dependents claimed on their tax return. Here’s how those two changes play out:
In 2017, the personal exemption was $4,050 per person and dependent.(5) So, in 2017, a married couple filing jointly with no dependents who made $100,000 received a $13,000 standard deduction and $8,100 in personal exemptions, leaving them with a taxable income of $78,900. In 2018, that same couple will receive a $24,000 standard deduction and no personal exemptions, leaving them with a taxable income of $76,000.
Essentially, the tax reform bill simplified this portion of the income tax process. In many cases, the increase in the standard deduction will make up for the elimination of personal exemptions, leaving most Americans with quite a bit more money in their pockets.
Changes to the Personal Exemption
Filing Status 2017
Personal Exemption 2018
Personal Exemption Single With Income Less Than $261,500
Married Filing Jointly
With Income Less Than $313,800$4,050Removed
Head of Household
With Income Less Than $287,650$4,050Removed
Married Filing Separately
With Income Less Than $156,900
Chart: Changes to the Personal Exemption(6)
Difference in Child Tax Credit In our current tax code, if parents make less than $110,000 jointly and $75,000 individually, they receive a $1,000 Child Tax Credit for qualified children under the age of 17.(7) The 2018 tax reform bill increases that credit to $2,000 per qualified child and raises the income limits for the credit to $400,000 jointly and $200,000 individually.(8) This means a lot more people will be able to receive tax credits for their children. Woo-hoo! The kids are finally paying off!
Changes in Child Tax Credit Thresholds
2017 Child Tax Credit Threshold 2018 Child Tax Credit Threshold Single$75,000$200,000
Married Filing Jointly $110,000 $400,000Chart: Changes in Child Tax Credit Thresholds
More Changes for Taxpayers With Kids If you have children, you may have a 529 college savings plan in place. This savings plan acts similarly to a Roth IRA for your kids’ college education. Funds within the account are invested and grow tax-free, but they can only be used for qualifying college expenses. The new tax reform bill changes this significantly.
Starting in 2018, if you have a 529 savings plan for your child, you can use it for levels of education other than college. For example, if you have children in private school, or if you pay for tutoring for your child in kindergarten through twelfth grade, you can use money from your 529 for these expenses tax-free.
While it may seem like a benefit to use a 529 plan prior to college, you should work with a qualified investing professional to make sure—especially if you want to use the 529 plan sooner than you had originally intended. Taking too much out of a 529 plan early can completely negate the compounding growth effect the account could experience if the money is left alone.
As you consider college funding, don’t forget the Baby Steps! Paying off consumer debts, saving three to six months of expenses in an emergency fund, and contributing 15% of your income into retirement all come before college savings. There are a lot of ways to plan for college without going into debt!
Differences for HomeownersMortgage deductions in the new tax reform bill were a hotly debated topic. You may have heard whispers of disappointment in the final outcome. Here’s what everyone’s talking about:
Currently, if you itemize your deductions, the IRS allows homeowners to deduct the interest they pay on their primary residence and/or second home, up to a maximum of $1 million in original mortgage principal. This can include more than one loan—as long as the total is below the $1 million limit—and can include loans to refinance your home as well as mortgages to purchase the home. The new maximum in the tax reform bill is $750,000 in original mortgage principal. Not to worry, taxpayers with existing mortgages in between $1 million and $750,000 will be grandfathered into the old deduction.(9)
Taxpayers are also currently allowed to deduct interest paid on home equity debt, up to $100,000. The Tax Cuts and Jobs Act has removed that deduction for 2018.(10)
If you’re thinking of buying or selling a home and wondering how the tax reform bill could affect you, get expert advice from a top agent in your area.
Mike McVay, Pensacola Tax Accountant - 850-725-5696
Difference in the Alternative Minimum Tax The Alternative Minimum Tax (AMT) was put into place to ensure that top-income earners paid appropriate taxes. Basically, upper income taxpayers have to calculate their taxes two ways—once under the traditional tax system and once under the AMT—and pay whichever amount is more. Much of the AMT is fairly complicated, however, the AMT tax brackets are not. While the standard tax system has seven brackets, the AMT system has only two—26% and 28%. Below a certain income amount, the 26% rate is applied, and over that amount, the 28% rate is applied to the rest.
Once taxpayers have calculated what they owe in the AMT process, they can deduct an exemption from that amount. The problem is that these exemptions weren’t properly set up to account for inflation. So as time passed, more and more Americans were affected by the AMT—even those who it was never intended for, like the middle class. To address this issue, the Tax Cuts and Jobs Act makes the minimums for the AMT system much higher to avoid the average Joe from having to run their numbers twice. Here’s how the AMT exemptions are changing for 2018.
Changes to the Alternative Minimum Tax Exemption Filing Status
2017 AMT Exemption 2018 AMT Exemption Single or Head of Household$54,300$70,300
Married Filing Jointly$84,500$109,400Chart: Changes to the Alternative Minimum Tax Exemption
2017 AMT Exemption(10), 2018 AMT Exemption(11)
In addition, the income thresholds at which the exemption amounts begin to phase out are dramatically increased. Currently, these are set at $160,900 for joint filers and $120,700 for individuals, but the new law raises them to $1 million and $500,000, respectively.
So, what does this mean in plain English? The new tax reform bill significantly increases the exemptions for AMT. Therefore, if you’re one of the many Americans who has to use the AMT for your yearly taxes, you will be seeing increased standard exemptions and higher tax thresholds for the 26% and 28% tax rates. Win-win!
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Difference in the SALT DeductionThe SALT deduction is another deduction that was heavily deliberated before the tax reform bill was voted in. SALT stands for "state and local taxes" and refers to taxpayers’ ability to deduct their state income taxes and/or sales taxes, if itemizing deductions. In previous years, there was no limitation on the deduction of state and local taxes, which was an advantage to those living in high tax states like California and New York. The new tax reform bill keeps the SALT deduction but limits the total deductible amount to $10,000, including income, sales and property taxes.(12)
The Estate Tax Exemption The estate tax is a tax on inherited money and property. Currently, heirs pay a tax rate of 40% on any inherited property valued at over $5.49 million.(13)
In the new tax reform bill, individuals have a $11.2 million lifetime inheritance tax exemption and married couples can exclude inheritances of $22.4 million.(14) As you can probably imagine, this won’t leave too many families paying the estate tax.
What About Charitable Donations?Under current tax law, you can deduct up to half of your income in qualified charitable donations if you itemize your deductions. That makes it a popular deduction for people at all income levels
The new tax reform bill has increased that limit to 60% of your income.(15) What a great incentive to get taxpayers to donate to charities!
However, donations made to a college in exchange for the right to purchase athletic tickets will no longer be deductible.
What About Medical Expenses?Another frequently used deduction is the medical expense deduction. Prior to the new tax reform bill, you could deduct unreimbursed medical expenses above 10% of your adjusted gross income (AGI), which is your total income minus other deductions you have already taken.(16)
The new tax reform bill has reduced that hurdle to 7.5% of your AGI.(17) So, if your AGI was $100,000 in 2017, you could deduct medical expenses over $10,000. In 2018, if your AGI is $100,000, you will be able to deduct unreimbursed medical expenses over $7,500.
What About Health Care (Obamacare)?The Affordable Care Act, otherwise known as Obamacare, remains in effect for 2017. However, the new tax reform bill removes the individual mandate penalty, meaning that people who don’t buy health insurance will no longer have to pay a tax penalty.
It’s worth noting that this change doesn’t go into effect until 2019, so for 2018, the "Obamacare penalty" can still be assessed.
Other Deductions That Are Disappearing Other deductions that didn’t make it past the chopping block in the new tax reform bill:
- Casualty and theft losses (except those attributable to a federally declared disaster)
- Unreimbursed employee expenses
- Tax preparation expenses
- Alimony payments
- Moving expenses
- Employer-subsidized parking and transportation reimbursement
Have a small business?
Check with a tax pro for help with the specifics on what’s best for your business.
But What Does It All Mean?
The one thing that’s clear through all of this is that taxes are complicated. Even the IRS is scrambling to keep up with all the changes in the new tax reform bill.
Add to that the fact that millions of Americans overpay their taxes each year, and it’s easy to see why you need a tax professional now more than ever.(18) A pro handles the heavy lifting of tax preparation and makes sure your taxes are done right. No more overpaying!
Just one missed deduction could cost you far more than the fee of a professional.
But what about tax software or online tax prep? Prior to the new tax reform bill, it might have been safe to rely on those options to file your yearly taxes. But with all the changes coming, there’s no guarantee these programs have caught up. If any year is the year to work with a tax advisor, it would be 2018.
Mike McVay, Tax Accountant in Pensacola - 850-725-5696 - www.PensacolaFLTax.com