If you’re like most taxpayers, chances are you haven’t read The Tax Cuts and Jobs Act, which is understandable as the tax reform legislation is over 500 pages long and can be confusing and hard to understand for the average taxpayer. The good news is we’ve read through the new tax law and we can help you understand some of the major changes that will affect you and your business! Here is part two of our series of going through the different tax law changes and letting you know what the changes are and how they will affect you! You can also catch part one of the tax law changes here!
Corporate Tax Rate
Before The Tax Cuts and Jobs act, federal income tax rates for corporations were graduated, starting at 15% for taxable income up to $50,000 and climbing from there. The new tax law permanently reduced the corporate tax rate to a flat 21%.
Partnership & Pass-Through Entities
Unlike large corporations that are taxed at a flat rate, most small businesses are “pass-through” entities, meaning that the profits from the business flow through to the business owner’s personal tax return and then are taxed at ordinary income tax rates. A provision on The Tax Cuts and Jobs Act will benefit those businesses with pass-through income. Businesses with pass-through income that qualify to take advantage of this the 20% deduction include partnerships, S Corporations, and Sole Proprietorships. The provision, the Qualified Business Income (QBI) deduction allows individuals a deduction of up to 20% against income from pass-through businesses. QBI is generally ordinary income earned by a business within the U.S. QBI does not include investment items such as interest, dividends, or capital gains. QBI also doesn’t include wages earned as an employee or retirement income.
To qualify for the Qualified Business Income deduction, the taxpayer’s income must be below the threshold amount. For Married Filing Joint taxpayers that amount is $315,000 and is $157,500 for all other filers. If your income qualifies, the deduction is the lesser of either: 20% of the QBI from passthroughs or 20% of taxable income less net capital gains. Taxable income is calculated after above-the-line deductions and either the standard or itemized deduction. The deduction is effective 2018-2025.
Alternative minimum tax
The alternative minimum tax (AMT) is a different way to calculate federal income tax. It was implemented to ensure that high-income households paid their fair share of taxes. Your AMT is calculated by starting with your adjusted gross income and adding back a bunch of deductions that aren’t allowed for AMT purposes. These include deductions for state and local income taxes, personal property taxes and deductions for a net operating loss. There are only two tax brackets for AMT: 26% and 28%.
The Tax Cuts and Jobs Act permanently eliminated the Corporate Alternative Minimum tax but kept the individual AMT but increased the exemption amounts and raised the phaseout thresholds for those exemptions. For instance, the AMT Exemption amount for Single or Head of Households was increased from $54,300 to $70,300, while Married Filing Jointly was raised from $84,500 to $109,400. The AMT threshold amounts have also significantly increased with the tax reform. For instance, the single or head of household threshold was increased from $120,700 to $500,000, while the Married Filing Jointly increased from $160,900 to $1 million.
Estate, Gift, and Generation-Skipping taxes
The new tax law also affected your exemption for estate, gift and generation-skipping taxes. For 2018, the federal estate and gift tax limit is $11.18 million, per person. Meaning couples could give just a little over $22 million. The new exemption is good for tax years 2018-2025. The exemption is also scheduled to increase with inflation through 2025. The tax bill did not make any changes to the rules that step-up basis at death.
529 College Savings Plan
A 529 plan is a tax-advantaged savings plan designed to encourage saving for future education costs. The savings account was set up as a tax-advantaged investment account which allow families to invest and save for their children’s higher education expenses. 529 plans, legally known as “qualified tuition plans,” are sponsored by states, state agencies, or educational institutions and are authorized by Section 529 of the Internal Revenue Code.
Under the old federal tax rules, 529 plans could only be used for eligible colleges and universities. Under the new tax law, federal rules allow 529 plans to cover qualifying expenses for private, public, and religious kindergarten through 12th grade. This means money can be used tax-free on qualifying expenses for K-12 private and religious schools, allowing taxpayers that would like their children to attend private high schools to start saving up for those expenses.
If you’re thinking of investing in the 529 plans, here are some new rules that accompany the plans. If you’re using the 529s to cover expenses for private, public and religious K-12, know that there is now a $10,000 per year per child limit on withdrawals. Overdraw the limit and you can face a 10% penalty on top of the taxes.
The American Opportunity Credit
One of the most lucrative tuition tax breaks is also one of the most difficult to apply for. The American Opportunity Credit is for people who are paying their tuition for an undergraduate degree or certificate. To use the credit, the person must be within their first four years of postsecondary education. If you take a fifth or sixth year to finish your degree, you cannot use the tax credit past the fourth year. You must be enrolled in a degree or certificate program and taking classes on at least a half-time basis. To qualify you also must have no felony drug convictions. Your AGI must also be $80,000 or less if you are a single filer. The credit is worth up to $2,500, and you can even get part of the credit refunded to you if you have no tax liability.
The Lifetime Learning Credit
Another credit to help those furthering their education is the lifetime learning credit. This credit comes with tougher income restrictions and does not give as big of a tax relief as the American Opportunity Credit, but it is available to more people. Unlike the American credit, you can use the Lifetime Learning Credit during any stage of postsecondary education, not just the first four years. There is no attendance or degree requirement either. The AGI limits for the full credit is $55,000 for single taxpayers and is $110,000 for married couples. The credit is worth 20% of qualifying expenses up to $10,000. The maximum credit is $2,000 per year and the limit is per return, not per student.
Tuition & Fees Deduction
The other tuition tax break is known as the Tuition and Fees deduction. This deduction is mainly used by people whose income is too high to qualify for the Lifetime Learning Credit. The income thresholds for the full credit is $65,000 for single filers and $130,000 for married filers. If you qualify the tuition and fees deduction allows you to exclude up to $4,000.
If you’re still confused about the tax law changes or aren’t sure how to adapt your finances or business to the new law, Polston Tax can help. Our team of IRS tax attorneys and tax accountants know all the changes with the new tax law and can help you understand what is best for your financial situation. Call us today at 844-841-9857 or click below to schedule a free consultation! You can read part one of the tax law changes here!