How the Tax Cuts and Jobs Act Will Impact Tax Planning in 2019 and Beyond

It’s been a little over a year since the Tax Cuts and Jobs Act was signed in late 2017, triggering a sweeping overhaul of the nation’s tax code, and now that we’re in the middle of the first tax filing season under the law, we should really get a better idea of how it will affect individuals and businesses, good or bad.

Accountants I’ve spoken with uniformly called this the most complex and confusing tax law that has been passed since they’ve been practicing. Even these experts — as well as myself and colleagues throughout the industry — had a hard time projecting the effects of the law over the past year. A factor playing a significant role in this was that throughout 2018, many aspects of the law weren’t fully explained until late in the year.

So, with tax season in full swing, it’s a good time to reflect on how some individuals and businesses are navigating the tax environment now — and going forward.

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You still might want to transfer wealth — even if the estate tax no longer affects you

Derided by critics as the “death tax,” the estate tax largely applies to high-net worth individuals and married couples, and taxes money left to heirs beyond the estate tax exemption. Before the TCJA, the personal exemption was about $5.49 million for individuals and $11.2 for married couples. In 2019, it’s $11.4 million per person; for married couples, it’s $22.8 million. In all, there were 1,890 estates (opens in new tab) subject to the tax in 2018, compared to 6,460 before the exemption increased.

This tax only kicks in when the estate owner or owners die. But an important point for people who have estates that are now in non-taxable situations, is that the TCJA sunsets at the end of 2025. It may be extended, of course, and supporters would like to see the increased exemption made permanent or have the estate tax simply eliminated, but as it stands the raised ceiling will expire in 2025. On the other hand — but less likely to occur — a new Congress and White House administration could significantly alter the law, and potentially reverse course, before it’s scheduled to end.

In the meantime, you don’t have to be dead to take advantage of the increased exemption. I work with a couple in their early 60s who recently sold a business and have two children. They now have roughly $50 million in liquid assets and spend about $300,000 per year, so they’re not likely to blow through all that money in their lifetime. Even with the increased exemption, they’re in an estate tax situation and are likely to outlive the law’s sunset. So, what do they do?

While the exemption is still there, they can preserve some of their taxable wealth by transferring it to a trust outside of the tax system, making it inaccessible to them, but preserving a significant amount for their heirs. The decision comes down to understanding how much you realistically expect to spend over the rest of your life and mapping out an integrated strategy with a minimal impact on your lifestyle.

You might not qualify for a hefty new business deduction

One of the elements requiring additional clarification after the TCJA became law was the new 20% deduction for qualified business income (QBI) from pass-through businesses (those that don’t pay corporate income tax), such as sole proprietorships, partnerships, S corporations, LLCs and others. This definition covers the majority of businesses in the U.S.; however, specified service trade or business (SSTB) entities with income above a certain threshold are excluded (opens in new tab) from using the deduction.

A significant driver of the tax planning confusion through the first half of 2018 was the fact that business owners and their advisers had to wait for the IRS to define what an SSTB was. The final language served as a catch-all, and includes most businesses involved in health, law, money management and performing arts, among others, in which “the principal asset of such trade or business is the reputation or skill of one or more of its employees.”

To offset the new deduction for pass-through businesses, as well as the reduced corporate tax rate, which went from a top rate of 35% to a flat rate of 21%, the deduction for entertainment, recreation or amusement was eliminated. The loss of the entertainment/dining deduction is particularly impactful for businesses whose sales process might involve taking a client golfing and then to dinner. The TCJA issued additional guidance (opens in new tab) in October 2018, which specified that only 50% of the cost of employee meals and travel meals can now be deducted.

You may want to stagger your charitable donations

The new law limits donors’ cash contributions to public charities to up to 60% of their adjusted gross income (up from 50% before the TCJA), but there are more subtle effects regarding how people may decide to donate.

With increased standard deductions the TCJA provides — $12,200 for individuals for the 2019 tax year; $24,400 for married couples — fewer people will itemize. Previously, someone might make a $2,000 donation to St. Jude Children’s Hospital and deduct it from their taxable income. But if you plan on taking the beefed-up standard deduction, the donation will now have no impact on your taxes.

For those who give larger amounts, there are ways to itemize and maximize charitable contributions. I assist a couple who gives $30,000 to charity each year and they have no mortgage interest. Their only annual tax-deductible expenses are state and local taxes, which are capped at $10,000, and their charitable donations. Given their annual giving intentions, would this couple be better off if they give away $30,000 this year, itemized their return and deducted $40,000 (factoring in their state and local taxes) or donating $60,000 every other year and taking the standard deduction in off years? It’s the latter. Here’s the math: By itemizing each year, they would have $80,000 in deductions over two years; by alternating, they would have $94,000 ($24,400 standard deduction in year one plus $70,000 itemized in year two).

As a result, we may see more people using donor-advised funds, front-loading a donation and directing it to be parceled out in installments. Using our example, this client could donate $60,000 in one year, but ask that $30,000 be distributed each year over the next two.

You might not know …

• The IRS increased the annual contribution limits for 401(k) and similar work retirement plans, as well as IRAs, by $500 each. You can now add up to $19,000 into a 401(k) and $6,000 to IRAs. They’re moderate increases, but it’s always wise to maximize your savings. Catch-up contributions, which allow those age 50 and older to make additional contributions beyond the annual limits, remained unchanged at $6,000 for workplace plans and $1,000 for IRAs.
• The Affordable Care Act’s shared responsibility payment (opens in new tab), more commonly known as the individual mandate, actually still exists, despite being eliminated by the new tax law. The fine for not buying health insurance, even if you could have afforded it, applies to your 2018 tax return. It’s only after this tax season that the mandate is officially eliminated. The fine is set at $695 per adult and $347.50 per child under 18 for most households. The penalty is collected when you file your 2018 tax return, and the government offers a tool (opens in new tab) to see if you qualify for an exemption. Either way, this is the last tax year you’ll need to worry about the mandate.

You should stay informed

With the TCJA passing just before the start of last year’s tax season, it was hard to accurately gauge its impact and have a broader view of what the might future hold. Looking at the big picture, many people will see their taxes decrease, as will many business owners, but you need to understand how the tax code changes impact your particular situation to take advantage of the new opportunities. That makes it a good time to meet with your financial planning team to ensure you’re making the most of the benefits — and avoiding any traps.