Tax Reform Strategies for Individuals

Thanks to the major tax legislation bill that lawmakers enacted last year, big changes are going into effect in 2018. This article is devoted to strategies to consider with the new tax rules in place.

The new tax law eliminates some itemized deductions and effectively limits many others. This is because the standard deduction, the alternative to the itemized deduction, doubles from $6,000 to $12,000 for single filers and from $12,000 to $24,000 for married filers.

With less available itemized deductions and the standard deduction being higher, we expect fewer taxpayers to itemize deductions. Before the new tax law, roughly a third of all tax payers itemized.

One strategy to continue taking advantage of itemized deductions is to “double up” on itemized deductions in every other tax year. In the “on” years, you spend as much as possible on deductible   expenses to surpass the $12,000/$24,000 threshold. In the “off” years, you take the standard deduction.  If you can time the “on” years when you recognize higher income, even better.

In Texas, property taxes are a good vehicle for this strategy. The new tax bill limits your state and local tax deduction to $10,000/year. But since most appraisal districts have a due date of January 31st, you can choose whether to pay your bill in December of one tax year or January of another. This is helpful if your property taxes are less than $10,000.

Another itemized deduction that can be “doubled up” is medical spending. If you have medical expenses you have been putting off that are deductible, like surgeries other than elective cosmetic surgery, your “on” year is a smart year tax-wise to incur those expenses. And in 2018, you can deduct qualified medical expenses that exceed 7.5% of your adjusted gross income (AGI). Starting in 2019, the 7.5% AGI floor increases to 10%.

Charitable contributions are another area with lots of planning opportunities.

Many people make annual contributions to their church or charities of choice. An alternative strategy is to double up those contributions every other year, or make a lump sum gift that would cover several future years. Please note, if you are contributing to a smaller charity, let them know about your plans to adjust your giving cadence to help with their future budgeting.

By utilizing a donor-advised fund, the donor can make gifts for current or future years while still retaining a level of control over when those funds are disbursed to charities. You donate appreciated securities to the fund and claim your tax deduction as the current market value of the stock. This way you don’t have to pay capital gains tax on the appreciation. You then make grants from the fund to various charities at your own discretion, which can help with timing of gifts.

If you are over 70.5, take required minimum distributions from an IRA, and would like to make charitable contributions, but don’t have enough other deductions to itemize, one tax strategy to consider is a Qualified Charitable Distribution (QCD).

With a QCD, donors can make gifts from traditional IRA assets directly to public charities and exclude them from their income, up to a maximum of $100,000 per year. The distribution isn’t included in the “IRA Distributions” section on your 1040. This reduces your income, which can help when you’re trying to keep income low to avoid income-based penalties such as the IRMAA on Medicare premiums.

One idea for small business owners is if you find yourself losing itemized deductions, see if they can legitimately be done within your businesses.

Lastly, on itemized deductions, we will note that upper-income individuals who itemize can finally say goodbye to a sneaky tax hike. The income-based phase out of itemized deductions is scrapped under the new law.

The last strategy we’ll cover is called a Roth conversion, which allows for a penalty-free taxable transfer of funds from a tax-deferred retirement plan into a tax-free Roth IRA. Roth conversion strategies can be particularly impactful in cases where a significant amount of wealth is held in tax-deferred vehicles, taxes are expected to increase in the future, and/or account owners wish to maximize inheritance for their heirs. Ideally, Roth conversions will be done in the low tax years. Typically, this is after retirement and before social security kicks in since funds converted to a Roth IRA are subject to income taxes during conversion. Coordinating this strategy with “on” years for deductions could save even more on taxes.

The new tax law is hundreds of pages, and we only just touched the surface on how this tax law affects individuals here.

Please let us know if you’d like more help with a donor advised fund, qualified charitable distribution, Roth conversion, or general financial planning. We can help with strategy, paperwork, and facilitate transfers on your behalf.