Assuming a charity is qualified, you may be able to deduct some of the out-of-pocket costs you incur when volunteering for the organization. But the rules are complex.

Because donations to charity of cash or property generally are tax deductible (if you itemize), it only seems logical that the donation of something even more valuable to you — your time — would also be deductible. Unfortunately, that’s not the case.

Donations of time or services aren’t deductible. It doesn’t matter if it’s simple administrative work, such as checking in attendees at a fundraising event, or if it’s work requiring significant experience and expertise that would be much more costly to the charity if it had to pay for it, such as skilled carpentry or legal counsel.   

However, you potentially can deduct out-of-pocket costs associated with your volunteer work.

The basic rules

As with any charitable donation, for you to be able to deduct your volunteer expenses, the first requirement is that the organization be a qualified charity. You can use the IRS’s “Tax Exempt Organization Search” tool (formerly “Select Check”) at http://bit.ly/2KXWl5b to find out.

Assuming the charity is qualified, you may be able to deduct out-of-pocket costs that are:

• Unreimbursed,

• Directly connected with the services you’re providing,

• Incurred only because of your charitable work, and

• Not “personal, living or family” expenses.

Supplies, uniforms and transportation

A wide variety of expenses can qualify for the deduction. For example, supplies you use in the activity may be deductible. And the cost of a uniform you must wear during the activity may also be deductible (if it’s required and not something you’d wear when not volunteering).  

Transportation costs to and from the volunteer activity generally are deductible, either the actual cost or 14 cents per charitable mile driven. But you have to be the volunteer. If, say, you drive your elderly mother to the nature center where she’s volunteering, you can’t deduct the cost.

You also can’t deduct transportation costs you’d be incurring even if you weren’t volunteering. For example, if you take a commuter train downtown to work, then walk to a nearby volunteer event after work and take the train back home afterwards, you won’t be able to deduct your train fares. But if you take a cab from work to the volunteer event, then you potentially can deduct the cab fare for that leg of your transportation.

Volunteer travel

Transportation costs may also be deductible for out-of-town travel associated with volunteering. This can include air, rail and bus transportation; driving expenses; and taxi or other transportation costs between an airport or train station and wherever you’re staying. Lodging and meal costs also might be deductible.

The key to deductibility is that there is no significant element of personal pleasure, recreation or vacation in the travel. That said, according to the IRS, the deduction for travel expenses won’t be denied simply because you enjoy providing services to the charitable organization. But you must be volunteering in a genuine and substantial sense throughout the trip. If only a small portion of your trip involves volunteer work, your travel expenses generally won’t be deductible.

Keep careful records

The IRS may challenge charitable deductions for out-of-pocket costs, so it’s important to keep careful records. If you have questions about what volunteer expenses are and aren’t deductible, please contact us.

Have you noticed in your mailbox any notifications from online vendors from whom you purchased items during 2017 reporting your total purchases from them during the year and wondered why? This is because they did not charge you sales tax on your online purchases. And now the State of Louisiana is requiring these vendors to report to them and to you the purchase amounts so the State can ultimately collect the sales tax (actually termed “use tax” at this point in the transaction).

Have you noticed in your mailbox any notifications from online vendors from whom you purchased items during 2017 reporting your total purchases from them during the year and wondered why? This is because they did not charge you sales tax on your online purchases. And now the State of Louisiana is requiring these vendors to report to them and to you the purchase amounts so the State can ultimately collect the sales tax (actually termed “use tax” at this point in the transaction).

Gov. John Bell Edwards signed House Bill 1121 in the summer of 2016 that established this filing requirement beginning in 2018 for the 2017 tax year. So right now as you are collecting all of your W2s, 1099s, and 1098s, you will need to be aware that you may be receiving a notice from each online retail vendor that did not charge you sales tax on your 2017 purchases. The notice from the online retailer will likely list the specific dates and amounts of your purchases.

The sales tax that you should have paid with the purchase but did not should be reported on your individual Louisiana income tax return each year as “use tax” and paid annually when you file. You may ask why the online vendor did not charge you sales tax at the time of purchase. They don’t actually have to if they have no presence in the state (for instance if they have no facility, no employees, no delivery trucks, etc.).

It is foreseeable that the LA Department of Revenue will match up the information provided to them from the online vendors with what each individual reports as use tax on his/her own income tax return. If there is a significant mismatch in the direction of use tax understatement on your income tax return, LDR could send a notice and/or assessment for the difference.

With online purchases becoming more frequent, and few people aware of the proper reporting of the use tax due on the transaction, Louisiana can only hope this new reporting requirement will encourage taxpayers to properly report and pay what is owed so the State can make up for lost revenue. However, this new requirement may come as an unwelcomed surprise to most Louisiana residents.

Please contact us if this prompts more questions that you would like to discuss.

On December 20, Congress completed passage of the Tax Cuts and Jobs Act. The new law means substantial changes for individual taxpayers. For example, it reduces tax rates for most brackets, nearly doubles the standard deduction and expands the child tax credit. And it provides alternative minimum tax (AMT) and estate tax relief. But it also reduces or eliminates many tax breaks. Most changes affecting individuals are only temporary, generally applying for 2018 through 2025.

On December 20, Congress completed passage of the largest federal tax reform law in more than 30 years. Commonly called the “Tax Cuts and Jobs Act” (TCJA), the new law means substantial changes for individual taxpayers.

The following is a brief overview of some of the most significant provisions. Except where noted, these changes are effective for tax years beginning after December 31, 2017, and before January 1, 2026.

• Drops of individual income tax rates ranging from 0 to 4 percentage points (depending on the bracket) to 10%, 12%, 22%, 24%, 32%, 35% and 37%

• Near doubling of the standard deduction to $24,000 (married couples filing jointly), $18,000 (heads of households), and $12,000 (singles and married couples filing separately)

• Elimination of personal exemptions

•  Doubling of the child tax credit to $2,000 and other modifications intended to help more taxpayers benefit from the credit

• Elimination of the individual mandate under the Affordable Care Act requiring taxpayers not covered by a qualifying health plan to pay a penalty — effective for months beginning after December 31, 2018, and permanent

• Reduction of the adjusted gross income (AGI) threshold for the medical expense deduction to 7.5% for regular and AMT purposes — for 2017 and 2018

• New $10,000 limit on the deduction for state and local taxes (on a combined basis for property and income taxes; $5,000 for separate filers)

• Reduction of the mortgage debt limit for the home mortgage interest deduction to $750,000 ($375,000 for separate filers), with certain exceptions

• Elimination of the deduction for interest on home equity debt

• Elimination of the personal casualty and theft loss deduction (with an exception for federally declared disasters)

• Elimination of miscellaneous itemized deductions subject to the 2% floor (such as certain investment expenses, professional fees and unreimbursed employee business expenses)

• Elimination of the AGI-based reduction of certain itemized deductions

• Elimination of the moving expense deduction (with an exception for members of the military in certain circumstances)

• Expansion of tax-free Section 529 plan distributions to include those used to pay qualifying elementary and secondary school expenses, up to $10,000 per student per tax year — permanent

• AMT exemption increase, to $109,400 for joint filers, $70,300 for singles and heads of households, and $54,700 for separate filers

• Doubling of the gift and estate tax exemptions, to $10 million (expected to be $11.2 million for 2018 with inflation indexing)

Be aware that additional rules and limits apply. Also, there are many more changes in the TCJA that will impact individuals. If you have questions or would like to discuss how you might be affected, please contact us.

We have compiled a checklist of additional actions based on current tax rules that may help you save tax dollars if you act before year-end. Not all actions will apply in your particular situation, but you (or a family member) will likely benefit from many of them. We can narrow down the specific actions that you can take once we meet with you to tailor a particular plan. In the meantime, please review the following list and contact us at your earliest convenience so that we can advise you on which tax-saving moves to make:

• Higher-income earners must be wary of the 3.8% surtax on certain unearned income. The surtax is 3.8% of the lesser of: (1) net investment income (NII), or (2) the excess of modified adjusted gross income (MAGI) over a threshold amount ($250,000 for joint filers or surviving spouses, $125,000 for a married individual filing a separate return, and $200,000 in any other case). As year-end nears, a taxpayer's approach to minimizing or eliminating the 3.8% surtax will depend on his estimated MAGI and NII for the year. Some taxpayers should consider ways to minimize (e.g., through deferral) additional NII for the balance of the year, others should try to see if they can reduce MAGI other than NII, and other individuals will need to consider ways to minimize both NII and other types of MAGI.

• The 0.9% additional Medicare tax also may require higher-income earners to take year-end actions. It applies to individuals for whom the sum of their wages received with respect to employment and their self-employment income is in excess of an unindexed threshold amount ($250,000 for joint filers, $125,000 for married couples filing separately, and $200,000 in any other case). Employers must withhold the additional Medicare tax from wages in excess of $200,000 regardless of filing status or other income. Self-employed persons must take it into account in figuring estimated tax. There could be situations where an employee may need to have more withheld toward the end of the year to cover the tax. For example, if an individual earns $200,000 from one employer during the first half of the year and a like amount from another employer during the balance of the year, he would owe the additional Medicare tax, but there would be no withholding by either employer for the additional Medicare tax since wages from each employer don't exceed $200,000.

• Realize losses on stock while substantially preserving your investment position. There are several ways this can be done. For example, you can sell the original holding, then buy back the same securities at least 31 days later. It may be advisable for us to meet to discuss year-end trades you should consider making.

• Postpone income until 2018 and accelerate deductions into 2017 to lower your 2017 tax bill. This strategy may be especially valuable if Congress succeeds in lowering tax rates next year in exchange for slimmed-down deductions. Regardless of what happens in Congress, this strategy could enable you to claim larger deductions, credits, and other tax breaks for 2017 that are phased out over varying levels of adjusted gross income (AGI). These include child tax credits, higher education tax credits, and deductions for student loan interest. Postponing income also is desirable for those taxpayers who anticipate being in a lower tax bracket next year due to changed financial circumstances. Note, however, that in some cases, it may pay to actually accelerate income into 2017. For example, this may be the case where a person will have a more favorable filing status this year than next (e.g., head of household versus individual filing status).

• If you believe a Roth IRA is better than a traditional IRA, consider converting traditional-IRA money invested in beaten-down stocks (or mutual funds) into a Roth IRA if eligible to do so. Keep in mind, however, that such a conversion will increase your AGI for 2017.

• If you converted assets in a traditional IRA to a Roth IRA earlier in the year and the assets in the Roth IRA account declined in value, you could wind up paying a higher tax than is necessary if you leave things as is. You can back out of the transaction by recharacterizing the conversion-that is, by transferring the converted amount (plus earnings, or minus losses) from the Roth IRA back to a traditional IRA via a trustee-to-trustee transfer. You can later reconvert to a Roth IRA.

• It may be advantageous to try to arrange with your employer to defer, until early 2018, a bonus that may be coming your way. This could cut as well as defer your tax if Congress reduces tax rates beginning in 2018.

• Consider using a credit card to pay deductible expenses before the end of the year. Doing so will increase your 2017 deductions even if you don't pay your credit card bill until after the end of the year.

• If you expect to owe state and local income taxes when you file your return next year, consider asking your employer to increase withholding of state and local taxes (or pay estimated tax payments of state and local taxes) before year-end to pull the deduction of those taxes into 2017 if you won't be subject to alternative minimum tax (AMT) in 2017. Pulling state and local tax deductions into 2017 would be especially beneficial if Congress eliminates such deductions beginning next year.

• Estimate the effect of any year-end planning moves on the AMT for 2017, keeping in mind that many tax breaks allowed for purposes of calculating regular taxes are disallowed for AMT purposes. These include the deduction for state property taxes on your residence, state income taxes, miscellaneous itemized deductions, and personal exemption deductions. If you are subject to the AMT for 2017, or suspect you might be, these types of deductions should not be accelerated.

• You may be able to save taxes by applying a bunching strategy to pull "miscellaneous" itemized deductions, medical expenses and other itemized deductions into this year. This strategy would be especially beneficial if Congress eliminates such deductions beginning in 2018.

• You may want to pay contested taxes to be able to deduct them this year while continuing to contest them next year.

• You may want to settle an insurance or damage claim in order to maximize your casualty loss deduction this year.

• Take required minimum distributions (RMDs) from your IRA or 401(k) plan (or other employer-sponsored retirement plan). RMDs from IRAs must begin by April 1 of the year following the year you reach age 70-½. That start date also applies to company plans, but non-5% company owners who continue working may defer RMDs until April 1 following the year they retire. Failure to take a required withdrawal can result in a penalty of 50% of the amount of the RMD not withdrawn. Although RMDs must begin no later than April 1 following the year in which the IRA owner attains age 70-½, the first distribution calendar year is the year in which the IRA owner attains age 70-½. Thus, if you turn age 70-½ in 2017, you can delay the first required distribution to 2018, but if you do, you will have to take a double distribution in 2018-the amount required for 2017 plus the amount required for 2018. Think twice before delaying 2017 distributions to 2018, as bunching income into 2018 might push you into a higher tax bracket or have a detrimental impact on various income tax deductions that are reduced at higher income levels. However, it could be beneficial to take both distributions in 2018 if you will be in a substantially lower bracket that year.

• Increase the amount you set aside for next year in your employer's health flexible spending account (FSA) if you set aside too little for this year.

• If you become eligible in December of 2017 to make health savings account (HSA) contributions, you can make a full year's worth of deductible HSA contributions for 2017.

• Make gifts sheltered by the annual gift tax exclusion before the end of the year and thereby save gift and estate taxes. The exclusion applies to gifts of up to $14,000 made in 2017 to each of an unlimited number of individuals. You can't carry over unused exclusions from one year to the next. Such transfers may save family income taxes where income-earning property is given to family members in lower income tax brackets who are not subject to the kiddie tax.

• If you were affected by Hurricane Harvey, Irma, or Maria, keep in mind that you may be entitled to special tax relief under recently passed legislation, such as relaxed casualty loss rules and eased access to your retirement funds. In addition qualifying charitable contributions related to relief efforts in the Hurricane Harvey, Irma, or Maria disaster areas aren't subject to the usual charitable deduction limitations.

These are just some of the year-end steps that can be taken to save taxes. Again, by contacting us, we can tailor a particular plan that will work best for you.

Projecting your business income and expenses for this year and next can allow you to time when you recognize income and incur deductible expenses to your tax advantage. Typically, it’s better to defer tax. This might end up being especially true this year, if tax reform legislation is signed into law.

Timing strategies for businesses

Here are two timing strategies that can help businesses defer taxes:

1. Defer income to next year. If your business uses the cash method of accounting, you can defer billing for your products or services. Or, if you use the accrual method, you can delay shipping products or delivering services.

2. Accelerate deductible expenses into the current year. If you’re a cash-basis taxpayer, you may make a state estimated tax payment before December 31, so you can deduct it this year rather than next. Both cash- and accrual-basis taxpayers can charge expenses on a credit card and deduct them in the year charged, regardless of when the credit card bill is paid.

Potential impact of tax reform

These deferral strategies could be particularly powerful if tax legislation is signed into law this year that reflects the nine-page “Unified Framework for Fixing Our Broken Tax Code” that President Trump and congressional Republicans released on September 27.

Among other things, the framework calls for reduced tax rates for corporations and flow-through entities as well as the elimination of many business deductions. If such changes were to go into effect in 2018, there could be a significant incentive for businesses to defer income to 2018 and accelerate deductible expenses into 2017.

But if you think you’ll be in a higher tax bracket next year (such as if your business is having a bad year in 2017 but the outlook is much brighter for 2018 and you don’t expect that tax rates will go down), consider taking the opposite approach instead — accelerating income and deferring deductible expenses. This will increase your tax bill this year but might save you tax over the two-year period.

Be prepared

Because of tax law uncertainty, in 2017 you may want to wait until closer to the end of the year to implement some of your year-end tax planning strategies. But you need to be ready to act quickly if tax legislation is signed into law. So keep an eye on developments in Washington and contact us to discuss the best strategies for you this year based on your particular situation.

© 2017

Did you know that if you’re self-employed you may be able to set up a retirement plan that allows you to contribute much more than you can contribute to an IRA or even an employer-sponsored 401(k)? There’s still time to set up such a plan for 2017, and it generally isn’t hard to do. So whether you’re a “full-time” independent contractor or you’re employed but earn some self-employment income on the side, consider setting up one of the following types of retirement plans this year.  

Profit-sharing plan

This is a defined contribution plan that allows discretionary employer contributions and flexibility in plan design. (As a self-employed person, you’re both the employer and the employee.) You can make deductible 2017 contributions as late as the due date of your 2017 tax return, including extensions — provided your plan exists on Dec. 31, 2017.

For 2017, the maximum contribution is 25% of your net earnings from self-employment, up to a $54,000 contribution. If you include a 401(k) arrangement in the plan, you might be able to contribute a higher percentage of your income. If you include such an arrangement and are age 50 or older, you may be able to contribute as much as $60,000.

Simplified Employee Pension (SEP)

This is a defined contribution plan that provides benefits similar to those of a profit-sharing plan. But you can establish a SEP in 2018 and still make deductible 2017 contributions as late as the due date of your 2017 income tax return, including extensions. In addition, a SEP is easy to administer.

For 2017, the maximum SEP contribution is 25% of your net earnings from self-employment, up to a $54,000 contribution.

Defined benefit plan

This plan sets a future pension benefit and then actuarially calculates the contributions needed to attain that benefit. The maximum annual benefit for 2017 is generally $215,000 or 100% of average earned income for the highest three consecutive years, if less.

Because it’s actuarially driven, the contribution needed to attain the projected future annual benefit may exceed the maximum contributions allowed by other plans, depending on your age and the desired benefit. You can make deductible 2017 defined benefit plan contributions until your return due date, provided your plan exists on Dec. 31, 2017.

More to think about

Additional rules and limits apply to these plans, and other types of plans are available. Also, keep in mind that things get more complicated — and more expensive — if you have employees. Why? Generally, they must be allowed to participate in the plan, provided they meet the qualification requirements. To learn more about retirement plans for the self-employed, contact us.

© 2017

With kids back in school, it’s a good time for parents (and grandparents) to think about college funding. One option is a Section 529 plan. It offers the opportunity to build up a large college nest egg via tax-deferred compounding and can be particularly powerful if contributions begin when the child is quite young. Contributions aren’t deductible for federal purposes, but distributions used to pay qualified expenses are typically income-tax-free for both federal and state purposes, thus making the tax deferral a permanent savings.

With kids back in school, it’s a good time for parents (and grandparents) to think about college funding. One option, which can be especially beneficial if the children in question still have many years until they’ll be starting their higher education, is a Section 529 plan.

Tax-deferred compounding

529 plans are generally state-sponsored, and the savings-plan option offers the opportunity to potentially build up a significant college nest egg because of tax-deferred compounding. So these plans can be particularly powerful if contributions begin when the child is quite young. Although contributions aren’t deductible for federal purposes, plan assets can grow tax-deferred. In addition, some states offer tax incentives for contributing.

Distributions used to pay qualified expenses (such as tuition, mandatory fees, books, supplies, computer equipment, software, Internet service and, generally, room and board) are income-tax-free for federal purposes and typically for state purposes as well, thus making the tax deferral a permanent savings.

More pluses

529 plans offer other benefits as well:

•  They usually have high contribution limits.
•  There are no income-based phaseouts further limiting contributions.
•  There’s generally no beneficiary age limit for contributions or distributions.
• You can control the account, even after the child is a legal adult.
• You can make tax-free rollovers to another qualifying family member.

Finally, 529 plans provide estate planning benefits: A special break for 529 plans allows you to front-load five years’ worth of annual gift tax exclusions, which means you can make up to a $70,000 contribution (or $140,000 if you split the gift with your spouse) in 2017. In the case of grandparents, this also can avoid generation-skipping transfer taxes.

Minimal minuses

One negative of a 529 plan is that your investment options are limited. Another is that you can make changes to your options only twice a year or if you change the beneficiary.
 
But whenever you make a new contribution, you can choose a different option for that contribution, no matter how many times you contribute during the year. Also, you can make a tax-free rollover to another 529 plan for the same child every 12 months.

We’ve focused on 529 savings plans here; a prepaid tuition version of 529 plans is also available. If you’d like to learn more about either type of 529 plan, please contact us. We can also tell you about other tax-smart strategies for funding education expenses.

© 2017

An estate tax repeal is one reform that’s been proposed by Congress, but a repeal may not affect you. Here’s why.

Among the taxes that are being considered for repeal as part of tax reform legislation is the estate tax. This tax applies to transfers of wealth at death, hence why it’s commonly referred to as the “death tax.” Its sibling, the gift tax — also being considered for repeal — applies to transfers during life. Yet most taxpayers won’t face these taxes even if the taxes remain in place.

Exclusions and exemptions

For 2017, the lifetime gift and estate tax exemption is $5.49 million per taxpayer. (The exemption is annually indexed for inflation.) If your estate doesn’t exceed your available exemption at your death, then no federal estate tax will be due.

Any gift tax exemption you use during life does reduce the amount of estate tax exemption available at your death. But every gift you make won’t use up part of your lifetime exemption. For example:

• Gifts to your U.S. citizen spouse are tax-free under the marital deduction. (So are transfers at death — that is, bequests.)  
• Gifts and bequests to qualified charities aren’t subject to gift and estate taxes.
• Payments of another person’s health care or tuition expenses aren’t subject to gift tax if paid directly to the provider.
•  Each year you can make gifts up to the annual exclusion amount ($14,000 per recipient for 2017) tax-free without using up any of your lifetime exemption.

What’s your estate tax exposure?  

Here’s a simplified way to project your estate tax exposure. Take the value of your estate, net of any debts. Also subtract any assets that will pass to charity on your death.

Then, if you’re married and your spouse is a U.S. citizen, subtract any assets you’ll pass to him or her. (But keep in mind that there could be estate tax exposure on your surviving spouse’s death, depending on the size of his or her estate.) The net number represents your taxable estate.

You can then apply the exemption amount you expect to have available at death. Remember, any gift tax exemption amount you use during your life must be subtracted. But if your spouse predeceases you, then his or her unused estate tax exemption, if any, may be added to yours (provided the applicable requirements are met).

If your taxable estate is equal to or less than your available estate tax exemption, no federal estate tax will be due at your death. But if your taxable estate exceeds this amount, the excess will be subject to federal estate tax.

Be aware that many states impose estate tax at a lower threshold than the federal government does. So you could have state estate tax exposure even if you don’t need to worry about federal estate tax.

If you’re not sure whether you’re at risk for the estate tax or if you’d like to learn about gift and estate planning strategies to reduce your potential liability, please contact us. We also can keep you up to date on any estate tax law changes.

© 2017

Elementary and secondary school teachers and other eligible educators can deduct up to $250 for qualifying classroom supplies they pay for out of pocket. This is an “above-the-line” deduction, which means you don’t have to itemize. Before this special break became available, such expenditures could be deducted only as unreimbursed business expenses under the miscellaneous itemized deduction, subject to a 2% of adjusted gross income (AGI) floor, which could be a difficult threshold to meet.

At back-to-school time, much of the focus is on the students returning to the classroom — and on their parents buying them school supplies, backpacks, clothes, etc., for the new school year. But let’s not forget about the teachers. It’s common for teachers to pay for some classroom supplies out of pocket, and the tax code provides a special break that makes it a little easier for these educators to deduct some of their expenses.

The miscellaneous itemized deduction

Generally, your employee expenses are deductible if they’re unreimbursed by your employer and ordinary and necessary to your business of being an employee. An expense is ordinary if it is common and accepted in your business. An expense is necessary if it is appropriate and helpful to your business.

These expenses must be claimed as a miscellaneous itemized deduction and are subject to a 2% of adjusted gross income (AGI) floor. This means you’ll enjoy a tax benefit only if all your deductions subject to the floor, combined, exceed 2% of your AGI. For many taxpayers, including teachers, this can be a difficult threshold to meet.

The educator expense deduction

Congress created the educator expense deduction to allow more teachers and other educators to receive a tax benefit from some of their unreimbursed out-of-pocket classroom expenses. The break was made permanent under the Protecting Americans from Tax Hikes (PATH) Act of 2015. Since 2016, the deduction has been annually indexed for inflation (though because of low inflation it hasn’t increased yet) and has included professional development expenses.

Qualifying elementary and secondary school teachers and other eligible educators (such as counselors and principals) can deduct up to $250 of qualified expenses. (If you’re married filing jointly and both you and your spouse are educators, you can deduct up to $500 of unreimbursed expenses — but not more than $250 each.)

Qualified expenses include amounts paid or incurred during the tax year for books, supplies, computer equipment (including related software and services), other equipment and supplementary materials that you use in the classroom. For courses in health and physical education, the costs for supplies are qualified expenses only if related to athletics.

An added benefit

The educator expense deduction is an “above-the-line” deduction, which means you don’t have to itemize and it reduces your AGI, which has an added benefit: Because AGI-based limits affect a variety of tax breaks (such as the previously mentioned miscellaneous itemized deductions), lowering your AGI might help you maximize your tax breaks overall.  

Contact us for more details about the educator expense deduction or tax breaks available for other work-related expenses.

If you own a home, be sure to claim all the home-related tax breaks you’re entitled to. But be aware that a couple expired at the end of 2016, and others might disappear in the future as part of tax reform.

Currently, home ownership comes with many tax-saving opportunities. Consider both deductions and exclusions when you’re filing your 2016 return and tax planning for 2017:

Property tax deduction. Property tax is generally fully deductible — unless you’re subject to the alternative minimum tax (AMT).

Mortgage interest deduction. You generally can deduct interest on up to a combined total of $1 million of mortgage debt incurred to purchase, build or improve your principal residence and a second residence. Points paid related to your principal residence also may be deductible.

Home equity debt interest deduction. Interest on home equity debt used for any purpose (debt limit of $100,000) may be deductible. But keep in mind that, if home equity debt isn’t used for home improvements, the interest isn’t deductible for AMT purposes.

Mortgage insurance premium deduction. This break expired December 31, 2016, but Congress might extend it.

Home office deduction. If your home office use meets certain tests, you generally can deduct a portion of your mortgage interest, property taxes, insurance, utilities and certain other expenses, and the depreciation allocable to the space. Or you may be able to use a simplified method for claiming the deduction.

Rental income exclusion. If you rent out all or a portion of your principal residence or second home for less than 15 days, you don’t have to report the income. But expenses directly associated with the rental, such as advertising and cleaning, won’t be deductible.

Home sale gain exclusion. When you sell your principal residence, you can exclude up to $250,000 ($500,000 for married couples filing jointly) of gain if you meet certain tests. Be aware that gain allocable to a period of “nonqualified” use generally isn’t excludable.

Debt forgiveness exclusion. This break for homeowners who received debt forgiveness in a foreclosure, short sale or mortgage workout for a principal residence expired December 31, 2016, but Congress might extend it.

The debt forgiveness exclusion and mortgage insurance premium deduction aren’t the only home-related breaks that might not be available in the future. There have been proposals to eliminate other breaks, such as the property tax deduction, as part of tax reform.

Whether such changes will be signed into law and, if so, when they’d go into effect is uncertain. Also keep in mind that additional rules and limits apply to these breaks. So contact us for information on the latest tax reform developments or which home-related breaks you’re eligible to claim.

© 2017

If you don’t have “minimum essential” health coverage, beware of potential tax penalties.

Now that Affordable Care Act (ACA) repeal and replacement efforts appear to have collapsed, at least for the time being, it’s a good time for a refresher on the tax penalty the ACA imposes on individuals who fail to have “minimum essential” health insurance coverage for any month of the year. This requirement is commonly called the “individual mandate.”

Penalty exemptions

Before we review how the penalty is calculated, let’s take a quick look at exceptions to the penalty. Taxpayers may be exempt if they fit into one of these categories for 2017:

• Their household income is below the federal income tax return filing threshold.
• They lack access to affordable minimum essential coverage.
• They suffered a hardship in obtaining coverage.
• They have only a short-term coverage gap.
• They qualify for an exception on religious grounds or have coverage through a health care sharing ministry.
• They’re not a U.S. citizen or national.
• They’re incarcerated.
• They’re a member of a Native American tribe.

Calculating the tax

So how much can the penalty cost? That’s a tricky question. If you owe the penalty, the tentative amount equals the greater of the following two prongs:

In terms of the percentage-of-income prong of the penalty, the applicable percentage of income is 2.5% for 2017.

In terms of the dollar-amount prong of the penalty, the applicable dollar amount for each uninsured household member is $695 for 2017. For a household member who’s under age 18, the applicable dollar amounts are cut by 50%, to $347.50. The maximum penalty under this prong for 2017 is $2,085 (300% of $695).

The final penalty amount per person can’t exceed the national average cost of “bronze coverage” (the cheapest category of ACA-compliant coverage) for your household. The important thing to know is that a high-income person or household could owe more than 300% of the applicable dollar amount but not more than the cost of bronze coverage.

If you have minimum essential coverage for only part of the year, the final penalty is calculated on a monthly basis using prorated annual figures.

Also be aware that the extent to which the penalty will continue to be enforced isn’t certain. The IRS has been accepting 2016 tax returns even if a taxpayer hasn’t completed the line indicating health coverage status. That said, the ACA is still the law, so compliance is highly recommended. For more information about this and other ACA-imposed taxes, contact us.

© 2017

The American Opportunity credit can provide valuable tax savings for families with a college student. But sometimes it makes sense for the student, rather than the parent, to claim the credit.

If you have a child in college, you may be eligible to claim the American Opportunity credit on your 2016 income tax return. If, however, your income is too high, you won’t qualify for the credit — but your child might. There’s one potential downside: If your dependent child claims the credit, you must forgo your dependency exemption for him or her. And the child can’t take the exemption.

The limits

The maximum American Opportunity credit, per student, is $2,500 per year for the first four years of postsecondary education. It equals 100% of the first $2,000 of qualified expenses, plus 25% of the next $2,000 of such expenses.

The ability to claim the American Opportunity credit begins to phase out when modified adjusted gross income (MAGI) enters the applicable phaseout range ($160,000–$180,000 for joint filers, $80,000–$90,000 for other filers). It’s completely eliminated when MAGI exceeds the top of the range.

Running the numbers

If your American Opportunity credit is partially or fully phased out, it’s a good idea to assess whether there’d be a tax benefit for the family overall if your child claimed the credit. As noted, this would come at the price of your having to forgo your dependency exemption for the child. So it’s important to run the numbers.

Dependency exemptions are also subject to a phaseout, so you might lose the benefit of your exemption regardless of whether your child claims the credit. The 2016 adjusted gross income (AGI) thresholds for the exemption phaseout are $259,400 (singles), $285,350 (heads of households), $311,300 (married filing jointly) and $155,650 (married filing separately).

If your exemption is fully phased out, there likely is no downside to your child taking the credit. If your exemption isn’t fully phased out, compare the tax savings your child would receive from the credit with the savings you’d receive from the exemption to determine which break will provide the greater overall savings for your family.

We can help you run the numbers and can provide more information about qualifying for the American Opportunity credit.

© 2017

Do you know what individual income tax records are safe to toss? If not and you’d like to clear out your files (whether paper or electronic) of unnecessary documents, here are some guidelines.

Whether you filed your 2016 tax return by the April 18 deadline or you filed for an extension, you may be overwhelmed by the amount of documentation involved. While you need to hold on to all of your 2016 tax records for now, it’s a great time to take a look at your records for previous tax years to see what you can purge.

Consider the statute of limitations

At minimum, keep tax records for as long as the IRS has the ability to audit your return or assess additional taxes, which generally is three years after you file your return. This means you likely can shred and toss — or electronically purge — most records related to tax returns for 2013 and earlier years (2012 and earlier if you filed for an extension for 2013).

In some cases, the statute of limitations extends beyond three years. If you understate your adjusted gross income by more than 25%, for example, the limitations period jumps to six years. And there is no statute of limitations if you fail to file a tax return or file a fraudulent one.

Keep some documents longer

You’ll need to hang on to certain records beyond the statute of limitations:

Tax returns. Keep them forever, so you can prove to the IRS that you actually filed.

W-2 forms. Consider holding them until you begin receiving Social Security benefits. Why? In case a question arises regarding your work record or earnings for a particular year.

Records related to real estate or investments. Keep these as long as you own the asset, plus three years after you sell it and report the sale on your tax return (or six years if you’re concerned about the six-year statute of limitations).

This is only a sampling of retention guidelines for tax-related documents. If you have questions about other documents, please contact us.

© 2017

House Republican tax writers have advanced a "Tax Reform 2.0" legislative package. The measure is expected to reach the House floor for a full chamber vote by the end of September.

The House Ways and Means Committee debated the GOP Tax Reform 2.0 three-bill package in a September 13 markup that ran almost seven hours. The package focuses on making permanent individual and small business tax cuts, and creating incentives for retirement savings and business innovation. The following three bills were approved along party lines:

• Protecting Family and Small Business Tax Cuts Act of 2018 ( HR 6760);
• Family Savings Act of 2018 ( HR 6757); and
• American Innovation Act of 2018 ( HR 6756).

Individual, Small Business Tax Cuts

HR 6757 would make permanent the individual and small business tax cuts that were enacted temporarily through 2025 under the Tax Cuts and Jobs Act (TCJA) ( P.L. 115-97). These provisions were made temporary to comply with certain Senate budget rules applicable to the reconciliation process Republicans used to pass tax reform with only a simple GOP majority. Notable TCJA provisions that would be made permanent under HR 6750 include, among others:

• lowered individual income tax rates;
• 20-percent deduction of income for qualifying passthrough entities;
• $12,000 (individual) and $24,000 (married filing jointly) standard deduction; and
• $10,000 annual cap on the state and local tax (SALT) deduction.

Family Savings and Business Innovation

HR 6757 aims to simplify certain rules for employer retirement plans, and eliminates the age limit on IRA contributions, among other things. Additionally, it would create a Universal Savings Account (USA), while also allowing tax-advantaged 529 Plans to be used for expenses related to trade schools, home schooling, and up to $10,000 in total distributions for repayment of student loans.

HR 6756 would improve the tax treatment of certain start-up businesses. The bill would allow new businesses to write off up to $20,000 of start-up and organization expenditures. Additionally, HR 6756 would allow for a change in start-up ownership without triggering limits on certain tax benefits.

JCT

The Joint Committee on Taxation (JCT), a nonpartisan congressional scorekeeper, has estimated that all three bills will cost the federal government revenue. As noted in JCX-71-18, the JCT estimates that making permanent the individual and small business tax cuts under the TCJA, as proposed by HR 6750, would cost the federal government $631 billion in lost revenue over the next 10 years. Additionally, the JCT has estimated that HR 6756 and HR 6757, collectively, would cost approximately $26 billion in lost federal revenue over the next 10 years ( JCX-75-18, JCX-78-18).

Tax Reform 2.0’s Fate Uncertain

Tax Reform 2.0’s fate remains largely uncertain as it makes its way through the legislative process. While the measure is expected to garner enough Republican support in the House, despite certain GOP criticisms of the SALT deduction cap, it is not expected as a whole to fare well in the Senate. There is talk on Capitol Hill that Democrats could potentially support the retirement savings and business innovation bills in some form. However, it is considered unlikely that Democrats will support making permanent certain provisions of a law (the TCJA) for which not a single Democrat voted.

Charles P. "Chuck" Rettig was confirmed as the new IRS Commissioner on September 12. The Senate confirmed the nomination by a 64-to-33 vote. Rettig received both Democratic and Republican support.

Charles P. "Chuck" Rettig was confirmed as the new IRS Commissioner on September 12. The Senate confirmed the nomination by a 64-to-33 vote. Rettig received both Democratic and Republican support.

Senate Finance Committee (SFC) Chairman Orrin G. Hatch, R-Utah, praised Rettig, saying that he is both "qualified and ready" to lead the IRS. Although SFC ranking member Ron Wyden, D-Ore., previously said that Rettig is a "qualified nominee," he urged colleagues to oppose Rettig’s nomination. Wyden previously said he would only support Rettig’s nomination if he promised to reverse recent IRS guidance which limits Schedule B donor reporting for certain tax-exempt organizations ( Rev. Proc. 2018-38).

Rettig will oversee implementation of tax reform enacted last December under the Tax Cuts and Jobs Act (TCJA) ( P.L. 115-97). His term as IRS Commissioner will expire on November 12, 2022.

New IRS guidance aiming to curb certain state and local tax (SALT) deduction cap "workarounds" is the latest "hot topic" tax debate on Capitol Hill. The IRS released proposed amendments to regulations, REG-112176-18, on August 23. The proposed rules would prevent taxpayers, effective August 27, 2018, from using certain charitable contributions to work around the new cap on SALT deductions.

New IRS guidance aiming to curb certain state and local tax (SALT) deduction cap "workarounds" is the latest "hot topic" tax debate on Capitol Hill. The IRS released proposed amendments to regulations, REG-112176-18, on August 23. The proposed rules would prevent taxpayers, effective August 27, 2018, from using certain charitable contributions to work around the new cap on SALT deductions.

SALT Deduction

The SALT deduction limit is one of the most controversial temporarily enacted provisions of the Tax Cuts and Jobs Act (TCJA) ( P.L. 115-97) signed into law last December. Under the TCJA, beginning in 2018 and running through 2025, taxpayers may not claim more than $10,000 ($5,000 if married filing separately) for all state and local sales, income and property taxes.

After the tax code overhaul, New York, New Jersey, and Connecticut (considered high-tax states) passed legislation that essentially allows taxpayers to circumvent the SALT deduction cap by making charitable contributions to state-run charitable organizations. Indeed, similar workarounds for private-school tuition already exists in other states.

"Congress limited the deduction for state and local taxes that predominantly benefited high-income earners to help pay for major tax cuts for American families,"Treasury Secretary Steven Mnuchin said in a statement. "The proposed rule will uphold that limitation by preventing attempts to convert tax payments into charitable contributions."

Congressional Republicans and Democrats, as with the TCJA, are mostly divided on the topic. House Ways and Means Committee Chair Kevin Brady, R-Tex., praised the IRS proposal for aiming to prevent tax evasion. "These Treasury regulations rightly close the door on improper tax evasion schemes conjured up by state and local politicians who insist on brutally taxing local families and businesses," Brady said in a statement.

Meanwhile, Democratic lawmakers are criticizing the regulations. "The Trump administration doubled down on its attack on the middle class," Ways and Means ranking member Richard Neal, D-Mass., said in a statement. "The administration’s new regulations block affected states’ attempts to cope with this significant change and protect residents."

Tax Policy Experts Weigh-In

Several tax policy experts have criticized states’ efforts to circumvent the SALT deduction cap. Carl Davis, research director at the Democratic-leaning Institute on Taxation and Economic Policy, has called the workarounds an "abuse" of the charitable giving deduction. "Anyone who wants a fair and transparent tax system should be cautiously optimistic that these rules will put an end…to the workaround provisions enacted by states more recently," Davis wrote in a recent op-ed about the proposed IRS guidance.

Jared Walczak, senior policy analyst at the conservative-leaning Tax Foundation, has said that states’ strategies to re-characterize SALT payments were pursued to primarily help high-income taxpayers. Additionally, the top one percent of the wealthiest households would reap more than half of the benefit if the SALT cap were eliminated, according to an estimate from the Democratic-leaning Tax Policy Center.

The IRS has proposed to remove the Code Sec. 385 documentation regulations provided in Reg. §1.385-2. Although the proposed removal of the documentation rules will apply as of the date the proposed regulations are published as final in the Federal Register, taxpayers can rely on the proposed regulations until the final regulations are published.

The IRS has proposed to remove the Code Sec. 385 documentation regulations provided in Reg. §1.385-2. Although the proposed removal of the documentation rules will apply as of the date the proposed regulations are published as final in the Federal Register, taxpayers can rely on the proposed regulations until the final regulations are published.

The documentation regulations provide minimum documentation requirements that must be satisfied in order for certain related-party instruments to be treated as debt for federal tax purposes. They are part of final and temporary Section 385 regulations adopted with T.D. 9790, I.R.B. 2016-45, 540. In addition to the documentation requirements, the Section 385 regulations also include rules that recharacterize as equity certain debt issued in connection with distributions and acquisitions that do not result in new investment in the operations of the issuer. The Section 385 regulations apply generally to debt instruments issued by a domestic corporations (or its disregarded entity) and held by members of the domestic corporation’s expanded group.

Documentation Regulations

The documentation rules generally require large corporations to document related-party loans just as all businesses do when they borrow from unrelated lenders. Reg. §1.385-2 prescribes the nature of the documentation necessary to substantiate the tax treatment of related-party instruments as debt. Taxpayers must be able to provide written evidence of four indebtedness factors analogous to those found in third-party loans.

Compliance with the documentation rules does not establish that an interest is debt. Instead, it serves only to satisfy the minimum documentation for making the determination under general federal tax principles. If a debt instrument is reclassified as stock due to a failure to meet the documentation requirements, it is treated as stock for all federal tax purposes.

Corporations must document relevant transactions under these rules if they are part of expanded affiliated groups and:

• stock of any member of the group is publicly traded;
• one or more members have total assets that exceed $100 million on any applicable financial statement or combination of statements; or
• one or more members have annual total revenue that exceeds $50 million on any applicable financial statement or combination of statements.

The documentation regulations apply to relevant intercompany debt issued beginning in 2019, and require that the taxpayer’s documentation for a given tax year be prepared by the time the borrower’s return is filed.

Executive Order 13789

Executive Order 13789, issued on April 21, 2017 (E.O. 13789), instructs the Treasury Secretary to identify significant tax regulations issued on or after January 1, 2016, that impose an undue financial burden on U.S. taxpayers, add undue complexity to the federal tax laws, or exceed the statutory authority of the IRS. The Treasury Secretary is instructed to take concrete actions to alleviate these burdens.

Based on E.O. 13789, the Treasury Department identified, among others, the Section 385 regulations adopted with T.D. 9790 as significant tax regulations that impose an undue financial burden on U.S. taxpayers and/or add undue complexity to the federal tax laws ( Notice 2017-38, I.R.B. 2017-30, 147).

In light of further actions in connection with the required review of the Section 385 regulations, and in response to continued taxpayer concern, the IRS has delayed the applicability date of the documentation regulations for 12 months. As a result, the documentation requirements apply to interests issued or deemed issued on or after January 1, 2019. As originally adopted, the final regulations applied to interests issued or deemed issued on or after January 1, 2018 ( Notice 2017-36, I.R.B. 2017-33, 208).

In a later report, the Treasury has proposed to revoke the current documentation rules and replace them with substantially simplified and streamlined documentation rules ( TDNR SM-0172, October 4, 2017; U.S. Department of the Treasury, Second Report to the President on Executive Order 13789, October 2, 2017).

Proposed Removal of Documentation Rules

The IRS has proposed to remove the documentation regulations after considering the comments received in connection with E.O. 13789, including with respect to Notice 2017-36 and Notice 2017-38. However, the IRS will continue to study the issues addressed by the documentation regulations, When the study is complete, the IRS may propose a modified version of the documentation regulations. The revised documentation rules:

• would be substantially simplified and streamlined to reduce the burden on U.S. corporations;
• would still require sufficient documentation and other information for tax administration purposes; and
• would be proposed with a prospective effective date to allow sufficient lead time for taxpayers to design and implement systems to comply with the revised requirements.

Comments

Written or electronic comments and requests for a public hearing must be received by December 23, 2018. Send submissions to: CC:PA:LPD:PR (REG-130244-17), room 5203, Internal Revenue Service, P.O. Box 7604, Ben Franklin Station, Washington, DC 20044. Submissions may be hand-delivered Monday through Friday between the hours of 8 a.m. and 4 p.m. to CC:PA:LPD:PR (REG-130244-17), Courier's Desk, Internal Revenue Service, 1111 Constitution Avenue NW, Washington, DC 20224 or sent electronically via the Federal eRulemaking Portal at http://www.regulations.gov (IRS REG-130244-17).

Last year’s Tax Reform created a new 20-percent deduction of qualified business income for passthrough entities, subject to certain limitations. The Tax Cuts and Jobs Act (TCJA) ( P.L. 115-97) created the new Code Sec. 199A passthrough deduction for noncorporate taxpayers, effective for tax years beginning after December 31, 2017. However, the provision was enacted only temporarily through 2025. The controversial deduction has remained a buzzing topic of debate among lawmakers, tax policy experts, and stakeholders. In addition to its impermanence, the new passthrough deduction’s ambiguous statutory language has created many questions for taxpayers and practitioners.

Last year’s Tax Reform created a new 20-percent deduction of qualified business income for passthrough entities, subject to certain limitations. The Tax Cuts and Jobs Act (TCJA) ( P.L. 115-97) created the new Code Sec. 199A passthrough deduction for noncorporate taxpayers, effective for tax years beginning after December 31, 2017. However, the provision was enacted only temporarily through 2025. The controversial deduction has remained a buzzing topic of debate among lawmakers, tax policy experts, and stakeholders. In addition to its impermanence, the new passthrough deduction’s ambiguous statutory language has created many questions for taxpayers and practitioners.

The IRS released the much-anticipated proposed regulations on the new passthrough deduction, REG-107892-18, on August 8. The guidance has generated a mixed reaction on Capitol Hill, and while significant questions may have been answered, it appears that many remain. Indeed, an IRS spokesperson told Wolters Kluwer Tax & Accounting before the regulations were released that the IRS’s goal was to issue complete regulations but that the guidance "would not cover every question that taxpayers have."

Wolters Kluwer recently spoke with Joshua Wu, member, Clark Hill PLC, about the tax implications of the new passthrough deduction and proposed regulations. That exchange included a discussion of the impact that the new law and IRS guidance, both present and future, may have on taxpayers and tax practitioners.

I. Qualified Business Income and Activities

Wolters Kluwer: What is the effect of the proposed regulations requiring that qualified business activities meet the Code Sec. 162 trade or business standard? And for what industries might this be problematic?

Joshua Wu: The positive aspect of incorporating the Section 162 trade or business standard is that there is an established body of case law and administrative guidance with respect to what activities qualify as a trade or business. However, the test under Section 162 is factually-specific and requires an analysis of each situation. Sometimes courts reach different results with respect to activities constituting a trade or business. For example, gamblers have been denied trade or business status in numerous cases. In Groetzinger, 87-1 ustc ¶9191, 480 U.S. 23 (1987), the Court held that whether professional gambling is a trade or business depends on whether the taxpayer can show he pursued gambling full-time, in good faith, regularly and continuously, and possessed a sincere profit motive. Some courts have held that the gambling activity must be full-time, from 60 to 80 hours per week, while others have questioned whether the full-time inquiry is a mandatory prerequisite or permissive factor to determine whether the taxpayer’s gambling activity is a trade or business. See e.g., Tschetschot , 93 TCM 914, Dec. 56,840(M)(2007). Although Section 162 provides a built-in body of law, plenty of questions remain.

Aside from the gambling industry, the real estate industry will continue to face some uncertainty over what constitutes a trade or business under Code Secs. 162 and 199A. The proposed regulations provide a helpful rule, where the rental or licensing of tangible or intangible property to a related trade or business is treated as a trade or business if the rental or licensing and the other trade or business are commonly controlled. But, that rule does not help taxpayers in the rental industry with no ties to another trade or business. The question remains whether a taxpayer renting out a single-family home or a small group of apartments is engaged in a trade or business for purposes of Code Secs. 162 and 199A. Some case law indicates that just receiving rent with nothing more may not constitute a trade or business. On the other hand, numerous cases have found that managing property and collecting rent can constitute a trade or business. Given the potential tax savings at issue, I suspect there will be additional cases in the real estate industry regarding the level of activity required for the leasing of property to be considered a trade or business.

Qualified Business Income

Wolters Kluwer: How does the IRS define qualified business income (QBI)?

Joshua Wu: QBI is the net amount of effectively connected qualified items of income, gain, deduction, and loss from any qualified trade or business. Certain items are excluded from QBI, such as capital gains/losses, certain dividends, and interest income. Proposed Reg. §1.199A-3(b) provides further clarity on QBI. Most importantly, they provide that a passthrough with multiple trades or businesses must allocate items of QBI to such trades or businesses based on a reasonable and consistent method that clearly reflects income and expenses. The passthrough may use a different reasonable method for different items of income, gain, deduction, and loss, but the overall combination of methods must also be reasonable based on all facts and circumstances. Further, the books and records must be consistent with allocations under the method chosen. The proposed regulations provide no specific guidance or examples of what a reasonable allocation looks like. Thus, taxpayers are left to determine what constitutes a reasonable allocation.

Unadjusted Basis Immediately after Acquisition

Wolters Kluwer: What effect does the unadjusted basis immediately after acquisition (UBIA) of qualified property attributable to a trade or business have on determining QBI?

Joshua Wu: For taxpayers above the taxable income threshold amounts, $157,500 (single or married filing separate) or $315,000 (married filing jointly), the Code limits the taxpayer’s 199A deduction based on (i) the amount of W-2 wages paid with respect to the trade or business, and/or (ii) the unadjusted basis immediately after acquisition (UBIA) of qualified property held for use in the trade or business.

Where a business pays little or no wages, and the taxpayer is above the income thresholds, the best way to maximize the deduction is to look to the UBIA of qualified property. Rather than the 50 percent of W-2 wages limitation, Section 199A provides an alternative limit based on 25 percent of W-2 wages and 2.5 percent of UBIA qualified property. The Code and proposed regulations define UBIA qualified property as tangible, depreciable property which is held by and available for use in the qualified trade or business at the close of the tax year, which is used at any point during the tax year in the production of qualified business income, and the depreciable period for which has not ended before the close of the tax year. The proposed regulations helpfully clarify that UBIA is not reduced for taxpayers who take advantage of the expanded bonus depreciation allowance or any Section 179expensing.

De Minimis Exception

Wolters Kluwer: How is the specified service trade or business (SSTB) limitation clarified under the proposed regulations? And how does the de minimis exception apply?

Joshua Wu: The proposed regulations provide helpful guidance on the definition of a SSTB and avoid what some practitioners feared would be an expansive and amorphous area of section 199A. Under the statute, if a trade or business is an SSTB, its items are not taken into account for the 199A computation. Thus, the performance of services in the fields of health, law, accounting, actuarial science, performing arts, consulting, athletics, financial and brokerage services, investment management, trading, dealing in securities, and any trade or business where the principal asset of such is the reputation or skill of one or more of its employees or owners, do not result in a 199A deduction.

There is a de minimis exception to the general rule for taxpayers with taxable income of less than $157,500 (single or married filing separate) or $315,000 (married filing jointly). Once those thresholds are hit, the 199A deduction phases-out until it is fully eliminated at $207,500 (single) or $415,000 (joint).

The proposed regulations provide guidance for each of the SSTB fields. Importantly, they also limit the "reputation or skill" category. The proposed regulations state that the "reputation or skill" clause was intended to describe a "narrow set of trades or businesses, not otherwise covered by the enumerated specified services." Thus, the proposed regulations limit this definition to cases where the business receives income from endorsing products or services, licensing or receiving income for use of an individual’s image, likeness, name, signature, voice, trademark, etc., or receiving appearance fees. This narrow definition is unlikely to impact most taxpayers.

Wolters Kluwer recently spoke with Joshua Wu, member, Clark Hill PLC, about the tax implications of the new Code Sec. 199A passthrough deduction and its recently-released proposed regulations, REG-107892-18. That exchange included a discussion of the impact that the new law and IRS guidance, both present and future, may have on taxpayers and tax practitioners.

Wolters Kluwer recently spoke with Joshua Wu, member, Clark Hill PLC, about the tax implications of the new Code Sec. 199A passthrough deduction and its recently-released proposed regulations, REG-107892-18. That exchange included a discussion of the impact that the new law and IRS guidance, both present and future, may have on taxpayers and tax practitioners.

II. Aggregation, Winners & Losers

Wolters Kluwer: How do the proposed regulations provide both limitations and flexibility regarding the available election to aggregate trades or businesses?

Joshua Wu: Treasury agreed with various comments that some level of aggregation should be permitted to account for the legal, economic and other non-tax reasons that taxpayers operate a single business across multiple entities. Permissive aggregation allows taxpayers the benefit of combining trades or businesses for applying the W-2 wage limitation, potentially resulting in a higher limit. Under Proposed Reg. §1.199A-4, aggregation is allowed but not required. To use this method, the business must (1) qualify as a trade or business, (2) have common ownership, (3) not be a SSTB, and (4) demonstrate that the businesses are part of a larger, integrated trade or business (for individuals and trusts). The proposed regulations give businesses the benefits of electing aggregation without having to restructure the businesses from a legal standpoint. Businesses failing to qualify under the above test will have to consider whether a legal restructuring would be possible.

Wolters Kluwer: How does Notice 2018-64 Methods for Calculating W-2 Wages for Purposes of Section 199A, which accompanied the release of the proposed regulations, coordinate with aggregation?

Joshua Wu: Notice 2018-64 contains a proposed revenue procedure with guidance on three methods for calculating W-2 wages for purposes of section 199A. The Unmodified Box method uses the lesser of totals in Box 1 of Forms W-2 or Box 5 (Medicare wages). The Modified Box 1 method takes the total amounts in Box 1 of Forms W-2 minus amounts not wages for income withholding purposes, and adding total amounts in Box 12 (deferrals). The Tracking wages method is the most complex and tracks total wages subject to income tax withholding. The calculation method is dependent on the group of Forms W-2 included in the computation and, thus, will vary depending upon whether businesses are aggregated under §1.199A-4 or not. Taxpayers with businesses generating little or no Medicare wages may consider aggregating with businesses that report significant wages in Box 1 that are still subject to income tax withholding. Under the Modified Box 1 method, that may result in a higher wage limitation.

Crack & Pack

Wolters Kluwer: What noteworthy anti-abuse safeguards did the proposed regulations seek to establish? How do the rules address "cracking" or "crack and pack" strategies?

Joshua Wu: Treasury included some anti-abuse provisions in the proposed regulations. One area that Treasury noted was the use of multiple non-grantor trusts to avoid the income threshold limitations on the 199A deduction. Taxpayers could theoretically use multiple non-grantor trusts to increase the 199A deduction by taking advantage of each trust’s separate threshold amount. The proposed regulations, under the authority of 643(f), provide that two or more trusts will be aggregated and treated as a single trust if such trusts have substantially the same grantor(s) and substantially the same primary beneficiary or beneficiaries, and if a principal purpose is to avoid tax. The proposed regulations have a presumption of a principal purpose of avoiding tax if the structure results in a significant tax benefit, unless there is a significant non-tax purpose that could not have been achieved without the creation of the trusts.

Another anti-abuse issue relates to the "crack and pack" strategies. These strategies involve a business that is limited in its 199A deduction because it is an SSTB spinning off some of its business or assets to an entity that is not an SSTB and could claim the 199A deduction. For example, a law firm that owns its building could transfer the building to a separate entity and lease it back. The law firm is an SSTB and, thus, is subject to the 199A limitations. However, the real estate entity is not an SSTB and can generate a 199A deduction (based on the rental income) for the law partners. The proposed regulations provide that a SSTB includes any business with 50 percent common ownership (direct or indirect) that provides 80 percent or more of its property or services to an excluded trade or business. Also, if a trade or business shares 50 percent or more common ownership with an SSTB, to the extent that trade or business provides property or services to the commonly-owned SSTB, the portion of the property or services provided to the SSTB will be treated as an SSTB. The proposed regulations provide an example of a dentist who owns a dental practice and also owns an office building. The dentist rents half the building to the dental practice and half to unrelated persons. Under [Proposed Reg.] §1.199A-5(c)(2), the renting of half of the building to the dental practice will be treated as an SSTB.

Winners & Losers

Wolters Kluwer: Generally, what industries can be seen as "winners" and "losers" in light of the proposed regulations?

Joshua Wu: The most obvious "losers" in the proposed regulations are the specified services businesses (e.g., lawyers, accountants, doctors, etc.) who are further limited by the anti-abuse provisions in arranging their affairs to try and benefit from 199A. On the other hand, certain specific service providers benefit from the proposed regulations. For example, health clubs or spas are exempt from the SSTB limitation. Additionally, broadcasters of performing arts, real estate agents, real estate brokers, loan officers, ticket brokers, and art brokers are all exempt from the SSTB limitation.

Wolters Kluwer: What areas of the Code Sec. 199A provision stand out as most complex when calculating the deduction, and how does this complexity vary among taxpayers?

Joshua Wu: With respect to calculating the deduction, one complex area is planning to maximize the W-2 wages limitation. Because compensation as W-2 wages can reduce QBI, and potentially the 199A deduction, determining the efficient equilibrium point between having enough W-2 wages to limit the impact of the wage limitation, while preserving QBI, will be a fact-driven complex planning issue that must be determined by each taxpayer. Another area of complexity will be how taxpayers track losses which may reduce future QBI and, thus, the 199A deduction. The proposed regulations provide that losses disallowed for taxable years beginning before January 1, 2018, are not taken into account for purposes of computing QBI in a later taxable year. Taxpayers will be left to track pre-2018 and post-2018 losses and determine if a loss in a particular tax year reduces QBI or not.

III. Looking Ahead

Questions Remain

Wolters Kluwer: An IRS spokesperson told Wolters Kluwer that the IRS did not expect the proposed regulations to answer all questions surrounding the deduction. Indeed, Acting IRS Commissioner David Kautter has said that stakeholder feedback would help finalize the regulations. What significant questions remain unanswered for taxpayers and tax practitioners, and has additional uncertainty been created with the release of the IRS guidance?

Joshua Wu: On the whole, the proposed regulations did a good job addressing the most important areas of Section 199A. However, there are many areas where additional guidance would be helpful. Such guidance may be in the form of additional regulations or other administrative pathways. For example, the proposed regulations did not address the differing treatment between a taxpayer operating as a sole proprietor versus an S corporation. Wages paid to an S corporation shareholder boosts the W-2 limitation but are not considered QBI. Thus, with the same underlying facts, the 199Adeduction may vary between taxpayers operating as a sole proprietor versus those operating as an S corporation.

Possible Changes to Proposed Regulations

Wolters Kluwer: In what ways do you see the passthrough deduction rules changing when the final regulations are released?

Joshua Wu: I suspect that the core components of the proposed regulations will not change significantly. However, I would not be surprised if Treasury were to include more specific examples with respect to real estate and whether certain types of activity constitute a trade or business. Additionally, the proposed regulations will likely generate comments and questions from various industry groups related to the SSTB definitions and specific types of services (e.g., do trustees and executors fall under the legal services definition). Treasury may change the definitions of SSTBs in response to comments and clarify definitions for industry groups.

Tax Reform 2.0

Wolters Kluwer: The White House and congressional Republicans are currently moving forward on legislative efforts known as "Tax Reform 2.0." The legislative package proposes making permanent the passthrough deduction. How does the impermanence of this deduction currently impact taxpayers? (Note: On September 13, the House Ways and Means Committee marked up a three-bill Tax Reform 2.0 package. The measure is expected to reach the House floor for a full chamber vote by the end of September.)

Joshua Wu: The 199A deduction has a significant impact on the choice of entity question for businesses. With the 21 percent corporate rate, we have seen many taxpayers considering restructuring away from passthrough entities to a C corporation structure. The 199A deduction is a large consideration in whether to restructure or not, but its limited effective time does raise questions about the cost effectiveness of planning to obtain the 199A deduction where the benefit will sunset in eight years.

Key Takeways

Wolters Kluwer: Aside from advice on specific taxpayer situations, what key takeaways should tax practitioners generally alert clients to ahead of the 2019 tax filing season?

Wolters Kluwer: Aside from advice on specific taxpayer situations, what key takeaways should tax practitioners generally alert clients to ahead of the 2019 tax filing season?

Joshua Wu: Practitioners should remind clients who may benefit from the 199A deduction to keep detailed records of any losses for each line of business, as this may impact the calculation of QBI in the future. Practitioners should also help clients examine the whole of their activity to define their "trades or businesses." This will be essential to calculating the 199A deduction and planning to maximize any such deduction. Finally, practitioners should remember that some of the information that may be necessary to determine a 199A deduction may not be in their client’s possession. Practitioners need to plan in advance with their clients regarding how information about each trade or business will be obtained (e.g., how will a limited partner in a partnership obtain information regarding the partnership’s W-2 wages and/or UBIA of qualified property).

Wolters Kluwer: Any closing thoughts or comments?

Joshua Wu: Practitioners and taxpayers should remember that the regulations are only proposed and may change before they become final. Any planning undertaken this year should carefully weigh the economic costs and be rooted in the statutory language of 199A. It will be some time before case law helps clarify the nuances of Section 199A, and claiming the deduction allows the IRS to more easily impose the substantial understatement penalty if a taxpayer gets it wrong.

Wolters Kluwer has projected annual inflation-adjusted amounts for tax year 2019. The projected amounts include 2019 tax brackets, the standard deduction, and alternative minimum tax amounts, among others. The projected amounts are based on Consumer Price Index figures released by the U.S. Department of Labor on September 12, 2018.

Wolters Kluwer has projected annual inflation-adjusted amounts for tax year 2019. The projected amounts include 2019 tax brackets, the standard deduction, and alternative minimum tax amounts, among others. The projected amounts are based on Consumer Price Index figures released by the U.S. Department of Labor on September 12, 2018.

The Tax Cuts and Jobs Act of 2017 (TCJA) ( P.L. 115-97) mandated a change from the Consumer Price Index for All Urban Consumers (CPI-U) to the Chained Consumer Price Index for All Urban Consumers (C-CPI-U). Official amounts for 2019 should be released by the IRS later in 2018.

Individual Tax Brackets

The projected bracket ranges for individuals in 2019 are as follows.

For married taxpayers filing jointly:

The 10 percent bracket applies to taxable incomes up to $19,400
The 12 percent bracket applies to taxable incomes over $19,400 and up to $78,900
The 22 percent bracket applies to taxable incomes over $78,900 and up to $168,400
The 24 percent bracket applies to taxable incomes over $168,400 and up to $321,450
The 32 percent bracket applies to taxable incomes over $321,450 and up to $408,200
The 35 percent bracket applies to taxable incomes over $408,200 and up to $612,350
The 37 percent bracket applies to taxable incomes over $612,350

For heads of households:

The 10 percent bracket applies to taxable incomes up to $13,850
The 12 percent bracket applies to taxable incomes over $13,850 and up to $52,850
The 22 percent bracket applies to taxable incomes over $52,850 and up to $84,200
The 24 percent bracket applies to taxable incomes over $84,200 and up to $160,700
The 32 percent bracket applies to taxable incomes over $160,700 and up to $204,100
The 35 percent bracket applies to taxable incomes over $204,100 and up to $510,300
The 37 percent bracket applies to taxable incomes over $510,300

For unmarried taxpayers:

The 10 percent bracket applies to taxable incomes up to $9,700
The 12 percent bracket applies to taxable incomes over $9,700 and up to $39,450
The 22 percent bracket applies to taxable incomes over $39,450 and up to $84,200
The 24 percent bracket applies to taxable incomes over $84,200 and up to $160,700
The 32 percent bracket applies to taxable incomes over $160,700 and up to $204,100
The 35 percent bracket applies to taxable incomes over $204,100 and up to $510,300
The 37 percent bracket applies to taxable incomes over $510,300

For married taxpayers filing separately:

The 10 percent bracket applies to taxable incomes up to $9,700
The 12 percent bracket applies to taxable incomes over $9,700 and up to $39,450
The 22 percent bracket applies to taxable incomes over $39,450 and up to $84,200
The 24 percent bracket applies to taxable incomes over $84,200 and up to $160,725
The 32 percent bracket applies to taxable incomes over $160,725 and up to $204,100
The 35 percent bracket applies to taxable incomes over $204,100 and up to $306,175
The 37 percent bracket applies to taxable incomes over $306,175

For estates and trusts:

The 10 percent bracket applies to taxable incomes up to $2,600
The 24 percent bracket applies to taxable incomes over $2,600 and up to $9,300
The 35 percent bracket applies to taxable incomes over $9,300 and up to $12,750
The 37 percent bracket applies to taxable incomes over $12,750

Standard Deduction

TCJA also roughly doubled the amount of the standard deduction. For 2019, the following standard deduction amounts are projected:

For married taxpayers filing jointly, $24,400
For heads of households, $18,350
For unmarried taxpayers and well as married taxpayers filing separately, $12,200

AMT Exemptions

TCJA eliminated the AMT for corporations, and increased the exemption amounts, and the exemption phaseouts, for individuals. For 2019, the AMT exemption amounts are projected to be:

For married taxpayers filing jointly, $111,700
For unmarried individuals and heads of households, $71,700
For married taxpayers filing separately, $55,850

Estate and Gift Tax

The following amounts related to transfer taxes (estate, generation-skipping, and gift taxes) are projected for 2019:

The gift tax annual exemption is projected to be $15,000 in 2019

The estate and gift tax applicable exclusion (increased under TCJA) is projected to be $11,400,000 for decedents dying in 2019

The exclusion for gifts made in 2019 to a spouse who is not a U.S. citizen is projected to be $155,000 for 2019

Other Amounts

The following other amounts are also projected for 2019:

The adoption credit for 2019 is projected to be $14,080 for 2019.

For 2019, the allowed Roth IRA contribution amount is projected to phase out for married taxpayers filing jointly with income between $193,000 and $203,000 For heads of household and unmarried filers, the projected phaseout range is between $122,000 to $137,000.

The maximum amount of deductible contributions that can be made to an IRA is projected to be $6,000 for 2019. The increased contribution amount for taxpayers age 50 and over will, therefore, be $7,000.

The deduction for traditional IRA contributions is projected to begin to phase out for married joint filers whose income is greater than $103,000 if both spouses are covered by a retirement plan at work. If only one spouse is covered by a retirement plan at work, the phaseout is projected to begin when modified adjusted gross income reaches $193,000. For heads of household and unmarried filers who are covered by a retirement plan at work, the 2019 income phaseout range for deductible IRA contributions is projected to begin at $64,000.

For 2019, the $2,500 student loan interest deduction is projected to begin to phase out for married joint filers with modified adjusted gross income (MAGI) above $140,000. For single taxpayers, the 2019 deduction is projected to begin to phase out at a MAGI level of over $70,000.

The amount of the 2019 foreign earned income exclusion under Code Sec. 911 is projected to be $105,900.