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Highlights from the New 2018 Tax Rules
- By Travis Echols
- •
- 04 Jan, 2018
Let me start by saying, I am for lower taxes. I want to keep
more of the money I earn, and I want to see others keep more of the money they
earn.
I also think the government, especially the federal government, takes far
too much of our money, and could fulfill its God-given magistrative role with much less taxation and control over its citizens.
With that said, I am somewhat pleased to share with you some of the highlights of the new bill passed December 2017.
The Tax Cuts and Jobs Act of 2017 (TCJA) will temporarily lower taxes for most individual tax-payers (note: most of the individual provisions are set to expire after 2025). But the permanent lowering of the corporate tax rate to a flat 21% on all profits is a massive simplification and tax cut as compared to the previous corporate marginal tax rate structure.
I am looking forward to seeing the economic effect of this corporate tax cut, along with the one-time repatriation rate of 15.5% on cash and equivalent foreign-held assets and 8% on illiquid assets like equipment, payable over an eight-year period. This can only help corporate workers, people looking for jobs, and investors in stocks and corporate bonds.
In this article, I am going to highlight a few of the individual tax changes that will directly affect many, if not most, of you. Here are some of the changes:
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Tax Brackets
Unfortunately, we still have seven brackets. Blame the Senate for that. The House wanted four brackets and the President wanted three. But as you can see below, the percentages are lower, and the thresholds are higher, which means lower taxes.
Table 1. New 2018 Marginal Tax Brackets
Data source: Joint Explanatory Statement of the Committee of Conference.
Compare Table 1 above to what it would have been in 2018 under the old laws (Table 2 below).
Table 2. Marginal Tax Brackets as they would have been for 2018
Part of this reduction in taxes is the removal of the “marriage penalty”. Except for the highest two tax brackets, the married brackets are twice the single brackets. Before the new tax law, above the 15% bracket, a couple was taxed more than if they both filed as singles.
Standard Deductions and Personal Exemptions
As you can see from Table 3 below, the new standard deduction is almost double the old. That’s good. But don’t get too excited. Personal exemptions have been eliminated. This is still a tax reduction but there is an offset. What this does mean is: many more people will have a simpler filing (i.e., not needing to itemize deductions). The Joint Committee on Taxation estimates that 94% of households will claim the standard deduction in 2018, up from about 70% now.
Table 3. Standard Deductions
Data source: IRS and Tax Cuts and Jobs Act.
While the new law won’t allow as big of a deduction for families with lots of personal exemptions, the new expansion of the Child Tax Credit will more than make up for this in most cases.
So, with the almost doubling of the standard
deduction (from $13,000 to $24,000 for a married couple filing jointly, for
example), itemizing deductions won’t make sense for most filers. By claiming the standard deduction, charitable donations would not be deductible. However, for people taking Required Minimum Distributions (RMDs), a Qualified Charitable Distribution (QCD) can come to the rescue. See How to Reduce Your Taxes on Your RMD.
For those who have no RMD (this would apply to all people under age 70.5), some are bunching many years worth of charitable
contributions into a single year, perhaps through a donor-advised
fund. This raises their total
contribution amount in that year high enough for them to itemize and claim the big donation as a deduction. Then in the off years they do not donate to charity and use the higher standard deduction. This strategy takes full tax advantage of the donations.
Capital Gains
Long-term capital gains tax rates that apply to the sale
of stocks and other such appreciated assets are not changing.
Short-term capital
gains are still taxed as ordinary income, so they will get the benefit of the
reduced rates as shown in Table 1.
Since the old long-term capital gains rates remain and the income brackets have changed, the three capital gains income thresholds no longer match up perfectly with the tax brackets. (Under previous tax law, a 0% long-term capital gains tax rate applied to individuals in the two lowest marginal tax brackets, a 15% rate applied to the next four, and a 20% capital gains tax rate applied to the top tax bracket.)
Data source: Tax Cuts and Jobs Act.
Other Deductions
Mortgage interest, charitable giving, medical expenses, and
state and local taxes (SALT) remain--with some changes.
Mortgage interest
deductions can only be taken on debt up to $750,000, down from $1,000,000.
Charitable giving is largely the same, but with the deduction cap rising from
50% to 60% of income.
Medical expense deductions rise from unreimbursed
expenses above 10% of AGI to 7.5% of AGI--and this is retroactive to the 2017
tax year.
The new law limits the total deduction of income, sales, and property taxes to $10,000.
Deductions being eliminated:
- Moving expenses
- Employer-subsidized parking and transportation reimbursement
- Casualty and theft losses (except those attributable to a federally declared disaster)
- Unreimbursed employee expenses
- Tax preparation expenses
- Other miscellaneous deductions previously subject to the 2% AGI cap
The Estate Tax Exemption
The new estate tax law doubles the 2017 exemption amounts
from $5.6 million per individual and $11.2 million per married couple to $11.2
million and $22.4 million respectively.
This simplifies estate planning for the vast majority of households and allows children to inherit family farms or businesses valued under these thresholds without facing the dreaded death tax, which can sometimes force the sale of the farm or business to pay the tax bill.
The New Rules are Temporary
The one thing that irritates me the most about this bill is that the tax cuts I’ve described have a built-in expiration date of 2025. This makes future planning more difficult.
After tax year 2025, if nothing is done, most of these individual tax laws “sunset” and return to their previous levels. The sunset provision was supposedly necessary due to a senate rule called the Byrd Rule. Without 60 votes to prevent a filibuster, the senate’s simple majority vote cannot legislate net tax cuts that go beyond a 10-year period.
Small Business Pass-Through Deduction
A significant new deduction was a 20%
deduction for pass-through businesses income, which will incentivize employees to
shift to becoming independent contractor service businesses.
There are phaseout income limits that apply to
"professional services" business owners such as lawyers, doctors, and
consultants, which are set at $157,500 for single filers and $315,000 for
pass-through business owners who file a joint return.
As Michael Kitces points out, “Larger service businesses do not benefit from the new rules at all and may feel compelled to convert to C corporations (or at least become partnerships or LLCs taxed as corporations).”
For partnerships, LLCs, and S corporations, the new 2018 pass-through tax limitation applies to W-2 wages and specified service businesses and is calculated at the individual level (based on each partner/owner's share of the income, deductions, W-2 wage allocations, etc.). This means “lower income” partners and owner-employees might still be eligible for the new 20% deduction on service business income even if higher-income partners/owners are not. This may prompt small businesses to distribute ownership to multiple family members who are all below the limit.
Elimination of the Roth Conversion Recharacterization
Unfortunately, one of my favorite Roth conversion features
which I discuss in How
to Maximize the Roth IRA to Your Tax Advantage
and How
a Family Turned a Job Loss into a Retirement Advantage
has been
repealed in the TCJA of 2017.
Roth conversions done in 2018 and beyond cannot be recharacterized.
This means that the strategy of “undoing” all or part of a Roth conversion after months of evaluating tax liabilities and investment performance
is no longer possible.
Roth contributions
can still be undone after the fact. But Roth conversions
will now most likely need to be done at the end of the business
year, when more accurate assessments can be made about one’s tax liabilities. Without any recharacterization option,
the amount to convert will need to be much more precise.
And, the look-back option to undo a conversion done earlier in the year based on the subsequent investment performance inside the Roth IRA is unfortunately a beautiful strategy of the past.
Summary
The permanent corporate tax changes in the TCJA are a great
simplification and massive tax cut for corporations, which will benefit the
economy, workers, and stock and corporate bond investors.
The TCJA will also lower taxes for most individual tax-payers. Unfortunately,
the new bill did not greatly simplify the individual tax code, the rates are not lower by much, and the new
lower rates expire after 2025 if lawmakers at that time do nothing to extend them.
The changes are so numerous, it will likely take a year or more for planners to figure out all the new tax-saving strategies. And analysts are already recommending amendments. I will keep you informed as strategies and changes emerge.
This article is for information only and not meant to be
advice. There are many caveats and stipulations not discussed in this overview
article. See a tax adviser before making any decisions regarding the
new tax laws.
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Investment Advisory Services offered through JT Stratford, LLC. JT Stratford, LLC and Echols Financial Services, LLC are separate entities.
- Liquidity--Retirement assets are not being locked up or annuitized such that capital is not available for emergencies.
- Income—Using an optimized withdrawal rate, an increasing income is produced to combat inflation (unlike many pensions, bank and insurance strategies that are not inflation-adjusted).
- Growth--assets that can combat inflation over a 20 to 30-year period, giving the retiree more income and upside potential under normal and good economic times.
- Safety--manages the myriad of investment risks like market risk, inflation risk, and credit risk. Under worst-case scenarios, if withdrawal amounts are adjusted by using guardrails, the portfolio can still provide a lifetime income.
Here is an executive summary of how to build up a portfolio for retirement in seven steps.
1. Values clarification and goal-setting . Figure out the income objective and capability of your retirement assets in lifestyle terms, then financial terms. In other words, set realistic, specific, financial goals based on your core life values.
2. Asset allocation glide path . Figure out how to diversify your retirement assets among stocks, bonds, and cash, based on your age, risk tolerance, retirement goals, and changing market values.
3. Valuation-dependent efficient frontier . Figure out which areas of the markets are historically inexpensive, and which are historically expensive. Don’t take on more volatility than you need to for the growth you need or desire.
4. Multi-asset class approach . Diversify one more step for more growth and less volatility. Put more money in the specific market areas that are less expensive and less money in the specific market areas that are more expensive.
5. Tax-aware asset location and distribution . Save as much on taxes as possible by figuring out which type of investments should be held in which types of accounts. If you are drawing an income from your assets, figure out the least-costly order for making withdrawals.
6. Investment selection based on account type (qualified, nonqualified) and asset-class propensity and magnitude of outperformance (passive, factor, managed, etc. ). Figure out what kind of investment to use (index mutual fund, factor mutual fund, actively managed mutual fund, single factor ETF, multifactor ETF, passive ETF, individual stocks, individual bonds, Unit Investment Trust, closed-end fund, etc.) based on the account type, asset class, and growth and income needs.
7. Rules-guided rebalancing based on retirement glide path and multi-asset-class approach . Readjust the investment mix based on your changing personal situation and changing market values.
Sign up to receive my free monthly email articles...because you want to make the most out of your retirement
.
Here is a summary of the details backing this approach. Also, click here for more background information regarding my investment philosophy.
1. Values clarification and goal-setting
Investment planning for (or in) retirement starts with retirement planning. You start with thinking about your life goals...your dreams...your ideal life in retirement. It could involve doing no work, working part-time, or doing seasonal work. Your ideal life could be going back to school, spending more time with family, traveling, ministry, etc.
Ask yourself questions like, "What would I want to do if I
didn't need to work for money?" or "What are the most important
dangers, opportunities, and strengths I need to address?" or“Ten years from now, if I am looking back on a successful
ten years, what will I have achieved?”
This conversation allows you to create specific
goals around your most cherished values. And your goals will be unique to you.
You then design an investment plan to help you live your ideal life.
This kind of goal-focused, plan-driven approach minimizes the
chances of making bad investment choices based on current events and emotions.
Instead, you can choose and maintain the
specific mix of investments that can best deliver the results you need--using a
disciplined, research-driven approach.
2. Asset allocation glide path
The next major question is what kind of investments do you need to meet your goals. All investments have risk. Even "safe" investments over long periods have inflation risk. No single investment delivers growth, high income, and safety of principal. The key is designing a portfolio that balances them in a way that supports your retirement objectives.
And this mix may change over time. For example, for most people, it makes sense to gradually decrease their exposure to high-growth, high-volatility assets like stocks (i.e., equities) as they approach retirement. In retirement, it is usually best to maintain a flat equity glide path, dynamically adjusted for valuation. This approach protects you from the retirement-danger-zone risks of portfolio size effect and sequence risk, while allowing you to take advantage of bear markets and market corrections. See How to Navigate the Retirement Danger Zone .
- Liquidity--Retirement assets are not being locked up or annuitized such that capital is not available for emergencies.
- Income—Using an optimized withdrawal rate, an increasing income is produced to combat inflation (unlike many pensions, bank and insurance strategies that are not inflation-adjusted).
- Growth--assets that can combat inflation over a 20 to 30-year period, giving the retiree more income and upside potential under normal and good economic times.
- Safety--manages the myriad of investment risks like market risk, inflation risk, and credit risk. Under worst-case scenarios, if withdrawal amounts are adjusted by using guardrails, the portfolio can still provide a lifetime income.
Here is an executive summary of how to build up a portfolio for retirement in seven steps.
1. Values clarification and goal-setting . Figure out the income objective and capability of your retirement assets in lifestyle terms, then financial terms. In other words, set realistic, specific, financial goals based on your core life values.
2. Asset allocation glide path . Figure out how to diversify your retirement assets among stocks, bonds, and cash, based on your age, risk tolerance, retirement goals, and changing market values.
3. Valuation-dependent efficient frontier . Figure out which areas of the markets are historically inexpensive, and which are historically expensive. Don’t take on more volatility than you need to for the growth you need or desire.
4. Multi-asset class approach . Diversify one more step for more growth and less volatility. Put more money in the specific market areas that are less expensive and less money in the specific market areas that are more expensive.
5. Tax-aware asset location and distribution . Save as much on taxes as possible by figuring out which type of investments should be held in which types of accounts. If you are drawing an income from your assets, figure out the least-costly order for making withdrawals.
6. Investment selection based on account type (qualified, nonqualified) and asset-class propensity and magnitude of outperformance (passive, factor, managed, etc. ). Figure out what kind of investment to use (index mutual fund, factor mutual fund, actively managed mutual fund, single factor ETF, multifactor ETF, passive ETF, individual stocks, individual bonds, Unit Investment Trust, closed-end fund, etc.) based on the account type, asset class, and growth and income needs.
7. Rules-guided rebalancing based on retirement glide path and multi-asset-class approach . Readjust the investment mix based on your changing personal situation and changing market values.
Sign up to receive my free monthly email articles...because you want to make the most out of your retirement
.
Here is a summary of the details backing this approach. Also, click here for more background information regarding my investment philosophy.
1. Values clarification and goal-setting
Investment planning for (or in) retirement starts with retirement planning. You start with thinking about your life goals...your dreams...your ideal life in retirement. It could involve doing no work, working part-time, or doing seasonal work. Your ideal life could be going back to school, spending more time with family, traveling, ministry, etc.
Ask yourself questions like, "What would I want to do if I
didn't need to work for money?" or "What are the most important
dangers, opportunities, and strengths I need to address?" or“Ten years from now, if I am looking back on a successful
ten years, what will I have achieved?”
This conversation allows you to create specific
goals around your most cherished values. And your goals will be unique to you.
You then design an investment plan to help you live your ideal life.
This kind of goal-focused, plan-driven approach minimizes the
chances of making bad investment choices based on current events and emotions.
Instead, you can choose and maintain the
specific mix of investments that can best deliver the results you need--using a
disciplined, research-driven approach.
2. Asset allocation glide path
The next major question is what kind of investments do you need to meet your goals. All investments have risk. Even "safe" investments over long periods have inflation risk. No single investment delivers growth, high income, and safety of principal. The key is designing a portfolio that balances them in a way that supports your retirement objectives.
And this mix may change over time. For example, for most people, it makes sense to gradually decrease their exposure to high-growth, high-volatility assets like stocks (i.e., equities) as they approach retirement. In retirement, it is usually best to maintain a flat equity glide path, dynamically adjusted for valuation. This approach protects you from the retirement-danger-zone risks of portfolio size effect and sequence risk, while allowing you to take advantage of bear markets and market corrections. See How to Navigate the Retirement Danger Zone .
Protecting your lifetime retirement savings from excessive taxes is a crucial part of holistic financial planning. This involves protecting your IRA, 401k, lump sum pension rollover, Social Security, and any other type of retirement account or income stream from crushing tax rates.
So let's be sure to differentiate tax preparation
from tax planning
.
Tax preparation , also called tax return preparation, looks backward, one year at a time, to get the numbers right to accurately calculate your tax liability (and how much you owe or overpaid).
Tax planning on the other hand looks at taxes in the context of your overall financial picture. A tax planner not only looks in the rear-view mirror but will look forward 20 to 30 years at your projected tax liability and ask what can be done to lower your lifetime tax bill.
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If you have savings outside of pretax retirement accounts invested in capital assets (like stocks, bonds, ETFs, mutual funds, precious metals, jewelry, and real estate) which have large unrealized capital gains, this article is for you. You may be missing the opportunity to pay zero taxes NOW instead of 15% or higher rates in the future. Sign up to receive my free monthly email articles on retirement planning--no cost, no obligation
.
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Originally written on Aug 2, 2018 and updated for tax law changes.
If you are no longer working and have reached the age of 72,
you probably know about Uncle Sam’s rule for you to take a Required Minimum Distribution
(RMD) from your traditional and rollover IRA(s) each year for the rest of your life. You can always withdraw more,
but this requirement is the minimum
you must take or be severely penalized. Fortunately,
this rule does not apply to Roth IRAs. (The SECURE Act of 2019 changed the starting RMD age from 70½ to 72 starting in 2020, but fortunately you can still make a Qualified Charitable Distribution (QCD) starting the year you turn 70½.)
Sign up to receive other helpful email articles on retirement planning--free of charge
.
If you have delayed paying taxes in your pretax IRA, 401(k), or 403(b), etc, there comes a time when the IRS wants their taxes. And if you don’t give them their taxes based on their required withdrawal schedule, you'll get hit with a 50% penalty on top of what you owed.
Along with Social Security and other retirement income, this RMD can significantly raise your tax rate. Also read How to Dodge the Social Security Tax Torpedo . There are not many ways to reduce this tax burden. In the past, retirees have used various deductions including charitable cash contributions and gifting of highly appreciated assets to charities. (The latter not only gives you, the donor, a deduction but also avoids a long-term capital gains tax bill.)
However, with the passing of the Tax Cuts and Jobs Act of 2017 (TCJA) , with its almost doubling of the standard deduction, itemizing deductions won’t make sense for near as many retirees. Ah, but there is still a strategy. But first let’s better understand the RMD.
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The latest book I am reading is “ The Psychology of Money ” by Morgan Housel. Chapter 3 is entitled “Never Enough”. In this chapter, Housel talks about when rich people do crazy things. He tells stories of wealthy people who never had a sense of enough and wrecked their reputations, families, freedom, and happiness because of it. I have also talked to older couples who tell me they once had a much better retirement in view, but the quest for more led them to make unwise investment decisions that left them financially crippled in retirement. The importance of knowing when you have enough is not only vital to when you retire but also how you retire. It can affect how you invest, how you withdraw, and your overall satisfaction before and during retirement. Be sure to read to the end where I summarize a few key takeaways. Housel makes the four following observations in chapter 3 of his book. Sign up to receive my free monthly email articles on retirement planning--no cost, no obligation
.
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Whether you do mini-Roth conversions over several years or big Roth conversions in a few strategic years, the Roth conversion strategy could save you tens if not hundreds of thousands of dollars over your retirement. This article will get deep into the issues of Roth conversions for retirees and the ten steps to take to be sure it is done properly. Be sure to scan or read to the end where I will give you the simple answer to getting your Roth conversion questions answered. Sign up to receive my free monthly email articles on retirement planning--no cost, no obligation
.
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Making big financial decisions immediately following the death of a close family member can be dangerous. It is often best to allow some time before tackling big financial decisions. On the other hand, some people find getting immersed in the finances is helpful in coping with the loss. Whatever way is best for you, you will need to give it your
careful attention to avoid big financial mistakes. The different types of accounts have different rules. I'll address the most common types. In the case of the death of a parent or anyone other than your spouse in which you are a non-spouse beneficiary, there are many rules that you must know to make the best decision for you and your family. (In this article, I use the common parent-child inheritance, but the planning strategies can apply to other non-spouse situations.) Your decisions can have major tax and investment consequences, both now and in the future. And some of these decisions have time deadlines keyed to your parent’s date of death. Also, some of these decisions are irreversible. You can download my free Estate Planning Survivor Checklist here
.
So, you don’t want to rush in and make decisions without knowing the rules, and you don’t want to wait too long and be stuck with fewer options. (In this article, I am not addressing estate taxes. As of 2021, only estates valued at $11.70 million or more are subject to federal estate tax. But there are plenty of other tax pitfalls to navigate around. I am also going to focus on liquid savings like investment and retirement accounts, versus real estate which will be for another time.) Sign up to receive my free monthly email articles on retirement planning--no cost, no obligation
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Delaying Social Security makes a lot of sense for many retirees; but there are common pitfalls that can cost you a bundle. As you know, the longer you delay your Social Security Retirement benefit, the higher your lifetime monthly payments are figured to be. This increase in delaying continues until age 70, after which there are no further increases for delaying. This increase for each month that you delay filing is not small, especially considering the current low interest rates. Even after full Social Security age, your payment goes up by 8% per year until age 70. Sign up to receive my free monthly email articles on retirement planning--no cost, no obligation . Here are the five big mistakes of delaying your Social Security retirement benefit. |
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Investment Advisory Services offered through JT Stratford, LLC. JT Stratford, LLC and Echols Financial Services, LLC are separate entities.
Serving Cumming, GA, Forsyth County, and the surrounding areas of John's Creek, Alpharetta, Milton, Duluth, Buford, Suwanee, Flowery Branch, and Gainesville
