Tax bill: update and takeaways
We're working on a detailed examination of the final tax bill text; in the meantime, here are some important takeaways to think about:
1.Tax-management strategies are preserved – investors will still be able to choose their tax lots (no forced "first-in, first-out" treatment – as had been proposed by the Senate) when gifting or selling securities.
2. State and local taxes (SALT) – both income and property – will be deductible up to $10k (combined), but it is not indexed to inflation. The Act states that taxpayers may not take a deduction in 2017 for prepayment of state or local income tax imposed for taxable years beginning after 31 December 2017. Clients should discuss with their CPA whether they could benefit from prepaying property taxes in 2017.
3. Standard deduction – With the standard deduction now roughly doubled, an estimated 90% of filers will take this in lieu of itemizing.
- For many, this will simplify tax filing – especially those who had been subject to the Alternative Minimum Tax.
- This increases the usefulness of Donor Advised Funds (DAFs) – by making larger contributions every few years, families will be able to clear the hurdle to itemize, while maintaining the flexibility to dole it out to charities on a more regular basis.
4. Brackets – There will still be seven marginal tax brackets, with lower rates across the board.
- There is a marriage penalty for those in the top bracket, which adds up to about $8k for households that earn $1mn, assuming income is split evenly. The marriage penalty declines as one spouse makes a larger share of the income.
- Brackets are going to be indexed to chained-CPI going forward. I tend to not think of our political outcomes as overly technocratic, but inflation-index manipulation has become a common way to reduce the growth of benefits (Social Security) or increase revenue (the new tax code) gradually over time.
- Amazingly, long-term capital gains and qualified dividends will be taxed using the old thresholds.
5. Home-related taxes – Mortgage deductibility will be limited to $750k on all new mortgages, while existing mortgages are grandfathered up to the $1mn limit. Interest on home equity loans (new or existing) are no longer deductible. The primary residence exclusion ended up not changing. Remains $500k joint and must have been occupied 2 out of the last 5 years.
6. The medical expense deduction – reduced to 7.5% of income for 2018 and 2019, but increases back to 10% in 2020.
7. Pass-through taxes – The 20% pass-through deduction phase-out begins at $315k (joint) AGI, but is quite convoluted and leads to higher marginal tax rates between $528k and $624k of income. Real estate pass-through entities will also be able to benefit from the deduction as long as they are not paying out significant wages.
8. Kiddie tax – Children's unearned income will be taxed at rates applied to trusts and estates, which will generally be an increase.
By Michael Crook, Head Americas UHNW and Institutional Strategy, and Justin Waring, Investment Strategist Americas
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