The following is an outline of the Tax Cuts and Jobs Act (TCJA), as well as some changes that may influence your taxes in the near future. We also provide a summary of several hotly debated initiatives that did not materialize. While this guide does not cover every change to the tax law, it does cover the important points that will effect the most individuals.
The impact of the tax bill on you is determined by your specific circumstances, including how many children you have, how much you spend in mortgage interest and state/local taxes, how much you make from employment, and other factors.
- The Tax Cuts and Jobs Act went into effect on January 1, 2018, and it will have a significant impact on taxpayers until 2025.
- The approximately 200-page Act significantly alters the tax law for institutions and individuals, with an emphasis on lowering individual, corporation, and inheritance tax rates.
- The tax changes touch almost everyone in America, but the impact you experience may vary depending on your personal and company circumstances.
- Understanding this tax legislation and how it may apply to your situation might help to reduce ambiguity in tax planning and filing.
Passing the Tax Cuts and Jobs Act
Former President Donald Trump signed the Tax Cuts and Jobs Act into law on December 22, 2017. (TCJA).It reduced individual, corporation, and estate tax rates, as the name suggests.
One of the Act’s most important provisions is the reduced corporation tax rate. This reduction is thought to be a significant element in business earnings and employment creation. The Act was titled “An Act to allow for reconciliation according to sections II and V of the concurrent resolution on the budget for fiscal year 2018.”
The final measure is nearly 200 pages long, and the long-term repercussions on Americans and the economy will be seen from January 1, 2018 until 2025. Meanwhile, a number of its consequences were instantly apparent.
You Own a Home
If you reside in a high-tax region, the new $10,000 cap on how much state and local tax (including property taxes) you may deduct from your federal income taxes will effect you (exempted: taxes that are paid or accrued through doing a business or trade).More information is provided below.
However, fewer individuals will itemize now that the standard deduction has almost doubled. Annual adjustments are made to the figures:
- The standard deduction for single taxpayers is $12,550 in 2021 and $25,100 for married couples filing jointly.
- The standard deduction for single taxpayers is $12,950 in 2022 and $25,900 for married couples filing jointly.
Homeowners will also be unable to deduct the interest on home equity loans, regardless of whether they itemize.
You’re Buying (or Selling) a Home
Previously, homeowners could deduct up to $1,000,000 in mortgage interest, or $500,000 for married taxpayers filing separately. Anyone who obtains a mortgage between December 15, 2017, and December 31, 2025 may only deduct interest on a loan of up to $750,000, or $375,000 for married taxpayers filing separately.
These tax code changes may make homeownership less accessible for purchasers in pricey locations. For most individuals, the tax differential between owning and renting is now substantially lower.
Itemizing Your Deductions
As previously stated, the standard deduction has almost doubled.
This implies that many families who formerly itemized their deductions on Schedule A will now accept the standard deduction, simplifying tax preparation for Americans. Not submitting Schedule A implies less record-keeping and less time spent on tax preparation.
Taxpayers who continue to itemize should be aware that many Schedule A items have changed. Among the modifications are the deletion of several former deductions.
Casualty and Theft Losses
These things are no longer tax deductible unless they are tied to a loss in a federally designated disaster region; for example, victims of hurricanes, floods, and wildfires.
The medical expenditure deduction level for tax year 2021 is 7.5%.
If your adjusted gross income is $50,000 or above, you may deduct medical costs in excess of $3,750. So, if you paid $5,000 in medical expenditures and itemized using Schedule A, you will be able to deduct $1,250 of that amount.
State and Local Taxes
Taxpayers may deduct up to $10,000 from their total state and local income taxes, sales taxes, and property taxes (added together).Itemizers in high-tax states like California, New York, and New Jersey may be harmed by this proposal.
The $10,000 limit applies regardless of whether you are single or married filing jointly. This sum is reduced to $5,000 if you are married filing separately.
Eliminated Miscellaneous Deductions
Taxpayers will no longer be able to deduct the cost of tax preparation, investing fees, biking to work, unreimbursed employment expenditures, or relocating expenses.
Taking a Personal Exemption
Individuals, spouses, and dependents each received a $4,050 exemption for the 2017 tax year. As a deduction, it helped to lessen your taxable income. That exemption reduces to zero until 2025.
The exemption’s abolition has the biggest impact on taxpayers with families. Here are three instances of tax benefits comparing the 2021 tax year to the 2017 tax year prior to the TCJA’s implementation.
Single, With No Children
- The standard deduction has been raised from $6,350 to $12,550.
- Personal exemptions are reduced from $4,050 to zero.
- Old tax break:$10,400
- New tax break:$12,550
Married Filing Jointly, With No Children
- The standard deduction has been raised from $12,700 to $25,100.
- Personal exemptions are reduced from $8,100 to zero.
- Old tax break:$20,800
- New tax break:$25,100
Married Filing Jointly, With TwoChildren
- The standard deduction has been raised from $12,700 to $25,100.
- Personal exemptions are reduced from $16,200 to zero.
- Old tax break:$30,900
- New tax break:$25,100
Another offset is an increase in the child tax credit for married persons with children.
Child Tax Credit
The Kid Tax Credit was doubled from $1,000 to $2,000 each child under the age of 17. It’s also refundable up to $1,400, which means you may earn a partial child tax credit even if you don’t owe tax because your income is too low. The TCJA also expands the tax credit’s availability to the middle and higher classes.
In 2017, single parents could not claim the whole credit if their income above $75,000, and married parents could not claim it if their income exceeded $110,000. The TCJA raises these criteria to $200,000 and $400,000 until 2025.
The previous legislation applied to minors under the age of 17. The tax measure does not modify the age limit for the child tax credit, but it does affect illegal immigrant parents.
Previously, illegal immigrants who filed taxes with an individual taxpayer identification number were eligible for the child tax credit. The new rule requires parents to furnish the Social Security number (SSN) for each kid for whom they are claiming the credit, which seems to be intended to prohibit even unauthorized immigrants who pay taxes from collecting the benefit.
Using 529 Plans for School
One significant change is that 529 plans have been enlarged. In addition to funding college fees, parents may now spend up to $10,000 per year from 529 plans to pay for K-12 education tuition at any public, private, or religious school of their choosing.
This is especially relevant for people who have 529 plans. Following the passage of the Setting Every Community Up for Retirement Enhancement Act, popularly known as the SECURE Act, the requirements were increased even more. The measure, which was signed in December 2019, permits 529 account holders to withdraw money to pay for expenditures associated to a beneficiary’s apprenticeship. The program must be registered with the Department of Labor in order to qualify.
The opportunity to utilize assets to pay off student debt is another new feature of the 529 plan. Section 302 allows a plan holder to withdraw up to $10,000 in lifetime to pay off an eligible college debt for a beneficiary or their sibling. These withdrawals are neither taxed or penalized at the federal level, but they may be considered nonqualified distributions under state tax regulations.
Elderly Dependents or Children Over 17
Taxpayers may claim a nonrefundable $500 credit for dependents who do not qualify for the child tax credit, such as college-aged children and dependent parents, subject to the same income restrictions as the new child tax credit (explained in the “Children Under 17″section, above).Caregivers have lost two advantages as a result of the new legislation.
Caregivers may no longer claim the $4,050 personal exemption for an elderly parent since the personal exemption has been eliminated. Furthermore, they may no longer claim a dependent care tax credit for eligible relatives who meet the dependent conditions of having a gross income of less than $4,050 and living with the taxpayer for at least half the year. The highest amount allowed ranged from $600 to $1,050, depending on the taxpayer’s adjusted gross income, and was based on up to $3,000 in care expenditures.
The credit for care for a dependant, such as an elderly parent, has been reinstated for the 2021 tax year only. Costs of up to $4,000 may be recovered.
Being unable to claim this credit and receiving just $500 instead—as well as losing the personal exemption of $4,050—is a big setback for family carers.
Buying Insurance Through the ACA
Beginning April 1, 2021, the American Rescue Plan of 2021 cuts the cost of Marketplace plans, boosts tax credits for many Americans, and extends eligibility for tax credits. Every month, the typical Marketplace user will save $85 per policy.
The Republicans achieved their goal to abolish the individual mandate penalty for health insurance. This move implies that persons who do not purchase health insurance will not have to pay a fee to the IRS (IRS).
Federal and Private Student Loans
From 2018 through 2025, federal and private student loan debt released due to death or incapacity will not be taxed. This modification will be very beneficial to unlucky families. However, private lenders are not required by law to dismiss debts in the case of death or incapacity.
Assume you’re married and owe $30,000 in school loans. Under the previous legislation, if you died or became permanently incapacitated and your lender canceled your obligation, bringing it to zero, you or your estate would owe $30,000. Your heirs or survivors would owe $7,500 in taxes if your marginal tax rate was 25%. The TCJA tax change removes this burden.
$12 Million Estate Tax Relief
Individuals’ prior federal estate-tax exemption levels were $5.49 million. There was no estate tax due if a person died with assets worth less than specified amounts.
Individual limits will more than treble to more over $12 million between 2018 and 2025.
The maximum estate tax rate stays at 40%. The estate tax, like the individual income tax, has a bracketed system with escalating marginal rates. It begins at 18% but soon rises. When your taxable estate (the amount above the exemption) exceeds six figures, you’re already in the 28% tax bracket.
Changes in the Tax Bracket
Tax rates are shifting throughout the income range until 2025. If no new legislation is passed, the adjustments will expire in 2026, and the 2017 rates would be reinstated. Individual slashes were not rendered permanent. The reason for this is their impact on the budget deficit.
The Tax Cuts and Jobs Act (TCJA) reduced tax rates across income tax categories, with income levels updated yearly based on the Chained Consumer Price Index for All Urban Consumers.
According to the nonpartisan Tax Policy Center, the tax-bracket modifications will save money for everyone on average. The top 95% to 99% will benefit the most, with an average tax reduction of around 3.4%, while the top 1% will benefit from an average tax cut of about 2.2%. In 2018, families should see a 1.7% rise in after-tax income.
The new tax rates do away with the marriage penalty. For married couples filing jointly, the income brackets that apply to each marginal tax rate are precisely twice those for individuals. Previously, following marriage, some couples found themselves in a higher tax rate.
Continue reading to find out how the changes will influence your bracket. It should be noted that there is considerable overlap in where persons fall on the income range. Also, income tax rates will not change until 2025, although qualifying income bands will be changed yearly for inflation.
The tax law also alters how tax bands are adjusted to account for inflation. They are now linked to a slower gauge of inflation known as the Chained Consumer Price Index for All Urban Consumers (CPI-U).
High-Income Households Tax Liability
According to the Tax Policy Center’s estimate, families earning $308,000 to $733,000 would gain the most. Those earning more over $733,000 may get a $33,000 tax break.
According to the Tax Foundation, the richest 25% paid approximately 86% of all federal income tax collected by the government. The richest 1% earn more than 37% of the total, while the top 0.1% earn even less.
The chart below illustrates how high-income earners’ tax brackets will shift from 2018 to 2025.
2017 vs. TCJA Federal Individual Income Tax Rates for High-Income Earners
Middle-Income Households Tax Liability
According to the Tax Policy Center, the second quintile of income earners will get a little more than 1% tax decrease in 2018. The third quintile will have a 1.4% tax decrease on average. In all, middle-income families should expect to save almost $900 in taxes.
The chart below indicates how the tax bands for middle-income taxpayers would change.
2017 vs. TCJA Federal Individual Income Tax Rates for Middle-Income Earners
According to the Tax Policy Center, around 82% of middle-income-quintile families would have a reduced tax payment, while 9% will have a higher tax bill. The third and fourth quintiles of households pay around 16% of total federal income taxes.
Low-Income Households Tax Liability
According to the Tax Policy Center, more than 70% of low-income families would experience no change in their tax due as a result of the tax reform.
It should be noted that many people in the lowest tax categories do not earn enough to owing federal income tax. According to the Tax Policy Center, the lowest 20% of income earners get 0.4% of total federal income taxes paid each year, with an average tax bill of $60. The second-lowest 20% are in the same boat. Lower-income employees, on the other hand, must pay Social Security and Medicare taxes even if they do not always pay federal income taxes. The chart below indicates how low-income earners’ tax brackets may alter.
2017 vs. TCJA Federal Individual Income Tax Rates for Low-Income Earners
Pass-Through Business Taxes
A pass-through firm pays taxes under the individual income tax law, not the corporation tax system. Pass-through firms include sole proprietorships, S corporations, partnerships, and limited liability companies (LLCs), while C corporations do not.
Pass-through company owners may deduct 20% of their business revenue under the new tax law, lowering their tax obligation. Professional-services company owners, such as attorneys, physicians, and consultants, who file as single and earn more than $157,500 or jointly and earn more than $315,000, face a phase-out and a deduction limit.
Other kinds of enterprises that exceed these earnings levels will only be entitled to deduct the greater of 50% of total wages paid or 25% of total wages paid plus 2.5% of the cost of tangible depreciable property, such as real estate. The pass-through deduction will assist independent contractors and small company owners, as well as major enterprises organized as pass-through corporations, such as some hedge funds, financial firms, manufacturers, and real estate companies.
From 2018, both pass-through and corporate company owners will be allowed to deduct 100% of their cost of capital expenditures for five years instead of deducting them progressively over many years. This implies that some investments will be less costly for firms.
The TCJA converts the United States’ company tax structure from a global to a territorial one. This implies that US firms will no longer be required to pay US taxes on most future international earnings. Under the former system, US firms paid US taxes on all earnings, regardless of where they were made.
The tax reform also alters the taxation of repatriated foreign profits. When US firms repatriate earnings earned abroad, they must pay an 8% tax on illiquid assets such as factories and equipment, and a 15.5% tax on cash and financial equivalents. The tax is spread out over eight years.
Both new rates are significant reductions from the previous rate of 35%. Furthermore, the anti-base-erosion and anti-abuse tax is intended to prevent US firms from transferring earnings to lower-tax jurisdictions in the future.
Although these cuts will have an impact on how much corporation tax is applied to the deficit, they will not expire until 2026, unlike the individual cuts.
Proponents of tax reform argue that Americans who hold stocks, mutual funds, or exchange-traded funds (ETFs) in their retirement and investment accounts would benefit as well. The rationale is that as international stocks grow in value, so do their investments.
They further point out that the previous system of international taxation harmed Americans by transferring jobs, earnings, and tax money offshore by essentially taxing foreign-earned income twice. The majority of industrialized nations employ a territorial system, and the United States joined them on January 1, 2018. This might lead to fewer firms migrating abroad to save money on taxes.
Corporate Tax Rates
Corporations, like persons and estates, are subject to a bracketed tax system with escalating marginal rates. These rates were as follows in 2017:
Starting April 2018, the corporation tax rate was permanently reduced to 21%. Most firms will have a reduced federal tax burden since it is a flat rate that is lower than most of the prior marginal rates. Those with earnings of less than $50,000 will face a greater tax burden since their tax rate would rise from 15% to 21%.
According to a Wall Street Journal research, merchants, health insurers, telecommunications carriers, independent refiners, and grocers are the firms most likely to gain from reduced corporate rates. According to MarketWatch’s Corporate Tax Calculator, Aetna has paid a median effective tax rate of 35% over the previous 11 years, while Time Warner has paid 33%, Target has paid 34.9%, and Phillips 66 has paid 31.3%.
Changes in corporate profit taxation, like changes in foreign profit taxation, would effect everyone who owns shares of a firm via stocks, mutual funds, or ETFs.
Under the previous legislation, the maximum marginal tax rate for companies in the United States was 35%, whereas the worldwide average was 25.44% when adjusted for GDP. Critics have long claimed that America’s high corporate tax rates put the US at a competitive disadvantage when compared to lower-tax countries such as Ireland, causing American firms’ revenues to be sent elsewhere. Companies may enable more profits to be made domestically now that rates are lower, and they may spend less resources campaigning for lower tax rates and more resources enhancing their goods and services.
Also removed was the corporate alternative minimum tax of 20%.
The Tax Foundation’s estimates, on the other hand, indicated that the tax proposal would grow GDP by 1.7% in the long run, raise salaries by 1.5%, and create 339,000 full-time equivalent employment. They predict that GDP will expand by 0.29% each year on average over the next decade, increasing from 1.84% to 2.13%. They also anticipate that the tax cuts will raise government revenues by $1 trillion. In 2018, there was job growth.
You’re a Tax Professional
Tax preparers, tax lawyers, and accountants should already anticipate an increase in business from customers looking to maximize advantages or prevent harm from tax-code changes.
In 2018, they were quite busy assisting individuals in establishing pass-through enterprises and reevaluating their customers’ situations in light of all the tax changes. However, tax preparers that mainly serve low- and middle-income taxpayers may suffer a decrease in business since fewer of these families will benefit from itemizing their deductions.
What’s Permanent, What Isn’t
All of the individual tax adjustments, including the 20% deduction for pass-through income, are only temporary. The majority of the modifications will expire after 2025, with a few exceptions, such as the lower medical-expense level, expiring sooner. The reduction in corporate tax rates, foreign tax regulations, and the switch to a slower gauge of inflation for establishing tax bands are all permanent.
On November 2, 2017, the House unveiled its initial version of the tax plan. Different parties with a lot to gain or lose battled hard to safeguard their interests.
Graduate students were alarmed by the prospect of having their tuition exemptions taxed. Many graduate institutions do not charge students who teach or serve as research assistants tuition. Students were unhappy to receiving tax bills for money they did not get. The average graduate tuition in the 2015-16 school year was $17,868, thus depending on the tax rate, the tax bill could have been several thousand dollars. This tuition benefit will continue to be tax-free for graduate students.
Anyone with student loan debt will be able to deduct the interest even if they no longer itemize due to the increased standard deduction.
Teachers were particularly concerned about losing up to $250 in deductions for classroom and job-related costs. They didn’t do it. They may claim this deduction whether they itemize or take the standard deduction.
In addition, the low-income housing tax credit was preserved. According to the president of the National Low Income Housing Coalition, a bill provision that would have revoked the tax-exempt status of private activity bonds, a benefit that encourages investment in affordable housing construction by lowering its cost, would have resulted in “a loss of around 800,000 affordable rental homes over the next ten years.” These bonds may also be used to fund infrastructure projects like roads and airports.
The measure also failed to repeal the alternative minimum tax on individuals. However, it did raise the AMT payment threshold, so fewer people would be impacted.
As mentioned above in “You Itemize Deductions and File Schedule A,” the House measure sought to abolish medical-expense deductions, but the final law preserves them and offers a minor bump for two years.
The earned income tax credit, which provides a tax relief to low-income workers, was not extended.
Finally, the extension of 529 plans to encompass K-12 education did not include homeschooling.
The Bottom Line
The Tax Cuts and Jobs Act will affect all Americans’ tax payments beginning with the 2018 tax year and extending mostly until 2025. Overall, the TCJA reduces tax rates across the board, reducing Americans’ income tax burden. Individually, knowing how the Act impacts taxes in your tax bracket and unique situations that directly affect you will help you guarantee you are taking advantage of all the deductions you are entitled to and ultimately paying the lowest tax bill possible.
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