2018 year-end tax planning considerations - bdo usa, llp€¦ · 5 2019 tax talk year-end planning...

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YEAR-END TAX PLANNING

CONSIDERATIONS

FOR INDIVIDUALS November 19, 2019

1 2019 Tax Talk Year-End Planning Series: Year-End Planning Considerations for Individuals

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With You Today

JACK NUCKOLLS

Managing Director

National Tax Office

Private Client Services Technical

Practice Leader

(415) 490-3393

[email protected]

JEREMY MERTENS

Managing Director

National Tax Office

Private Client Services

(616) 802-3478

[email protected]

mailto:[email protected]



Today’s Discussion Topics

Introduction

2019 Year-End Tax Planning Resources

Individual Tax Planning Strategies

Capital Gains Tax Planning

Estate, Gift, and Generation-Skipping Tax Planning


Introduction


Introduction

As the end of the year approaches, now is a good time to think of planning moves that

will help lower our clients’ tax bill for this year and possibly next year.

Despite this atmosphere of change, the time-tested approach of deferring income and

accelerating deductions to minimize taxes still works for many taxpayers, along with the

tactic of “bunching” expenses into this year or into the next year, whichever is more

beneficial in order to get around those remaining deduction restrictions that are based

on a percentage of adjusted gross income.

We have compiled a list of tax saving moves and action steps that should be presented

and applied based on each of our clients’ unique tax situations to help them achieve

meaningful tax savings with proper tax planning.


2019 Year-End Tax Planning Resources


Year-End Tax Planning Resources Available!

2019 Year-End Tax Planning Letters are available on BDO.com under Insights

• 2019 Year-End Tax Planning for Individuals

• 2019 Year-End Tax Planning for Businesses


Individual Tax Laws


Individual Tax Rates

Provision Tax Year 2019

Individual Tax Rates

Seven tax brackets: 10%, 12%, 22%, 24%, 32%,

35%, and 37%.

The top individual rate will be 37% for

joint filers with more than $612,350 of

taxable income and single filers with more

than $510,300 of taxable income.


Individual Standard Deduction & Personal Exemptions


Standard Deduction

The standard deduction is increased to $24,400

for joint filers, $18,350 for head-of-household

filers, and $12,200 for all other taxpayers.

Personal Exemptions

For tax years beginning after Dec. 31, 2017, and

before Jan. 1, 2026, the exemption amount is

reduced to zero.


Medical Expenses and State & Local Tax Deductions


Medical Expense

Deduction

The itemized deduction for medical expenses must exceed 10%

of taxpayer’s AGI.

State and Local Tax, and

Real and Personal Property

Tax Deduction

The aggregate deduction for state and local real property

taxes, personal property taxes, state and local and foreign

income and excess profits taxes, and general sales taxes is

limited to $10,000 ($5,000 for married individuals filing

separately).

This $10,000 limitation will also apply to state and local

income taxes imposed on owners of pass-through entities on

their business income.

The deduction for foreign real property taxes is completely

eliminated (unless paid or accrued in carrying on a trade or

business or in an activity engaged in for profit).



Home Mortgage /

Home Equity

Interest Deduction

For tax years beginning after Dec. 31, 2017, and before Jan. 1,

2026, the deduction for interest on home equity debt is

suspended, and the deduction for home acquisition mortgage

interest is limited to underlying debt of up to $750,000 ($375,000

for married taxpayers filing separately).

The new lower limit doesn’t apply to any acquisition debt incurred

before Dec. 15, 2017.

Prior law’s $1 million/$500,000 limitations continue to apply to

taxpayers who refinance existing qualified residence debt that was

incurred before Dec. 15, 2017, so long as the debt resulting from

the refinancing doesn’t exceed the amount of the refinanced debt.

Home Mortgage Interest Deduction


Charitable Contributions & the Affordable Care Act


Charitable Contributions

The AGI limitation for cash contributions to public

charities and certain private foundations is 60% of AGI.

Contributions exceeding the 60% limit may be carried

forward and deducted for up to five years.

Affordable Care Act (ACA)

Individual Mandate

For months beginning after Dec. 31, 2018, the amount of

the individual’s shared responsibility payment or penalty

is reduced to zero.

The Act leaves the 3.8% net investment income tax and

the .9% additional Medicare tax in place.


Alternative Minimum Tax


Alternative

Minimum Tax (AMT)

The AMT exemption amounts are:

• $71,700 for single taxpayers

• $111,700 for married filing jointly

• $55,850 for married filing separately

• $25,000 for trusts and estates

These exemption amounts are reduced (not below zero) to an

amount equal to 25% of the amount by which the taxpayer’s AMTI

exceeds increased phase-out thresholds:

• For joint returns and surviving spouses, $1,020,600

• For all other taxpayers (other than estates and trusts), $510,300

• For estates and trusts, $83,500


Child Tax Credit & Alimony


Child Tax

Credit & Credit

for Other

Dependents

The child tax credit is increased to $2,000. Other modifications include:

• The income levels at which the credit phases out are increased to

$400,000 for married taxpayers filing jointly ($200,000 for all other

taxpayers). These thresholds are not indexed for inflation.

• A $500 nonrefundable credit is provided for certain non-child

dependents.

Alimony

For divorce and separation agreements executed after Dec. 31,

2018, the deduction for payment of alimony or separation

maintenance will not be available, nor will the payment be

includable in income of the recipient.

Previous agreements could be modified to be consistent with the

TCJA.


Estate & Gift Tax Exemption


Estate & Gift Tax

Exemption

For estates of decedents and gifts made after Dec. 31,

2017, and before Jan. 1, 2026, the base estate and gift tax

exemption amount is doubled from $5 million to $10

million.

The $10 million amount is indexed for inflation and is $11.4

million for 2019 ($22.8 million per married couple).

The increase in exemption amount also applies to

generation-skipping transfer taxes.

The annual gift tax exclusion amount is $15,000 in

2019.


Individual Tax Planning Strategies


Overview

Year-end tax planning is generally oriented towards the time-honored approach of

deferring income and accelerating deductions to minimize 2019 taxes.

Effective year-end tax planning must take into account each taxpayer’s unique situation

and tax planning goals, with the aim of minimizing income taxes to the greatest extent

possible.


How to Reduce 2019 AGI

Convert taxable interest to tax-exempt interest

Convert taxable interest to tax-deferred interest or income

Pay off debts and related interest on obligations with deductible interest expense

Increase contributions to 401(k) plans, SIMPLE pension plans, etc.

Increase contributions to a health savings account (HSA)

Defer receipt of year-end bonuses

Take capital losses in 2019


Who Should Accelerate Income to 2019 from 2020?

These are situations in which the acceleration of income should be considered:

Taxpayer expects to be in a higher tax bracket next year

Head-of-household or surviving spouse status ends after this year

Taxpayer plans to get married next year

Taxpayer expects to be eligible for one or more credits next year (e.g., the child tax

credit), but not this year, that are subject to phase-out when AGI reaches specified

limits

Taxpayer expects to start receiving Social Security benefits next year, which will push

him/her into a higher tax bracket


Year-End Tax Strategies

Income Deferral:

Enter into installment contracts

Hold appreciated assets

Hold U.S. Savings Bonds

Accumulate special dividend

Postpone Roth conversions

Delay debt forgiveness income

Minimize retirement distributions

Delay billable services

Structure mandatory like-kind exchange treatment


Year-End Tax Strategies

Deductions and Credits Acceleration:

Bunch itemized deductions into 2019 and take standard deduction in 2020

Pay bills in 2019

Accelerate bad debt deductions

Pay last state estimated tax installment in 2019 (if under $10,000 in total state income

taxes)

Accelerate economic performance

Manage AGI limitations on deductions and tax credits, net investment interest limitations

Plan to match passive activity income with losses


Items to Consider Before the End of 2019

There are many tax-saving steps that can be taken before the end of this year:

Realize losses on equity holdings while substantially preserving investment position.

Convert investment income taxable at regular rates (e.g., interest income) into QDI,

which is taxed at more favorable long-term capital gains (LTCGs) tax rates.

Arrange with employer to defer year-end bonuses until January of 2020.

Increase tax basis in S corporations or partnerships to make possible a 2019 loss

deduction.



Use credit cards to pay expenses since the date charged is the date deductible for cash

basis individual taxpayers, not when your credit card bills are paid.

Pay contested taxes to deduct them this year while continuing to contest them next

year.

Put equipment in service before year-end to qualify for either first-year bonus

depreciation or Section 179 expensing.

Make expenditures qualifying for the business property expensing election, or qualifying

for the election to expense materials or supplies under the de minimis safe harbor

capitalization regulations.



Take steps to avoid or minimize income tax on Social Security benefits by managing AGI

during retirement years.

Structure real estate transactions to avoid paying interest on tax deferred under

installment method.

Increase the level of participation in a business activity to meet the material

participation standard under the PAL rules.

Dispose of a passive activity to free up suspended losses.

Ask your employer to increase withholding of state and local taxes to pull the deduction

of those taxes into 2019 (assuming our clients are not already over the $10,000 cap).


Year-End Tax Planning Moves for Individuals –

Medicare Tax

The .9% additional Medicare tax also may require higher-income earners to take year-end

actions.

This tax is imposed on the wages and self-employment income of higher-income

taxpayers.

Higher-income is defined as wages and self-employment income exceeding:

• $200,000 for taxpayers with filing statuses of Single or Head of Household

• $250,000 for taxpayers with filing statuses of Married Filing Joint or Surviving Spouse

• $125,000 for taxpayers under Married Filing Separate filing status

These rules carried over from the Obama administration and were not suspended or

eliminated by the TCJA.

These thresholds are not indexed for inflation and will remain constant each year.



Medicare Tax

The tax is imposed on the combined wages and self-employment income of married

couples.

It is imposed on the employee only, not the employer.

Employers are required to withhold from employee earnings once the employee’s

earnings for the year exceed $200,000, regardless of the employee’s marital status.

Unlike regular Medicare withholding, this withholding is claimed on the taxpayer’s tax

return.

The employee computes tax and then pays any difference as part of the annual tax

return filing process.



Medicare Tax

Active partners in partnerships, as well as active members of an LLC that is taxed as a

partnership, are subject to the Medicare tax.

In choosing a form of business, notwithstanding the new state and local income tax

deduction limitations, an S corporation could help to mitigate the effects of this tax,

particularly in industries where a “reasonable salary” for a shareholder may be

established at lower levels.

Individuals should increase contributions to retirement plans to reduce taxable wages

subject to the additional tax.

The imposition of the .9% Medicare tax on Earned Income is yet another factor in the

choice of entity discussion that businesses and their owners should consider.



Medicare Tax

Single individuals liable for Additional Medicare Tax pay 1.45% Medicare tax on the first

$200,000 of compensation, plus 2.35% (1.45% + .9%) on compensation in excess of

$200,000, while married couples filing a joint return pay Medicare taxes at the rate of

2.35% on compensation in excess of $250,000.

Unlike the Social Security tax, there is NO cap on the amount of compensation subject to

Medicare tax. An employer’s obligation to withhold begins at the $200,000 threshold,

even if an employee received wages from more than one employer.

The threshold amounts are identical to those set for the Net Investment Income tax

(NIIT). However, income that escapes the NIIT does not necessarily become subject to

the .9% Medicare tax, or vice versa.


Year-End Tax Planning Moves for Individuals -

Medicare Tax

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 or

she 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.


Year-End Tax Planning Moves for Individuals

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 2019, and

possibly reduce tax breaks geared to AGI limitations (or modified AGI limitations).

Some taxpayers may benefit from applying a “bunching strategy” to pull or push

discretionary medical expenses and charitable contributions into the year where they will

be most beneficial. For example, if a taxpayer knows he or she will be able to itemize

deductions this year but not next year, the taxpayer may be able to make two years'

worth of charitable contributions this year, instead of spreading out donations over 2019

and 2020.


Year-End Tax Planning Moves for Individuals

If a taxpayer was in an area affected by a federally declared disaster area, and they

suffered uninsured or unreimbursed disaster-related losses, keep in mind they can

choose to claim them on either the return for the year the loss occurred (in this

instance, the 2019 return normally filed next year), or the return for the prior year

(2018).

If they were in an area affected by a federally declared disaster area, they may want to

settle an insurance or damage claim in order to maximize their casualty loss deduction

this year.


Year-End Planning for the Alternative Minimum Tax

The alternative minimum tax (AMT) can affect year-end planning of taxpayers with large

amounts of preference items.

If the AMT applies, and the taxpayer’s regular taxable income is relatively small, year-

end tax planning may have to be geared more to reducing the AMT than the regular tax.

The amount of AMT an individual taxpayer must pay is the excess of his/her “tentative”

minimum tax over his/her regular income tax.


Year-End Planning for the Alternative Minimum Tax

The “tentative” minimum tax rate is generally 26% of the taxpayer’s AMT “taxable

excess.”

A taxpayer’s AMT “taxable excess” is his alternative minimum taxable income (i.e., his

regular taxable income modified by certain preferences and adjustments) reduced by an

exemption amount that is adjusted annually for inflation.

To the extent that the taxpayer’s AMT “taxable excess” exceeds $194,800 in 2019 (for all

taxpayers other than MFS), the AMT tax rate becomes 28%. The rate becomes 28% for

taxpayers that are married but filing separately when the “taxable excess” exceeds

$97,400.


Permanent AMT Relief

The 2019 AMT exemption amounts are as follows:

• $111,700 for MFJ less 25% of AMTI > $1,020,600

• $71,700 for Single less 25% of AMTI > $510,300

• $55,850 for MFS less 25% of AMTI > $510,300

• $25,000 for Estates and Trusts less 25% of AMTI > $83,500

All nonrefundable personal credits are allowed to the full extent of the taxpayer’s

regular tax and AMT liability.


AMT Strategy

Taxpayers who were accustomed to reviewing their AMT liability versus regular tax

liability may find that they have had significant fluctuations in income from year to year

and could explore the benefit from being able to shift AMT-triggering items from an AMT

year to a non-AMT year.

For many taxpayers, large amounts of certain items may trigger AMT liability (e.g., the

addition of certain income from incentive stock options).

Residents of states with higher income tax rates (e.g., New York and California) were

historically more likely to be affected by the AMT. However, given the new cap on state

income tax deductions, this should no longer be the case.

When planning for taxpayers that border the 26% and 28% AMT brackets, it may make

sense to defer or accelerate items of taxable income or deductions that are not caught

up in the AMT. For example, significant LTCGs in any tax year could push a taxpayer into

the AMT.


Charitable Contribution Year-End Tax Strategies

Individuals should make charitable contributions before year-end. These contributions

provide both income and transfer tax benefits to the individual donors.

The charitable deduction is limited to a percentage of AGI, as follows:

• Any deduction over the threshold amount can be carried forward for five years

• Gifts of cash to a public charity are deductible up to 60% of AGI

• Contributions of noncapital gain property to public charities cannot exceed 50% of

AGI, less cash contributions that have been made to public charities

• Gifts of cash to a private foundation are deductible up to 30% of AGI

• Gifts of “qualified appreciated stock” to a public charity are deductible up to 30% of

AGI

• Gifts of qualified appreciated stock to a private foundation are deductible up to 20%

of AGI

• The allowable deduction is generally the fair market value of these gifts


Timing of Gifts

Method of Charitable Giving Effective Date of Contribution

Gifts by check Date the check is mailed

Gifts by credit card Date the charge is made to the card

Gifts of stock by stock certificate

(typical case)

Date of transfer according to

issuer’s/transfer agent’s records

Gifts of stock by electronic transfer

(e.g., through DTC)

Date the stock is received according to

issuer’s record


Timing of Charitable Contributions

A taxpayer planning to make a charitable contribution in 2020 should consider making it

this year instead if speeding up the deduction would produce overall tax savings, e.g.,

because the taxpayer is in a higher marginal tax bracket in 2019 than in 2020.

Taxpayers that expect to be in a higher bracket in 2020 should consider deferring a

contribution until that year.

In making any sizeable charitable contributions, to the extent possible, make the

contributions in appreciated capital gain property that would result in long-term capital

gain if sold. That way, a deduction generally is obtained for the full value of the

property, such as shares of stock, etc., while income tax on the appreciation in value is

avoided.


Charitable Contributions

Contributions of appreciated capital gain property to public charities are generally

subject to a 30%-of-AGI ceiling, unless a special election is made to reduce the deductible

amount of the contribution.

Making the election will limit the donor’s deduction to the basis of the contributed

property. In most cases, the election should be made only if the fair market value of the

property is equal to or only slightly higher than the basis of the property.

If an election is made to limit the donor’s deduction to basis, then the AGI limitation

increases to 50%-of-AGI.


Stock Contributed to a Private Foundation

The charitable deduction for contributions of appreciated property to a private

foundation generally is limited to the taxpayer’s basis in the property.

A special rule allows a full fair market value deduction for contributions of “qualified

appreciated stock.” In general, “qualified appreciated stock” is stock that is capital gain

property and is traded on an established securities market.

To claim a full deduction on the 2019 return for a contribution of “qualified appreciated

stock” to a private foundation, the private foundation must be set up by year-end and the

contribution must be made before 2020.


Medical Expense Deduction Maximized by Bunching

Strategy

In general, taxpayers may deduct medical expenses only to the extent that they exceed

10% of adjusted gross income.

It may be possible to accelerate or defer medical expenses, so that they will exceed the

deduction threshold in at least one of two possible tax years.

A taxpayer generally cannot deduct payments made this year for services by doctors,

hospitals, etc., to be rendered in 2020.


Child Tax Credit

The child tax credit is available for each qualifying child under age 17 at the $2,000 level,

without inflation adjustments.

The credit phases out at taxable income levels exceeding $400,000 for MFJ taxpayers and

$200,000 for all other taxpayers.

The amount of the credit that is refundable is increased to $1,400 per qualifying child,

and this amount is indexed for inflation up to the base credit amount of $2,000.

No credit will be allowed to a taxpayer with respect to any qualifying child unless the

taxpayer provides the child’s social security number.

There is also a non-refundable credit of $500 for non-child dependents to help defray the

cost of caring for other dependents.


Child and Dependent Care Credit

This credit is available to an individual taxpayer who has one or more qualifying children

and has incurred employment-related expenses that enable the taxpayer to be gainfully

employed.

Expenses qualifying for the child and dependent care credit must be reduced by the

amount of any dependent care benefits provided by the taxpayer’s employer that are

excluded from the taxpayer’s gross income.

A child, for purposes of this tax benefit, must be under 13 years of age at the close of the

tax year.

A qualifying dependent who is disabled, however, may be of any age if he or she is a

dependent, or spouse, who lives with the taxpayer for more than half the year.


Employer-Provided Child Care Credit

This credit is intended to provide an incentive where there are two working parents in a

household to stimulate employment.

It provides an incentive to the Employer, who is eligible for a 25% tax credit of up to

$150,000 ($600,000 in costs) for the cost of acquiring, constructing, or improving a child

care facility.

A taxpayer claiming a credit for child care must reduce its basis in the facility by the

amount of the credit.

It also provides an incentive to Employees, who are generally eligible to exclude the

value of the child care assistance from taxable income.


Family and Medical Leave Tax Credit

The TCJA allows a credit to certain employers for paid family and medical leave.

Under the new law, an eligible employer is allowed the paid family and medical leave

credit, which is an amount equal to the applicable percentage of the amount of wages

paid to qualifying employees during any period in which those employees are on family

and medical leave.

The applicable percentage is 12.5%, increased (but not above 25%) by 0.25 percentage

points for each percentage point by which the rate of payment exceeds 50%.


Family and Medical Leave Tax Credit

With certain limited exceptions, “family and medical leave” means leave for any one or

more of the purposes described below:

a) Because of the birth of a son or daughter of the employee and to care for that son or

daughter.

b) Because of the placement of a son or daughter with the employee for adoption or

foster care.

c) To care for the spouse, or a son, daughter, or parent, of the employee, if that

spouse, son, daughter, or parent has a serious health condition.

d) Because of a serious health condition that makes the employee unable to perform the

functions of the position of that employee.

e) Because of any qualifying exigency (as determined by the Secretary of Labor) arising

out of the fact that the spouse, or a son, daughter, or parent of the employee is on

covered active duty (or has been notified of an impending call or order to covered

active duty) in the Armed Forces.

A taxpayer can’t take both a credit and a deduction for amounts for which the paid family

and medical leave credit is claimed.


American Opportunity Tax Credit

The Protecting Americans from Tax Hikes Act of 2015 (PATH Act) made the American

Opportunity Tax Credit (AOTC) permanent.

The AOTC provides qualified taxpayers with a tax credit of 100% of the first $2,000 of

qualified tuition and related expenses, and 25% of the next $2,000, for a total maximum

credit of $2,500 per eligible student.

The AOTC phases out when AGI exceeds $80,000 (single) and $160,000 (MFJ).

Additionally, the AOTC applies to the first four years of a student’s post-secondary

education.


American Opportunity Tax Credit

The government will therefore essentially fund up to $10,000 of a taxpayer’s education (4

years x $2,500/year).

40% of the otherwise allowable AOTC is refundable (unless the taxpayer claiming the

credit is a child under age 18 or a child under age 24 who is a student providing less than

one-half of his/her support, who has at least one living parent, and doesn’t file a joint

return), subject to phase-outs at higher levels of taxable income depending on filing

status.

The AOTC is an enhanced version of the permanent HOPE education tax credit and the

lifetime learning credit.


Coverdell Education Savings Accounts

Coverdell Education Savings Accounts or “Coverdell ESA” were formerly known as

Education IRAs.

These enhancements include a $2,000 maximum contribution amount and treatment of

elementary and secondary school expenses as well as post-secondary expenses as

qualified expenditures. Modified adjusted gross income (MAGI) phase-outs begin at

$95,000 ($190,000 if filing a joint return).

Contributions can be made until the child turns 18 years old.

Although no upfront deduction is allowed for federal income tax purposes, the earnings

on the contributions generally avoid tax.

Withdrawals and distributions for a Coverdell Education Savings Account are excludable

from gross income to the extent that the distribution is used to pay qualified education

expenses.


Employer-Provided Education Assistance

Tax law contains an exclusion from income and employment taxes of employer-provided

education assistance up to $5,250.

The employer may also deduct up to $5,250 annually for qualified education expenses

paid on behalf of an employee.

Education for these purposes include graduate level courses including those normally

taken by an individual pursuing a program leading to an advanced degree in the fields of

law, medicine and business.

No deduction is allowed by an employee for any amount excluded from income that has

been reimbursed by an employer under these provisions.



Taxpayers may consider using carryforward losses from 2018 by recognizing capital gains

to the extent of the available carryfowards, preferably STCGs if available, since they are

taxed at the ordinary income tax rates.

Carryforwards of net capital losses from pre-2013 transactions, which would only have

offset capital gains at a maximum 15% rate, are able to offset capital gains subject to the

current 20% tax rate.

Restricting annual payouts for retirement plans and IRAs to the Required Minimum

Distribution (RMD) by taking cash from other accounts as needed may help taxpayers take

advantage of the lower capital gains tax rate brackets.


Wash Sale Rules

The “wash sale” rule precludes recognition of loss where substantially identical securities

are bought and sold within a 61-day period (30 days before or 30 days after the date of

sale).

Consider realizing a tax loss by using one of these techniques:

• Double up. Buy more of the same stocks or bonds, then sell the original holding at

least 31 days later. The risk here is further downward price movement.

• Sell the original holding and then buy the same securities at least 31 days later.

• Sell the original holding and buy similar securities in different companies in the same

line of business.

• In the case of mutual fund shares, sell the original holding and buy shares in another

mutual fund that uses a similar investment strategy. A similar strategy can be used

with Exchange Traded Funds.


Qualified Dividend Income (QDI)

Generally, dividends received from a domestic corporation or a qualified foreign

corporation, the stock of which is held for at least 61 days within a specified 121-day

period, are qualified dividends for purposes of the reduced capital gains tax rate.

Certain dividends do not qualify for the reduced tax rates and are taxed as ordinary

income. These include dividends paid by credit unions, mutual insurance companies,

REITS, RICs and farmers’ cooperatives. Dividends passed through these entities could

qualify for the lower rates, but only to the extent of any qualifying dividends received

from other corporate taxpayers.

Individuals can save tax by shifting investments out of holdings that generate income

taxed at ordinary rates (e.g., bonds) into dividend-paying stocks.

A taxpayer’s deduction for investment interest expense is limited to “net investment

income.” QDI is not considered “net investment income” for these purposes, unless an

election is made to tax QDI at ordinary rates to meet the definition of “net investment

income.”


Tax Rates for Dividends and Capital Gains

Type of Income Holding PeriodTop Rate for 10% &

12% Tax Brackets

Top Rate for 12%, 22%,

24%, 32%, and 35% Tax

Brackets

Top Rate for 35% and

37% Tax Brackets

Ordinary (non-qualified)

dividendsSee previous page

Ordinary income tax

rate

Ordinary income tax

rate

Ordinary income tax

rate

Qualified dividends See previous page 0% 15% 20%

Short-term capital gains 12 months or lessOrdinary income tax

rate

Ordinary income tax

rate

Ordinary income tax

rate

Long-term capital gains More than 12 months 0% 15% 20%

Other Types of Income

Long-term gains from selling

collectiblesMore than 12 months Regular tax rates 22%, 24% or 28%* 28%

Taxable portion of long-term

gains on qualified small

business stock

More than 5 years Regular tax rates 22%, 24% or 28%* 28%

Long-term capital gains

attributed to real estate

depreciation (unrecaptured

Section 1250 gains)

More than 12 months Regular tax rates 25%* 25%

Note: The tax rates shown above are before application of the Net Investment Income Tax rules.

*Not to exceed the highest ordinary income tax rate.


Net Investment Income Tax

Higher-income individual taxpayers are subject to a Net Investment Income (NII) surtax

equal to 3.8% of the lesser of:

1) Net investment income for the tax year, or

2) The excess, if any, of the individual’s modified adjusted gross income (MAGI) for the

tax year over the threshold amount.

MAGI is essentially a taxpayer’s AGI plus its Section 911 foreign earned income exclusion.

The threshold amount, which is not indexed for inflation, is equal to:

• $250,000 in the case of joint returns or a surviving spouse;

• $125,000 in the case of a married taxpayer filing a separate return; and

• $200,000 in any other case.


Strategies to Minimize the 3.8% Surtax

Estimate MAGI and NII for the year and consider ways to minimize or eliminate additional

NII through traditional deferral or acceleration techniques.

Re-examine passive investment holding. The surtax applies to income from a passive

investment activity, but not income generated by an activity in which the taxpayer

materially participates.

CAUTION! Becoming a material participant in an income producing passive activity does

not make sense if the taxpayer also owns another passive investment that generates

PALs.


Strategies to Minimize the 3.8% Surtax - continued

Taxpayers that own interests in a number of passive activities also should re-examine the

way they group their activities. A taxpayer may treat one or more trade or business

activities or rental activities as a single activity (i.e., group them together) if, based on

all the relevant facts and circumstances, the activities are an appropriate economic unit.

A taxpayer who has grouped activities cannot generally regroup them in later years

merely because he/she would like to change the grouping. However, if a material change

occurs that makes the original grouping clearly inappropriate, he/she must regroup the

activities.


Net Investment Income Tax - Combined Tax Rate

Type of IncomeHighest Tax

Rate

Medicare

Hospital

Insurance Tax*

Net Investment

Income Tax on

Unearned

Income

Combined Maximum Marginal Tax

Rate (Prior to Phase-Outs)

Ordinary Income (Wages & Self-

Employment Income)37% 0.9% N/A

39.35% for employees (37%, plus

Medicare taxes of 1.45%, plus .9%

additional Medicare tax) and 40.8%

for self-employed individuals (37%,

plus Medicare taxes of 2.9%, plus

.9% additional Medicare tax)

Long-Term Capital Gains 20% N/A 3.8%* 23.8%

Qualified Dividends 20% N/A 3.8%* 23.8%

Passive Income (Interest, Rents,

Royalties, etc.)37% N/A 3.8%* 40.8%

Flow-through Income from S

Corps/Partnerships – Active

Trade/Businesses

37% N/A N/A 37%

Flow-through Income – Passive

Trade/Business 37% N/A 3.8%* 40.8%

*Healthcare Reform Taxes for

Joint Filers >$250,000

Single Filers >$200,000

Head-of-Household Filers >$200,000

N/A0.9%*

(earned income)

3.8%*

(unearned

income)

N/A


Capital Gains Planning – Qualified Opportunity Zones

Tax Benefits

Tax deferralTax deferral on capital gain invested in QOF to the earlier of the sale from the QOF or December 31, 2026

10% tax reduction

Hold the fund for 5+ years

15% tax reduction

Hold the fund for 7+ years

Tax exemptionHold the fund for 10+ years and appreciation of QOF investment (not the original gain, but post-acquisition gain) is exempt from taxes (sell by December 31, 2047

Tax basis in investment

Tax basis in investment is $0


Estate, Gift, and Generation-Skipping Tax

Planning


Federal Estate, Gift, and GST Taxes

The American Taxpayer Relief Act of 2012 (ATRA) permanently provided for a maximum

federal estate tax rate of 40% with an annually inflation-adjusted $5,000,000 exclusion

amount.

The TCJA doubled the annually inflation adjusted exclusion from $5,000,000 to

$10,000,000 before adjustment for inflation.

The applicable exclusion amount, as adjusted for inflation, is $11,400,000 for gifts made

and estates of decedents dying in 2019. This provides estates with an effective tax credit

of $4,505,800.

The applicable exclusion amount for a married couple is $22,800,000.

Since the annual exclusion has increased substantially over the last few years, it is a good

time to consider more taxable gifts and planning ideas.


Portability

ATRA made “portability” between spouses permanent.

Portability allows the estate of a decedent who is survived by a spouse to make a

portability election to permit the surviving spouse to apply the decedent’s unused

exclusion to the surviving spouse’s own transfers during life and at death.

The portability election must be made on a timely filed estate tax return. This is the case

even if the size of the estate is under the threshold required for filing a federal return.

When advising an executor as to the need to file a federal estate tax return, always

consider the need for a portability election.

Rev. Proc. 2017-34 provides relief for late estate tax portability elections. In cases where

an estate tax return was filed, a late portability election can generally be made for up to

two years following the date of death.


State Death Tax Credit/Deduction

ATRA extended the deduction for state estate taxes.

State estate tax thresholds are generally much lower than the federal thresholds, so

while a client’s federal estate tax liabilities may be under control, we need to consider

the state death tax rules applicable to our clients.

This increases the importance of estate planning during one’s lifetime, including planning

for the use of a Grantor Retained Annuity Trust, Charitable Remainder Trust or Family

Limited Partnership, and taking advantage of the exclusions for making regular lifetime

gifts.


Gift Tax

ATRA also provided a 40% tax rate and a unified estate and gift tax exemption of

$10,000,000 (inflation adjusted to $11,400,000 for 2019) for gifts.

A $15,000 annual exclusion limit applies to 2019 gifts. It increases in $1,000 increments

and it normally takes a few years to increase to a new threshold, so the $15,000 limit

should be in place for several years.

There is no limit on the number of individual donees to whom gifts may be made under

the $15,000 exclusion. Spouses may “split” their gifts to each donee, effectively raising

the per donee annual maximum exclusion to $30,000.

U.S. citizen spouses may gift an unlimited amount to one another without any gift tax

imposed. The annual exclusion for gifts to a noncitizen spouse is $155,000 in 2019.


Strategies for Year-End 2019

Making annual exclusion gifts is one of the easiest ways to maximize wealth transfers to

future generations.

In 2019, every individual can give up to $15,000 (and married couples can give $30,000) to

any grandchild without triggering a generation-skipping transfer (GST) tax.

• Examples of common uses of the annual exclusion include outright gifts at holiday

time, contributions to Section 529 plans, or payment of insurance premiums of

policies held in an irrevocable life insurance trust (ILIT).

• Note that Section 529 plans can be “front-loaded” with up to five years’ worth of

annual exclusion gifts ($75,000 per person, or $150,000 per couple).

If you don’t use your annual exclusion in a particular year, you lose it; it is not

cumulative.

Making taxable gifts now removes any future income and growth on that asset from your

federal estate tax base. However, you also transfer your basis, so your beneficiaries will

not get the benefit of the basis step-up that would occur on death if you held the asset.


Gifts to Children and Other Family Members

Once an individual makes a gift of income-producing property to a family member, the

income will be taxed to the donee and not to the transferor.

If the donee is in a lower income bracket than the donor, the aggregate family income

tax liabilities will be reduced. A transfer could also save any 3.8% NII surtax to which the

transferor is subject.

For 2019, maximum savings will be realized for a gift to a child of the donor only if the

child is not subject to the kiddie tax in the current year.

A child is subject to the kiddie tax for if (1) he or she is under age 18 at the end of the

year, or (2) is age 18 at the end of the year (or a full-time student over age 18 and under

age 24), and his earned income for the tax year doesn’t exceed one-half of his support (2)

he or she has more than $2,200 of unearned income, (3) the child has at least one living

parent at the close of the tax year; and (4) the child doesn’t file a joint return for the tax

year.


Generation-Skipping Tax (GST)

GST is imposed on transfers to beneficiaries that are more than one generation below

that of the transferor. The GST is assessed in addition to any gift and estate tax that may

already exist.

ATRA extended a number of GST tax-related provisions including:

• The GST deemed allocation and retroactive allocation provisions;

• Clarification of valuation rules with respect to the determination of the inclusion

ratio for GST tax purposes;

• Provisions allowing for a qualified severance of a trust for purposes of the GST tax;

and

• Relief from late GST allocations and elections.


Complex Trusts and Estates Can Choose Tax Year for

Deducting Distributions

Complex trust and estate distributions made within the first 65 days of 2020 may

electively be treated as paid and deductible in 2019. The election is generally made on

the return for the election year.

Fiduciaries need not make payments in 2019 for the payments to be deductible in that

year. Taxpayers could wait until 2020, when the 2019 tax picture will be clearer, to

decide whether the payments may be more profitably imputed back to 2019 via the 65-

day rule, or whether they should be treated as 2020 payments.

If a trust elects to treat a 2020 distribution as paid in 2019, the distribution is taxable to

the beneficiary in 2019. The election doesn’t have to be made for the entire amount

distributed, but can apply to only part of the amounts distributed to a beneficiary.


Questions?

Jack Nuckolls - [email protected]

Jeremy Mertens - [email protected]

General Disclaimer

These materials do not constitute tax or legal

advice, and cannot be relied upon for

purposes of avoiding penalties under the

Internal Revenue Code. These materials may

omit discussion of exceptions, qualification,

definitions, effective dates, jurisdictional

differences, and other relevant authorities

and considerations. In no event should a

reader rely on these materials in planning a

specific transaction. BDO will not be

responsible for any error, omission, or

inaccuracy in these materials.



72

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