2018 year-end tax planning considerations · joan holtz. partner. private client services (703)...

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YEAR-END TAX PLANNING CONSIDERATIONS FOR INDIVIDUALS November 29, 2018

1 Year-End Tax Planning Considerations for Individuals

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With You Today

JOAN HOLTZPartner

Private Client Services

(703) [email protected]

JACK NUCKOLLS Managing Director

National Tax OfficePrivate Client Services

Technical Practice Leader

(415) [email protected]

JEREMY MERTENSManaging Director

National Tax Office Private Client Services

(616) 802-3478 [email protected]

KATHERINE SHARP Senior Manager

Private Client Services

(214) 243-2966 [email protected]

mailto:[email protected]





Today’s Discussion Topics

Introduction

2018 Year-End Tax Planning Resources

Individual Tax Law Changes

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.

Year-end planning for 2018 takes place against the backdrop of new tax laws that make major changes to the rules for individuals and businesses. The new law is herein referred to as the “2017 Tax Cuts and Jobs Act,” “TCJA,” or simply the “Act.”

For individuals, there are new, lower income tax rates, a substantially increased standard deduction, substantially limited itemized deductions, no more personal exemptions, an increased child tax credit, and an alternative minimum tax (AMT) that will capture much less taxpayers, and many more changes that we will hear about today.


Introduction - continued

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.


2018 Year-End Tax Planning Resources


Year-End Tax Planning Resources Available!

2018 Year-End Tax Planning Letters are available on BDO.com under Insights • 2018 Year-End Tax Planning for Individuals • 2018 Year-End Tax Planning for Businesses


It should be noted that the individual tax reform changes are temporary, with the new law generally becoming effective on January 1, 2018, and expiring on December 31, 2025.


Provision Prior Law New Law

Individual Tax Rates Seven tax brackets: 10%, 15%, 25%, 28%,33%, 35%, and 39.6%.

The top individual rate was 39.6% for joint filers with taxable income over$470,700 and single filers with taxable income over $418,400.

Seven tax brackets: 10%, 12%, 22%, 24%, 32%,35%, and 37%.

The top individual rate will be 37% for joint filers with more than$600,000 of taxable income and single filers with more than $500,000 of taxable income.


Individual Tax Law ChangesProvision Prior Law New Law

Standard Deduction The standard deduction was $12,700 for joint filers, $9,350 for head-of-household filers, and $6,350 for single filers.

The standard deduction is increased to $24,000 for joint filers, $18,000 for head-of-household filers, and $12,000 for all other taxpayers, adjusted for inflation in tax years beginningafter 2018.

Personal Exemptions The personal exemption amount for the taxpayer, the taxpayer’s spouse and all eligible dependents was each $4,050.

For tax years beginning after Dec. 31, 2017, and beforeJan. 1, 2026, the exemptionamount is reduced to zero.




Pease Limitation Overall limitation on itemized deductions for high income taxpayers (3%/80% rule).

For tax years beginning after Dec. 31, 2017, and before Jan. 1, 2026, the phase-out of itemized deductions is suspended.

Personal Casualty Losses

Deductible to the extent the loss exceeded $100 per casualty or theft and to the extent thecollective lossesexceed 10% of AGI.

For tax years after Dec. 31, 2017, and before Jan. 1, 2026, personal casualty and theft losses of an individual are deductible only to the extent they are attributable to a federally declared disaster area.




Medical ExpenseDeduction

Taxpayers could deduct out-of-pocket medical expenses to the extent that the expenses exceeded an AGI floor of 10% for taxpayers under age 65 and 7.5% for taxpayers over age 65.

The itemized deduction for medical expenses is made more easily available for taxpayers under age 65 by reducing the AGI floor for 2017 and 2018 to 7.5% for all taxpayers. In addition, the rule limiting the medical expense deduction for AMT purposes to the excess of 10% ofAGI doesn’t apply to tax years beginning after Dec. 31, 2016, and endingbeforeJan. 1, 2019.


Individual Tax Law ChangesProvision Prior Law New Law

State and Local Tax, and Real and Personal PropertyTax Deduction

State and local income taxes, real property taxes, and personal property taxes were generally deductible as an itemized deductionwithout any caps on the absolute amount of any of these three deductions in any given tax year.

For tax years beginning after Dec. 31, 2017, and before Jan. 1, 2026, itemized deductions for state or local taxes are limited. 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).


Individual Tax Law ChangesProvision Prior Law New LawHome Mortgage / HomeEquity Interest Deduction

Taxpayers could deduct interest on the loan balance of up to $1 million of home acquisition debt secured by a qualified primary or secondary residence (reduced to $500,000 for taxpayers married filing separately).

Interest on the excess balance of home acquisition debt was deductible as mortgage interest paid on home equity indebtedness, up to $100,000.

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 anyacquisition 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.


Individual Tax Law ChangesProvision Prior Law New LawCharitable Contributions

For cash contributions to certain charitable organizations, an individual who itemized could deduct charitable contributions up to 50%, 30% or 20% of AGI, depending on the type of property contributed.

For cash contributions to public charities and certain private foundations, contribution deductions were limited to 50% of AGI.

Contributions exceeding the limit could be carried forward and deducted for up to fiveyears.

For contributions made in tax years beginning after Dec.31, 2017, and before Jan. 1, 2026, the AGI limitation for cash contributions to public charities and certain private foundations is increased from 50% to 60% of AGI.

Contributions exceeding the 60% limit may be carried forward and deducted for up to five years.


Individual Tax Law ChangesProvision Prior Law New LawMoving Expenses

Taxpayers were allowed an above-the-line deduction for qualified moving expenses for relocation due to a new principal place of work.

For tax years beginning after Dec. 31, 2017, and before Jan. 1, 2026, the moving expense deduction is suspended except in the case of a member of the armed forces who moves pursuant to military order.

Miscellaneous Itemized Deductions

Taxpayers were allowed to deduct certain miscellaneous itemized deductions to the extent they exceeded, in the aggregate, 2% of the taxpayer’s adjusted gross income.

For tax years beginning after December 31, 2017, and before January 1, 2026, the deduction for miscellaneous itemized deductions that are subject to the 2% floor is suspended.



Provision Prior Law New LawAffordable Care Act(ACA) Individual Mandate

ACA required that individuals who weren’t covered by a health plan that provided at least minimum essential coverage were required to pay a “shared responsibility payment” or penalty with their federal income tax return.

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.


Individual Tax Law ChangesProvision Prior Law New LawAlternative Minimum Tax (AMT)

The AMT exemption amount for 2017 was:

• $54,300 for single taxpayers• $84,500 for married

taxpayers filing jointly• $42,250 for married

filing separately

These exemption amounts were reduced (not below zero) to an amount equal to 25% of the amount by which the taxpayer’s alternative minimum taxable income (AMTI) exceeded the following phase-out thresholds:

• For joint returns, $160,900• For single filers, $120,700• For MFS filers, $80,450

For tax years beginning after Dec. 31, 2017,and before Jan. 1, 2026, the AMT exemption amounts are increased:

• $70,300 for single taxpayers• $109,400 for married filing jointly• $54,700 for married filing

separately• $22,500 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, o $1 million

• For all other taxpayers (other than estates and trusts), $500,000

• For estates and trusts, $75,000


Individual Tax Law ChangesProvision Prior Law New LawChild TaxCredit

The Child Tax Credit was $1,000 per qualifying child and was nonrefundable.

For tax years beginning after Dec. 31, 2017, and before Jan. 1, 2026, the child tax credit is increased to $2,000. Other modifications include:

• The income levels at which theo credit phases out are increased too $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 Alimony and separation maintenance payments were deductible by the payer and includable in the income of the recipient.

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.


Individual Tax Law ChangesProvision Prior Law New LawEstate & Gift Tax Exemption

The estate and gift tax exemption amount was$5 million (inflation adjusted to $5,490,000 for 2017).

The annual gift tax exclusion amount was$14,000.

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 expected to be approximately $11.18 million for 2018 ($22.36 million per married couple).

The increase in exemption amount also applies to generation-skipping transfer taxes.

The annual gift tax exclusion amount was raised to $15,000.


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 2018 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.

2018 year-end tax planning must consider the comprehensive tax law changes under the TCJA.


How to Reduce 2018 AGI

Convert taxable interest to tax-exempt interest

Convert taxable interest to tax-deferred interest or income

Pay off debts and related interest

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 2018


Who Should Accelerate Income to 2018 from 2019?

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


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 2018 and take standard deduction in 2019

Pay bills in 2018

Accelerate bad debt deductions

Pay last state estimated tax installment in 2018 (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

Year-End Tax Strategies - continued


Items to Consider Before the End of 2018

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 2019.

Increase tax basis in S corporations or partnerships to make possible a 2018 loss deduction.


Items to Consider Before the End of 2018 - continued

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.


Items to Consider Before the End of 2018 - continued

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 2018 (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.


Year-End Tax Planning Moves for Individuals –Medicare Tax - continued

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.



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 this year.



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 - continued

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 2018, and possibly reduce tax breaks geared to AGI limitations (or modified AGI limitations).

Some taxpayers may be able to work around the new reality by 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 2018 and 2019.


Year-End Tax Planning Moves for Individuals

If a taxpayer was in an area affected by Hurricanes Florence, Michael, or any other 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 2018 return normally filed next year), or the return for the prior year (2017).

If they were in an area affected by Hurricanes Florence, Michael, or any other 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 -continued

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 $191,500 in 2018 (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 $95,750.


Permanent AMT Relief

The 2018 AMT exemption amounts are as follows:

• $109,400 for MFJ less 25% of AMTI > $1,000,000• $70,300 for Single less 25% of AMTI > $500,000 • $54,700 for MFS less 25% of AMTI > $500,000 • $22,500 for Estates and Trusts less 25% of AMTI > $75,000

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• 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 2019 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 2018 than in 2019.

Taxpayers that expect to be in a higher bracket in 2019 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 are generally subject to a 30%-of-AGI ceiling, instead of the usual 50% 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.


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 2018 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 2019.


Medical Expense Deduction Maximized by Bunching Strategy

In general, taxpayers may deduct medical expenses only to the extent that they exceed 7.5% 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 2019.


Child Tax Credit

As presented earlier, 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 - continued

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 - continued

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 2017 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 GainsType of Income Holding Period Top Rate for

10% & 12% TaxBrackets

Top Rate for 22%, 24%, 32%, and 35% Tax Brackets

Top Rate for 37% Tax Bracket

Ordinary (non-qualified) dividends

See previous page Ordinary income tax rate

Ordinary income tax rate


Qualified dividends See previous page 0% 15% 20%

Short-term capital gains 12 months or less Ordinary income tax rate



Long-term capital gains More than 12 months

0% 15% 20%

Other Types of Income

Long-term gains from selling collectibles

More 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.*28%, but 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 RateType of Income Highest

Tax RateNew Medicare Hospital Insurance Tax*

New 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 >$250,000Single Filers >$200,000Head-of-Household Filers >$200,000

N/A 0.9%*(earned income)

3.8%*(unearned income)

N/A


Capital Gains Planning – Qualified Opportunity ZonesTax Benefits

Tax deferral Tax 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 $11,180,000 for gifts made and estates of decedents dying in 2018. This provides estates with an effective tax credit of $4,417,800.

The applicable exclusion amount for a married couple is $22,360,000.

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 $5,000,000 (inflation adjusted to $11,180,000 for 2018) for gifts.

A $15,000 annual exclusion limit applies to 2018 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 $152,000 in 2018.


Strategies for Year-End 2018

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

In 2018, 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.


Strategies for Year-End 2018 - continued

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.

In general, while the long-term capital gains rate is sufficiently below the estate tax rate of 40%, giving away assets may still be beneficial if a taxpayer is below the lifetime exemption amount.


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 2018, 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 2018 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 $2,100 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 2019 may electively be treated as paid and deductible in 2018. The election is generally made on the return for the election year.

Fiduciaries need not make payments in 2018 for the payments to be deductible in that year. Taxpayers could wait until 2019, when the 2018 tax picture will be clearer, to decide whether the payments may be more profitably imputed back to 2018 via the 65-day rule, or whether they should be treated as 2019 payments.

If a trust elects to treat a 2019 distribution as paid in 2018, the distribution is taxable to the beneficiary in 2018. 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?

• Joan Holtz - [email protected]• Jack Nuckolls - [email protected]• Jeremy Mertens - [email protected]• Katherine Sharp - [email protected]






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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.

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2018 year-end tax planning considerations · joan holtz. partner. private client services (703)...

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