All posts by Kaitlin.Gruenewald@VerticalAdvisors.com

Three questions you may have after you file your return

Once your 2018 tax return has been successfully filed with the IRS, you may still have some questions. Here are brief answers to three questions that we’re frequently asked at this time of year.

Question #1: What tax records can I throw away now?

At a minimum, keep tax records related to your return for as long as the IRS can audit your return or assess additional taxes. In general, the statute of limitations is three years after you file your return. So you can generally get rid of most records related to tax returns for 2015 and earlier years. (If you filed an extension for your 2015 return, hold on to your records until at least three years from when you filed the extended return.)

However, the statute of limitations extends to six years for taxpayers who understate their gross income by more than 25%.

You’ll need to hang on to certain tax-related records longer. For example, keep the actual tax returns indefinitely, so you can prove to the IRS that you filed a legitimate return. (There’s no statute of limitations for an audit if you didn’t file a return or you filed a fraudulent one.)

When it comes to retirement accounts, keep records associated with them until you’ve depleted the account and reported the last withdrawal on your tax return, plus three (or six) years. And retain records related to real estate or investments for as long as you own the asset, plus at least three years after you sell it and report the sale on your tax return. (You can keep these records for six years if you want to be extra safe.)

Question #2: Where’s my refund?

The IRS has an online tool that can tell you the status of your refund. Go to irs.gov and click on “Refund Status” to find out about yours. You’ll need your Social Security number, filing status and the exact refund amount.

Question #3: Can I still collect a refund if I forgot to report something?

In general, you can file an amended tax return and claim a refund within three years after the date you filed your original return or within two years of the date you paid the tax, whichever is later. So for a 2018 tax return that you filed on April 15 of 2019, you can generally file an amended return until April 15, 2022.

However, there are a few opportunities when you have longer to file an amended return. For example, the statute of limitations for bad debts is longer than the usual three-year time limit for most items on your tax return. In general, you can amend your tax return to claim a bad debt for seven years from the due date of the tax return for the year that the debt became worthless.

We can help
Contact us if you have questions about tax record retention, your refund or filing an amended return. We’re available all year long — not just at tax filing time!
© 2019

Stretch your college student’s spending money with the dependent tax credit

If you’re the parent of a child who is age 17 to 23, and you pay all (or most) of his or her expenses, you may be surprised to learn you’re not eligible for the child tax credit. But there’s a dependent tax credit that may be available to you. It’s not as valuable as the child tax credit, but when you’re saving for college or paying tuition, every dollar counts!

Background of the credits
The Tax Cuts and Jobs Act (TCJA) increased the child credit to $2,000 per qualifying child under the age of 17. The law also substantially increased the phaseout income thresholds for the credit so more people qualify for it. Unfortunately, the TCJA eliminated dependency exemptions for older children for 2018 through 2025. But the TCJA established a new $500 tax credit for dependents who aren’t under-age-17 children who qualify for the child tax credit. However, these individuals must pass certain tests to be classified as dependents.

A qualifying dependent for purposes of the $500 credit includes:

1.    A dependent child who lives with you for over half the year and is over age 16 and up to age 23 if he or she is a student, and
2.    Other non-child dependent relatives (such as a grandchild, sibling, father, mother, grandfather, grandmother and other relatives).

To be eligible for the $500 credit, you must provide over half of the person’s support for the year and he or she must be a U.S. citizen, U.S. national or U.S. resident.

Both the child tax credit and the dependent credit begin to phase out at $200,000 of modified adjusted gross income ($400,000 for married joint filers).

The child’s income
After the TCJA passed, it was unclear if your child would qualify you for the $500 credit if he or she had any gross income for the year. Fortunately, IRS Notice 2018-70 favorably resolved the income question. According to the guidance, a dependent will pass the income test for the 2018 tax year if he or she has gross income of $4,150 or less. (The $4,150 amount will be adjusted for inflation in future years.)

More spending money
Although $500 per child doesn’t cover much for today’s college student, it can help with books, clothing, software and other needs. Contact us with questions about whether you qualify for either the child or the dependent tax credits.

© 2019

Vehicle-expense deduction ins and outs for individual taxpayers

It’s not just businesses that can deduct vehicle-related expenses. Individuals also can deduct them in certain circumstances. Unfortunately, the Tax Cuts and Jobs Act (TCJA) might reduce your deduction compared to what you claimed on your 2017 return.

For 2017, miles driven for business, moving, medical and charitable purposes were potentially deductible. For 2018 through 2025, business and moving miles are deductible only in much more limited circumstances. TCJA changes could also affect your tax benefit from medical and charitable miles.

Current limits vs. 2017

Before 2018, if you were an employee, you potentially could deduct business mileage not reimbursed by your employer as a miscellaneous itemized deduction. But the deduction was subject to a 2% of adjusted gross income (AGI) floor, which meant that mileage was deductible only to the extent that your total miscellaneous itemized deductions for the year exceeded 2% of your AGI. For 2018 through 2025, you can’t deduct the mileage regardless of your AGI. Why? The TCJA suspends miscellaneous itemized deductions subject to the 2% floor.

If you’re self-employed, business mileage is deducted from self-employment income. Therefore, it’s not subject to the 2% floor and is still deductible for 2018 through 2025, as long as it otherwise qualifies.

Miles driven for a work-related move in 2017 were generally deductible “above the line” (that is, itemizing isn’t required to claim the deduction). But for 2018 through 2025, under the TCJA, moving expenses are deductible only for certain military families.

Miles driven for health-care-related purposes are deductible as part of the medical expense itemized deduction. Under the TCJA, for 2017 and 2018, medical expenses are deductible to the extent they exceed 7.5% of your AGI. For 2019, the floor returns to 10%, unless Congress extends the 7.5% floor.

The limits for deducting expenses for charitable miles driven haven’t changed, but keep in mind that it’s an itemized deduction. So, you can claim the deduction only if you itemize. For 2018 through 2025, the standard deduction has been nearly doubled. Depending on your total itemized deductions, you might be better off claiming the standard deduction, in which case you’ll get no tax benefit from your charitable miles (or from your medical miles, even if you exceed the AGI floor).

Differing mileage rates

Rather than keeping track of your actual vehicle expenses, you can use a standard mileage rate to compute your deductions. The rates vary depending on the purpose and the year:

  • Business: 54.5 cents (2018), 58 cents (2019)
  • Medical: 18 cents (2018), 20 cents (2019)
  • Moving: 18 cents (2018), 20 cents (2019)
  • Charitable: 14 cents (2018 and 2019)

In addition to deductions based on the standard mileage rate, you may deduct related parking fees and tolls. There are also substantiation requirements, which include tracking miles driven.

Get help

Do you have questions about deducting vehicle-related expenses? Contact us. We can help you with your 2018 return and 2019 tax planning.

© 2019

State Income Tax Filing Requirements and Economic Presence

Scope: This memo is intended to provide general guidance on how state income tax return filing requirements are determined and to provide an explanation of the Economic Presence standard which several states are now using to determine if a business entity has a tax return filing requirement in that state. Vertical Advisors (VA) determines state tax return filing requirements based on information provided to us from our clients. However, the historic state income tax filing requirements are based on the general standard as described below but each business will ALSO need to decide whether state filing requirements under the Economic Presence standard should be considered. VA is available to be engaged to review income tax filing requirements for our clients.

General Standard: There are multiple factors that affect state tax return filing requirements. This memo is meant to provide a general overview. A detailed analysis of state tax attributes would be needed to fully understand the state tax return filing requirements for a particular business. Attributes that are considered when determining state tax return filing requirements are as follows:

  1. Sales by state
  2. Wages by state (could also include vendor or independent contractors)
  3. Fixed assets by state

Historically, when a business has two or more of the attributes listed above, a state tax return would be required for that state. However, several states are now using the more aggressive Economic Presence standard which can cause a state tax return filing requirement even if only one attribute exists which is usually sales in that state.

Economic Presence Standard: Under the Economic Presence standard, a state tax return may be required if any one of the following conditions exists:

  • Any income derived in the state
  • Sales in the state exceeding certain threshold
  • Licensed intangible properties in the state
  • Doing business or seeking profits in the state

The Economic Presence standard is not new and approximately 43 states currently have an Economic Presence standard. Although the Economic Presence standard has existed for years, the states were not aggressively enforcing tax return filing requirements under this standard. However, due mainly to the growth of the e-commerce industry, it is now common for a company to transact business in several states in which the only connection to that state may be the sales with no actual physical presence in that state. Under the general standard, without a physical presence in the state, there was no state return filing requirement and thus the states could not assess income tax on businesses that had only sales in those states.

Under Economic Presence, the sales alone can cause a tax return filing requirement. Since each state defines Economic Presence standard differently, a detailed analysis by state would be required to understand the possible state tax return filing requirements under the Economic Presence standard.

Conclusion: As mentioned earlier, Vertical Advisors reviews state tax return filing requirements consistent with the general standard and information provided by our clients. However, since states are becoming more aggressive in applying the Economic Presence standard, each business will need to decide if they want to retain us to consider their specific income tax return filing requirement, allocate their internal resources, or to disregard the laws. We recommend a diligent review of income tax return filing requirements annually.

We feel it makes sense to review state tax return filing requirements under the Economic Presence standard and the general standard approach. Ignoring state tax return filing requirements under the Economic Presence standard can result in tax notices, possible penalties and examinations. However, since not all states are aggressively applying the Economic Presence standard, a business will need to balance the risk of not filing against the cost of preparing possibly several state tax returns. For more information on how state income tax filing requirements including the Economic Presence test may affect your business, please contact us.

IRS provides QBI deduction guidance in the nick of time

When President Trump signed into law the Tax Cuts and Jobs Act (TCJA) in December 2017, much was made of the dramatic cut in corporate tax rates. But the TCJA also includes a generous deduction for smaller businesses that operate as pass-through entities, with income that is “passed through” to owners and taxed as individual income.

The IRS issued proposed regulations for the qualified business income (QBI), or Section 199A, deduction in August 2018. Now, it has released final regulations and additional guidance, just before the first tax season in which taxpayers can claim the deduction. Among other things, the guidance provides clarity on who qualifies for the QBI deduction and how to calculate the deduction amount.

QBI deduction in action
The QBI deduction generally allows partnerships, limited liability companies, S corporations and sole proprietorships to deduct up to 20% of QBI received. QBI is the net amount of income, gains, deductions and losses (excluding reasonable compensation, certain investment items and payments to partners) for services rendered. The calculation is performed for each qualified business and aggregated. (If the net amount is below zero, it’s treated as a loss for the following year, reducing that year’s QBI deduction.)

If a taxpayer’s taxable income exceeds $157,500 for single filers or $315,000 for joint filers, a wage limit begins phasing in. Under the limit, the deduction can’t exceed the greater of 1) 50% of the business’s W-2 wages or 2) 25% of the W-2 wages plus 2.5% of the unadjusted basis immediately after acquisition (UBIA) of qualified business property (QBP).

For a partnership or S corporation, each partner or shareholder is treated as having paid W-2 wages for the tax year in an amount equal to his or her allocable share of the W-2 wages paid by the entity for the tax year. The UBIA of qualified property generally is the purchase price of tangible depreciable property held at the end of the tax year.

The application of the limit is phased in for individuals with taxable income exceeding the threshold amount, over the next $100,000 of taxable income for married individuals filing jointly or the next $50,000 for single filers. The limit phases in completely when taxable income exceeds $415,000 for joint filers and $207,500 for single filers.

The amount of the deduction generally can’t exceed 20% of the taxable income less any net capital gains. So, for example, let’s say a married couple owns a business. If their QBI with no net capital gains is $400,000 and their taxable income is $300,000, the deduction is limited to 20% of $300,000, or $60,000.

The QBI deduction is further limited for specified service trades or businesses (SSTBs). SSTBs include, among others, businesses involving law, financial, health, brokerage and consulting services, as well as any business (other than engineering and architecture) where the principal asset is the reputation or skill of an employee or owner. The QBI deduction for SSTBs begins to phase out at $315,000 in taxable income for married taxpayers filing jointly and $157,500 for single filers, and phase out completely at $415,000 and $207,500, respectively (the same thresholds at which the wage limit phases in).

The QBI deduction applies to taxable income and doesn’t come into play when computing adjusted gross income (AGI). It’s available to taxpayers who itemize deductions, as well as those who don’t itemize, and to those paying the alternative minimum tax.

Rental real estate owners
One of the lingering questions related to the QBI deduction was whether it was available for owners of rental real estate. The latest guidance (found in IRS Notice 2019-07) includes a proposed safe harbor that allows certain real estate enterprises to qualify as a business for purposes of the deduction. Taxpayers can rely on the safe harbor until a final rule is issued.

Generally, individuals and entities that own rental real estate directly or through disregarded entities (entities that aren’t considered separate from their owners for income tax purposes, such as single-member LLCs) can claim the deduction if:

  • Separate books and records are kept for each rental real estate enterprise,
  • For taxable years through 2022, at least 250 hours of services are performed each year for the enterprise, and
  • For tax years after 2018, the taxpayer maintains contemporaneous records showing the hours of all services performed, the services performed, the dates they were performed and who performed them.

The 250 hours of services may be performed by owners, employees or contractors. Time spent on maintenance, repairs, rent collection, expense payment, provision of services to tenants and rental efforts counts toward the 250 hours. Investment-related activities, such as arranging financing, procuring property and reviewing financial statements, do not.

Be aware that rental real estate used by a taxpayer as a residence for any part of the year isn’t eligible for the safe harbor.

This safe harbor also isn’t available for property leased under a triple net lease that requires the tenant to pay all or some of the real estate taxes, maintenance, and building insurance and fees, or for property used by the taxpayer as a residence for any part of the year.

Aggregation of multiple businesses
It’s not unusual for small business owners to operate more than one business. The proposed regs include rules allowing an individual to aggregate multiple businesses that are owned and operated as part of a larger, integrated business for purposes of the W-2 wages and UBIA of qualified property limitations, thereby maximizing the deduction. The final regs retain these rules with some modifications.

For example, the proposed rules allow a taxpayer to aggregate trades or businesses based on a 50% ownership test, which must be maintained for a majority of the taxable year. The final regulations clarify that the majority of the taxable year must include the last day of the taxable year.

The final regs also allow a “relevant pass-through entity” — such as a partnership or S corporation — to aggregate businesses it operates directly or through lower-tier pass-through entities to calculate its QBI deduction, assuming it meets the ownership test and other tests. (The proposed regs allow these entities to aggregate only at the individual-owner level.) Where aggregation is chosen, the entity and its owners must report the combined QBI, wages and UBIA of qualified property figures.

A taxpayer who doesn’t aggregate in one year can still choose to do so in a future year. Once aggregation is chosen, though, the taxpayer must continue to aggregate in future years unless there’s a significant change in circumstances.

The final regs generally don’t allow an initial aggregation of businesses to be done on an amended return, but the IRS recognizes that many taxpayers may be unaware of the aggregation rules when filing their 2018 tax returns. Therefore, it will permit taxpayers to make initial aggregations on amended returns for 2018.

UBIA in qualified property
The final regs also make some changes regarding the determination of UBIA in qualified property. The proposed regs adjust UBIA for nonrecognition transactions (where the entity doesn’t recognize a gain or loss on a contribution in exchange for an interest or share), like-kind exchanges and involuntary conversions.

Under the final regs, UBIA of qualified property generally remains unadjusted as a result of these transactions. Property contributed to a partnership or S corporation in a nonrecognition transaction usually will retain its UBIA on the date it was first placed in service by the contributing partner or shareholder. The UBIA of property received in a like-kind exchange is generally the same as the UBIA of the relinquished property. The same rule applies for property acquired as part of an involuntary conversion.

SSTB limitations
Many of the comments the IRS received after publishing the proposed regs sought further guidance on whether specific types of businesses are SSTBs. The IRS, however, found such analysis beyond the scope of the new guidance. It pointed out that the determination of whether a particular business is an SSTB often depends on its individual facts and circumstances.

Nonetheless, the IRS did establish rules regarding certain kinds of businesses. For example, it states that veterinarians provide health services (which means that they’re subject to the SSTB limits), but real estate and insurance agents and brokers don’t provide brokerage services (so they aren’t subject to the limits).

The final regs retain the proposed rule limiting the meaning of the “reputation or skill” clause, also known as the “catch-all.” The clause applies only to cases where an individual or a relevant pass-through entity is engaged in the business of receiving income from endorsements, the licensing of an individual’s likeness or features, or appearance fees.

The IRS also uses the final regs to put a lid on the so-called “crack and pack” strategy, which has been floated as a way to minimize the negative impact of the SSTB limit. The strategy would have allowed entities to split their non-SSTB components into separate entities that charged the SSTBs fees.

The proposed regs generally treat a business that provides more than 80% of its property or services to an SSTB as an SSTB if the businesses share more than 50% common ownership. The final regs eliminate the 80% rule. As a result, when a business provides property or services to an STTB with 50% or more common ownership, the portion of that business providing property or services to the SSTB will be treated as a separate SSTB.

The final regs also remove the “incidental to an SSTB” rule. The proposed rule requires businesses with at least 50% common ownership and shared expenses with an SSTB to be considered part of the same business for purposes of the deduction if the business’s gross receipts represent 5% or less of the total combined receipts of the business and the SSTB.

Note, though, that businesses with some income that qualifies for the deduction and some that doesn’t can still separate the different activities by keeping separate books to claim the deduction on the eligible income. For example, banking activities (taking deposits, making loans) qualify for the deduction, but wealth management and similar advisory services don’t, so a financial services business could separate the bookkeeping for these functions and claim the deduction on the qualifying income.

REIT investments
The TCJA allows individuals a deduction of up to 20% of their combined qualified real estate investment trust (REIT) dividends and qualified publicly traded partnership (PTP) income, including dividends and income earned through pass-through entities. The new guidance clarifies that shareholders of mutual funds with REIT investments can apply the deduction. The IRS is still considering whether PTP investments held via mutual funds qualify.

Proceed with caution
The tax code imposes a penalty for underpayments of income tax that exceed the greater of 10% of the correct amount of tax or $5,000. But the TCJA leaves less room for error by taxpayers claiming the QBI deduction: It lowers the threshold for the underpayment penalty for such taxpayers to 5%. We can help you avoid such penalties and answer all of your questions regarding the QBI deduction.

© 2019

Why you shouldn’t wait to file your 2018 income tax return

The IRS opened the 2018 income tax return filing season on January 28. Even if you typically don’t file until much closer to the April 15 deadline, this year consider filing as soon as you can. Why? You can potentially protect yourself from tax identity theft — and reap other benefits, too.

What is tax identity theft?
In a tax identity theft scheme, a thief uses your personal information to file a fraudulent tax return early in the tax filing season and claim a bogus refund.

You discover the fraud when you file your return and are informed by the IRS that the return has been rejected because one with your Social Security number has already been filed for the same tax year. While you should ultimately be able to prove that your return is the legitimate one, tax identity theft can cause major headaches to straighten out and significantly delay your refund.

Filing early may be your best defense: If you file first, it will be the tax return filed by a would-be thief that will be rejected — not yours.

What if you haven’t received your W-2s and 1099s?
To file your tax return, you must have received all of your W-2s and 1099s. January 31 was the deadline for employers to issue 2018 Form W-2 to employees and, generally, for businesses to issue Form 1099 to recipients of any 2018 interest, dividend or reportable miscellaneous income payments.

If you haven’t received a W-2 or 1099, first contact the entity that should have issued it. If that doesn’t work, you can contact the IRS for help.

What are other benefits of filing early?
Besides protecting yourself from tax identity theft, the most obvious benefit of filing early is that, if you’re getting a refund, you’ll get that refund sooner. The IRS expects more than nine out of ten refunds to be issued within 21 days.

But even if you owe tax, filing early can be beneficial. You still won’t need to pay your tax bill until April 15, but you’ll know sooner how much you owe and can plan accordingly. Keep in mind that some taxpayers who typically have gotten refunds in the past could find themselves owing tax when they file their 2018 return due to tax law changes under the Tax Cuts and Jobs Act (TCJA) and reduced withholding from 2018 paychecks.

Need help?
If you have questions about tax identity theft or would like help filing your 2018 return early, please contact us. While the new Form 1040 essentially does fit on a postcard, many taxpayers will also have to complete multiple schedules along with the form. And the TCJA has changed many tax breaks. We can help you ensure you file an accurate return that takes advantage of all of the breaks available to you.

© 2019

IRS waives 2018 underpayment tax penalties for many taxpayers

The IRS has some good news for certain taxpayers — it’s waiving underpayment penalties for those whose 2018 federal income tax withholding and estimated tax payments came in under their actual tax liabilities for the year. The waiver recognizes that the Tax Cuts and Jobs Act’s (TCJA’s) overhaul of the federal income tax regime made it difficult for some taxpayers to determine the proper amount to have withheld from their paychecks or include in their quarterly estimated tax payments for 2018.

The new tax system

Many taxpayers started seeing more money in their paychecks in February 2018, after their employers made adjustments based on the IRS’s updated withholding tables. The revised tables reflected the TCJA’s increase in the standard deduction, suspension of personal exemptions, and changes in tax rates and brackets.

The TCJA roughly doubles the 2017 standard deduction amounts to $12,000 for single filers and $24,000 for joint filers in 2018. It also eliminates personal exemptions, which taxpayers previously could claim for themselves, their spouses and any dependents. In addition, it adjusts the taxable income thresholds and tax rates for the seven income tax brackets.

But, as the IRS cautioned when it released the revised withholding tables, some taxpayers could find themselves hit with larger income tax bills for 2018 than they faced in the past. This is because of some of the changes described above, as well as the reduction or elimination of many popular tax deductions. The tables didn’t account for the reduced availability of itemized deductions (or the suspension of personal exemptions).

For example, taxpayers who itemize can deduct no more than $10,000 for the aggregate of their state and local property taxes and income or sales taxes. Itemizing taxpayers also can deduct mortgage interest only on debt of $750,000 ($1 million for mortgage debt incurred on or before December 15, 2017) and can’t deduct interest on some home equity debt.

The higher standard deduction and expansion of family tax credits may offset the loss of some deductions and the personal exemptions. Indeed, the IRS predicts that most 2018 tax filers will receive refunds.

Taxpayers, however, generally can’t be certain how the numerous TCJA changes will play out for them, putting them at risk of underpayment penalties for 2018. The Government Accountability Office last year estimated that almost 30 million taxpayers will owe money when they file their 2018 personal income tax returns due to under-withholding. Those particularly at risk include taxpayers who itemized in the past but are now taking the standard deduction, two-wage-earner households, employees with non-wage sources of income and taxpayers with complex tax situations.

Underpayment penalties

The tax code imposes a penalty (known as a Section 6654 penalty) if taxpayers don’t pay enough in taxes during the year. The penalty generally doesn’t apply if a person’s tax payments were:

  • At least 90% of the tax liability for the year, or
  • At least 100% of the prior year’s tax liability. (The 100% threshold rises to 110% if a taxpayer’s adjusted gross income is more than $150,000, or $75,000 if married and filing a separate return.)

Taxpayers generally can also avoid the underpayment penalty if they owe less than $1,000 in additional tax after subtracting their withholding and refundable credits.

The 2018 waiver

The IRS’s waiver lowers the 90% threshold to 85% — the IRS won’t penalize taxpayers who paid at least 85% of their total 2018 tax liability. For those who paid less than 85%, the IRS will calculate the penalty as it normally would.

To request the waiver, a taxpayer must file Form 2210, “Underpayment of Estimated Tax by Individuals, Estates, and Trusts,” with his or her 2018 federal income tax return.

Shutdown concerns

The IRS already has indicated that it will issue refunds despite the government shutdown that has furloughed about 800,000 federal workers. The IRS is recalling some of its furloughed employees and plans to have about 46,000 of its employees back on the job in the coming days. Those employees represent only about 57% of its total workforce. These employees will be using newly updated systems and forms, which could result in further delays. In addition, they could face an onslaught of questions from taxpayers confused by the TCJA changes.

Moreover, the recalled employees won’t be paid during the shutdown, and declines in morale may hurt productivity. Unpaid workers at other federal agencies have called in sick at higher rates than usual since the government’s partial closure, and the union that represents IRS employees has sued the Trump administration over the pay issue.

Act now for 2019 taxes

The underpayment penalty waiver is effective only for 2018. The IRS is urging taxpayers to review their withholding now to ensure that the proper amount is withheld for 2019, especially taxpayers who end up owing more than expected this year. If you have questions regarding the waiver, please don’t hesitate to call us.

© 2019

2018 Cost-of-Living Adjustments

The IRS recently issued its 2018 cost-of-living adjustments. In a nutshell, to account for inflation, many amounts increased, but some stayed at 2017 levels. As you implement 2017 year-end tax planning strategies, be sure to take these 2018 adjustments into account in your planning. (However, keep in mind that, if Congress passes a new tax law, some of these amounts may change.)

Gift and estate taxes

The annual gift tax exclusion increases for the first time since 2013 to $15,000 (up from $14,000 for 2017). It’s adjusted only in $1,000 increments, so it typically increases only every few years.

The unified gift and estate tax exemption and the generation-skipping transfer (GST) tax exemption are both adjusted annually for inflation. For 2018 the amount is $5.60 million (up from $5.49 million for 2017).

Individual income taxes

Tax-bracket thresholds increase for each filing status but, because they’re based on percentages, they increase more significantly for the higher brackets. For example, the top of the 10% bracket increases by $200 to $400, depending on filing status, but the top of the 35% bracket increases by $4,675 to $9,350, again depending on filing status.


The personal and dependency exemption increases by $100, to $4,150 for 2018. The exemption is subject to a phaseout, which reduces exemptions by 2% for each $2,500 (or portion thereof) by which a taxpayer’s adjusted gross income (AGI) exceeds the applicable threshold (2% of each $1,250 for separate filers).

For 2018, the phaseout starting points increase by $3,100 to $6,200, to AGI of $266,700 (singles), $293,350 (heads of households), $320,000 (joint filers), and $160,000 (separate filers). The exemption phases out completely at $389,200 (singles), $415,850 (heads of households), $442,500 (joint filers), and $221,250 (separate filers).

Your AGI also may affect some of your itemized deductions. An AGI-based limit reduces certain otherwise allowable deductions by 3% of the amount by which a taxpayer’s AGI exceeds the applicable threshold (not to exceed 80% of otherwise allowable deductions). The thresholds are the same as for the personal and dependency exemption phaseout.

AMT

The alternative minimum tax (AMT) is a separate tax system that limits some deductions, doesn’t permit others and treats certain income items differently. If your AMT liability is greater than your regular tax liability, you must pay the AMT.

Like the regular tax brackets, the AMT brackets are annually indexed for inflation. For 2018, the threshold for the 28% bracket increased by $3,700 for all filing statuses except married filing separately, which increased by half that amount.

The AMT exemptions and exemption phaseouts are also indexed. The exemption amounts for 2018 are $55,400 for singles and heads of households and $86,200 for joint filers, increasing by $1,100 and $1,700, respectively, over 2017 amounts. The inflation-adjusted phaseout ranges for 2018 are $123,100–$344,700 (singles and heads of households) and $164,100–$508,900 (joint filers). Amounts for separate filers are half of those for joint filers.

Education- and child-related breaks

The maximum benefits of various education- and child-related breaks generally remain the same for 2018. But most of these breaks are limited based on the taxpayer’s modified adjusted gross income (MAGI). Taxpayers whose MAGIs are within the applicable phaseout range are eligible for a partial break — breaks are eliminated for those whose MAGIs exceed the top of the range.

The MAGI phaseout ranges generally remain the same or increase modestly for 2018, depending on the break. For example:

The American Opportunity credit. The MAGI phaseout ranges for this education credit (maximum $2,500 per eligible student) remain the same for 2018: $160,000–$180,000 for joint filers and $80,000–$90,000 for other filers.

The Lifetime Learning credit. The MAGI phaseout ranges for this education credit (maximum $2,000 per tax return) increase for 2018; they’re $114,000–$134,000 for joint filers and $57,000–$67,000 for other filers — up $2,000 for joint filers and $1,000 for others.

The adoption credit. The MAGI phaseout ranges for this credit also increase for 2018 — by $4,040, to $207,580–$247,580 for joint, head-of-household and single filers. The maximum credit increases by $270, to $13,840 for 2018.

(Note: Married couples filing separately generally aren’t eligible for these credits.)

These are only some of the education- and child-related breaks that may benefit you. Keep in mind that, if your MAGI is too high for you to qualify for a break for your child’s education, your child might be eligible.

Retirement plans

Not all of the retirement-plan-related limits increase for 2018. Thus, you may have limited opportunities to increase your retirement savings if you’ve already been contributing the maximum amount allowed:

Your MAGI may reduce or even eliminate your ability to take advantage of IRAs. Fortunately, IRA-related MAGI phaseout range limits all will increase for 2018:

Traditional IRAs. MAGI phaseout ranges apply to the deductibility of contributions if the taxpayer (or his or her spouse) participates in an employer-sponsored retirement plan:

  • For married taxpayers filing jointly, the phaseout range is specific to each spouse based on whether he or she is a participant in an employer-sponsored plan:
    • For a spouse who participates, the 2018 phaseout range limits increase by  $2,000, to $101,000–$121,000.
    • For a spouse who doesn’t participate, the 2018 phaseout range limits increase by $3,000, to $189,000–$199,000.
  • For single and head-of-household taxpayers participating in an employer-sponsored plan, the 2018 phaseout range limits increase by $1,000, to $63,000–$73,000.

Taxpayers with MAGIs within the applicable range can deduct a partial contribution; those with MAGIs exceeding the applicable range can’t deduct any IRA contribution.

But a taxpayer whose deduction is reduced or eliminated can make nondeductible traditional IRA contributions. The $5,500 contribution limit (plus $1,000 catch-up if applicable and reduced by any Roth IRA contributions) still applies. Nondeductible traditional IRA contributions may be beneficial if your MAGI is also too high for you to contribute (or fully contribute) to a Roth IRA.

Roth IRAs. Whether you participate in an employer-sponsored plan doesn’t affect your ability to contribute to a Roth IRA, but MAGI limits may reduce or eliminate your ability to contribute:

  • For married taxpayers filing jointly, the 2018 phaseout range limits increase by $3,000, to $189,000–$199,000.
  • For single and head-of-household taxpayers, the 2018 phaseout range limits increase by $2,000, to $120,000–$135,000.

You can make a partial contribution if your MAGI falls within the applicable range, but no contribution if it exceeds the top of the range.

(Note: Married taxpayers filing separately are subject to much lower phaseout ranges for both traditional and Roth IRAs.)

Impact on your year-end tax planning and retirement planning

The 2018 cost-of-living adjustment amounts are trending higher than 2017 amounts. How might these amounts affect your year-end tax planning or retirement planning? Contact us for answers. We’d be pleased to help.

Federal government shutdown creates tax filing uncertainty

The IRS has announced that it will begin accepting paper and electronic tax returns for the 2018 tax year on January 28, but much remains to be seen about how the ongoing shutdown of the federal government will affect this year’s filings. Although the Trump administration has stated that the IRS will pay refunds during the closure — a shift from IRS practice in previous government shutdowns — it’s not clear how quickly such refunds can be processed.

Effects of the shutdown on the IRS so far

An estimated 800,000 federal government workers have been furloughed since December 22, 2018, due to the impasse between President Trump and Congress over funding for a southern border wall. The most recent contingency plan published for the IRS lapsed on December 31, 2018, but it provided that only 12.5% of the tax agency’s approximately 80,000 employees would be deemed essential and therefore continue working during a shutdown.

The furloughs are necessary because the standoff over the border wall has prevented the enactment of several of the appropriations bills that fund the federal government. Tax refunds aren’t paid with appropriated funds, but IRS employees are. In the past, the IRS hasn’t paid tax refunds during shutdowns because it didn’t have the appropriated funds it needed to pay the employees who process refunds. Trump administration attorneys, however, have determined that the agency can issue refunds during a shutdown.

The IRS likely will need far more than 12.5% of its employees on the job to process refunds when it starts accepting filings. In 2018, the IRS received 18.3 million returns and processed 6.1 million refunds in the first week of tax season. By just one week later, it had received 30.8 million returns and issued 13.5 million refunds. Even though the IRS has indicated that it intends to recall “a significant portion of its workforce” to work, it has provided few details, and those employees would have to work without pay. The IRS says it will release an updated contingency plan “in the coming days.”

TCJA complicates the picture

The implementation of the federal tax overhaul could further complicate matters for taxpayers. The 2018 tax year is the first to be subject to the Tax Cuts and Jobs Act (TCJA), which brought sweeping changes to the tax code, as well as new tax forms. Various TCJA implementation activities, such as the development of new publications and instructions, will continue because they’re funded by earlier appropriations legislation.

Be aware that taxpayers and their accountants may not be able to contact the IRS with questions. When the IRS’s main number on January 9 was called, this recorded message was received: “Live telephone assistance is not available at this time. Normal operations will resume as soon as possible.”

During the 2013 government shutdown, taxpayers also couldn’t receive live telephone customer service from the IRS, and walk-in taxpayer assistance centers were shuttered. At that time, the IRS website was available, but some of its interactive features weren’t. Treasury Secretary Steve Mnuchin has stated that the IRS will call back enough employees to work to answer 60% to 70% of phone calls seeking tax assistance during this shutdown, which could lead to widespread taxpayer frustration.

Tax filing deadlines are still in effect

Regardless of how IRS operations proceed, taxpayers still need to comply with the filing deadlines. Individual taxpayers in every state but Maine and Massachusetts must file by April 15, 2019; filers in those two states have until April 17, 2019. Individuals who obtain a filing extension have until October 15, 2019, to file their returns but should pay the taxes owed by the April deadline to avoid penalties. If you have questions about tax filing, please contact us.