Many of us reach the end of the year and scramble to find a few more deductions for the year. Often times, we prepay our next property tax installment, do some last-minute gifting, or, if you’ve had a big medical expense year, you might squeeze in one more doctor visit.
The Tax Reform that passed late last year makes some pretty substantial changes to those deductions. First of all, the standard deduction has nearly doubled from $6,350 to $12,000 for individuals and from $12,700 to $24,000 for couples in 2018. However, there are no longer exemptions, and there are some significant changes to itemized deductions. The doubling of the standard deduction most likely will shift many people from itemized to standard deduction.
If you think you are going to fall into the category of no longer itemizing every year, here are a couple things to think about:
- If you are older than 70.5 and have an Individual Retirement Account (IRA), consider doing qualified charitable rollovers to accomplish charitable gifting. Gifts made this way are not included in your gross income but do count toward your required minimum distributions. What you want to avoid for sure is taking money out of your IRA and gifting it to charity. If you do that and no longer itemize, you’ll have to pay tax on the distribution but won’t receive a deduction for the charitable gift.
- Consider bunching qualified itemized deductions, especially charitable gifts. If by doing two or more years’ worth of gifting in one year you would be able to itemize, consider pre-funding a couple years of charitable gifting into a Donor Advised Fund, picking up a higher itemized deduction, and then taking the standard deduction in the off year(s). You also could just make a larger gift to your charities of choice every other year and let the charity know that your larger gift is for the current and next year.
Some of the more substantial changes to the itemized deductions include:
- A cap on state and local taxes, including property taxes, at $10,000.
- Elimination of the deduction for interest on a home equity line of credit.
- First home mortgage interest limited to interest on acquisition indebtedness of no more than $750,000.
- No more Miscellaneous Itemized Deductions subject to the 2% floor.
- Cash charitable deductions now can be as much as 60% of adjusted gross income, up from 50%.
So, what should you do about these changes? First of all, don’t let taxes dictate your plan and goals to the extent you would or wouldn’t do something but possibly modify how you do it. A few things to consider:
- With state and local tax deductions being capped at $10,000, a state tax deduction or credit becomes even more valuable. In Iowa, there are some great tax credit programs, like Endow Iowa and Student Tuition Organizations. Also, if you are saving for college for kids or grandkids, consider starting a 529 plan, because Iowans receive a state tax deduction for contributions up to $3,319 in 2018 per beneficiary by individual.
- Limit the use of home equity debt if possible.
- Increase the tax leverage of charitable gifts by using appreciated securities or property. While this strategy won’t increase your deduction if you don’t itemize, it can help reduce the amount of gains in your investment portfolio you will pay tax on in the future if done properly.
- Remember, most deductions occur due to spending or giving away assets. For instance, $1 spent on home debt might save you $0.33 in tax, depending on your bracket. So instead of spending money to get a deduction, consider utilizing a savings mechanism that reduces taxes. Increasing your 401(k) contributions or starting an IRA if you qualify allows you to reduce your taxable income and save those assets for your own future use.
As always, these are general ideas, and they may not apply to your unique situation. Discuss these changes with your financial advisor and CPA to determine what changes apply to you and what strategies you should consider.
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