As tax reform looms, year-end tax planning can maximize savings

This piece is presented by Cain Ellsworth & Company LLP.

By Mikal L. Claar, CPA, JD

Congress appears ready to implement sweeping tax reform. While most, if not all, changes will become effective starting in 2018, the new landscape requires more attention than ever to year-end tax planning starting now.

It appears that the standard deduction available to individual taxpayers will double. For married taxpayers filing joint returns, the standard deduction is proposed to be $24,400 and for single filers $12,200. Individual taxpayers are entitled to deduct the larger of the standard deduction or allowable itemized deductions. Currently, common itemized deductions that can be claimed include state and local income and sales taxes, home mortgage interest, real estate taxes and charitable contributions.

The proposed increase in the standard deduction likely will result in many fewer taxpayers qualifying to itemize. As such, the initiative to make charitable contributions for tax-benefit reasons may be lost. A similar impact will be felt by homeowners banking on the tax benefit from deducting home mortgage interest and real estate taxes. Even if the deductions for charitable contributions and home mortgage interest survive the tax- reform process, the associated tax benefit may still be lost for those who claim the standard deduction.

Smart year-end tax planning should consider accelerating charitable contributions into tax year 2017 when such contributions would generate no tax benefit in 2018 under new tax law.

Corporation taxation changes

Tax-reform proposals also include provisions to incentivize business growth and the creation of jobs. Potentially significant tax cuts are being directed at traditional taxpaying C corporations in the form of a 20 percent flat tax. This tax rate is more in line with international rates born by competitors of U.S. businesses in the worldwide economy. However, local businesses will need to evaluate their legal structure in terms of the relative advantage it may provide under new tax law. Much small business is currently conducted either as an S corporation or limited liability company. Both result in income taxes being imposed at individual rates, which depending upon the outcome of tax reform, could be substantially different than C corporate rates.

Historically, much of tax planning involves strategies to defer income and accelerate tax deductions. This approach can yield even larger dividends when it is expected that future tax rates will be lower. As such, good tax planning not only involves focus on the year 2017, but also on expectations for subsequent years’ income, deductions and tax rates.

Effective year-end tax planning must take into account each taxpayer’s particular situation and planning goals, with the intent to reduce income taxes over a period of years. As a case in point, some local businesses may recently have experienced a loss in profitability because of soft grain prices. This impacts not only farms and ranches, but also has a ripple negative impact on implement dealers and other farm suppliers. In this situation, good tax planning should consider accelerating income into 2017 — and deferring deductions — with the aim of taking advantage of the lower tax brackets that otherwise could be wasted. By moving income — or deferring deductions — one may have effectively also reduced the tax bill in a subsequent year.

Some key considerations to take into account when developing tax-planning strategies include:

Capital gains

Long-term capital gains reportable on an individual income tax return are taxed at a lower rate than ordinary income. To the extent that a taxpayer is otherwise in the 10 percent or 15 percent tax bracket, most are surprised to find that a 0 percent tax rate applies to long-term capital gain income. A similar tax treatment applies to qualified dividend income. Proactive timing of recognition of long-term capital gains or qualified dividends in years in which the taxpayer is expected to be in the 10 percent or 15 percent bracket can result in tax-free income.

It also is important to note that net capital losses can be deducted only up to $3,000 per year by individual taxpayers. Wise tax planning should seek strategies for matching capital gains to offset otherwise available capital losses.

Expensing deduction

Most machinery and equipment purchased for business use can be expensed immediately as Section 179 property in 2017. The total deduction for such machinery and equipment placed in service in tax years beginning in 2017 is limited to $510,000. For larger taxpayers, once total purchases of qualifying machinery and equipment exceeds $2,030,000, the deduction begins to phase out. Timing the date that such machinery and equipment is placed in-service can impact your tax bill dramatically.

A common misconception is that the expensing of machinery and equipment becomes available in the tax year that it is paid for. Rather, the deduction is available only in the year that the purchaser has possession of the machinery and it is placed in service for its intended use. This may or may not be the same year the item is paid for either with cash or borrowed funds.

For the year 2017 to the extent that new machinery and equipment is not otherwise expensed under Section 179 as described above, 50 percent can be claimed as bonus depreciation. Unlike the Section 179 expensing deduction, bonus depreciation is available without limitation based on the amount of purchased assets. As such, larger taxpayers can take advantage of the deduction.

With major tax reform on the horizon, tax planning as we approach the close of 2017 is more important than ever. We at Cain Ellsworth & Company LLP take pride in being proactive to assist our clients in planning to minimize their tax bills. Give us a call. We stand ready to help you.

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As tax reform looms, year-end tax planning can maximize savings

Congress appears ready to implement sweeping tax reform. While most, if not all, changes will become effective starting in 2018, the new landscape requires more attention than ever to year-end tax planning starting now.

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