I have some good news and some bad news. The good news is a certain unnamed accountant will do rather well over the next several years with the new tax code. The bad news is you will not.
The current tax bill on the verge of becoming law will make an experienced tax professional more important than ever. Worse, you’ll have no choice. You’ll either pay an increasingly overworked experienced tax professional or overpay your taxes. Either way you pay.
As for me, I was busy enough. I didn’t need more busy work. The tax bill is 500 pages with handwritten notes in the margins because it is being pushed so quickly toward passage. You know what they say? Fast is better than good.
The ink hasn’t dried and new ink is still being added as I write, but the tax bill is almost certain to become law now. There are plenty of surprises to discuss. A few issues are still up in the air; I’ll cover those in a future post.
For now I want to provide a guide as we head into the last month of the year. Some issues in this tax bill are effective (if passed and signed by the President) on varying dates in 2017. Since planning is not possible I will skip those items for now.
The Craziest Tax Bill Ever
Over three decades of experience and I had to live long enough to see this. We can debate the merits of the economic benefits of this bill, but the truth is brutally painful.
Pass-through businesses (partnerships and S-corporations) will see tax relief. More than ever small business owners will need to organize as a pass-through. Even taxpayers will smaller amounts of side gig income will need to have a serious conversation with their tax professional to determine if an entity is right for them.
I’ve seen (and heard) a few different versions of the pass-though deduction. Since the hand written notes were not available to me before publishing I refrain from giving exact numbers. Last week Tuesday and Wednesday I was in training and plenty of time was used to discuss the potential tax changes. As crazy as it sounds, one short week later and part of my training (and two days of my life) are obsolete.
The wealthy will benefit the most from this bill. Tax brackets are coming down for individuals at the upper end of the scale while the lowest tax bracket goes up from 10% to 12%.
The standard deduction is going up and exemptions are going away. When you’re done playing the end result is nil. Families with children will see a higher Child Tax Credit. I ran several illustrations on the Senate proposals late last week and many typical situations will result in a tax increase!
Bad for Business and Bad for the Economy
Small business owners might be jumping for joy at their tax reduction. However, it might be wise to delay the celebration.
Yes, pass-through entities will see a tax reduction, but if customers pay higher taxes who will drive sales? That is the catch-22 of this tax bill. High income/net worth individuals will keep more of their income while the middle class and poor are gutted.
The argument goes back to the old “trickle-down” theory of thirty years ago. It didn’t work then and it’s doubtful it’ll work now.
Wealthy people don’t spend more just because they get a tax cut! They’re rich. They wouldn’t be rich if they spent every penny they made.
The middle class and poor spend a larger percentage of their income just to meet necessities. A tax increase for the middle class and poor means an immediate decline in spending!
Your favorite accountant will enjoy more income and lower taxes from this bill. However, I will NOT pay higher wages based on my tax rate! (Sorry to any employee reading this.) I pay higher wages for higher profits! Wages are deductible so profits, not tax rates, drive wages! Congress is wrong, lower tax rates will not increase wages. It’ll just add to the deficit and probably cause higher interest rates.
Most small businesses will have it worse since they are not in the tax services business. In fact, I predict the only two groups of small businesses who will win with this tax bill are tax professionals and businesses who cater to the very wealthy. How can it be any other way?
Don’t be fooled by the news reports. The economy might have a minor upward blip, but it will be short-lived as spending from a serious percentage of the population is pressured by higher taxes. As for me, don’t expect me to spend more based on a tax cut. I don’t spend all I earn already and encourage you to undertake the same habit.
More than ever, a frugal mindset will be needed to navigate the course of the next many years.
The last I saw the corporate tax rate will be reduced to 20%. I also heard there could be an upward adjustment to this.
Investors will benefit from a lower tax rate for corporations in some industries. Tech will not do as well as first thought. My largest investment, Altria, will probably do very well. Pharma will also have mixed results.
The reason the lower corporate tax rate will not lift all large corporate boats equally is because of the lie the American people have been sold for years. We have been told time and again that the U.S. has the highest corporate tax rate in the world.
There is a kernel of truth to the statement. What the lie involves is the “real” tax rate after all deductions and credits. Then the U.S. is decidedly in the middle to slightly below the centerline.
The lower tax rate and bonus depreciation brings back the Alternative Minimum Tax for corporations last I saw, but it looks like an accidental effect and could be resolved in committee before the law is passed.
Some companies, like cigarette company, Altria, will do well under the new tax scheme. Altria pays at the top 35% tax bracket under the old law. If the 20% top corporate bracket holds Altria and other major corporations paying a larger portion of their profits in taxes will see benefits. However, many large corporations already pay a lower rate.
Note: I do NOT buy a stock based on tax rates! This is not a recommendation to buy stocks of companies paying near the highest tax rate under the old law. Any tax benefit will be short-lived. Once the reduced tax cost is digested profits from continuing operations and cash flow will determine a corporation’s value.
The bill also requires first in, first out accounting on sales of stocks and mutual funds. This will make tax-loss harvesting more difficult.
Republicans Hate Jesus!
Never mind the provision allowing 529 plan funds up to $10,000 for private and religious schools. Tapping into a 529 sooner means there is less tax-free gain to accumulate! Since 529 plans are only deductible on state tax returns in a limited way, the only real benefit on a federal return is the tax-free growth. Unfortunately, if you allow withdrawals earlier for primary and secondary education, there is less benefit. It might not even be worth the effort. And the money earmarked for higher education will be diminished.
What surprises me the most in all the proposed bills is the damage non-profit organizations will face. When the standard deduction is increased to offset the elimination of exemptions there will be consequences. Limits will be (likely) placed on the amount of mortgage interest deductible. The same for state and local taxes.
This means Schedule A will be used a lot less in the future and contributions to charity are claimed on Schedule A. Though charitable giving shouldn’t be predicated on tax implications, it frequently is.
Small businesses can promote their favorite charity through sponsorships, but individuals will see less, or no, benefit from their charitable contributions. I expect churches will feel the squeeze as more people discover their tithing translates into a tax increase!
Donor advised funds may allow for a larger charitable gift deduction in a particular year, but the higher standard deduction will always diminish its true value. The same applies to charitable remainder trusts (CRT). There could still be estate tax reasons to use CRTs. But, the estate tax is virtually eliminated.
It will be interesting to see how this plays out when politicians meet angry parishioners at church on Sunday. I don’t think many people have a clue how non-profits will be affected by the tax law changes.
More Good and Bad News
The Child Tax Credit is expanded to age 17. Buuuut. . . it expires in 2024. That is a recurrent theme in this bill. Corporate tax cuts are permanent while individual cuts are temporary.
Kind employers (like me) can’t even be nice to our employees anymore. Employers in the past could have incentive rewards. Small gift card rewards were tax-free. Not after the end of 2017. Corporations with billions in profits see their taxes decline nearly half while employees can’t avoid tax on a $25 or $50 gift card! If you had a warm and fuzzy feeling I bet by now it’s gone.
A Family Leave Credit was added at the last minute. Buuuut, it only counts for certain states. Talk about insane! It seems the family leave provision is only allowed on the federal return if the state doesn’t have a similar provision. My guess is states will adjust so the federal credit applies in their state, too.
This brings up another interesting topic. It seems the Republicans have built a tax code to punish blue states. California, New York, New Jersey and Massachusetts will suffer greatly under the new tax proposals. The problem is these states contain the largest percent of our national economy! California is ~13.7% of the U.S economy alone.
And these states have the highest populations. The tax bill is designed to hurt a large portion of the national economy. What could go wrong? I predict the next recession starts and spreads from these economic growth centers.
I wish I could offer better news. This tax bill is the biggest mess I’ve seen in my career.
There are plenty of solutions. I’ll wait until the ink dries from the President’s pen before giving advice so I know it’ll stick.
I’m an optimist. I think this tax bill is so riddled with holes I’ll be able to drive a Mack truck through it. My guess is the law will not last long as the deficit balloons out of control and the economy stutters. In the mean time I’ll do everything in my power to help you maximize your results.
When you’re born you get a ticket to the freak show; when you’re born in America you get a front row seat. —George Carlin
Monday 25th of December 2017
Since I don't think I will be able to itemize under the new law, I will benefit by paying my 2017 real estate taxes early... I live in IL and we pay in arrears in 2 installments (Jun 1 and Sep 1 the following year: 2017s taxes are due in 2018). So I was thinking of paying my $8,500 property tax bill for 2017 before the end of the year in order to take the deduction on 2017's return. The local county allows you to pre-pay up 105% of the previous year's bill (2016's bill paid in 2017).
So after researching to confirm that this is allowable, I'm actually now not sure I even have to make the payment to take the deduction. You see, we sold our primary residence and bought a new primary residence on May 19 this year. We paid the pro-rated amount to the buyer of our old home on that day and we received a pro-rated amount from the seller of our current home.
After reviewing Publication 530, it seems as though the IRS doesn't care when the taxes are paid. They seem to give guidance about how the division of real estate taxes but not the timing of the payment... From the IRS site: "You and the seller each are considered to have paid your own share of the taxes, even if one or the other paid the entire amount. You each can deduct your own share, if you itemize deductions, for the year the property is sold."
So it kinda seems like I can deduct my pro-rated portions from each home whether the payments were made or not. Does that seem right?
Tuesday 26th of December 2017
Perry, the IRS is referring to the proration on the closing statement. The buyer deducts his portion once it's paid, but the seller is assumed to have paid at the time of closing his pro-rata share deducted on the closing statement. It has to be this way otherwise you would have to harass the buyer of your home to determine when they paid the property taxes the year the home transferred.
2017 Tax Bill: Small Business is Punished for Raising Wages | The Wealthy Accountant
Friday 22nd of December 2017
[…] I don’t like to comment on a tax bill before it becomes law, hence the reason I’ve only commented once on the current bill as it wound its way through the halls and committees of Congress. Now that the bill is sitting on […]
Sunday 10th of December 2017
Yes, still in flux. The fact that people in my (high tax) state will likely lose SALT deductions is not really a federal problem: the real issue should be why are our state taxes so high to begin with? My fellow citizens should be questioning Trenton not Washington
Friday 8th of December 2017
From a napkin calculation while reading wsj analysis, it seems I might save due to shifting enough income into lower brackets. But I'll wait and see the final version.
What I don't understand is the talk of doubling the standard deduction as helping when the loss of exemptions will lost about 2/3 of that increase for me (based on two evening). Seems like it'll be worse for families, but maybe the should tax credit will offer that?
But, currently my itemized state and property tax are slightly greater than standard so any charitable giving is deductible. That will go away with the new standard deduction. I will still contribute, but it will cost me more.
I think charities will see a one time uptick in contributions for 2017 as people like me might accelerate our 2018 giving into 2017, but may be negative impact going forward.
Saturday 9th of December 2017
You mention the most important point, Mick. The tax bill is a problem if you make no changes. Those who plan will always do better. When writing I have to communicate the aggregate changes assuming nobody thinks or plans. Adding people's response to the new tax situation is impossible to quantify in aggregate. The hazards of writing a tax blog.
Wednesday 6th of December 2017
"The argument goes back to the old “trickle-down” theory of thirty years ago. It didn’t work then and it’s doubtful it’ll work now"
Keith, I believe that Federal tax revenues increased substantially after the substantial rate reductions of the Reagan era. Congress critters of both parties ramped up spending and entitlements thereby increasing the "deficit". Increased economic activity can and does produce more revenue. Sorry, but when I hear "trickle down", I usually suspect a leftwing agitator or outright Marxist central planner is speaking. Its a pejorative used by the enemies of free markets and statists in general. The very people who's goal is outright wealth confiscation (from readers of your blog) and redistribution (to non readers of your blog). A non biased blogger may have used the term "Supply side" economics. Time will tell what the results of the tax bill will be. As a middle income wage earner with a side hustle, I suspect little if any change to my lifestyle as a consequence. My income and savings/investment rate are largely dependent upon me and my own efforts. If the result of the tax bill is strong sustainable economic growth then a rising tide lifts all boats. Regarding congress and DC in general, a benevolent dictatorship is looking better and better
Thursday 7th of December 2017
You bring up some good points, Blastmaster. I use contemporary words to describe certain facets of my thesis. "Supply-side" and "trickle-down" are two different concepts President Reagan used. Trickle-down hasn't worked as I mention in the post; supply-side has. Remember what Reagan was trying to do. Inflation was high and so was unemployment. A double recession was killing the economy in 1982. Supply-side economics offered to increase supply causing inflation to decline while jobs were created as supply was produced. Reagan accomplished this by increasing Section 179 expensing from $10,000 to $25,000. It was sheer genius for the economic environment of the time. Ever since supply side economics has been doubled down on. It worked! Too well! Now inflation doesn't budge regardless the money printing the Fed does as Section 179 expensing is almost unlimited for small businesses. That might change, but supply side economics worked for 1982. Today we need a different model. Interest rates and inflation are near zero, not 14% like in the early 80s. I say trickle down doesn't work because we've doubled down on that as well and all we get is a bigger and bigger national debt. I could flesh this out in a full post, but I know where the discussion heads, to politics. It's not political except to the politicized, it's economics! Maybe I'll dress in thick armor and give the economics lessons. I'm sure the left and right will equally want to lynch me. Nothing new there.