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Lower Your Tax Bill with One of the Most Overlooked Deductions

By Individuals

While not impossible, taxpayers may find it difficult to receive a tax benefit from unreimbursed medical expenses. Due to the higher threshold and recent changes to tax law, clients often overlook the deductibility of medical expenses. Continue reading this article to find out if you’ve been missing out on tax savings from your medical expenses.

First, let’s start with the basics. The threshold for deductible medical expenses for 2019 is now 10% of adjusted gross income (AGI), up from tax years 2017 and 2018 when the Tax Cuts and Jobs Act modified the percentage to a favorable 7.5%. To put in context, if a taxpayer’s AGI is $100,000 in 2019, they would not receive a tax benefit from medical expenses until qualified medical expenses exceed $10,000. In addition, to receive a medical deduction, taxpayers must itemize which means that their itemized deductions must exceed the standard deduction, $12,200 for single filers, $24,400 for married filers filing jointly and $18,350 for head of household filers. Common itemized deductions include medical expenses, state income tax, property taxes, mortgage and investment interest, and charitable gifts.

Another important factor to keep in mind is who qualifies for a medical expense deduction on your tax return. In addition to deducting qualified medical expenses paid for yourself, your spouse and your dependents, you might be able to deduct expenses incurred for an individual who doesn’t qualify as your dependent. The IRS allows you to claim medical expenses for another individual if:

1) you did not claim your child as a dependent because of the rules for children of divorced or separated parents

2) you did not claim a person as a dependent because they received more than $4,200 of gross income or they filed a joint return

3) you did not claim a person as a dependent because that person could be claimed as a dependent on someone else’s return.

In the case of dependents of divorced or separated parents, a taxpayer can deduct medical expenses paid for their children even if the child is claimed by the other parent.

Taxpayers can also include medical expenses incurred for a person who would have otherwise qualified as their dependent apart from earned income greater than $4,200 in 2019. In order to deduct expenses paid on behalf of this individual, this individual must have lived with you for the entire year, be related to you, be a US citizen or legal resident, and you provided over half of his or her support for the year. For example, you provided over half of your father’s support but cannot claim him as a dependent because he received wages in excess of $4,200. In this scenario, you can deduct the medical expenses paid for your father. If your parent doesn’t live with you but you provide more than half of the support, you can also deduct the medical expenses under the qualifying relative rule.

Finally, if you incur a medical bill for an expense that occurred in a prior year and that individual was your dependent in that tax year, you can deduct the qualified expenses in the current year. The key factor is that the medical services were provided when the individual was your dependent.

For a complete list of qualified medical expenses please refer to IRS Publication 502.

If you would like to know more about deductible medical expenses or need advice on your overall tax planning, please contact your L&B professionals at (858) 558-9200.

More Opportunity in Opportunity Zones

By Individuals

The tax incentives of investing in an Opportunity Zone were introduced by the Tax Cuts and Jobs Act at the end of 2017.  Since then, the lack of guidance in this legislation has left a lot to the imagination regarding the opportunities available in this new provision of the tax code.  The final regulations issued on December 19th finally offer some specific direction, which is even better than we imagined.

O Zone Basics – A Quick Refresher

The tax advantages of investing in an opportunity zone occur when a capital gain is realized.  When all or some of the the gain is reinvested in an opportunity zone fund or qualified opportunity zone business, a portion of the gain can be deferred for federal tax purposes.  Generally speaking, tax on the gain can be deferred until 2026.  In addition, after holding the investment for 5 years, 10% of the gain can be permanently excluded from being taxed, and furthermore, after holding the investment for another 2 years (7 years total), another 5% of the gain can be excluded.  And if that wasn’t enough, if the investment is held for at least another 3 years (10 years total), any appreciation on the investment can be excluded from taxable income.  It should be noted that the additional 5% gain exclusion timing does not work for investments after 12/31/19.

Also, be aware that California does not conform, so gain deferral or exclusion is not available for calculating taxes in California.

What’s new in O Zones?

544 pages of final regulations issued by the IRS provide additional guidance needed to help us understand:

  • What types of gains can qualify to be deferred when invested in Opportunity Zones,
  • The timing around reinvesting different types of gains,
  • How to determine the level of new investment (anti-abuse provisions), and
  • Specifics around Large C Corporation investments in Opportunity Zones.

So where is the opportunity?

The final regulations look at gross Section 1231 gains on property sales without regard to 1231 losses.  This means that netting of all gains and losses is not required when determining the amount of 1231 gains eligible for reinvestment in an opportunity zone.  The benefit here is having more eligible gains for reinvestment.

The new opportunity zone provisions also create more flexibility in reinvestment timing.  When a 1231 gain is recognized, a taxpayer has 180 days of the transaction to reinvest it in an opportunity zone rather than having to wait to reinvest until after the end of the year.  When a gain is recognized in a passthrough entity, the taxpayer has the option to reinvest within 180 days of the transaction date, the end of the year, or the due date of the passthrough entity tax return.

Installment sales have also become more attractive candidates for opportunity zone investment.  In fact, transactions that occurred in prior years are now eligible for deferral when installment payments that are received currently are reinvested in opportunity zones.  In addition, a taxpayer may elect to reinvest proceeds within 180 days of receipt, or within 180 days of the end of the tax year in order to aggregate all installment sale proceeds into one or more investment.

Steering Clear of Anti-Abuse

The final regulations put forth concepts to prevent abuses of the opportunity zone provisions.  These concepts focus on specific areas such as selling assets to opportunity zone businesses and reinvesting proceeds in that business.  The regulations also discuss the levels of reinvestment required in order for a fund or business to qualify as an opportunity zone.  The regulations address these concepts in order to keep the provisions in line with the intent of Congress when they included Opportunity Zones in the language of the Tax Cuts and Jobs Act.  Their goal was to drive investment and subsequent improvement or economic development into specific geographic areas.

To keep clear of anti-abuse provisions and potentially identify your opportunities to defer and even exclude gains and future appreciation, contact your tax professional at Lindsay & Brownell.

Year-End Tax Planning

By Individuals

The end of the year is approaching fast and that means it is time to take advantage of year-end tax planning. With the tax law changes from the Tax Cuts and Jobs Act (TCJA) being in effect for a full year, there are a few things to be aware of as we close out 2019 and move into 2020. Below are some useful tax planning tips to help navigate these new tax law changes.

Standard Deduction

The standard deduction for the 2019 tax year remains nearly doubled since the enacted changes of the TCJA. The standard deduction for 2019 is $12,200 for single filers and $24,400 for married joint filers. Personal and dependent exemptions have been eliminated.

Itemized Deductions

The TCJA has made some significant changes to itemized deductions that remain in effect, mainly the cap on state and local taxes (SALT). The amount of deductible SALT allowed is limited to $10,000 in total. This includes sales, state, and property taxes combined. The percentage of AGI for current year deductible cash charitable contributions has increased. The Pease limitation, which put a cap on the amount of itemized deductions allowed based on income thresholds, has also been eliminated since the 2018 tax year and continues through 2025.

Charitable Contribution “Bunching”

The cash charitable contribution limitation remains increased from 50% to 60% of AGI for 2019. The term “bunching” refers to making a larger charitable contribution in the current year instead of making smaller contributions over the next few years. By making multiple years of contributions in one year, it could push taxpayers over the standard deduction amount and they would have the opportunity to itemize again. This could provide a benefit in a year in which taxpayers will have higher income. More information on charitable “bunching” can be found here.

Medical Expense Deductions

In addition to medical expenses for doctors, hospitals, prescription medications, and medical insurance premiums, you may be entitled to deduct certain related out-of-pocket expenses such as transportation, lodging (but not meals), and home healthcare expenses. If you use your car for trips to the doctor during 2019, you can deduct 20 cents per mile for travel that year. In 2019, the itemized deduction is limited to the extent your medical expenses exceed 10 percent of your adjusted gross income.

Miscellaneous 2% Deductions

Under the TCJA all miscellaneous itemized deductions subject to 2% were eliminated. Some of these deductions include investment expenses, tax preparation fees, and unreimbursed employee expenses. Although nondeductible for federal taxes, we encourage clients to still provide these items for their tax return preparation as they may still be deductible for state taxes.

Maximizing Retirement Contributions

One way to consider lowering taxable income is to make accelerated contributions to a retirement account. If contributions to a retirement account can be maximized by the end of the year, it could result in a decreased tax liability. If a taxpayer will not have enough itemized deductions under the new law, this could be a great way to lower taxable income.

Looking Ahead

Although year end planning is centered around the 2019 tax year, now is a good time to consider the 2020 benefits you can enroll in now. Open enrollment for health insurance is underway for most employees, with many employers offering Health Savings Accounts (HSA) and Flexible Savings Accounts (FSA), along with other tax-free benefits like retirement accounts. If these benefits are available to you, we encourage you to consider the savings they provide. If you are unsure of which program will benefit you most, your L&B professional can assess each scenario to recommend the best savings for you.

While federal law has significantly changed year-end planning, keep in mind that California has not conformed to many of these changes. It is important that you discuss your financial situation with your L&B team member before the end of the year. If you have any questions or concerns regarding the new tax law changes or how they will affect your taxes, please do not hesitate to call our office at (858) 558-9200.

 

Spousal IRA

By Individuals

An individual retirement account (IRA) provides an excellent opportunity to invest for the future. There are limitations surrounding the amount you can contribute to an IRA, including special rules that apply to married taxpayers!

The amounts earned in a traditional IRA are not taxed until distributions are made, plus the contributions you make to the IRA may be deductible. As an alternative, a Roth IRA is not deductible but allows for tax-free earnings and no tax at distribution.

Deductible IRA contribution amounts have generally increased over the last few years. And, if you are at least 50 years old by the end of the tax year, you can make an additional $1,000 “catch-up” contribution to your IRA.

A taxpayer’s contribution is limited to the taxpayer’s compensation for that year, which means that a taxpayer who earns less than the maximum contribution limit can deduct no more than the compensation amount.

However, special rules apply for married taxpayers so that a spouse who earns little or no compensation can use the wage-earning spouse’s compensation to top off his or her IRA contribution limit. Thus, you may be able to contribute up to $6,000 (or $7,000 if you are 50 or older) to an IRA this year even if you did not work for wages in the current tax year.

Compensation limits that phase out an IRA deduction apply if the taxpayer or the taxpayer’s spouse is an active participant in a qualified retirement plan. For taxpayers who are active participants in a qualified retirement plan, the adjusted gross income (AGI) limits at which the deduction begins to phase out in 2019 are $103,000 for taxpayers filing joint returns, and $64,000 for all other taxpayers. For taxpayers who are not active participants but whose spouses are, the phase out begins at $193,000.

Here is an example of how a spousal IRA can work:

Wendy, age 35, is not employed, but her husband Harold, also age 35, participates in a 401(k) plan sponsored by his employer. The couple files a joint income tax return and reports an adjusted gross income of $130,000. Wendy can make a deductible contribution to a traditional IRA because she is not an active participant in an employer-sponsored retirement plan and she and Harold have a combined adjusted gross income that is below $193,000 (the amount at which the phaseout begins in 2019 if the taxpayer’s spouse is an active participant).

Wendy’s contribution to an IRA could be as much as $6,000 in 2019, since she is less than 50 years old.

The total amount you can contribute to an IRA, and the amount of your income tax deduction for that contribution, depends on the several factors including: your age, the compensation you earn (if any), your combined income with your spouse, whether you participate in an employee-sponsored retirement plan, and whether you and your spouse jointly or separately file your income taxes.

If you have any questions regarding this or any other tax matters, please do not hesitate to contact your L&B professional at (858) 558-9200.

 

Materially Participate to Avoid being a PAL to the IRS

By Individuals

Large losses may not be considered deductible in the current year, depending on if the losses stem from passive activities. A passive activity is any activity where the taxpayer does not materially participate, such as a rental activity or owning interest in an entity that the taxpayer does not participate. Material participation is defined as participating on a regular, continuous, and substantial basis.

Losses on passive activities are deductible up to passive income; any losses over passive income will be carried over indefinitely and taken once positive income exists or you dispose of the investment. However, losses on trade or business activity can be deducted if the taxpayer is able to satisfy one of seven material participation tests. The seven tests are as follows:

  1. Participate more than 500 hours in a given tax year
  2. Participation that constituted substantially all participation for the activity
  3. Participate more than 100 hours and not less than any other individual
  4. Significant participation in a business in which the taxpayer participates, without qualifying for any of the other six tests, for more than 100 hours
  5. Participation during any 5 of the preceding 10 taxable years
  6. Participating in a personal service activity (activities in which capital is not a material income-producing factor such as health, law, engineering, architecture, accounting, actuarial science, performing arts, or consulting) for any 3 preceding tax years
  7. Participating for more than 100 hours and based on all of facts and circumstances, on a regular, continuous, and substantial basis

Limitations exist for certain activities and for taxpayers involved in Limited Partnerships. Time spent as an investor will not count unless the taxpayer can show direct involvement in the day to day management of the activity. Work undertaken for the primary purpose of avoiding the disallowance of losses under the passive loss rule is not considered material participation. General partners in a Limited Partnership are limited by the fact that they cannot exceed their investment in losses and would have to carryforward their losses even if they materially participate. Limited partners can only be considered material participants if they satisfy tests 1, 5, or 6.

Claiming material participation on a rental activity is slightly different. The IRS considers the rental of real estate to be a passive activity even if you materially participated in the activity (unless you are a real estate professional). To be considered a real estate professional, at least half of the taxpayer’s work in trades/businesses must be in real estate and the taxpayer must spend at least 750 hours in these trades/businesses.

If you have any questions regarding this or any other tax matters, please do not hesitate to contact your L&B professional at (858) 558-9200.

Are You Subject to AMT Under the New Tax Law?

By Individuals

The Tax Cuts and Jobs Act of 2017 made many changes to the individual tax law, including many changes affecting alternative minimum tax, or AMT. The Act significantly increased AMT exemption amounts along with the associated phase-out thresholds. With the Act’s changes to the regular income tax brackets, a taxpayer is less likely to owe alternative minimum tax on their upcoming tax returns. 

What is AMT?

High earning taxpayers can often reduce their regular income taxes with the many tax benefits available to them. To ensure that taxpayers with higher incomes pay at least a minimum amount of tax, the alternative minimum tax sets a limit to those benefits by either disallowing regular tax breaks or taxing certain types of income that would normally be tax-free under the regular income tax. Some limits include the taxation of private activity bonds or small business stock that would normally be exempt from regular tax.

How is AMT Calculated?

AMT is the excess of the tentative minimum tax over the regular tax. To calculate tentative minimum tax, a taxpayer must first determine alternative minimum taxable income (AMTI). The AMTI begins with regular taxable income and is then modified to include various AMT adjustments and preferences. Once the AMTI is calculated, taxpayers can receive large exemption amounts to reduce their income from AMTI; however, the exemption amount will phase out at certain AMTI levels. The difference between AMTI and the exemption amount is then multiplied by the appropriate AMT rate, 26% or 28%, to achieve the tentative minimum tax.

What changed?

The Tax Cuts and Jobs Act of 2017 temporarily increased the income exemption amount from $54,300 to $70,300 for single or head of household filers, and from $84,500 to $109,400 for married individuals filing jointly or surviving spouses. The exemption amount increased to $54,700 for married individuals filing separately.

The threshold amounts for phase-out or reduction of the AMT exemption amount are also temporarily increased after 2017. The phase-out threshold is $1 million for married individuals filing jointly or surviving spouses, and $500,000 for single, head of household, and married filing separately. This means the AMT exemption will phase out completely once the AMTI reaches $1,437,600 for taxpayers who are married filing jointly or surviving spouse, $781,200 for single or head of household filers, and $718,800 for married filing separately. Both AMT exemption amounts and phase-outs will be adjusted annually for inflation.

Moreover, miscellaneous itemized deductions, which were added back when calculating AMTI, is completely eliminated under the Tax Cuts and Jobs Act. Additionally, state income taxes or real estate/property tax deductions, which were another AMT addback, are capped at $10,000 under the new tax law. Both changes will further reduce taxpayer’s AMTI, which likely translates to less taxpayers being subject to AMT.

If you would like to know more about how AMT may impact your tax liability, or need advice on your overall tax planning, please contact your L&B professionals at (858) 558-9200.

Which one is better for you? HSA, FSA, or neither?

By Individuals

While your employer might provide you the benefits of having a Health Savings Account (HSA) or a Flexible Spending Account (FSA), it is important to know the differences and how they might affect your tax returns. Read on to see how these common plans can affect your tax situation.

HSAs and FSAs are both set up to help you save taxes on money that is used for medical expenses. Both plans are elective, and use pretax dollars (money deducted from your paycheck before it is subject to income tax). Once the plan is set up, you can use the funds to pay for medical expenses, as long as these expenses are qualified. If you use funds from an HSA or FSA to pay qualified medical expenses, you cannot double count these deductions on your tax return.  You can choose to have an HSA or an FSA, but not both at the same time. Although there are some similarities between the plans, there are also differences between these accounts that you should take into consideration before making a decision.

An HSA is like a retirement account for medical expenses that requires you to be signed up for a high deductible health plan (HDHP). If you qualify for an HSA, you and/or your employer can contribute pretax money up to $3,500 for an individual and $7,000 for family in 2019. If you are 55 years or older, you can contribute up to $4,500 for an individual and $8,000 for a family. If you put in more money than your annual limit, you are subject to a 6% tax penalty. If you do not use up all the money that you and/or your employer contribute, it accumulates and rolls over from year to year. In addition, your account grows tax free. Nonetheless, if you use your HSA to pay for expenses other than qualifying medical expenses, you might be penalized unless you qualify for certain exceptions.

Similar to an HSA, an FSA is an account where you and/or your employer can contribute tax free money from your salary for certain medical or dependent expenses. From a tax standpoint, you do not need to file anything with your tax return each year, and you do not have to have a HDHP. However, it is necessary to decide how much money you would like to contribute to your FSA at the beginning of the year so that your employer can deduct it from your paycheck evenly throughout the year. You may contribute up to $2,700 to your medical expense related Health FSA in 2019.  FSAs have important, additional limitations. Amounts withdrawn from an FSA must be used to reimburse medical care expenses. Any excess cash in the account at the end of the year not used for expenses incurred during that year will be forfeited. This is known as the “use-it or lose-it” rule. However, the IRS has given employers permission to modify FSAs in one of two ways. Employers may amend their FSA plans to extend the deadline for up to 2 1/2 months after the end of the plan year. Or employers may allow up to a $500 carryover into the next year of any unused FSA funds.  Fortunately, any use-it or lose-it carryover into the next tax year, under either the 2 1/2 month extension or the $500 rule, does not count toward the annual cap on health FSA contributions for that next year.

If you have any questions or concerns related to these plans or any other tax matters, please do not hesitate to contact your L&B professional at (858) 558-9200. We are more than happy to help.

Start Them Young – How the New Tax Law Allows You to Save for Your Child’s Kindergarten Education and Beyond

By Individuals

Private, religious, and even public schools come with their costs. To make matters worse, most tax-free savings plans used to only be for higher education expenses. Now, savings plans are not just for college. Thanks to the 2017 Tax Cuts and Jobs Act, Qualified Tuition Programs (529 plans) now cover K-12 expenses. Nonetheless, there are some important caveats to be aware of, especially when it comes to how California conforms to the federal tax changes. Read on to see how you could save big on taxes by starting to save for your child’s education from a young age.

The 529 college savings plan is one of the most popular methods of saving for higher education expenses. With the passage of the 2017 Tax Cuts and Jobs Act (TCJA), the tax benefits of the 529 plan have been expanded even further. Even if your child is not of college age yet, read on – we have exciting news for you, too!

What is a 529 Plan?

Qualified Tuition Plans (also known as QTPs or 529 plans) are a popular way for parents and other family members to save for a child’s education. They are programs under which an individual may prepay tuition credits or make cash contributions to an account on behalf of a beneficiary for payment of qualified education expenses.

A 529 plan must meet a handful of requirements. Such requirements include that all transactions must be made in cash, a separate accounting must be made for each designated beneficiary, and adequate safeguards must be made to prevent contributions in excess of those necessary for the educational expenses of the designated beneficiary.

While contributions to 529 plans are not deductible, there is no income limit for contributors, and earnings on contributions are not taxable. Distributions are also free from federal tax as long as they are used to pay for qualified education expenses for a designated beneficiary. Qualified expenses include tuition, required fees, books, supplies (including computers and any peripheral equipment/software), as well as room & board for any student enrolled more than half time in a higher education program.

It is important to note that when making contributions to a 529 plan, any contributions totaling more than $15,000 from one individual (including any other gifts made by said individual) could result in gift tax consequences. However, there is an exception which allows a contributor to front-load the plan for up to five years in one sum with no gift tax consequence. If this election is made, up to $75,000 (5 x $15,000) can be contributed to a 529 plan in one lump sum without triggering any gift tax consequences. Once the five years have lapsed, the donor is then free to contribute again if they wish.

What Has Changed with the New Tax Law?

Before the recent changes, all of the above information only applied to college expenses, i.e. college. Nonetheless, with the passing of the Tax Cuts and Jobs Act comes a handful of changes to 529 plans. Now, for any distribution from a 529 plan made after December 31, 2017, qualified education expense also includes tuition in connection with the designated beneficiary’s enrollment or attendance at any K-12 school, whether public, private, or religious.

While there are no limits to college distributions as long as they do not exceed any qualified expenses, distributions for elementary or secondary tuition are limited to no more than $10,000 incurred during the tax year in connection with the enrollment or attendance of the designated beneficiary.

529 ABLE Plans

With the TCJA comes changes to 529 ABLE plans as well. A 529 ABLE (Achieve a Better Life Experience) plan allows a disabled beneficiary or their family to save in a tax-deferred account. The structure and limitations for these accounts are very similar to regular 529 plans, but are made to meet qualified disability expenses of the designated beneficiary in lieu of education expenses.

The new provision allows for amounts from regular 529 plans to be rolled over to an ABLE account by 2026 without penalty, provided that the ABLE account is owned by the designated beneficiary of that 529 account or a member of such designated beneficiary’s family. Such rolled-over amounts count toward the overall limitation on amounts that can be contributed to an ABLE account within a taxable year. Any amount rolled over that is in excess of this limitation is includible in the gross income of the beneficiary.

What About California?

As with all changes that come with the Tax Cuts and Jobs Act, there is a question of whether or not California will conform to the federal changes. In this case, California has made it clear that they will not conform to 529 account funding for elementary and secondary education or to the new federal rules relating to the maximum distribution amount. This means that for California purposes, 529 plans are still only for higher education expenses.

For California taxpayers, the earnings portion of any distribution from a 529 plan to pay for tuition expenses at a public, private, or religious K-12 school or any amount rolled over from a QTP to an ABLE account may be subject to California income tax as well as an additional 2.5% penalty.

It can be overwhelming to understand the tax implications of an education savings plan. If you have any questions regarding these plans or any other tax matters, please do not hesitate to contact your L&B professional at (858) 558 – 9200.

Investment Property Tax Planning – What to do with your vacant land?

By Individuals

If you own any vacant land for investment, you might want to make an election under Code Section 266 to capitalize expenses generated from the investment property, instead of deducting them. With the new tax law changes, it may be more beneficial for you to make the election. Read on to learn more about how you can take advantage of the election and how it will affect your 2018 tax return.

What is §266 Election?

Under §266, the IRS allows taxpayers to capitalize taxes and carrying charges that would otherwise be deducted or wasted. If you have costs associated with your investment property, including interest, property taxes, and other carrying charges, such as insurance and maintenance costs, you can elect to capitalize these expenses. However, you cannot elect to capitalize these costs if the property is operating as a business or anything other than investment purposes, such as a parking lot.

Why do we make the election?

Under the new tax law, many taxpayers may find themselves taking the standard deduction versus itemizing on their 2018 tax returns since the standard deduction has almost doubled for married filing joint taxpayers. Even if you are itemizing for 2018, there is a limitation of $10,000 on your state, local and property taxes. You may not receive a tax benefit from deducting the costs associated with the investment property due to the change in tax law; however, you can choose to make the §266 election to add those expenses to the basis of the property. This will result in a smaller capital gain when you sell the property. As a result, it will lower your taxes when the property is sold.

In addition, investment expenses and real estate taxes are alternative minimum tax (AMT) preferences. If you are taking these as itemized deductions, you must add them back to your AMT income. As a result, if you are subject to AMT, it would not be beneficial for you to deduct these expenses, as those costs would be wasted.

Furthermore, all miscellaneous 2% deductions are no longer deductible with the new tax law changes. Taxpayers can no longer deduct the expenses, such as investment expenses and other carrying charges related to the investment property. Therefore, you might want to consider making the §266 election in order to increase your cost basis.

One last advantage is that this election is made on a year-by-year basis. If property taxes provide you with a current year benefit by taking a deduction, you would not be required to capitalize these expenses just because the election was made in the previous year.

If you have any questions or concerns related to these changes or any other tax matters, please do not hesitate to contact your L&B professional at (858) 558-9200. We are more than happy to guide you through the changes.

Home Sweet Home (Acquisition): 2018 Mortgage Interest Deduction

By Individuals

Are you ready to take that big step to make a house your home sweet home? With the passage of the Tax Cuts and Jobs Act of 2017 (TCJA), the 2018 tax year will be reflective of the significant changes made to the home mortgage interest deduction. The two major components of this deduction are interest on home acquisition debt and interest on home equity debt. Let’s take a look at some of the differences we will expect to see this filing season.

The IRS defines home mortgage interest as any interest you pay on a loan secured by your home (main home or a second home) and it may be a mortgage used to buy your home, a second mortgage, a line of credit, or a home equity loan.

The home mortgage interest deduction is only eligible for taxpayers who itemize their deductions. A few changes have been made to itemized deductions that might qualify you to take the standard deduction over itemizing deductions in the 2018 tax year. The home mortgage interest deduction is just one piece of the tax puzzle that we hope to clarify for you and your family this upcoming tax year.

Interest on Home Acquisition Debt

The IRS defines home acquisition debt as debt to acquire, construct, or substantially improve a residence. The 2017 tax law states that the interest on the first $1 million of home acquisition debt can be deducted. The TCJA lowers the deductible amount to $750,000 for single and joint filers for the tax years 2018-2025. In addition, the deduction for married filing separately has been reduced from $500,000 to $375,000. The exceptions to these thresholds are for interest paid on debt acquired before December 16, 2017. Debt acquired before that date will still continue to have the $1 million deduction limitation.

Interest on Home Equity Debt

According to the IRS, home equity debt is any debt secured by a qualified residence that is not acquisition debt. For the 2017 tax year, deductions were available on the first $100,000 for single filers and married filing jointly and on the first $50,000 for married filing separately. The TCJA suspended the interest deduction on home equity debt if it is related to personal expenses, such as car loans and credit cards, which is not an uncommon use by taxpayers.

You might be thinking, “Doesn’t that mean the deduction on home equity interest has been fully eliminated?” The answer is: not exactly. The deduction still exists if the home equity debt is used to buy, build, or substantially improve your home, which is, in essence, the definition of home acquisition debt. Because the TCJA has kept the interest deduction on home equity debt, taxpayers may still have two opportunities to deduct home mortgage interest on their tax returns.

Tax professionals are gearing up for the 2018 tax season that will be full of reform and change. If you are thinking about buying a home or taking out a home equity loan, it is important to be aware of these new limitations on the home mortgage interest deduction. If you have any questions regarding these changes or any other tax matters, please do not hesitate to contact your L&B professional at (858) 558-9200.

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