Looking Forward to 2017 and Beyond
As we digest the results of the long and exhaustive election, our focus can now shift to the future business environment and year-end tax planning. In doing so, we should consider aspects of the tax plan proposed by President-Elect Donald Trump during his campaign. While we realize his comments and proposals are a long way from adoption, this will at least give us some insight into what could be in 2017 tax legislation.
We have identified below the more significant features President-Elect Donald Trump has introduced as key points of his overall tax plan. They include:
- Eliminate the estate tax.
- Lower the top corporate tax rate to 15%.
- Impose a lower tax rate of 15% on undistributed income from pass-through entities.
- A repatriation of tax of 10% for cash and 4% for earnings not represented by cash from foreign earnings.
- Repeal the Affordable Care Act and thus remove the 3.8% Net Investment Income Tax.
- Revise the individual income tax brackets from 7 brackets to just 3, with the highest bracket being reduced from 39.6% to 33% for married filing jointly (MFJ) taxpayers with taxable income greater than $225,000. The other two brackets would be 12% for MFJ taxpayers up to $75,000 and 25% for those taxpayers between $75,000 and $225,000.
- The aforementioned tax brackets would be the same for single filers with each starting at ½ the amount of taxable income for the MFJ filers noted above.
- A significant increase in the standard deduction to $30,000 for joint filers and $15,000 for single filers.
- Head of household filing status and personal exemptions would be eliminated.
- The alternative minimum tax (AMT) would be repealed.
These proposals may or may not come to fruition, but the Republican control of Congress and the Presidency, sweeping tax changes are more likely to occur and should be considered in the tax planning process. The House Republicans have also proposed additional items for tax reform, as well as variations of items included in the Trump plan. It will certainly be an interesting year!
Now for 2016
In the following paragraphs we accumulated a number of tax planning ideas that may help reduce your income tax liability if you act before year-end. Not all actions will apply in your particular situation, but you will likely benefit from many of them.
Year-End Tax Planning Moves for Individuals
Realize losses on specific stocks while substantially preserving your investment position.
There are several ways this can be done. For example, you can sell the original holding, then buy back the same securities at least 31 days later. It may be advisable for us to meet to discuss year-end trades you should consider making to create losses or, in some cases, realize gains.
Postpone income until 2017 and accelerate deductions into 2016 to lower your 2016 tax bill and possibly pay tax at a lower rate next year.
This strategy may enable you to claim larger deductions, credits, and other tax breaks for 2016 that are phased out over varying levels of adjusted gross income (AGI). These include child tax credits, higher education tax credits, and deductions for student loan interest. Postponing income also is desirable for those taxpayers who anticipate being in a lower tax bracket next year due to changed financial circumstances for potential changes in the tax brackets. Note, however, that in some cases, it may be beneficial to actually accelerate income into 2016.
Consider converting your IRA to a Roth IRA.
If you believe a Roth IRA is better than a traditional IRA and you are eligible to convert a traditional IRA to a Roth IRA, consider converting traditional IRA money invested in beaten-down stocks (or mutual funds) into a Roth IRA. Keep in mind, however, that such a conversion will increase your taxable income for 2016.
Reverse IRA conversions if values have declined.
If you converted assets in a traditional IRA to a Roth IRA earlier in the year and the assets in the Roth IRA account declined in value, you could wind up paying a higher tax than is necessary if you leave things as is. You can back out of the transaction by re-characterizing the conversion—that is, by transferring the converted amount (plus earnings, or minus losses) from the Roth IRA back to a traditional IRA via a trustee-to-trustee transfer. You can later reconvert to a Roth IRA.
Accelerate deductions even if you don’t have cash.
Consider using a credit card to pay deductible expenses before the end of the year. Doing so will allow you to claim these deductions in 2016 even if you don’t pay your credit card bill until after the end of the year.
Use withholding on retirement distributions to avoid underpayment penalties.
Take an eligible rollover distribution from a qualified retirement plan before the end of 2016 if you are facing a penalty for underpayment of estimated tax and having your employer increase your withholding is unavailable or won’t sufficiently address the problem. Income tax will be withheld from the distribution and will be applied toward the taxes owed for 2016. You can then timely roll over the gross amount of the distribution, i.e., the net amount you received plus the amount of withheld tax, to a traditional IRA. No part of the distribution will be includible in income for 2016, but the withheld tax will be applied pro rata over the full 2016 tax year to reduce previous underpayments of estimated tax.
Estimate the effect of any year-end planning moves on the AMT for 2016.
Keep in mind that many tax breaks allowed for purposes of calculating regular taxes are disallowed for AMT purposes. These include the deduction for state and local property taxes on your residence, state income taxes, miscellaneous itemized deductions, and personal exemption deductions. Other deductions, such as for medical expenses of a taxpayer who is at least age 65 or whose spouse is at least 65 as of the close of the tax year, are calculated in a more restrictive way for AMT purposes than for regular tax purposes. If you are subject to the AMT for 2016, or suspect you might be, these types of deductions should not be accelerated.
Implement an expense bunching strategy.
You may be able to save taxes this year and next year by accelerating or deferring itemized deductions such as real estate taxes, contribution and other allowable deductions.
Medical expense planning.
For 2016, the “floor” beneath medical expense deductions for those age 65 or older is 7.5% of adjusted gross income (AGI). Unless Congress changes the rule, this floor will rise to 10% of AGI next year. Taxpayers age 65 or older who can claim itemized deductions this year, but won’t be able to next year because of the higher floor, should consider accelerating discretionary or elective medical procedures or expenses (i.e., dental implants or expensive eyewear).
Retirement distribution planning.
Take required minimum distributions (RMDs) from your IRA or 401(k) plan (or other employer-sponsored retirement plan). RMDs from IRAs must begin by April 1 of the year following the year you reach age 70-1/2. That start date also applies to company plans, buy non-5% company owners who continue working may defer RMDs until April 1 following the year they retire. Failure to take a required withdrawal can result in a penalty of 50% of the amount of the RMD not withdrawn.
Although RMDs must begin no later than April 1 following the year in which the IRA owner attains age 70-1/2, the first distribution calendar year is the year in which the IRA owner attains age 70-1/2. Thus, if you turn age 70-1/2 in 2016, you can delay the first required distribution until 2017, but if you do, you will have to take a double distribution in 2017—the amount required for 2016 plus the amount required for 2017. Think twice before delaying 2016 distributions until 2017, as bunching income into 2017 might push you into a higher tax bracket or have a detrimental impact on various income tax deductions that are reduced at higher income levels. However, it could be beneficial to take both distributions in 2017 if you will be in a substantially lower bracket that year.
Utilize Health Savings Accounts.
If you become eligible in or before December of 2016 to make health savings account (HSA) contributions, you can make a full year’s worth of deductible HSA contributions for 2016.
Utilize energy tax credits.
If you are thinking of installing energy saving improvements to your home, such as certain high-efficiency insulation materials, do so before the close of 2016. You may qualify for a “nonbusiness energy property credit” that won’t be available after this year.
Utilize annual gifting if you have a taxable estate.
Make gifts sheltered by the annual gift tax exclusion before the end of the year and thereby save gift and/or estate taxes. The exclusion applies to gifts of up to $14,000 made in 2016 and 2017 to each of an unlimited number of individuals. You can’t carry over unused exclusions from one year to the next. The transfers also may save family income taxes where income-earning property is given to family members in lower income tax brackets who are not subject to the kiddie tax.
Year-End Tax Planning Moves for Businesses
Deduct asset additions and improvements.
Businesses should consider making expenditures that qualify for the business property expensing option. For tax years beginning in 2016, the expensing limit is $500,000 and the investment ceiling limit is $2,010,000. Expensing is generally available for most depreciable property (other than buildings), off-the-shelf computer software, and qualified real property (qualified leasehold improvement property, qualified restaurant property, and qualified retail improvement property). The generous dollar ceilings that apply this year mean that many small and medium sized businesses that make purchases before the end of 2016 will be able to currently deduct most if not all of their outlays for machinery and equipment. What’s more, the expensing deduction is not prorated for the time that the asset is in service during the year. This opens up significant year-end planning opportunities.
Businesses should also consider making expenditures that qualify for 50% bonus first year depreciation if bought and placed in service this year. The bonus depreciation is permitted without any proration based on the length of time that an asset is in service during the tax year. As a result, the full 50% first year bonus write-off is available even if qualifying assets are in service for only one day in 2016.
Businesses may be able to take advantage of the “de minimis safe harbor election” (also known as the book-tax conformity election) to expense the costs of lower-cost assets, materials and supplies, assuming the costs don’t have to be capitalized under the uniform capitalization rules. To qualify for the election, the cost of a unit of property can’t exceed $5,000 if the taxpayer has an applicable financial statement (AFS; e.g., a certified audited financial statement along with an independent CPA’s report). If there is no AFS, the cost of a unit of property can’t exceed $2,500. Where the UNICAP rules aren’t an issue, purchase such qualifying items before the end of 2016.
Manage your taxable income.
A corporation should consider accelerating income from 2017 to 2016 if it will be in a higher bracket next year. Conversely, it should consider deferring income until 2017 if it will be in a higher bracket this year. A corporation should consider deferring income until next year if doing so will preserve the corporation’s qualification for the small corporation AMT exemption for 2016. (Note that there is never a reason to accelerate income for purposes of the small corporation AMT exemption because if a corporation doesn’t qualify for the exemption for any given tax year, it will not qualify for the exemption for any later tax year.)
A corporation (other than a “large” corporation) that anticipates a small net operating loss (NOL) for 2016 (and substantial net income in 2017) may find it worthwhile to accelerate just enough of its 2017 income (or to defer just enough of its 2016 deductions) to create a small amount of net income for 2016. This will permit the corporation to base its 2017 estimated tax installments on the relatively small amount of income shown on its 2016 return, rather than having to pay estimated taxes based on 100% of its much larger 2017 taxable income.
Prepare to effectively utilize the Domestic Production Activities Deduction (DPAD).
If your business qualifies for the DPAD for its 2016 tax year, consider whether the 50%-of-W-2 wages limitation on that deduction applies. If it does, consider ways to increase 2016 W-2 income, e.g., by bonuses to owner-shareholders whose compensation is allocable to domestic production gross receipts. (Note that the limitation applies to amounts paid with respect to employment in calendar year 2016, even if the business has a fiscal year).
Consider deferring a debt-cancellation event until 2017.
Utilize suspended losses.
You should consider disposing of a passive activity in 2016, if doing so will allow you to deduct suspended passive activity losses.
Monitor your basis.
If you own an interest in a partnership or S corporation, consider whether you need to increase your basis in the entity so you can deduct a loss from it for this year.
In summary, these are just some of the steps that you can take prior to the end of the year to limit your income tax liability. Obviously, there are other tax planning strategies that are available for individuals and businesses, but they require more time and analysis to implement effectively. The best way to effectively manage your taxes is to work with our team and develop a tax plan tailored to your specific needs and situation.
Click HERE for 2016 Tax Rates, Facts and Figures
As soon as information becomes available from the IRS regarding 2016 W-2 and 1099 Preparation and Health Care Reporting, it will be posted to the newsletter page of our website as well.
If you have any questions about how these possible changes could impact you or your business, please contact us.