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In the early part of tax season, the IRS reported that the average tax refund amount was lower than last year. While that news grabbed headlines, many of you wrote me asking for a deeper dive into tax preparation. Here is your tax boot camp for the first tax year of the Tax Cuts and Jobs Act (TCJA).
Itemized vs. Standard Deduction: Every taxpayer needs to determine whether it makes sense to claim one of these two deductions, both of which reduce the amount of income subject to tax. TCJA nearly doubled the Standard Deduction to $12,000 for Single and Married Filing Separately, $24,000 for Married Filing Jointly and $18,000 for Head of Household. The larger amount means about 90 percent of taxpayers will claim the Standard Deduction and their tax prep will be fairly straightforward.
However, if you have deductions like mortgage interest, state and local taxes (SALT) and charitable contributions, which together add up to more than the standard deduction amount, then you will itemize those deductions on Schedule A of your tax return.
Note: You can no longer claim deductions for unreimbursed employee expenses, tax preparation fees, and other miscellaneous deductions. You can deduct certain unreimbursed medical expenses that exceed 7.5 percent of your 2018 adjusted gross income – the threshold will rise to 10 percent next year. And the limit on overall itemized deductions has been suspended. You may be able to deduct more of your total itemized deductions if they were limited in the past due to the amount of your adjusted gross income.
A couple of caveats on itemized deductions:
Your total deduction for state and local income, sales and property taxes is limited to a combined, total deduction of $10,000 ($5,000 if Married Filing Separate). Any state and local taxes you paid above this amount cannot be deducted.
The deduction for home mortgage and home equity interest was modified. It is now limited to interest you paid on a loan secured by your main home or second home that you used to buy, build, or substantially improve your main home or second home. So if you used a home equity loan or line of credit to pay off another debt, like a credit card or student loan, it would not be deductible.
There is a new dollar limit on total qualified residence loan balances. If your loan was originated or treated as originating on or before Dec. 15, 2017, you may deduct interest on up to $1,000,000 ($500,000 if you are married filing separately) in qualifying debt. If your loan originated after that date, you may only deduct interest on up to $750,000 ($375,000 if you are married filing separately) in qualifying debt.
Deduction for alimony is eliminated for agreements executed after December 31, 2018, or for any divorce or separation agreement executed on or before December 31, 2018, and modified after that date. In conjunction with this change, alimony and separate maintenance payments are no longer included in income based on these dates.
Claim Credits:
Now that personal exemptions have been eliminated, credits are even more important.
The Child Tax Credit has increased to a maximum of $2,000 per qualifying child under the age of 17. Up to $1,400 of the credit can be refundable for each qualifying child as the additional child tax credit. In addition, the income threshold at which the child tax credit begins to phase out increased to $200,000, or $400,000 if married filing jointly.
Credit for other dependents. This is a new credit of up to $500 is available for each of your qualifying dependents (children over 17 or elderly parents). This credit is also subject to the AGI phase out. You can check out IRS.gov to determine if your children or dependents qualify.
The Earned Income Tax Credit (EITC) is a benefit for working people with low to moderate income, which reduces the amount of tax you owe and may give you a refund. The maximum amount of credit for Tax Year 2018 is $6,431 with three or more qualifying children. To qualify, you must meet certain requirements and file a tax return, even if you do not owe any tax or are not required to file. The IRS limits EITC to those earning less than about $55,000. Check IRS.gov to determine if you qualify and for how much.
Education credits. There are two different education credits available: the American Opportunity Tax Credit (formerly Hope Credit), which is partially refundable, and the Lifetime Learning Credit. Both may apply to expenses you pay for yourself, your spouse and any dependents.
For the American Opportunity, you get 100 percent of your first $2,000 in tuition and other expenses back as a credit and 25 percent of the next $2,000 for a total of up to $2,500 in tax credits for every eligible student you claim on your tax return. This applies to the first four years of college.
The Lifetime Learning Credit is applicable to a wider range of higher education choices and for any number of years. The credit is worth up to $2,000, but phases out at $200,000 for single filers, $400,000 if married filing jointly.
Odds and Ends:
The Alternative Minimum Tax (AMT) should impact fewer taxpayers because the exemption amount is increased to $70,300 ($109,400 MFJ). The income level at which the AMT exemption begins to phase out has also increased to $500,000 or $1,000,000 if married filing jointly.
For business owners, don’t count on the new 20 percent deduction for pass-through businesses (Section 199A deduction). The rules are tricky and most do not qualify, so consult the IRS guide for more information.
IRS Resources:
Free File (incomes of $66,000 or less)
Volunteer Income Tax Assistance (VITA)
Tax Counseling for the Elderly (TCE)
IRS2Go app