With the new president comes new tax realities
by Leon C. LaBrecque, JD, CPA, CFP, CFAMr. LaBrecque is CEO and co-founder of LJPR Financial Advisors. LJPR manages $674 million dollars (as of 12/31/16) and is a fee-only Registered Investment Advisor in Troy, MI. Leon co-founded the firm in 1989, and prior to that served in public accounting and corporate training. Leon can be reached at [email protected] or by phone at 248-641-7400.
The election of a new president always brings about change and this one is a prime example. Under the new Trump administration it is fairly likely there will be change to individual income taxes in 2017, and nearly certain that the economic game will change.
President Trump is likely to adopt some or all the GOP House’s tax proposals which means pretty significant change is probable. When the new tax changes happen, they could happen quickly.
In 1981, the Economic Recovery Tax Act (ERTA) was a sweeping reform under Ronald Reagan. It was passed 201 days after Reagan’s inauguration and only 21 days from the introduction of the bill. In 2001, the Economic Growth and Tax Relief Reconciliation Act (EGTRRA, or the “Bush Tax Cuts”) were passed 138 days after George W. Bush’s inauguration and only 23 days from the introduction of the bill. Now is time to prepare.
A Complete Overhaul?
The entire Internal Revenue Code could be up for revision. The modern Code was originally established in 1926. It was modified in 1939 (which is the Code as we pretty much know it), then overhauled in 1954. Thirty two years later, in 1986, the Code was revised again. Here we are 31 years later and looking at the likelihood of having an Internal Revenue Code of 2017.
Insurance professionals and their clients may be affected in these ways: The following will likely change for individuals, if Trump’s plan is adopted in its entirety:
- Brackets will be reduced to three instead of seven: 12%, 25% and 33%.
- Taxes will be reduced, with most individuals getting a cut. The higher your income, the greater the cut. The Net Investment Income Tax (NIIT) and Alternative Minimum Tax (AMT) will likely be eliminated in the repeal/replacement of the Affordable Care Act.
- Deductions will change:
- Parents with childcare expenses will be able to deduct childcare from their income, with income limitations.
- The standard deductions will increase to $15,000 for single taxpayers and $30,000 for joint taxpayers.
- Itemized deductions are anticipated to be limited to mortgage interest and charitable contributions, and would be capped at $100,000 for single and $200,000 for joint filers.
- Personal exemptions will likely be eliminated.
Business Taxes are very high up on the list of changes. Among the business changes are:
- Corporate rates will be decreased to a maximum of 15%.
- Investment or interest may be deducted. Businesses will have the potential option to deduct either investment (CAPEX) or interest.
- Pass-through entities will have a 15% rate on earnings retained within the entity. Examples are Sub-S and LLC businesses.
In addition, repeal is proposed for estate and gift taxes.
We think 2017 will be a very important year for planning, on taxes as well as investments. Consumers should plan carefully and talk this over with their CPA or tax advisor. To start planning take these steps:
1. Figure out your deductions
A proposed change is to simplify itemized deductions and limit them to mortgage interest and charitable contributions. Note the standard deduction is going up to $15,000 for single and $30,000 for married. After your 2016 return is done, look at your Schedule A (if you don’t have a schedule A, you will be using the standard deduction).
2. Plan to lose the following deductions, if you itemize:
- Medical deductions
- Property taxes
- State income tax deduction
- Personal property taxes, like car licenses, if based on the value of the vehicle
- State sales taxes
- Misc. itemized deductions like investment expenses, safe deposit box, tax return preparation.
3. Increase your charitable giving
Charitable contributions will probably still be deductible, and your standard deduction will likely be higher, so if you give regularly to charity, consider a Donor Advised Fund (DAF). This would allow you to make a large contribution now (to get the big deduction), and use it over time. This would suggest making a big contribution in 2017, then using the DAF to fund it in 2018, when you take the standard deduction.
Another way to up the charitable giving is to use appreciated property, like stocks or mutual funds in a taxable account. By contributing those instead of cash it will provide the double benefit of giving you a full fair market value deduction (within some limits) while also avoiding the capital gain tax if you sold the investment and donated the cash.
If you know someone age 70 ½ or over with an IRA, they can make a Qualified Charitable Distribution (QCD) of their Required Minimum Distribution (that’s a little complicated, talk to your CPA), and eliminate that from their income. Most retirees with RMDs will have increasing income, so this strategy works well.
4. Maximize your 401(k)
We encourage maximizing your 401(k) or other retirement savings plan. When you contribute to the pre-tax portion of a 401(k), you are taking it off your income above the line. For a variety of reasons, boosting your 401(k) as close to the max as you can is a wise idea. With a likely tax cut on middle and upper income, you will likely save income taxes in 2017. How about stashing away the tax savings? Worst case scenario, you will have saved too much money. Can’t hurt!
5. Use an HSA – a heck of a saving account
A Health Savings Account (HAS) is a tax-deductible way to put money away for medical expenses – so use it if you can. If your employer or client has a high deductible plan, they likely have an HSA. With the HSA, you deduct the money as you deposit it in the HSA, and pay no tax on those funds if they are used for qualified medical expenses. We don›t know what will happen to medical insurance, but the HSA is a top-line deduction that allows tax-free growth.
6. Prepare for health insurance to change
It feels like we were just starting to get acclimated to the huge changes the Affordable Care Act brought about, but there is no rest for the weary. It’s very likely the health insurance businesses will experience a major change (again) in 2017. The repeal of the ACA is ahead of tax reform on the agenda for 2017. Whether there is ‘repeal’ or ‘repeal and replace’, the landscape is changing
7. If you own a business, look ahead. Business tax changes will likely be quite wide ranging
Most every business will want to take a look at how the changes will affect their specific business. With lower rates, and potentially full write-offs for investment, all businesses will need to initiate a dialogue on business tax planning.
Tax changes, especially big tax changes, are opportunities. They ‘level the field’ for planning and for most advisors. Use this as an opportunity to deepen your relationship with your clients. Be their confidants. And for individuals, use this as an opportunity to get more acquainted with your money and how it’s working for you.
Overall, the economic game is changing. Before the election the policy of the US was pretty much like this:
- Global trade is good and trade agreements are open
- The Affordable Care Act had the strength of the administration behind it
- The Central banks were encouraged to pour money into the system to lower interest rates
- Inflation was stable
- Taxes were fine, with the administration pushing the rich to pay more
- We liked China, but didn’t like Russia
With Trump’s new administration it seems these policies will now guide us:
Global trade is bad and trade agreements are going to changed or be eliminated
- The Affordable Care Act will die or be severely injured
- Fiscal policy is better than monetary policy: roads, coal mines and oil are the priority
- Inflation is likely to peek its ugly head sooner than later
- Taxes must go down. The more you pay, the more you save.
- We will like Russia, but not China
There’s more, way more (guns, regulations, immigration). The world changed, abruptly and significantly. The new world will change interest rates – The Fed indicates they are probably going up, and faster than pre-election. It will also change the markets, health care, inflation, and taxes. For financial advisors, this will change the dynamics of health care including for retirees, pensions, tax base, and your budgets.
Up until November the game of economics was like checkers. It was a straightforward game. But President Trump has flipped the board. Now we’re playing chess, and it’s more complicated than ever. Get ready for a new game. Stay sharp. The changes may come fast. Many of our base assumptions have changed, and those changes means uncertainty. As financial professionals, and everyday Americans, uncertainty means opportunity. ◊