Signed into law this past December, the Tax Cuts and Jobs Act (TCJA) is the most sweeping federal tax legislation since 1986. It includes significant changes for individual taxpayers, many of which will have a major impact on higher-income taxpayers, such as physician practice owners. Here are some of the most notable changes.
The TCJA maintains seven income tax brackets, but temporarily adjusts the tax rates as follows:
Under the TCJA, rates will return to 2017 levels in 2026. Of course, much could happen between now and then, so it is impossible to say whether the reversion to 2017 rates will really occur.
In addition, the amount of income subject to each of the rates was changed. As a result, even absent the rate changes, it is possible you could be in a lower marginal tax rate. Your effective tax rate will almost certainly decrease, as there will be more income taxed at lower rates. For example, the top rates for 2017 kick in at $418,400 of taxable income for single filers and $470,700 for joint filers and $500,000 and $600,000 for 2018, respectively.
Personal exemptions and standard deduction
For 2017, taxpayers can claim a personal exemption of $4,050 each for themselves, their spouses and any dependents. For 2018–2025, the TCJA suspends personal exemptions. However, this will not matter for many physicians because their exemption was already being reduced or eliminated under pre-TCJA law. For 2017, the exemption began to phase out at adjusted gross income (AGI) of $261,500 (singles) and $313,800 (joint filers), and it phased out completely at $384,000 and $436,300, respectively.
In theory, the TCJA partially makes up for the exemption suspension by nearly doubling the standard deduction, from $6,350 for singles and $12,700 for joint filers for 2017 to $12,000 and $24,000, respectively, for 2018. But, the increased standard deduction might not help too many physicians because their itemized deductions typically exceed the standard deduction. That said, whether this will continue to be the case may be more uncertain, given that the TCJA also reduces or eliminates many itemized deductions.
Changes to itemized deductions
On the plus side, for 2018–2025, the TCJA suspends the AGI-based reduction that previously applied to most itemized deductions and affected many physicians. However, that may not do much to make up for the other changes to itemized deductions:
- State and Local Tax Deduction
For 2018–2025, taxpayers can claim a deduction of no more than $10,000 for the aggregate of state and local property taxes and either income or sales taxes. This same limit applies to both single and joint filers. Physicians in states with high income and/or property taxes will be hit particularly hard, especially if they’re married. If these deductions typically have been your largest, you could even find that you’ll be better off taking the standard deduction for 2018.
- Mortgage Interest Deduction
The TCJA tightens limits on the itemized deduction for home mortgage interest. For 2018–2025, it generally allows a taxpayer to deduct interest only on mortgage debt of up to $750,000. However, the limit remains at $1 million for mortgage debt incurred on or before December 15, 2017, which will significantly reduce the number of taxpayers affected. The deduction for interest on home equity debt also has been eliminated.
- Medical Expense Deduction
This is one deduction that the TCJA enhances, albeit very temporarily. The threshold for deducting such unreimbursed expenses is reduced from 10% of AGI to 7.5% for 2017 and 2018. You may want to bunch eligible expenses into 2018 to the extent possible to maximize your deduction. Your practice could benefit this year if your patients are also seeking to bunch deductions into 2018.
- Miscellaneous Itemized Deductions Subject to the 2% Floor
This deduction for expenses, such as certain professional fees, investment expenses and unreimbursed employee business expenses are suspended for 2018–2025. However, if you receive self-employment income, your self-employment business expenses will still be deductible against that income, as long as they otherwise qualify.
- Personal Casualty and Theft Loss Deduction
For 2018–2025, this deduction is suspended except if the loss was due to an event officially declared a disaster by the President.
- Charitable Contribution
For 2018–2025, the limit on the deduction for cash donations to public charities is raised to 60% of AGI from 50%. As a practical matter, this is not likely to benefit many taxpayers, as most taxpayers are not donating more than 50% of their income to charity. In addition, charitable deductions for payments made in exchange for college athletic event seating rights are eliminated. If you are charitably inclined, you may want to increase your donations in 2018 to make up for the loss of some of your other itemized deductions. Or, if you expect your itemized deductions to end up being under the standard deduction, you may want to start bunching your charitable donations into alternating years so you can itemize in those years and maximize your tax benefit.
Sidebar: AMT and Estate Tax
The TCJA makes two taxes that particularly affect higher-income and higher-net-worth taxpayers, like physicians, applicable to fewer taxpayers than in the past.
Beginning in 2018, the new law increases both the alternative minimum tax (AMT) exemption amount (to $109,400 for married couples, $70,300 for singles and heads of households, and $54,700 for separate filers) and the AMT exemption phaseout thresholds (to $1 million for married couples and $500,000 for all other taxpayers other than estates and trusts). These amounts will be adjusted for inflation until the provision expires after 2025.
Similarly, the TCJA doubles the estate tax exemption to $10 million for 2018–2025. The exemption is adjusted for inflation and is expected to be around $11.2 million for 2018. However, because the exemption doubling is only temporary, taxpayers with assets in the $5 million to $11 million range (twice that for married couples) will still have to keep estate taxes in mind in their planning.
These are only some of the significant provisions in the TCJA that could affect you. The provision of the TCJA will impact every taxpayer differently and can be very complicated. Contact your tax advisor to learn more.