After undergoing a year of tweaking, the U.S. tax reform bill is finally in effect for 2018 returns. The changes are slated to remain in place through 2025.1
Although the Tax Cuts and Jobs Act (TCJA) will be the most sweeping update to the tax code in more than three decades, many Americans — about half, in fact — don’t understand how these changes will affect them.2 Since there’s a lot to take in, keep reading so you’re in the know before you file your tax returns.
Individual Standard Deductions
One of the most extraordinary changes is the increase to the standard deduction — it almost doubled. Here’s a look at the increases over last year by filing status:
- Single: $6,350 increased to $12,000.
- Married filing jointly: $12,700 increased to $24,000.
- Married filing separately: $6,350 increased to $12,000.
- Head of household: $9,350 increased to $18,000.3
If you’re like many taxpayers, you typically itemize deductions. The standard deduction increase is so generous that itemizing may not be worth your while anymore. Although taking the standard deduction will certainly make filing simpler, be sure to do the math since the increase is offset to a small degree by the elimination of personal exemptions. Continue to itemize if the total of your eligible expenses is greater than your standard deduction.
Another significant reform pertains to tax rates and tax brackets. Although a flat-tax system has been proposed many times throughout the years, it has never been implemented. The rate at which you’re taxed depends on your income. The greater your income, the higher a percentage you’ll pay in taxes. This is known as a marginal tax rate, and it’s calculated according to your tax bracket.
According to a survey by The Harris Poll, around 48 percent of Americans don’t know what tax bracket they’re in. More than half don’t even know that the brackets changed with the latest reform.4 Happily, tax rates went down at just about every level, and each level accommodates slightly higher earnings. To help, here’s a comparison of the 2017 and 2018 rates by tax bracket:
- 10 percent (unchanged).
- 15 percent lowered to 12 percent.
- 25 percent lowered to 22 percent.
- 28 percent lowered to 24 percent.
- 33 percent lowered to 32 percent.
- 35 percent (unchanged).
- 39.6 percent lowered to 37 percent.5
One unintentional hitch in the U.S. tax code is known as the marriage penalty. Traditionally, combining incomes and filing jointly bumped most couples into higher income brackets that were taxed at higher rates. Spouses paid significantly higher taxes as a couple than they would have paid if they’d been single filers who happened to be in love.
Under the TCJA, this is still the case for couples in the two highest tax brackets. For most married people filing jointly, however, the income range is simply double that of singles and is taxed accordingly. If you earn an average income and are thinking of popping the question, there’s no tax disadvantage to stop you now.6
Some lawmakers wanted to eliminate the head of household filing status, but it survived in the end. It is highly advantageous for single parents.
Health care has been under national discussion for several years, and the TCJA addresses it in a few ways.
This year, at least, you can deduct more of your medical expenses. In 2017, you could only deduct unreimbursed expenses that exceeded 10 percent of your adjusted gross income. In 2018, you can start deducting expenses when you hit the 7.5 percent mark. Bear in mind that the threshold reverts to 10 percent in the 2019 tax year.7
Medical deductions must be itemized. You may be able to include your insurance premiums, but certain conditions apply. Therefore, make sure to carefully read the IRS instructions.
It’s also worth noting that the TCJA does not repeal the Affordable Care Act, also known as Obamacare. It does eliminate the ACA tax penalty for failing to purchase health insurance, but that change doesn’t go into effect until 2019. If you could afford insurance last year but didn’t purchase it, you’ll have to pay up.
If you weren’t covered for any portion of the year, the penalty for 2018 is the greater of these two:
- $695 per adult and $347.50 per child with a maximum of $2,085 per family.
- 5 percent of household income.8
The percentage penalty can’t exceed the average cost of a bronze-level health plan, and only the wealthiest taxpayers must pay it. Most people are charged the flat fee.
The ACA provides several exemptions. You may avoid the penalty if, based on your income, you’re not required to file a tax return. Other exemptions include being uninsured for less than three consecutive months or belonging to a health care sharing program 9
As before, you must itemize to deduct the interest on your home mortgage.
In 2017, you could take this deduction as long as your principal didn’t exceed $1 million. That threshold was reduced to $750,000 in 2018, but taxpayers whose existing principal falls somewhere in between the two limits are grandfathered.
Child Tax Credits
Parents have a lot to be excited about.
In 2017, the credit was $1,000 per qualifying child. The income limits for taking the credit were $75,000 if filed individually and $110,000 if filed jointly. Now, in 2018, the credit is $2,000 per qualifying child. The income limits for taking the credit are $200,000 if filed individually and $400,000 if filed jointly.
It gets better. If the credit is greater than the amount you owe the IRS, up to $1,400 per child is refundable.10
Deductions That No Longer Exist
You can still deduct up to $2,500 in student loan interest. The limit for charitable donations was raised to 60 percent of your income, so feel free to be generous.
Unfortunately, some other popular deductions didn’t make the cut:
- Personal exemptions.
- Casualty and theft losses unless they were attributable to a federally declared disaster.
- Unlimited state and local taxes.
- Unreimbursed employee expenses.
- Moving expenses.
- Unlimited home equity loan interest.
- Alimony payments in divorce agreements executed after December 31, 2018.
- Tax preparation costs.
- Some school donations.
- Some miscellaneous deductions.11
The reforms should make filing easier and result in substantial savings in the long run. That’s not especially helpful, though, if you’ve fallen behind and are still paying down last year’s bill. If you’re confused about the changes or worried about how much you owe, there are tax relief agencies that can help you. Some things are best left to the experts, so best to start your search today.