Three Tax Tips to Consider in 2018Submitted by Orange CA Financial Advisor | Sterling Wealth Partners on July 18th, 2018
The Tax Cut and Jobs Act of 2017 (TCJA) is now in effect and should be considered when evaluating tax planning for this year and the next several. The TCJA is not permanent and is set to expire January of 2026, but there are provisions of the act that may provide opportunities for tax savings while it is in effect.
Listed below are three strategies that may provide some savings opportunities under TCJA:
1. Lump Your Itemized Deductions Where You Can – Because the standard deduction has been increased to $12,000 for a single filer and $24,000 for married filers, many people who previously itemized their deductions will now be taking the standard deduction. However, if you can “lump together” your itemized deductions into one tax year instead of two, you may be able to itemize one year while taking the standard deduction the next. For example, if you know you will have large upcoming medical or dental expenses, it may make sense to try and get all the work done in one tax year. The increased cost may allow you to take advantage of the medical expense itemized deduction (currently 7.5% of adjusted gross income) and might push you above the standard deduction for that year.
Another example of lumping together deductions would be charitable giving. If you are planning on making a significant charitable gift each year, it may be advantageous from a tax standpoint to make both your 2018 & 2019 gifts in 2018. Like medical expenses, these lumped contributions may throw you over the standard deduction limit and allow you to itemize. If you just make your normal gifts each year, the contributions may be wasted if the standard deduction is higher than your itemized deductions.
2. Evaluate Your Home Equity Loans – Under TCJA, home equity loans or mortgage re-finance “cash outs”, where the funds aren’t used to improve your home are no longer deductible. For instance, if you have a home equity loan where you used the proceeds to buy a car or pay for college, the loan interest is not deductible for 2018 and beyond. If you used the loan to “improve” your home (think remodel), you can still deduct the interest.
If you have a home equity loan that is no longer deductible, you need to evaluate whether it is still cost effective to continue the loan or pay it off. When interest is deductible, your cost is reduced by the tax savings the deduction creates. If you have a 5% home equity loan and are in a 25% tax bracket, your net interest cost is only 3.75%. However, if the loan is no longer deductible, your net cost is now 5%.
3. It May be Time to Roth and Roll – The Roth IRA can be an attractive tax diversification tool. Most people are familiar with the traditional IRA where you typically get a tax deduction for the contribution but then pay tax when you take money out (you pay tax on the fruit but not the seed). With a Roth IRA, contributions are not deductible (they are taxed) but you do not pay tax when you pull money out (you pay tax on the seed but not the fruit). One may be the superior alternative depending on your situation, but tax laws change about every 3-4 years so having both provides some “tax diversification”. For example, TCJA generally lowered tax rates across the board and most people will see tax savings while the law is in effect.
What this means is that you may want to consider making contributions (or doing conversions) to a Roth IRA while you are in a lower tax bracket. The benefits of the tax deduction for an IRA while taxes are lower is reduced and it may be more cost effective to use after tax money to fund a Roth IRA (or a Roth 401(k) if your employer offers it). Having investments in both vehicles will provide flexibility in the future should taxes increase. Keep in mind, TCJA is set to expire in 2026 so rates may go up in 2026 or even earlier should Congress pass new tax laws.
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