Will the New Tax Act Affect You? Part Three

In my last post, I discussed some key changes of the Tax Cuts and Jobs Act that will be affecting business entities. In this post, I will discuss how the Act will impact an individual’s decisions on estate planning.

Part Three: Estate Planning

Unlike some of the tax law changes that affect corporations (as discussed in Part Two) which are permanent, the changes to estate tax, gift tax, and generation-skipping transfer tax are effective in tax year 2018 and set to expire after 2025. 

Beginning 2018, the Tax Cuts and Jobs Act increased the exemption amount (the amount that an individual can gift or own at death without being subject to gift or estate tax) from $5,490,000 (for 2017) to $11,180,000.  The exemption amount is $22,360,000 for a married couple.  The generation-skipping transfer tax exemption has also been increased to the same amounts for individuals and married couples and also set to expire after 2025.

While the change may not affect estate planning considerations for individuals or married couples with estates below the pre-Tax Act exemption amounts, those who are at or above the pre-Act exemption should re-evaluate their estate plan accordingly.

One of the starting points is to consider both the income tax consequences and the estate tax consequences in the assessment of your estate plan.  For example, an individual who currently holds an asset with a low adjusted basis and that asset has significantly appreciated in value (and is expected to continue to appreciate throughout the individual’s lifetime) may want to hold the asset until death in order to obtain a step-up in the basis of the asset.  At death, the basis of the asset will be treated as equal to its fair market value, thereby resulting in income tax savings on the gains of the asset.  While the value of the asset in includible in the gross estate of the decedent, the increase in the estate tax exemption may eliminate the concern of triggering the estate tax liability for those individuals and married couples below the newly-increased exemption amounts.

Individuals and married couples with estates that are above the increased exemption amounts should consider making gifts to irrevocable trusts up to the exemption.  By doing so, the value of those assets transferred over to the irrevocable trusts will be removed from the decedent’s gross estate and will not be included in the calculation of the estate tax liability.  Furthermore, the irrevocable trusts may be drafted in such a way as to allow the transferred assets to grow tax-free while the trusts are administered for the benefit of loved ones. 

There are different estate plan considerations for a U.S. citizen who wishes to provide for a non-U.S. citizen spouse.  While one U.S. citizen spouse can gift and bequest to another U.S. citizen spouse an unlimited amount of assets free of tax, a U.S. citizen spouse may not do the same with a non-U.S. citizen spouse (even if that spouse is a U.S. resident or a U.S. green card holder).  Rather, an annual exclusion amount ($149,000 for 2017) is allowed for transfers from a U.S. citizen spouse to a non-citizen spouse.  As a result of the temporary increase in the exemption amount, however, the U.S. citizen spouse may now have more flexibility to gift assets to the non-citizen. 

For example, the U.S. citizen can make a gift (up to, or even more than, the annual exclusion amount) to an irrevocable life insurance trust for the benefit of the non-citizen spouse.  The trust then purchases a life insurance policy on the life of the U.S. citizen spouse.  The death proceeds do not have to qualify for the marital deduction because the death benefits will generally be excluded from the insured’s estate.  Alternatively, the life insurance policy could be owned by the noncitizen spouse.  Again, the proceeds do not need to qualify for the marital deduction because the death benefit generally will be excluded from the U.S. citizen’s estate.

Whether you currently have an existing estate plan, or you are considering whether to create one, please visit the five common misconceptions you should avoid and talk to an estate planning attorney to determine the best strategy that will most benefit you and your love ones.

Will the New Tax Act Affect You? Part Two

In my last post, I discussed some key changes of the Tax Cuts and Jobs Act that will be affecting individuals.  In this post, I will discuss how the Act will impact a business owner’s decision to structure an entity as either a C corporation or an S corporation.

Part Two: Business Entities

Perhaps the most talked about changes to our tax law involve these two numbers: 21% and 20%.  These numbers hold very different purposes and incentives with varying degrees of permanence. 

The 21% figure represents a drop in the maximum federal corporate income tax rate (down significantly from a previous top rate of 35%).  Unlike the rate changes that affect individuals and pass-through entities (which will be discussed later), this drop in the top rate is permanent. 

At the heart of the Tax Cuts and Jobs Act is a pointed intention to create jobs both domestically and to bring jobs back from overseas.  Congress believes that by lowering the income tax rate for C corporations, it will inject a surge of competitive energy to the U.S. economy by encouraging more business activities, investments, and operations at the corporate level.  Of course, skeptics have pointed out that lowering the corporate rate to 21% is not going to make a big difference from an internationally competitive standpoint because, they point out, the foreign corporate rates are still lower than the new U.S. rate.  Furthermore, nothing is stopping those foreign countries (within the constraints of those countries’ laws) from further lowering their rates to maintain a business advantage. 

Nevertheless, it is undeniable that at the very least, many new and existing corporate entities will assess and make business decisions based on a dramatically lower top U.S. corporate rate than in previous years.  It is worthwhile to point out that there are also numerous other changes in the law that must be taken into account when determining whether incorporating is the best option.  For example, a company’s net operating losses can no longer be carried back under the new tax law and are also now limited to 80% of taxable income.  However, they may be carried forward indefinitely (where the old rules allowed loss carry forwards for 20 years). 

Similarly, net business interest expense has been limited to 30% of adjusted taxable income, with the definition of “adjusted taxable income” set to be more restrictive for tax years beginning in 2022 (read: unfavorable to taxpayers).  However, the Act boosts a company’s ability to fully deduct qualifying property, though this boost is only fully applicable between September 27, 2017 through 2021.  Beginning in 2022, that benefit will begin to phase out and will be fully phased out by the end of 2026. 

It can reasonably be interpreted that while Congress wants to push businesses toward growth and production, it also imposes clearly defined constraints.

Let us now discuss the significant of that second number: 20%, which represents a newly allowable deduction on qualified business income that is earned by pass-through entities.  On its face, this much-talked about deduction under Section 199A could spur growth in many industries of those businesses that elect to be taxed as flow-through entities.  However, the initial excitement and buzz over this deduction has since been subdued.  Although it is not entirely clear whether Congress intended to do so, this new rule indeed favors certain selected industries.  I will not go into the technical mechanics of the rule but by way of example: an ideal candidate who would - and could - take advantage of the 199A deduction is a company organized as an S corporation and doing businesses in one of these industries: architecture, engineering, small breweries and distillers, farming, plumbing, mining, and restaurant.  However, I would like to add one note on restaurants.  As the 50% deductibility for costs incurred to entertain prospective clients is now eliminated, and as meals provided to employees are now only 50% deductible (and completely eliminated beginning 2026), how will the restaurant industry react and prepare for these changes?

How all of these new rules will unfold, and how they may impact businesses organized as C corps, S corps, LLCs, or proprietorships, is yet far from clear.  What is clear is that it is the job of the tax attorney to stay up-to-date with changes in the tax law, rules and regulations, and to communicate and explain such changes to businesses and the owners that may be affected.

A New Year, a New (Tax) Resolution

Lady Bird is a film that will affect and move its audience members. The film centers around Christine "Lady Bird" McPherson, a young woman in her last year of high school, and chronicles the events during that year as she confronts her relationships with her family and friends, her romantic relationships, her connection to her hometown, and ultimately, her own identity.  The movie will unambiguously hit the nerves of those who identify with any of the characters or regard themselves as part of the middle class.  It unabashedly portrays the struggles that Lady Bird’s mother goes through in order to financially sustain the family that she so deeply loves. We learn early on that Lady Bird’s older brother, a graduate of UC Berkeley, was unable to find a full-time job and instead lives at home and works as a cashier at the local supermarket.  That same year, Lady Bird finds out from her mom that her quiet, good-natured father recently lost his job, which further heightened the depression that he has been secretly battling for years.

Although the film is set in Sacramento in 2002, the issues that the family must deal with and the film’s underlying message transcend that particular period in history and becomes relatable for many families today.  In one poignant scene, Lady Bird’s mom suggests they do their “favorite Sunday activity”: checking out open houses of their dream homes.  In another scene, Lady Bird describes her own house as from “the wrong side of the tracks.”  In yet another scene, she was forced to confess to a friend that the charming blue heritage house in an affluent neighborhood was not her real home but was, rather, her Dream Home.

On November 16, 2017, the U.S. House of Representatives passed a major tax reform bill, H.R. 1, the “Tax Cuts and Jobs Act,” to amend the Internal Revenue Code of 1986. The U.S. Senate, on December 2, 2017, approved its version of tax reform legislation.  The bill calls for the elimination or reduction of several tax deductions. For instance, it proposes to fully eliminate state and local income tax deduction, which is the single biggest itemized deduction for many taxpayers.  As a result, it would effectively render itemized deductions irrelevant for more than 90 percent of all households.  Furthermore, both the House and Senate plan to cap property tax deductions at $10,000.  In addition, the House proposes a cap on mortgage interest deductions by limiting new home loans to no more than $500,000, while the current cap is twice that amount, at $1 million.  The latest updates suggest that the House and Senate are likely to compromise on this point by capping the amount at $750,000.

There are speculations abound that once the dust settles, the proposed tax bill will ultimately result in a very small tax cut for low- and middle-income families.  For many families and prospective first-time homeowners, their plans may be an adjustment to their budget, or worse, an untimely and indeterminate delay in making the purchase.  As we near Christmas Day (the administration’s unofficial tax reform bill deadline), it is still difficult to definitively conclude how the tax bill will affect the middle class.  There will be discussions, negotiations, and debates between the House and Senate to come to terms with the final numbers.  What we do know, however, is that a major tax reform will be heading into 2018 with us.  If you have any questions about how the new law will affect you and your family’s ability to afford a home, be it your Dream House or not, you should consult a tax attorney to help you navigate the changes and properly plan for the upcoming years.

Did You File Your FBAR Completely and Accurately? District Court Clarifies the Ambiguous IRS Willfulness Standard

While a non-willful violation may result in a penalty of up to $10,000, a willful violation may lead to a much larger penalty and potential criminal prosecution.  As more taxpayers travel the world and transact in different countries, their compliance with the IRS international tax rules and regulations become critical for a taxpayer’s peace of mind as well as for the pocketbook.

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