Many of the changes to the tax code were covered extensively by mainstream media, including the tax bracket changes, the increase in the standard deduction, the elimination of personal exemptions, and the lowering of the corporate rate. When it comes to your personal financial planning and investments, here is a refresher to some of the changes that may impact you as a result of the Tax Cuts and Jobs Act:
Use of 529 plans expanded to younger students. Parents with kids in private school have been presented with an advantage because now they can make distributions up to $10,000 per student, per year for K-12 education. With such wider use for 529 plans, couples who don't even have kids yet may want to maximize the time funds grow tax-free by opening 529s for themselves as both "owner" and "beneficiary," then changing the beneficiary to their children once they have them.
Pass-through entities and company retirement plans. While owners of C corporations benefit the most from the new tax bill, many pass-through business owners also win big. With the new $315,000 threshold limit for the 20 percent pass-through deduction, tax planning to lower income by contributing to defined benefit plans and defined contribution plans is now more important than ever.
Given how much lower pass-through rates are now for many business owners relative to ordinary income bracket rates, it may make sense for some business owners to not contribute as much to these tax-deductible plans. They'll be withdrawing these funds later in life at ordinary income tax rates that are potentially much higher than the deduction tax rate they'll be getting when they contribute.
Roth recharacterizations and Roth conversions. Gone are the days of doing multiple Roth conversions in a single year, keeping the conversions and paying taxes on the accounts that went up and doing a recharacterization and avoiding the taxes on the accounts that went down. Starting this year, reversing a conversion of a traditional individual retirement account into a Roth individual retirement account isn't allowed.
Although, given the bracket changes, it will make sense for more people in early retirement to do Roth conversions. A common strategy with Roth conversion is to convert just enough IRA funds to stay in the same tax bracket. With the new lower brackets wider apart than before, more dollars can be converted in those brackets without spilling over into higher brackets.
Another Roth conversion strategy is to compare retiree married bracket rates in their 60s to potential widowed single bracket rates in their 80s and 90s. With less of a marriage penalty in the new brackets, it makes sense for more couples early in retirement to do Roth conversions.
Paying back company retirement-plan loans. If you had an outstanding 401(k) plan loan, before the new tax bill you had to pay off that loan within 60 days of leaving your job. Now you have more time to pay off the loan if you leave your job: It's not due until your tax-return deadline.
Charitable deductions and donor advised funds. With so many of the itemized deductions eliminated under the new tax bill, many Americans will likely start to oscillate years of taking the standard deduction and bunching itemized deductions. For those charitably inclined, it might make sense to plan to contribute to a donor advised fund to take the charitable deduction, then allocate those funds to your charity of choice over time. With the adjusted gross income limit for cash contribution deductions to charities increasing to 60 percent, donor advised funds are even more advantageous for some people.
Municipal bond market. The new tax bill affects the municipal bond (muni) market in myriad ways. We'll likely see curtailed supply due to the loss of the tax exemption on refunding bonds, lower demand from corporate buyers due to their lower tax rates, and possibly higher demand from individuals in high-tax states looking for tax breaks due to the cap on their state and local taxes deduction. Over the long-term, watch out for potential muni-issuer credit deterioration due to the state and local tax deduction changes.
Alternative Minimum Tax (AMT) and stock options. Of course, this was a big win for many high-earning Americans with both the exemption increasing and the phase-out increased. If you have incentive stock options, it's probably time to talk to your CPA and financial advisor about re-visiting your framework for evaluating and executing your stock options.
Whether you are a business owner or only need to file your personal income taxes, it's important to be aware of and understand the changes brought about by the Tax Cuts and Jobs Act and plan now for April 2019.
(Editor's Note: This article originally appeared on Investopedia.com.)
— By David Flores Wilson, senior wealth manager at Watts Capital