Summer Time Tax Check Up

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I frequently recommend to my clients with complicated tax situations to do a summertime checkup to see if they are paying sufficient amounts through withholding or estimated payments in order to avoid a negative surprise at tax time.  This year that activity is especially important because of the various changes made to the tax law last December.  Because tax rates dropped for virtually everyone, nearly all wage earners are having less federal withholding from their pay than last year.  However, not all taxpayers will see an overall reduction in their tax liability for 2018.  Tax rates dropped and there are some new and expanded tax credits, but some deductions also went away.  The standard deduction nearly doubled, exemption allowances were eliminated, the child credit was expanded and there is a new credit for all other dependents that don’t qualify for the child credit.

The IRS has a calculator available to help people in determining the correct number of withholding allowances to claim on their W-4 forms.  I have heard various complaints about the limitations of this IRS tool, but it works well for fairly simple situations.  If you have multiple sources of income or other factors that make it more difficult to estimate your tax liability, you probably should consult with a competent tax advisor such as an Enrolled Agent to help you with this task.  Proper tax planning can avoid that negative surprise when you file your taxes next spring.

SALT limitation in tax reform act

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Many health professionals recommend limiting our salt intake but to tax professionals, SALT limits have a different meaning.  SALT refers to State and Local Taxes which have been deductible for many taxpayers in the past but are now limited to a maximum of 10,000 dollars under the new tax reform passed last December.  There are a large number of taxpayers who won’t be affected by this limitation but for high earners especially in high tax states such as California, this could amount to a significant change to their tax liability going forward.  However, many people with 6 figure incomes end up paying the AMT (Alternative Minimum Tax) and the new tax bill grants some relief from AMT.

So, what is AMT?  The minimum tax was originally enacted in 1969 and has evolved into what is now called the Alternative Minimum Tax.  Congress was concerned that there were some high income earners who were ending up paying absolutely no income tax because they were taking advantage of so many tax breaks that they were completely eliminating their tax liability.  The AMT is a parallel tax system that eliminates most deductions and credits available for income tax purposes and calculates the tax due under AMT rules.  Then you compare the amount due under both methods and pay the higher of the two amounts.  State and local income taxes are deductible in calculating income tax but not for AMT.

Let’s demonstrate with a couple of examples:

  1. Married couple makes a little over 224,000 per year and pays roughly 12,000 in property taxes and 22,000 in state and local taxes.  For 2017 they ended up with a federal income tax liability of just over 30,000 dollars and an AMT of a little over 5,000 dollars for a total tax liability over 35,000.  For 2018 using these exact same figures the clients would owe slightly over 35,000 in income tax but no AMT.  In this case their tax liability dropped by 19 dollars.
  2. Another couple made roughly 485,000 in 2017 and had a SALT deduction of just over 64,000.  For 2018, the SALT deduction is limited to only 10,000 but they also get significant relief from AMT.  Their total federal tax liability will increase by just under 400 dollars.

As the income level rises, the benefits of the AMT reduction tend to diminish so if your income is high enough, the SALT limitation could cause a significant increase in federal tax liability.  If you have concerns about how this new change will affect your individual situation you can contact us or a competent tax professional such as an Enrolled Agent in your local area.