After years of itemizing deductions, many taxpayers will be taking the new larger standard deduction on their 2018 tax return. This may be a welcome change for some. But for others, it may be time to rethink the strategy for expenses that were deductible.
The Tax Cuts and Jobs Act (TCJA) that passed in December 2017 increased the standard deduction effective for tax years beginning in 2018. By increasing the standard deduction, a taxpayer’s taxable income is reduced, resulting in a lower tax liability. While this tax reducing strategy will benefit most taxpayers, it changes the financial impact of itemizing deductions on Schedule A.
There’s likely little you can do to change your 2018 tax return; however, you can begin making changes now that can help you in 2019.
An important caveat: Tax laws change frequently, as do appropriate tax planning strategies. Be sure to consult with your tax professional before making any changes to your tax planning. Planning that was effective yesterday or even today, may be ineffective tomorrow.
Who Takes the Standard Deduction?
Going forward, the standard deduction ranges from $12,200 for a single person under the age of 65 to $27,000 for a married couple, both of whom are 65 or older. That makes the standard deduction approximately twice what it was for all taxpayers in 2017. And that’s good news if you typically take the standard deduction.
If you typically itemize, the larger standard deduction may make that activity unnecessary. Under the new law, your itemized deductions may now be below the new standard deduction amount. If you’re in that situation, using the standard deduction will minimize your taxes and the itemized deductions don’t help.
However, if your itemized deductions are still larger than the new standard deduction, you will still need to maintain records to allow you to deduct unreimbursed medical expenses, real estate taxes, state and local taxes, mortgage interest, and charitable deductions, etc.
Tax Strategies for 2019
If you can no longer itemize, there are still some strategies that may help save you time or money when tax time rolls around again in 2019. Here are three areas in particular where making changes to your current tax plan may be advantageous.
1. Interest Paid. This deduction is primarily a mortgage interest deduction. If you have a mortgage but the new standard deduction is larger, the cost of your mortgage just went up. Here’s why. Previously, the net cost of a 4 percent mortgage with deductible interest might have actually been more like 3 percent. If you can no longer deduct mortgage interest, compare the higher net cost of your mortgage to the returns received from your other assets. For example, a long-term savings account balance yielding 2 percent or less is losing money to a mortgage that is costing you 4 percent in interest. In this situation, paying off the mortgage or paying it down more quickly can be appropriate.
2. Charitable contributions. If you are no longer able to deduct charitable gifts, there are two recommendations to consider.
- First, save yourself some time. If you are not able to itemize, you can stop listing each item you donated to charity. If you drop off a bag of clothes to Goodwill, you no longer need to worry about a detailed list.
- Second, if you are over age 70.5 and own an IRA, you can send money from your IRA directly to qualified charities. You don’t get a tax deduction by doing this, but you can gift pre-tax dollars to the charity, which is just as good. These gifts can be used to offset part or all of your required minimum distributions (RMD). Please note that the total of those gifts cannot exceed $100,000 in any one tax year. Another benefit of this strategy could be a reduction of your income that is used to calculate Medicare premiums, potentially lowering your monthly premiums.
3. No more “Miscellaneous Deductions.” The TCJA also eliminated the miscellaneous deduction section of Schedule A. Therefore, unreimbursed job expenses and professional fees that were the two biggest components of this deduction will no longer be itemized. You’re probably not going to be able to do much about the unreimbursed job expenses. However, investment management fees for a pre-tax account, such as an IRA, can be paid directly from that account with pre-tax dollars. Using pre-tax dollars can give you a benefit similar to deducting those fees from your taxes.
If the new tax law has resulted in you taking the standard deduction, review your mortgage, charitable giving, and professional fees paid. It may be time to incorporate a new strategy that will benefit your overall financial situation as well as allow you to benefit from the larger standard deduction.
Bill Wendling, CFA, is Chief Investment Officer and Senior Portfolio Manager at Bedel Financial Consulting, Inc., a wealth management firm located in Indianapolis. For more information, visit their website or email Bill.