Here are the key points from the now passed Trump administration’s tax plan for 2018 and beyond.
After reviewing the key points, I share my thoughts on how to win under this possibly new tax environment. The audio version is at the end of the post.
Republican Tax Plan Highlights
* No change to existing rules on 401k retirement accounts and the ability to contribute the current $18,000 into the accounts tax-free, and $18,500 for 2018 and beyond.
* Lowers the deduction for mortgage interest for new home loans of $7500,000 or less from the current $1,000,000 cap. Old loans up to $1,000,000 are grandfathered in.
* Limits the deductibility of local property taxes and state income taxes to only $10,000.
* Lowers the top marginal tax rate from 39.6% to 37%.
* The long-term capital gains and qualified dividend thresholds will remain as they are under the current system e.g. those in the bottom two tax brackets are eligible for 0% capital gains and dividend tax rates, those in the middle get a 15% tax rate, and those in the top pay a 20% tax rate.
* No repeal of the 3.8% Medicare surtax on net investment income over $200,000 per person.
* Individuals making over $500,000 and couples earning over $1 million may still pay 39.6 percent
* Reduce the corporate tax rate from 35 percent to 21 percent.
* Doubles the estate tax limit to $11M for individuals, and $22M for married couples.
* Increase child tax credit from $1,000 to $2,000.
* Nearly double the standard deduction used by most average Americans to $12,000 for individuals and $24,000 for families
How To Win Under The New Republican Tax Plan
1) Continue to max out your 401k. There’s no reason not to take advantage of tax-deferred investment growth and potential company matching / profit sharing.
2) Reduce real estate exposure in the most expensive cities. Slashing mortgage interest deductibility on debt down to $500,000 from $1,000,000 may put downward pressure on homes priced above $625,000. $625,000 is the cut off because most people put down at most 20% and borrow the rest (80% X $625,000 = $500,000).
The real estate segment that will likely come under the most pressure are those homes priced above $1,250,000 and up until about $3,000,000. In this price range, taking out a $1,000,000 or higher mortgage debt is quite common. After $3,000,000, the percentage of buyers who pay cash increases, and the segment will therefore be less affected. However, if there is weakness at lower price points, it will ultimately drag down higher price points.
Areas such as San Francisco, San Jose, Oakland, Manhattan, Brooklyn, Stamford, Los Angeles, San Diego, Washington D.C., Seattle, Boston, may experience weakness at the margin.
Related: Why I’m Investing In The Heartland Of America
3) Move out of states with high property tax rates. Limiting the property tax deductibility to $10,000 will hurt homeowners who live in high property tax states or who own expensive property or both. Residents of California, New Jersey, New York, and less so Illinois should look to move or sell their property and rent. Although Utah, Wyoming, Arkansas, Alabama, West Virginia, and Louisiana have high property tax rates, real estate in most parts of those states are relatively inexpensive. Hawaii has the lowest property tax rate, but also one of the highest real estate prices.
4) Move out of states with high state income tax rates. Consider relocating to one of the seven states with no state income tax: Washington, Nevada, Wyoming, South Dakota, Texas, Florida, or Alaska. No longer being able to deduct state income taxes will hurt states like New York, DC, Iowa, Minnesota, and New Jersey the most because life is hard in the states with high tax rates and brutal winters. At least in California, residents can play outside year around. But make no mistake, California residents lose under the new proposal.
If you make between $75,000 – $100,000, $100,000 – $200,000, $200,000 – $500,000, and $500,000 – $1,000,000, the average tax increases are $873, $1,500, $2,800, and $8,555, respectively according to the Urban Institute & Brookings Institution.
5) Get married and make up to $600,000 combined, or stay single if you both are making over $500,000. The current top tax rate is now 37% for individuals making more than ~$500,000 and married couples making more than $600,000. It would be absolutely nonsensical for two $500,000 singles to get married. If you can make a combined $600,000 as a married couple to pay a 35% marginal tax rate, then go for it.
Related: The Average Net Worth For The Above Average Married Couple
6) Start a S-Corp to earn pass through income. If the top tax rate for businesses with pass-through income declines to 25%, you’re basically winning if you have operating profits of over $92,000 per individual or $153,000 per married couple because those are the cutoff amounts for a 25% marginal income tax rate.
If you don’t have a business idea, then consider switching from full-time employee to consultant and having your old employer pay you a higher rate as a business. They might oblige since they don’t have to pay you any benefits.
If you aren’t willing to start a business or become an independent contractor, then consider investing in businesses that will benefit from the corporate tax cut to 20%. And if you don’t know what company to invest in, then you can simply buy an S&P 500 index fund.
Related: The 10 Best Reasons To Start An Online Business
7) Step on the gas when it comes to building wealth, or die before Trump leaves office. Doubling the death tax to $11M per individual and $22M per couple should motivate you hoard as much wealth and die before Trump leaves office. As soon as you start thinking about how your wealth can be used to help others, then there’s endless upside.
Related: The Benefits Of A Revocable Living Trust
States that hurt the most from State and Local Tax (SALT) deduction elimination
8) Enjoy being a middle class American. Reducing the $1 million mortgage indebtedness to $750K, raising the child tax credit to $2,000 from $1,000, limiting the deductibility of property tax and state income tax to to $10,000, and eliminating the death tax doesn’t affect the middle class.
But what does help the middle class is almost doubling the standard deduction, whether you have a property or not, to $12,000 for individuals and $24,000 for families. Roughly 70.4% of taxpayers claimed the standard deduction on their tax return, therefore, most Americans will benefit from the increase. Of those who do itemize their deductions, the average claim for 2014 was $27,447 according to the IRS. Therefore, there is a convergence and a simplification of the tax code.
A $24,000 standard deduction for married couples equates to paying a 2.4% interest rate on a $1,000,000 mortgage. Hence, the increase in standard deduction takes some of the sting out of the potential halving of the mortgage interest deduction to $500,000. That said, property in higher cost areas should still feel downward pressure at the margin because mortgage interest is only one of several itemized items for deduction.
Related: We’re All Middle Class Citizens
Try To Avoid Getting Stuck In The Upper Middle
The GOP tax proposal is telling everybody not to get stuck in the upper middle like garbage in a trash compactor. You either want to make less than $200,000 as an individual or less than $260,000 as a married couple or more than $500,000 as an individual or as close to $600,000 as a married couple. Everything else will either be neutral or slightly negative. The real frustration is the cost of living for most high income W2 wage earners.
As for me, I plan to generate as much business profits as possible until the next administration arrives. If the business pass through tax rate does get capped at 25%, I will use my tax savings to hire someone to help run the business and write content so I can spend more time with my family. Readers win because I won’t end up quitting under the strain of full-time parenthood for the next five years. The economy wins because one more person gets a job and spends.
I’ve already sold a very expensive property in San Francisco to lock in gains, simplify life, and diversify into heartland real estate. If the mortgage indebtedness cap for interest deduction does decline to $500,000, I will pay down my principal mortgage debt to $500,000 if previous mortgages above the threshold are not grandfathered. Finally, I plan to leave San Francisco and move to Honolulu where the property tax rate is 70% lower within the next three years.
Hopefully by the time tax rates rise again, I’ll be completely sick of making money and want to relax. As a retiree, you want high tax rates so that other people can pay for your benefits. In a low tax rate, bull market environment, it’s best to press as much as possible.
Readers, how do you feel about the latest GOP tax proposal? Will you do anything to take advantage? What are some tax reform issues I’ve missed?
Hi Sam,
Since the tax bill is pending President’s signature, any thoughts on prepaying 2018 property taxes? We stay in the bay area where annual property tax bills are ~20K or more.
Any thought around 2017 year end tax strategies would also be appreciated.
You might as well try. But, they say it’s not gonna work.
Hmmmm , but bottom line less taxes will be collected . Less taxes means less revenues which mean higher deficits. They are counting on a boom b/c of this ?My feeling is surpluses in taxes paying debt down causes the boom.I guess we will never know b/c congress will make this deficit happen. 36 yrs of this shit so far.
Utah has low property taxes. We will be screwed by the new tax law, but not based on a .68% property tax. Where are you getting your info?
Despite what we hear on the media this plan leaves in place the high capital gains tax, surcharge and the upper bracket. It’s the middle class and poor who get the most benefit since they get a little more from a double standard deduction with the personal exemption phased out and pay lower taxes since the rates because of higher thresholds for each bracket.
The corporate rate will help everyone because everyone directly or indirectly is pretty much invested in stocks through mutual funds or what not. But where it really helps is for small business owners and also it promotes more businesses to be in the U.S. the thing atrump needs to do is to communicate to the public that there is no excuse for companies to ship jobs to Mexico and china now that we will have a lower corporate tax rate and say he wants to see more manufacturing done in the U.S. Companies don’t have a leg to stand on if they claim they can’t compete here with lower taxes negating any higher labor costs.
I just came across your page today. My husband and I have no write off on our taxes. We are mortgage free and make roughly 200K a year. At this point, we would love to save about 150K to buy another home and keep our current home. But if we keep our income without making high contributions to 401ks it will take us a long time, we aren’t young, 52 and 53. We would like to buy our second home in about 2 years? Any advice? We are definitely novices when it comes to all the financial jargon, any advice along the lines of “Financial Advice for Dummies” would be apprciated.
Sam – thanks for a wonderful analysis. Curious what’s your take (and of any other readers) on the impact on the investment property buying in the bay area? I have been in the market for an investment property in the SF (since my primary home mortgage is on a really low rate, I have ability to make a significant down payment, and I am feeling confident about career etc) . Now I’m wondering if that’s still a good idea if the mortgage interest deduction for 2nd home is going to get completely eliminated. Would that have a net downward impact on prices in SF / surrounding areas?
Appreciate any thoughts – happy thanksgiving!
Thanks for breaking down the new tax code for us. Great analysis.
The marriage penalty is one of the reasons why my partner and I choose to stay single. Under the current tax rates, we are in the 28% bracket instead of the 33% bracket. Under the proposed tax rates, we would of move from 25%(single) to 35%(married). We own separate smaller homes instead of one big home so we still can deduct up to a million combined mortgage interest and deduct $20K combined property tax. We will benefit from the increase child tax credit and lower capital gain and dividend taxes. We will hurt equally, single or married, from not being able to deduct our CA state taxes.
I just wanted to say I love this article. You point out those most likely to win and lose but the key take away is identifying the new opportunities. As a homeowner in NJ with 2 kids and relatively high SALT we (my wife and I) may be a losers most years if we did nothing. We do have choices (she has W2 income and so do I as an owner/employee for LLC taxed as C Corp) and we will develop a plan for shifting income/expenses between 2017/2018 if/when a tax bill actually looks likely to pass (If I had to wager it won’t or will be drastically different/watered down). That notwithstanding it’s hard to stress enough the benefit to the upper middle class of doing away with the AMT. In some of our better years (bigger bonuses, higher passive income, or severance pay for instance) we already effectively lost our SALT deductions because we got crushed by the AMT.
Although I am programmed to seek ways in which to take advantage of the current tax system my preference is for some form of simplification that would reduce the number of deductions in return for lower tax rates across the board as I would much rather spend my time enjoying the income I keep rather than having to devise different ways to keep it (just to keep up with everyone else). Talk about inefficiency. In my personal economic view I also favor a reduction in the marginal tax rate we all pay as I do think it incentivizes people, on average, to work harder for that extra dollar if it means they can keep more of it. I’m not saying we need to cut taxes overall but if overall taxes collected were estimated to be the same but you could at the same time reduce the average marginal rate in order to achieve it by limiting deductions… I see it as a obvious benefit to society if not the economy.
Based on others comments its clear there is much political debate as to whether high tax states are being subsidized by the federal government. I think both sides of that debate have good arguments. Without going into detail as my comment is already long enough I would just add that if I have learned anything about statistics in my dozen years of working in corporate America it is that I can twist numbers to tell whatever story you need me to tell. Through that lens it softens the narrative / talking points on both sides.
Wonderful, thoughtful analysis. Thank you
The question no one ever seems to ask is “why are my taxes going up” or “why are my taxes going down?”
If you make more after taxes great, but is this at the expense of healthcare coverage (bad) or because we are making cuts to military expenditures (good). If you are paying more in taxes are you getting more for your money, government administration expenses (bad) or reduction in pollution due to more restrictions and health & safety checks (good).
From a high level though, the Republican plan, the people who used to be deficit hawks, are now willing to hand out $1.5tril in tax cuts to mostly wealthy people with no expectation that it will ever be paid back. Talk about shady business. We can do better than this.
Completely agree! Too often people look at the plan and are fully supportive of it if their own taxes are going down this year, and they’re against it if their taxes go up. There’s far too little concern for the overall tax revenues being collected and what the government plans to spend the money on.
They could give the poor a 0.1% tax cut, the wealthy a massive tax cut, run up the federal deficit, and everyone would still be happy because their taxes go down in the short-run. Unfortunately, the current administration understand this better than the general public.
Sam, Thanks for the write up.
Suggestion…on your chart for tax rates, others say Taxable Income, yours says income. (most work off AGI).
This basically hurts families that already itemized.
This hits families with older teenagers. 18 and up will get no child tax credit yet most 18 year olds are in their senior year, still at home. Also, most college kids are still dependents yet will not get the personal exemption anymore. The personal exemption loss is a huge hit to our family because we already itemized. Thus additional income of $33K (personal exemp and prop tax) will be taxed giving us an additional $5.1K tax increase for a “Republican” tax cut. ‘Upper’ middle income is barely getting by in Southern California with this.
Seems crazy toddlers get a 1600 tax credit and 18 year olds get 0. Means it’s a child care deduction and nothing to do with the costs of raising kids.
What was the purpose of allowing state and property taxes deductions in the first place? Was it to prevent double taxation? Why allow some now yet not others? Why not combine the 10K limit for both? Curious your thoughts?
Not sure why kids get tax credits anyway, since not everybody can have kids, and having kids is an individual choice. I don’t mind if an 18 year old adult’s parent’s doesn’t get a tax credit.
Maybe the state income and property tax deductions were the Federal Government’s attempt to try and equalize the cost of living in America since some states have higher taxes and cost of living than others? The government is all about social engineering.
I just read that you won’t be able to deduct interest on a newly refinanced mortgage of your primary residence under the new tax reform plan. If true, it will decimate the refi industry and make people choose between keeping the deduction on a higher interest loan or refinancing to get a lower rate. You can’t have both. Anyone else see anything on this?
People in the higher end real estate markets should be worried. It is obvious the administration is going after the higher and markets to redistribute the wealth.
From what I understand, it’s not just the higher end that’s impacted by this. It’s all refinancings going forward.
No, from what I understand it’s only for newly purchased homes. All of the articles I’ve read mention that it won’t affect refinancings over 500K
Overall, isn’t it more of a redistribution to the wealthy? If we do end up with significantly lower corporate tax rates, this will disproportionately benefit wealthy individuals who control most of the capital markets.
Also, I can’t imagine many people needing to refi over the next decade since rates presumably won’t drop much from where they are.