By the time I finish writing this post, it may already be obsolete. First, the new proposed tax bills could die like the proposed healthcare bill from earlier in the year and never make it anywhere. Second, there are currently two proposals (The House Proposal and The Senate Proposal) and there is a good chance that the final legislation looks much different than the current proposals. For a really good comparison of the two proposals, check out this website. Even with so many things in the air, it is important to understand the proposed new rules and ways that you can take advantage of the potential new laws.
First, a quick recap on how taxes work. You are able to take the higher of your itemized deductions or your standard deduction. Itemized deductions include such things as mortgage interest, real estate taxes, state taxes and charitable contributions. People who own a home and are paying interest on a mortgage as well as real estate taxes, are probably able to take the higher itemized deductions. The biggest change to the new tax proposals is the doubling of standard deductions and potential elimination or limit of certain itemized deductions. Currently, the standard deduction for 2017 is $6,350 for singles and $12,700 for married couple filing a joint tax return. Under the new proposed tax rules, the standard deduction would jump to around $12,000 for a single individual and $24,000 if married filing jointly. This much higher standard deduction, and limiting of certain itemized deductions, will mean many more people will take the standard deduction. If you are going from itemizing your deductions this year to taking the standard deduction next year, it makes sense to pull more of your deductions into this year. This article discusses some itemized deductions that you can pull into this year as well as some other tax changes which you may be able to take advantage.
A quick note, if you are currently paying the Alternative Minimum Tax (AMT), pulling more deductions into this year isn’t really going to help you. Good news is that both proposals would eliminate the AMT going forward. Therefore, instead of pulling deductions into 2017, you are potentially better off by pushing deductions into 2018 and taking advantage of a potentially lower tax bracket. Also, the tax bill hasn’t been finalized. It is possible that nothing changes next year. It makes sense to wait until the tax bill is finalized (if ever) before making big changes to your tax strategy.
Pay your Michigan real estate taxes early
In Michigan, our winter tax bill comes in December but it is not due until February. If you are looking to maximize your deductions in 2017, make your tax payment in December. The big debate in the tax bill is how state and local taxes (SALT) will be impacted. The current senate bill eliminates SALT deductions completely, and the house bill caps real estate tax deductions at $10,000. Capping Michigan real estate tax deductions to $10,000 wouldn’t impact many of us here, as our real estate taxes are pretty reasonable. If the plan is to eliminate SALT tax deductions completely, you really should make your real estate tax payment in December as you will get no tax benefit next year. Remember, even if they allow real estate tax deductions next year, you may still be better off paying your real estate tax in December. This is because you may be itemizing deductions this year, but be forced to take the higher standard deduction next year.
Pre-pay your January mortgage payments in December
Again, paying your mortgage payment early gives you an extra tax deduction this year. This is especially important if you have a HELOC or a mortgage on a second home. Both plans repeal writing off interest on a HELOC. The House plan also proposes only being able to write off interest on one mortgage and eliminates a mortgage deduction on a second home.
Sell your home
OK, I’m not suggesting that you scramble to get the house sold, especially if you haven’t even put it up for sale yet. If you are close to closing on a home, there are some potential tax benefits of closing on the home in 2017. Currently, as long as you have lived in your primary residence for 2 of the past 5 years, you are exempt for up to $250,000 ($500,000 for a married couple) of taxable gain on the property. Here in Michigan this means that the sale of a primary residence really should be tax free, unless you hit the housing jackpot. Under the new proposals you will have to live in your primary residence for 5 of the past 8 years in order to get the same exemption. If you have only lived in your primary residence for a few years and have a nice gain, you may be better off trying to get it sold by the end of the year.
Clean out your closet
This is really a good rule anyway but it may be even more important this year. Go through the closet and basement and donate old clothing or goods that you aren’t wearing or using anymore. If you are itemizing your deductions, you can then take a charitable deduction for your contributions. Again, if you are able to itemize this year but not next, it is important to make your donations by the end of the year.
Complete a Roth conversion in 2017
This is a tricky one, but you may be better off doing a Roth conversion this year as opposed to waiting until next. A Roth conversion is converting pre-tax IRAs into Roth IRAs. When you do a Roth conversion, you pay both federal and state taxes in the year of the conversion. As I mentioned earlier, it is possible that the SALT deduction, which of course includes state income tax, may be going away. Or, if you don’t itemize next year, the state tax deduction doesn’t do anything for you anyway. In Michigan, if you convert $50,000 in a year, you will pay roughly $2,125 in Michigan state taxes. If you can deduct the $2,125 this year but not next, it makes sense to do the conversion this year. Where this gets tricky though is if federal taxes will be lower next year, which is certainly a possibility. If federal taxes are much lower next year, you may still be better off pushing the conversion to next year. Talk to your financial advisor to discuss if Roth conversions are appropriate for your situation and tax bracket.
There is still a lot up in the air regarding the proposed tax bill, but as of today it appears there is a pretty good chance that some legislation gets passed. Although there are some differences in the two tax proposals, there are also some commonalities. For example, it appears that the SALT deductions, as well as some other common itemized deductions, may be limited or even eliminated. Also, in both proposals standard deduction will be nearly doubled. Doubling the standard deduction and eliminating many itemized deductions, is going to force many people who are currently itemizing, into taking the standard deduction. For that reason, it makes sense in that situation to pull more deductions into this year. I will be updating this post again before the end of the year once we get more finality with the tax proposals.