1. The tax cuts and jobs act
NAVIGATING THE NEW LANDSCAPE

2. Disclaimer
These materials, and the accompanying oral presentation, are for educational purposes only and are not intended to be “written advice concerning one or more Federal tax matters” subject to the requirements of section 10.37(a)(2) of Treasury Department Circular 230. This information is of a general nature and based on authorities that are subject to change.
The material in these slides is current as of January 10, Be sure to update before presenting. Remind audience that application of the information to specific situations should be determined through consultation with their own tax advisers.

3. Contact information
Terry V. Merfeld, CPA
Partner, Financial Institutions Services Group
Des Moines, IA
Sean P. Finley, CPA
Sr. Manager, Financial Institutions Services Group
Mankato, MN

4. tax cuts and jobs act

5. Individual provisions

6. Tax rates and brackets
Congressed altered individual tax brackets, but the changes weren’t as drastic as some had initially proposed.
Number of individual tax brackets remains the same at 7.
The top rate drops from 39.6% to 37% and takes effect at $600,000 of taxable income for MFJ instead of previous $480,000.
For single filers, the top rate kicks in at $500,000 rather than about $427,000.

7. Tax rates and brackets

8. Tax rates and brackets

9. Standard deduction
For most individuals, the most significant changes are the near-doubling of the standard deduction and the repeal of the personal exemption.
The act raised the standard deduction to $24,000 for MFJ and $12,000 for singles, compared with $13,000 and $6,500 under the pre-change law.
It is anticipated that this change will reduce the taxpayers who itemize by more than half – from about 47 million to 19 million, according to the Tax Policy Center.
This is one of the few areas of actual “simplification” achieved

10. personal exemption
Under prior law, a personal exemption was allowed for each person included on a tax return (i.e. husband, wife, children, etc.).
In 2018, this exemption would have been $4,150 per person (phased out for high earners), but now has been completely eliminated.
The personal exemption was also an important factor in determining payroll withholding amounts for employees.
The interaction of the new standard deduction, the repeal of the personal exemption, and the expansion of the child tax credit is complex, and the impact compared to prior law will vary widely

11. Child and dependent tax credit
The tax credit for each child in a family who is under age 17 at year-end was increased from $1,000 to $2,000.
For dependents 17 and older, the credit is $500.
The credit also now has increased phase out levels, beginning at $400,000 for MFJ and $200,000 for singles compared to $110,000 and $75,000 in 2017.
The definition of who is a dependent is unchanged.
The changes to these credits expire after 2025.

12. Married, filing jointly
Capital gains rates
Preferential tax rates, including a 0% bracket, continue to exist for capital gains and qualified dividends.
Rates & Brackets:
Income subject to these preferential rates “stacks” on top of other taxable income in order to determine which bracket it will be taxed in.
Taxable income for…
Single filers
Married, filing jointly
Rate
Up to $38,600
Up to $77,200 0%
$38,601 - $425,800
$77,201 - $479,000
15%
Above $425,800
Above $479,000
20%

13. Net investment income tax
The 3.8% Net Investment Income Tax, which takes effect at $250,000 of Adjusted Gross Income for MFJ and $200,000 for most single filers, was left in place.
As such, high income tax payers generally owe 23.8% instead of 20% on their long-term capital gains and qualified dividends.
This tax may also apply to passive investment income such as partnership and S corporation passthrough income.

14. State and local tax deductions
Beginning in 2018, the previously unlimited deduction of state and local taxes is now limited to $10,000.
This $10,000 limitation applies in total to any combination of state and local income, property, and sales taxes.
The limitation does apply to individual state taxes paid on pass through business income.

15. Mortgage interest deduction
Beginning in 2018, deduction for mortgage interest limited to the first $750,000 in debt on a first and second home.
That limit was previously $1,000,000.
Existing mortgages were grandfathered in at the $1,000,000 limit.

16. Charitable contributions
Cash contribution ceiling raised to 60% of AGI.
Charitable deduction for contributions to colleges for seating rights eliminated.
The increase in the standard deduction will greatly reduce the number of people who itemize their deductions.
Tax planning ideas:
‘Bunch’ charitable contributions for two years into one year to exceed the standard deduction every other year.
Set up a donor advised fund.
This will be an interesting case of behavioral economics to see if the tax deductibility will affect charitable giving.

17. Other deductions The deductibility of medical expenses was retained
The threshold of deductibility was lowered from 10% to 7.5% of AGI for 2017 and 2018, but returns to 10% in 2019
Alimony payments are no longer deductible for divorce and separation agreements signed after 2018.
A deduction is still allowed for agreements signed in 2018 and prior
Miscellaneous expense deduction eliminated
Charitable Contributions Retained
Cash contribution ceiling raised to 60% of AGI

18. Phase-out of itemized deductions, personal exemptions
Gone
Under prior law, if your income exceeded certain thresholds, your itemized deductions were limited. Now the limitation is gone, but so are some of those itemized deductions we have gotten used to over the years.

19. Alternative minimum tax
Although many were hopeful that the AMT would be repealed, it was ultimately retained for individuals with certain changes.
It is anticipated that these changes will result in AMT impacting far fewer taxpayers.
Previously, AMT impacted about 5 million taxpayers, with many earnings between $200,000 and $600,000. The number impacted is anticipated to drop to 200,000 beginning in 2018.
A large reason for this drastic drop is the repeal or reduction of many of the most frequent items causing a taxpayer to owe AMT such as the state and local tax deduction, personal exemptions, and miscellaneous itemized deductions.

20. Estate Tax Basic exclusion
Beginning in 2018, the estate tax basic exclusion is doubling from about $5.5 million per person to nearly $11.2 million per person and is indexed for inflation.
Portability, which allows a taxpayer to utilize their deceased spouse’s unused exclusion, was retained. As such, a married couple can pass about $22.4 million to their heirs tax free in 2018.
This increase is set to expire after 2025.
The step-up in basis for assets held at death was also retained.

21. 529 education savings accounts
Beginning in 2018, 529 plan assets up to $10,000 per year, per student can be used for K-12 tuition.

22. Business provisions

23. Corporate rate cut
Flat 21% rate replaces current tiered rate structure, effective for tax years beginning after 12/31/17.
Significant financial statement implications due to rate change. Effective date is as in the law, but also mention blended rates for fiscal year corporations based on ratio of days in fiscal year before 1/1/18 and after 12/31/17. This occurs because of existing section 15 that was not a part of tax reform. See next slide for examples of the blended rates.

24. Corporate Alternative Minimum Tax
Repealed.

25. Net Operating Losses
The carryback of NOLs is eliminated, with exceptions:
A two year carryback is allowed in the case of certain disaster losses incurred in the trade or business of farming.
Losses incurred in years after 2017 can be carried forward indefinitely.
The deduction for NOLs incurred after 2017 is limited to 80% of taxable income in the carryforward years.

26. Cash Method Expansion
The gross receipts limitation on the use of the cash basis method of accounting is increased to $25 million.

27. Entertainment expenses
Bill eliminates deductions for business entertainment and for dues for clubs “organized for business, pleasure, recreation or other social purposes.”
Employee achievement awards may not be deducted or excluded from employee’s income if the award is paid in cash, gift cards, meals, lodging, tickets, securities or similar items.
Employer provided eating facilities will be subject to the 50% deduction limitation; after 2025 deductions are completely disallowed for employer-provided eating facilities and meals provided for the convenience of the employer.

28. Sec. 179 Section 179 dollar limits
Increases the maximum amount a taxpayer may expense under section 179 to $1,000,000, and the phase-out threshold amount to $2,500,000, for taxable years beginning after 2017.
Indexes such amounts, as well as the $25,000 sport utility vehicle limitation, for inflation for taxable years beginning after 2018.
Sec. 179

29. depreciation
100% expensing is available for assets acquired and used after September 27, 2017 and before 2023.
The 100% deductions are an expanded form of bonus depreciation. However, assets eligible for bonus depreciation are expanded to included used assets as well as new.
The amount eligible for the deduction then declines each year until 2027, when regular depreciation resumes.
Qualified improvement property – waiting on technical correction fix for bonus depreciation.

30. Treatment of improvements
Acquired before 9/28/2017
Placed in Service after 9/27/2017
Acquired after 9/27/2017
Placed in Service on or before 12/31/2017
Placed in Service after 12/31/2017
Qualified Improvement Property
39-year recovery
50% bonus depreciation
100% bonus depreciation
NO bonus depreciation
Qualified Leasehold Improvement Property
15-year recovery
N/A
Qualified Retail Improvement Property
Qualified Restaurant Property

31. Section 199A- 20% “Pass-through” deduction

32. Section 199A- recap
Sec. 199A provides deduction of 20% of “qualified business income”
For taxpayers with taxable income above the “threshold amounts,” the deduction can be limited
The deduction is available for trade or business income taxable on 1040s, whether from a K-1, Schedule C, Schedule E, or Schedule F
Sole Proprietors, Partners, S corporation shareholders, Estates, and Trusts all may qualify
Applicable to both “active” and “passive” taxpayers

33. Passthrough income
A new 20% deduction on Qualified Business Income was created, lowering the effective rate from 37% to 29.6% for many passthrough business owners.
For taxpayers with individual income up to $315,000 MFJ, or $157,500 for singles, there are no limitations on this deduction and it will be received on all passthrough income.
The deduction either phases out or becomes subject to limitations for taxpayers with income from $315,000 to $415,000 MFJ, or $157,500 to $207,500 for singles.

34. Passthrough income, cont.
For Specified Service Trades or Businesses, the deduction completely phases out above those income thresholds.
Specified Service Trades or Businesses include the fields of health, law, accounting, actuarial science, performing arts, consulting, athletics, financial services, brokerage services, or any trade or business where the principal asset of such trade or business is the reputation or skill of 1 or more of its employees.
For other businesses, the deduction is limited to the greater of:
50% of wages paid; or
25% of wages paid + 2.5% of depreciable property
Banks are not Specified Service Trades or Businesses, and thus their S corporation shareholders are eligible for the deduction.
The wages paid limitation should not be a factor for banks, meaning the shareholders will receive the full 20% deduction.

35. Section 199A proposed regulations
More clearly defined “Specified Service Trade or Business”
Banking not considered service business
Raises questions about selected activities certain banks engage in:
Accounting services
Investment advisory services (including offered by a trust department)
Wealth and retirement planning
Dealing in securities (includes significant sales of certain types of loans)
De-Minimis Rule for Service Income
Business Aggregation is permitted but not required
Fiscal Year Entities with year straddling 12/31/2018 will generate Deduction for whole year
Next steps: comment letters, public hearing in October, then possible final regulations

36. Entity choice considerations
Entity choice is driven by an organizations long-term strategic plan, as well as shareholder expectations
Every organizations dynamics are different, no “one shoe size fits all” answer to most tax efficient entity structure
Important to model out different scenarios with as many details as are relevant to your organization
Tax rate difference
Capital planning- Growth vs. Shareholder distributions
Potential sale of business
Estate planning of shareholders
Potential for future law changes

37. C corporation vs. S Corporation
Factors indicating C corporation
Factors indicating S Corporation
Sale likely in near-medium term.
Desire for withdrawal of cash currently.
Qualification for 199A deduction.
Lack of C corporation factors.
Lack of plausible use of accumulated earnings.
NOL carryforwards.
Profitability.
Expected continuous growth.
Long time horizon before sale or shareholder need for cash.
Qualification for Sec
C Corp – accumulated earnings considerations
Perfect storm that might indicate C corporation advantage (from a tax perspective) – consistent growth in earnings, need for cash to expand / invest in the business and long-term continuity of ownership / or qualify for Exit strategy is key to analysis. Need to model over a number of years to gauge pros and cons.
General rule = annual tax is neutral if C corp dividends are ~ 50% - better if lower…. Assumes S income is QBI. Still – there’s a long-term benefit to S if assume a sale in the future….

38. Is it time to reconsider the C corporation?

39. QUESTIONS?

40. THANK YOU Terry V. Merfeld, CPA
Partner, Financial Institutions Services Group
Sean P. Finley, CPA
Sr. Manager, Financial Institutions Services Group