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As you likely know, there have been some recent changes to our tax laws based on the December 20 passage of H.R.1 (the “Tax Cuts and Jobs Act”). Those changes have a significant impact on the taxation of businesses and some individuals. Since the bill is approximately 440 pages long, I will not go into too much detail here, but I do want to highlight some of the more widespread changes that result from passage of this bill.

Because many of the changes discussed below have not yet been tested in practice, and regulations still need to be developed to interpret some of these changes, the practical impact could be quite different from my analysis. It’s also important to note that many of these changes expire in 2025, and the expiring provisions will revert back to current law at that time.

Estate Tax Changes

Gift Taxes. The annual exclusion amount increased to $15,000 in 2018, up from the $14,000 figure that has been in place since 2013.

Estate and Gift Taxes. The exemption equivalent for estate, gift, and GST taxes (generation-skipping transfer taxes) doubled in 2018, and is now $11.2 million per spouse, or $22.4 million per married couple. Portability remains intact, and other than the increased exemption amount this area is largely unchanged. Note that this increased exemption is set to expire in 2025, and it’s possible (depending on the sentiments of Congress at the time) that there could be a “clawback” for large gifts — or transfers to irrevocable trusts — made between 2018 and 2025.

Income Tax Changes

Tax Rates and Brackets. Most taxpayers will see their marginal rate decline under the new law. We still have seven tax brackets, but the maximum marginal rate has dropped from 39.6% to 37%, and many of the intervening brackets now have lower rates and wider income bands. The AMT (alternative minimum tax) exemption has also increased, so they should provide relief to many taxpayers previously hit by this tax.

Deductions/Exemptions. The personal exemption of $4,150 per person no longer exists, but has been replaced by a much higher standard deduction of $24,000 for married taxpayers filing jointly. The higher standard deduction means fewer taxpayers will find it beneficial to itemize deductions in 2018 and forward.

Itemized Deductions. As you’ve likely heard in the news, there are some significant changes to the itemized deduction rules; namely, the state and local tax deduction is now limited to $10,000 for married taxpayers filing jointly, or $5,000 for a single taxpayer. Many of the miscellaneous itemized deductions (those subject to the 2% floor) have been eliminated, and some others — such as the medical expense deduction — have been expanded so the adjusted gross income floor is now 7.5% instead of 10% (which arguably provides more benefit to low-income workers with high medical expenses, such as the elderly). The mortgage interest deduction is another change that hits many taxpayers, as the cap on indebtedness was decreased to $750,000 from $1 million, effective as of December 16, 2017. Existing mortgages are generally grandfathered.

Section 529 Plans. These plans were formerly known as college savings plans, but have now been expanded such that funds can be used (up to $10,000 per year) for any elementary or secondary public, private, or religious school. If you’re a Virginia resident then you also get a state income tax deduction for contributions (within limits). Many other states also offer similar tax deductions.

Charitable Deductions. Very little has changed in this area, except that you can now contribute a greater percentage of your adjusted gross income (60% now, versus 50% in prior years). As you might expect, this affects very few taxpayers.

Child Tax Credit. The child tax credit doubled to $2,000 and the phase-out limits have increased so the credit will be available to more taxpayers in 2018 and forward.

Health Insurance Mandate. The only significant change here is that the IRS can no longer fine you for not having insurance.

Business Taxes

Pass-Through Entities. Partnerships, LLCs, S-corporations, and even sole proprietorships may see significant benefits from a new 20% deduction for qualified business income. That said, the regulations ultimately implemented by the IRS could change the landscape significantly and I would hold off on any business entity conversions until the dust settles. Also note that this deduction is aimed at small and mid-sized businesses. Taxpayers should expect to see anti-abuse rules that prevent the application of this deduction to professional service groups (e.g., law firms, accounting firms, doctors) and publicly traded partnerships.

Corporations. Corporations will see their top tax rate drop to 21% from 35%.

Section 179. The Section 179 expensing limit will be raised to $1 million (up from $500,000) for qualifying asset purchases.

Other Changes. Repatriation of off-shore assets (whether liquid or illiquid) is encouraged by special tax rates, the corporate alternative minimum tax has been revised, net operating loss carrybacks have been eliminated while carryforwards are now limited to 80% of taxable income, and there are new limits on the deductibility of net interest.

As always, you should discuss your particular situation with your CPA (or with me) prior to engaging in any tax planning strategy, and as previously noted, it is still too early to understand how some of these provisions will be implemented or interpreted. If you have any questions or wish to discuss your situation in more detail, please let me know.

Speaking to an attorney or accountant who is well-versed in tax law will help you make the right decisions for your business and personal real estate investments. To learn more, please contact Charles E. McWilliams, Jr. by email or call (540) 667-4912.

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I recently met with the daughter of one of my estate planning clients. The last time we spoke was more than three years ago when we held an emergency estate planning meeting at the hospital before her mother’s heart surgery. At that point, the family—and doctors—were concerned my client might not make it through the surgery and she wanted to make sure all her estate planning documents were just right before the operation. Fortunately, the surgery went smoothly, recovery went well, and she returned to normality for several years.

After the documents were executed, I provided my client and her daughter a list of “next steps” they needed to complete to ensure all assets would pass according to the terms of the trust agreement that was implemented. To be sure, that list entails a fair amount of work for the client, but it is essential to ensuring the estate administration process goes smoothly. All too often I have families come into my office with documents prepared by another attorney expecting the estate administration to be very simple because they were told that would be the case. Yet, when I examine the binder of estate planning documents and review the decedent’s asset information, I find the family never completed the retitling work the attorney requested. In such a case, at a minimum, the planning they paid the attorney to do was meaningless; at worst, the assets may be distributed in an entirely unintended manner.

When I met my client’s daughter, I found she had followed all of my directions to the letter. All of the pay-on-death and transfer-on-death designations had been added to accounts, separate accounts had been titled in her mother’s trust, and all of the appropriate beneficiary designations had been added to retirement accounts. Even her mother’s car had been retitled in the trust—and that’s a rare occurrence! In this instance, I was able to meet with the daughter for less than an hour, give her some direction on how to distribute the assets, and send her on her way. The entire estate administration process for the daughter took a few days from start to finish, as compared to the year or more it often takes to administer an estate when assets pass through probate.

It does take a lot of time to complete all the retitling the estate planning attorney requests, but it is imperative to ensuring the plan works in nearly all circumstances. This client’s situation is illustrative of exactly how easy it can be when everything is done properly. If you’ve done estate planning in the last few years, please take the time to look at the retitling directions your attorney provided and follow through with them. If you need help with the retitling—or if you haven’t planned at all—please feel free to email me at cmcwilliams@thelandlawyers.com or give me a call so I can work with you to ensure the estate administration process goes as smoothly as possible.

I work with real estate developers, investors, and Realtors on nearly a daily basis, and I am always impressed by the transformation newcomers to the industry undergo from the time they start their first project to when their business is thriving. These professionals learn many lessons the hard way. Some seek counsel from the start, and others wait until they can “afford” professional advice from attorneys and accountants. The fact is, most investors on a budget can’t afford not to obtain professional advice!

Furthermore, even those who seek professional advice sometimes do not get what they bargained for. For example, I recently received an email from a “business coach” who is assisting one of my growing developer clients. This person was questioning the requirement for depreciation of the developer’s property based on a review of IRS publications. Now, the first red flag is that we have a business coach reading the IRS publications, which are useless for all but a cursory (and often confusing) overview of the subject matter. Simply stated, depreciation is not optional. You can choose whether to take a deduction, but your property depreciates, and your adjusted basis continues to decrease, regardless. I did not charge my client to set the issue straight, but had he listened to his business coach, it would have cost him tens of thousands of dollars per year.

The lesson here is to always make certain you are receiving quality advice in real estate endeavors and that your advisors have the credentials to support what they charge. Too often, entrepreneurs (and occasionally very experienced investors) make grave mistakes because they did not seek the counsel of a qualified attorney or accountant. To help you avoid these mistakes, here are a few pointers to keep in mind for every real estate deal.

• Always discuss the project with your attorney and accountant well in advance of the anticipated closing – preferably at least 30 days prior (more for larger projects). Although it may be an extraordinary transaction for you, remember that your attorney sees these deals on a regular basis. If there are no red flags, you may only need a short phone call.
• Make sure you understand all of the immediate tax consequences and how they will play out over the long-term. Make a plan and project the tax consequences and cash flows for at least 10 years, preferably longer. Ask yourself these questions: Will there be taxable income? Will the property generate a tax loss? Is this loss deductible?
• Make sure you understand what will happen when or if you sell the property. Will there be a capital gain or capital loss? What about depreciation recapture?
• What happens if you are incapacitated or die? Can the project function without you? Who will take over the management? Are there any tax consequences (estate taxes, basis step-up) or will your partners have any right to buy your interest? If your partners can (or are required to) buy you out, what is the price and how will it be calculated? Should your spouse be in this deal with your partners? Is this fair to everyone?
• Have an exit strategy and understand the tax and financial implications.
• Plan for contingencies. What happens if the property doesn’t sell? What if the tenants move out? What if rental rates drop or interest rates increase dramatically? Can you bring on a partner if needed or engage in a cash-out refinancing?

Speaking to an attorney or accountant who is well-versed in tax law will help you make the right decisions for your business and personal real estate investments. To learn more, please visit our Estate Planning & Administration page, or call Chuck McWilliams at (703) 680-4664.