In December 2017, the United States Congress passed what has become known as the Tax Cuts and Jobs Act (TCJA), which was then signed by the president, making it the law of the land. This law is the largest piece of tax legislation enacted in more than 30 years. It will affect individuals and businesses in significant ways during its expected eight-year life. Some provisions are permanent, but many will expire Dec. 31, 2025.
It will be prudent for each taxpayer and business owner to become somewhat familiar with how this legislation will impact their individual and business income and expense reporting.
A couple of the provisions in the new law that garnered much of the press were the change in the corporate tax rate and the 199A deduction.
The big news for corporations was that the TCJA removed the 15-to-35-percent tax rate range and replaced it with one flat tax of 21 percent. This will actually increase taxes for a number of smaller corporations that usually were taxed at the lower corporate rates. But it will substantially reduce the tax for larger corporations that were paying tax at the 35 percent rate.
In order to also provide some tax relief for businesses that are not corporations, Congress created the 199A deduction. After a couple of attempts, Congress finally settled on the language currently in the law. The deduction applies to all pass-through business entities, such as S corporations, limited liability companies taxed as partnerships, and partnerships plus sole proprietorships filing Schedule C’s and F’s. The deduction basically allows an exemption of 20 percent of a business’s qualified business income. However, calculating the actual amount of the deduction is far from simple because of several limitations, exclusions and exemptions.
Another major change for agricultural producers is in the way a deduction can be taken for the expense of a depreciable asset placed in service after Sept. 27, 2017. Granted, this is a bit of an odd date, but that is the way the legislation is written. The total expense of all business assets placed in service after the September 2017 date and before Jan. 1, 2023, is deducted as bonus depreciation. The 100 percent level is gradually reduced after 2022 in 20 percent increments, winding up at zero after 2026.
As in the prior law, bonus depreciation applies unless the taxpayer elects out. A taxpayer can do so by asset class. Another change to bonus depreciation is that it also applies to fruit-bearing plants and nuts that are planted or grafted. In addition, previous bonus depreciation rules applied to new property only, but the TCJA allows bonus depreciation of used property if it was acquired in an arm’s length transaction and the taxpayer did not use the asset before the acquisition. For trade-ins, the bonus depreciation only applies to boot paid or the amount in excess of the adjusted basis of the replaced asset.
The Section 179 expensing deduction has been popular with business owners for many years. The challenge has been that it has fluctuated from $10,000 to $500,000 depending on the year. In December 2015, Congress set the deduction at $500,000. The TCJA increased the limit to $1 million for assets placed in service after Dec. 31, 2017. It will continue to be $1 million until Congress acts to change it. Also increased — to $2.5 million — was the phase-out threshold amount, meaning a taxpayer can spend up to $2.5 million to purchase qualifying property before additional purchases will begin to reduce the deduction dollar-for-dollar but not below zero. Keep in mind that a farmer cannot create a farming loss with a Section 179 deduction, but it can be used to offset W-2 wages.
One other note about depreciation: The TCJA repeals the requirement that farmers use the 150 percent declining balance method and allows use of the 200 percent declining method for assets that depreciated during a time period of 10 years or less. The TCJA also shortens the recovery period from seven years to five years for new machinery purchased and used in a farming business. Assets that you purchased used will continue to depreciate over seven years.
There is a small change in the way the capital gains tax rates apply for tax years beginning after Dec. 31, 2017. Instead of the capital gains rate being correlated to the income tax rates as in pre-2018, the rate applies to adjusted net capital gain amounts.
Therefore, in 2018, the 0 percent capital gains rate applies to capital gains amounts up to $77,200 for joint filers. The 15 percent capital gains tax rate applies to capital gains above the 0 percent amount and up to $479,000. The 20 percent capital gains rate applies to capital gains amounts over $479,000. All of these threshold amounts apply to joint filers.
The additional 3.8 percent tax rate on net investment income for adjusted net capital gains amounts over $479,000 is still applicable in 2018.
There are many more provisions in the tax legislation passed in December 2017 than what has been discussed here. Many apply to individuals, and many more apply to businesses. Start having a conversation with your tax preparer. The dialogue could prove to be very beneficial.