Now that Oct. 15 has passed and all of the extended tax returns have been filed, the 2018 tax return preparation cycle is complete. Most of the provisions in the Tax Cuts & Jobs Act (TCJA) became effective in 2018, so this is our first chance for a retrospective analysis of its impact. The IRS will not release any official statistics about 2018 filings for two years, so we really won’t understand the actual impact until then.
There is a tremendous amount of rhetoric on both sides about the effectiveness of the cuts. I am amused when I see commentators who are not tax professionals spout the talking points that support their political affiliations without any real firsthand knowledge. In this column, I want to share some observations based on my professional experience.
Although I am a semi-retired CPA, I am still involved with tax matters as a consultant to CPA firms and law firms, as a professor in the CSUN Masters of Taxation Program and as a tax practitioner for a handful of clients. My observations are largely anecdotal, but I believe they represent a reasonable cross section of the population.
The impact of tax reform is like a brush fire sweeping through a neighborhood. Some houses are totally destroyed while others escape unscathed. One of my biggest takeaways is the TCJA is like a brush fire, causing different taxpayers in similar economic circumstances to pay substantially different taxes.
For example, I reviewed tax returns for two physicians, each of whom made about $175,000. One was a salaried employee of a medical group, while the other was self-employed. The self-employed doctor was able to reduce his taxable income by 20%, while the employee was not.
Generally, renters saw a bigger tax cut because their standard deduction doubled, while homeowners traded home mortgage interest property tax deductions for an increase in their standard deductions. Many homeowners saw only a small decrease or even a tax increase.
I recently attended a tax planning seminar showing that many of the tax increases are directed at the top 10% of households (those making over about $135,000). However, because of loopholes created by the TCJA, those in the top 0.1% (those making more than $2.8 million) generally saw tax reductions. I suspect that there is political fallout to this, as many congressional districts that flipped from red to blue in 2018 are comprised of ZIP codes with substantial numbers of households earning over $135,000.
From what other practitioners who compared clients’ 2017 and 2018 returns have told me, most people in low- and moderate-income households did not see meaningful income tax reductions.
Several of the provisions appear to have backfired. Two notable provisions are the immediate write-off of newly acquired business assets and the change in the international tax regime.
The flaw in the ability to write off assets is that it applies to all assets whether they are new or used. This means that the government effectively finances a greater share of business acquisitions. I am aware of a taxpayer who owns a medium-sized manufacturing business. He acquired three smaller competitors and was able to write off a substantial portion of the purchase price, fully offsetting his taxable income for the next three years.
It also turns out that many smaller companies now have a greater tax incentive to relocate their business overseas. The explanation of this phenomenon is complex and beyond the scope of this column, but it clearly is an unintended result of the TCJA.
From an administrative standpoint, no tax practitioner will say that the TCJA resulted in tax simplification. One of the most annoying parts of tax season was the stupid “postcard” Form 1040. Before 2018, there were two forms, a one-page form for simple returns and another for more complex returns. Now there is only a half-page form printed on two sides that has up to six additional pages that have to be attached. From a professional standpoint, reviewing the new 2018 forms was tedious at best.
The TCJA was hastily passed. Not only was it not fully vetted, but also it contains numerous errors and inconsistencies. The Joint Committee on Taxation, a congressional committee comprised of both House members and senators, instructed the Treasury Department and IRS to issue regulations and publish forms that are inconsistent with the law. When the deviations were taxpayer-friendly, the Treasury and IRS generally complied with the instructions. In my 45 year career, I have never seen that before.
Tax reform is likely to be an election-year issue in 2020. The Democrats have their own agenda, while the Republicans will defend the TCJA. Unfortunately, much of the rhetoric will be based on politics rather than reality. Hopefully the next tax legislation will be an improvement over the TCJA.
Jim de Bree is a Valencia resident.