By David M. Goldfarb, Esq., and Hyman G. Darling, CELA, CAP
Published May 2018
Last year’s $1.45 trillion tax re-write is certain to impact older Americans, but how?
The Urban Institute’s Tax Policy Center estimates that the new law will reduce taxes on average for all income groups in both 2018 and 2025. A few will see their taxes increase, more over time due to the inclusion of “chained-CPI,” which grows more slowly than the standard inflation rate. Many more could see an increase after 2025 when much of the individual tax provisions expire.
Today, many seniors do not pay any tax and will not under the new law. That’s because a large number of older adults rely almost entirely on Social Security, which is exempt from taxation at lower levels of income.
Older households that do pay taxes tend not to itemize deductions. A major aspect of the tax rewrite was to limit the number of households that itemize and to reduce their impact overall. It’s likely therefore that as a group they will see a modest benefit, particularly early on, from the tax cuts.
So, whose taxes could increase among older adults? Major itemizers, which are more often those in places with high state and local income and property taxes.
Thankfully though, the new law does not make as radical of changes to limiting itemized deductions as originally proposed.
For instance, the National Academy of Elder Law Attorneys, AARP, and a number of other advocates fought to save the medical expense deduction. Ending the deduction would have caused serious harm to many seniors who have high medical or long-term care costs.
Thanks to the outcry, the final legislation not only keeps the medical expense deduction, but temporarily expands it for two years.
Rethinking “Bunching” with the New Tax Law
When planning for seniors, major changes to focus on include new the tax rates and brackets, increases to the alternative minimum tax (AMT), and the impact of doubling the standard deduction. One important planning tool going forward will be “bunching deductions.”
With the shift of income to different brackets, it is important to at least consider what bracket a person will be in and whether to bunch deductions in one year as opposed to taking the standard deduction. Given the elimination of the personal exemption, the doubling of standard deductions, and a $10,000 cap on state and local tax (SALT) deductions, the taxpayer may not have significant medical deductions together with SALT deductions when added to charitable contributions and mortgage interests to file an itemized deduction schedule. This will certainly have a bearing on both the federal tax return as well as on the state tax return as in some states, itemized deductions may not be taken on the state tx return unless they are taken on the federal return.
Similarly, the AMT has increased to $70,300 for a single person and $109,400 for a married couple. These amounts now phase out when a single taxpayer reaches $500,000 and a married taxpayer reaches $1 million. Again, with limitations on itemized deductions, the AMT may also not be as critical to those payers who do not itemize.
Given the difficulty in itemizing deductions, “bunching” expenses becomes a greater consideration. The benefit of “bunching” would be that in a year where a person may not have sufficient expenses that will allow them to itemize — such as charitable expenses and real estate taxes — perhaps they should be bunched into one year.
For instance, a taxpayer could pay all of their real estate taxes for 2018 in 2018, and if the fiscal tax year for the city or town they live in begins in 2018 for 2019, the taxes could be paid also in 2018. Charitable deductions for 2018 would also be paid in 2018 as well as having pledges or proposed charitable contributions for 2019 paid in the same year. Therefore, the itemized deductions will be taken in 2018, but perhaps not in 2019. This process would be repeated in 2020, 2022, etc. Keep in mind that many of the changes that were enacted expire at the end of 2025 unless extended. Attorneys should keep up on the law when considering this procedure.
Charitable Gifts Made from IRAs
Also, a taxpayer over the age of 70.5 with their primary income from their IRA and Social Security may be required to pay income taxes on a portion of their Social Security. If their charitable contributions are not deductible, they should consider having the charitable gifts made directly from their IRA to the charities. Their gifts qualify for the minimum required distribution, but the amounts will not be taxable. This reduces the amount of income considered for 1) taxation, 2) the inclusion of Social Security benefits as part of taxable income, 3) calculating Medicare Part D income- related monthly adjustment amounts, and 4) qualifying for public benefits.
Assessing the Broader Impact of Legislation
Many aging advocates opposed the legislation not for reasons related to direct taxes, but its broader consequences. One risk already averted was the automatic cuts to Medicare under the budget rules. To avert those cuts, many Democrats joined Republicans to waive those rules. Yet more concerns remain:
• Destabilization of the individual health insurance market. The end of the individual mandate threatens to raise taxes and undermine health coverage for many people. Those aged 55-64 often have high health costs, meaning some could be less economically secure and less healthy as they enter traditional retirement age, as a result.
• Pressure on states to cut spending. The law caps state and local tax deductions to $10,000. Unless states find a work around, it could undermine the ability of states to finance key programs, such as Medicaid.
• Decline in charitable services. By doubling both the estate tax threshold and the standard deduction, households will have less incentives to donate to charity. Many seniors rely on non-profits for a wide range of services. Fewer donations mean fewer services available to seniors.
• Legitimizing chained-CPI for Social Security. In the past, entitlement reformers have offered chained-CPI as a means to increase trust fund solvency by cutting cost-of-living increases to beneficiaries. Some advocates fear the use of it in the tax code will add new legitimacy towards applying it to Social Security.
• Renewed calls to cut entitlements. Some worry that the decline in revenues will increase pressure to cut entitlement programs. CBO already gives entitlement reformers plenty of ammunition about U.S. debt, in part by assuming average interest rates will spike to 4.7% in the future and health expenditures will grow 1.0% faster than GDP indefinitely. In addition, Social Security’s actuaries project that the combined trust fund is set to lack sufficient funds to pay out all claims starting in 2034. As long these projections continue, pressure to cut entitlements will continue.
A primary impetus of the tax bill was to lower taxes for corporations and move to a territorial system, where U.S. companies don’t need to report offshore income. Will it really raise wages as Republicans suggest? Or will it lead to greater off-shoring, more stagnant wages, and increased inequality? Its potential impact on the economy and the political consequences that result could ultimately be the most important of all. It’s also the hardest to predict.
About the Authors
David Goldfarb, Esq., is NAELA’s Public Policy Manager. NAELA President Hyman G. Darling, CELA, CAP, is a NAELA Fellow. This article was first published in the March-April 2018 issue of Bifocal.