This first year of tax reform stands to confuse many wealthy clients—not to mention advisors trying to get ready for April.
“We’re seeing clients with many questions,” said Jon Moore, a CFP and regional director at EP Wealth Advisors in Denver. The most common question? “‘How can I take advantage of the new tax law so I can pay less in taxes?’” he said.
“We’re getting a lot of questions from all of our clients, regardless of net worth,” said Ken Goodrow, a CPA and investment advisor representative at TSS Wealth Management in Lebanon, N.H. “We’ve tried to be fairly proactive in heading some of the questions off, but even today a lot of the answers are ‘We just don’t know yet.’ We did get some clarification very recently on a couple of items in the new law, but there is still much to come.”
Three tax changes are getting the most attention. “First and most obvious are the rate changes,” Goodrow added. “High-net-worth clients will see the biggest benefit directly in their wallets from the cuts. Second, the treatment of the pass-through income has changed for most entities and will potentially exempt up to 20 percent of the pass-through income.” Third is the state and local and property tax (SALT) deduction cap of $10,000, he said.
“I recommend that people pull out their 2017 returns and look at Schedule A for itemized deductions,” Goodrow said. “If the amount [that was] deducted ... is greater than $10,000, then more than likely they’ll be losing the excess as a deduction in 2018.”
“I’m telling my high-net-worth clients there’s going to be less of a focus on documenting state tax deductions for the feds because of the SALT cap,” said Tony DiFatta, a CPA in Towson, Md. “Otherwise, nothing has changed with documentation. But wealthy clients do have to make sure they pay close attention to documenting charitable receipts. More people are going to take the standard deduction [and] that will free up auditors to focus more on high-net-worth individuals’ charitable contributions. For anything over $250, they’re supposed to have correct documentation, including a timely letter from the charity,” he said.
Other surprises for HNW clients could include the elimination of alimony as a deduction and the shaving of the mortgage interest deduction, he said.
In California and other states that didn’t conform completely to the tax reform act, HNW clients “will need to continue to document most everything they have in the past as some deductions may still be deductible on state returns,” said Brian Stoner, a CPA in Burbank, Calif. Some clients with small children actually will owe less federal tax because of child tax credits they didn't qualify for in 2017 and alternative minimum tax they’ll no longer owe in 2018, according to Stoner.
The time to analyze and act is now. “In taking advantage of the new, lower tax rates, we’re finding opportunities that exist now but might not be there in future years,” Moore said. “One strategy we’re using is Roth conversions. It may make sense to convert a portion of an existing IRA into a Roth now using the new lower tax rates, in anticipation of rates potentially rising during the RMD years.
“The loss of certain traditional, itemized deductions may come as a surprise to some tax filers next year,” he added. “But if you’re having a surprise, that’s one of the biggest problems right there. Tax preparation should only be memorializing all the strategies you put together the year prior. The real planning and execution of the strategy should take place between now and the end of this calendar year.”