The much anticipated GOP tax bill is hitting the news (link):
Summary of changes to individual taxes:
- Massive standard deduction ($24.4k) makes itemizing irrelevant for most the US
- New 10k limit on property tax deduction (this is a big deal if you’re in a state with exceedingly high property taxes (bay area, CA))
- No deduction for state income tax payments (this one is huge)
- Therefore, it would only now make sense to itemize when: min(property tax, 10,000) + mortgage interest + charitable contributions > $24.4k.
- Only 30% of American’s itemize today, but with the above changes this number would plummet to < 5%?
- Goodbye alternative minimum tax (AMT)
Summary of changes to corporate income taxes:
- Slashing of top corporate marginal rate from 35% to 20% to make the US more competitive globally
- Reduce top marginal rate of pass-through businesses from 39.6% to 25%
- Ceasing to tax income on multinationals earned abroad (leading to hoarding of cash abroad)
Overall, I’m elated with the proposed changes. If I ruled the world, I would further:
- Eliminate interest deduction for individuals and corporations
- Eliminate property tax deduction entirely
- Lower rates to reflect increase in revenue from the two above bullets
What does this mean for normal people?
- I just ran some numbers to match the WSJ article. My updated spreadsheet matches the numbers in the article perfectly for a married filing jointly with 2 kids making $60k/year.
- Proposed bill: $472 taxes owed
- Current Law: $1,608 taxes owed
- You can play around with my spreadsheet to see how you fare. We still don’t have any details on how the EITC will look, so the new plan looks harsh on low income families but this is simply a function of not knowing more details on the new plan. The new plan will likely have some sort of EITC feature.
- Overall, here’s what my sheet says. Assumes currently takes standard deduction & will do so in future. Assumes all kids <= 16:
- Married w/ 0 kids => new plan results in lower taxes above $0k in income
- Married w/ 1 kid => new plan results in lower taxes above $40k in income
- Married w/ 2 kids => new plan results in lower taxes above $46k in income
- Married w/ 3 kids => new plan results in lower taxes above $49k in income
- Married w/ 4 kids => new plan results in lower taxes above $48k in income
- Married w/ 5 kids => new plan results in lower taxes above $47k in income
- I have seen a lot of angry commentators indicating that the plan will raise their taxes. This is simply not the case if they were to do the math. Higher income individuals will benefit more as the sheet shows.
It is difficult to be objective when considering tax reform. After all, people tend to support legislation that benefits them personally and oppose legislation that hurts them personally. My take on the proposal is that it will directly help most people and will stimulate the economy.
Cliff notes version on how to calculate taxes under the new proposal:
Deductions = max(standard deduction, itemized deduction)
Standard deduction = $24.4k if MFJ; half if single
Itemized deduction = min($10k, property tax + state income tax) + mortgage interest + charitable contributions.
Gross income – Deductions = Taxable Income.
Tax table is as follows
12%; 0-45k if single; 0-90k if married
25%; 45-200k if single; 90k-260k if married
35%; 200k-500k if single; 260k-1M if married
39.6%; >500k if single; >1M if married
Compute taxes owed using above table using taxable income. Tax credits = $300 per adult and $1.6k per child.
With $200k gross income, MFJ, and 5 kids, here’s how it would look.
Deductions = Standard of $24.4k.
Taxable income = $200k-$24.4k = $175.6k.
Taxes owed (before credits) = $90k*0.12+($175.6k-$90k)*0.25=$32.2k
Taxes owed (after credits) = Taxes owed (before credits) + # adults*$300 + # kids*$1.6k = $32.2k – 2*$0.3k – 5*$1.6k = $23.6k.
This is exactly what my spreadsheet computes as the new tax liability. As shown above, it’s really easy to compute. No AMT nonsense. Just dumb simple math.
In contrast, the current law (once updated for 2018 values), gives a tax liability of $32,832, so the new plan is $9,232 less in taxes for this particular scenario.
16 thoughts on “Proposed tax reform: What does it mean?”
I agree that the lower tax brackets are overall positive, but being in a high tax state with very high real estate prices, the combination of (limit on property tax deduction) + (no state income tax deduction) + (lower limit on mortgage interest deduction (which I don’t think your spreadsheet accounts for)) still hurts for some reason. I guess it just takes away many of the tax benefits associated with owning a home. Previously, the cost of owning a home in my area was somewhat softened by the associated tax benefits. Under the new plan it seems like that is going to pretty much be gone (which is good or bad depending on your perspective). Time to move?
You’re hitting AMT, right? If so, you already get $0 benefit from your property taxes and your state income tax. As a result, the new proposal does little to harm you. I just put in following parameters into my spreadsheet: 5 kids, $10k mortgage interest, $10k property taxes, $10k state income tax, $10k charitable contributions. You come out roughly $1k worse from $75k-$175k. Then you’re much better off north of there.
I don’t know your numbers, but play around and see what you come up with. Seeing the math right in front of me, I doubt many people will be much worse off. Most will be better off.
I think you should move for reasons other than the tax code, mainly geographic arbitrage; particularly if your job is portable to a lower cost of living area.
I caught an error in my spreadsheet. I forgot to include charitable contributions in the new deduction. If you redownload, you should be able to see the changes.
Thanks for the quick summary. It definitely helps to dispel some of the info I’m hearing.
Our itemized deductions in 2016 was $23.9k. We live in Texas, so no paid state income tax, but the $10k cap on property tax will impact us. So unless we significantly up our charitable donations, we’ll end up taking the $24.4k standard deduction.
What’s interesting to me is that using the spreadsheet, I would get an ~$5k tax reduction under the new plan. I would’ve thought that since my itemized deduction was just $500 from the new, proposed standard deduction, my tax benefit would’ve basically been a wash. What am I missing that explains the tax decrease?
It’s hard to say without knowing your income. New tax code proposal is great for higher income individuals (due to lowering of rates) + elimination of AMT. Elimination of AMT alone saves me thousands.
Are you accounting for the higher proposed child credits?
Yes. But verify yourself. The proposed tax code is infinitely easier to code in Excel than the old one. It took me 5 minutes in Excel this morning. Calculations are in Columns AD – AF. Assumptions are in AD12:AF20. Dumb simple to calculate. Check my formulas in AD, AE, and AF. Should be pretty straight forward.
Would be interesting to add another line to the graph to show est number of families in each income bracket so it will show quantities of families impacted by how much thus an overall impact.
Seems like it is time to accelerate paying off the mortgage right?
Good feedback Rich.
Regarding accelerating paying off the mortgage, I wouldn’t do anything too drastic. The bill may fail horribly. If not, then indeed your cost of borrowing will transition from R*(1-effective marginal tax rate) to R as you transition from itemized deductions under the old plan to standard deduction under the new.
So, not that many families have 5 kids. For us not yet retired empty nesters, previously we would have had protection against $20,800 (zero bracket) for non itemizers – $12,700 for standard deduction plus $4050 *2 personal exemptions. Now this is $24,400. The $600 in tax credits protects against some additional income, varying by bracket. What is different is the huge size of the first non-zero bracket ($90K). ($4050 might not be the exact number for 2017). Families with kids under 17 do see larger advantages as your math shows. What is good about this plan is that we may be able to extract more from tax advantage retirement accounts at low rates before RMD sets in.
Ok, so I checked your calculations as proposed.
You seem to be subtracting the $300 credit per adult in household and CTC even if the tax owed is less then the credit.
This credit is nonrefundable in my understanding.
I fixed it to this:
=MAX([@[Taxes Owed Before Credit]]-num_kids_at_home*600-(num_people_in_family-num_kids_at_home)*$AE$12,0)-num_kids_at_home*1000
You’re correct that I’m coding this as refundable. I coded it as such since we know little about how the ETIC will be structured. As you see in the sheet as currently coded, the proposed tax changes look less generous to the poor than the current tax code, which is unlikely.
But good on you for digging into the formulas. It is not rocket science. Anyone should be able to spend 5 minutes to code this up themselves and understand the implications. I suppose the problem is understanding what their current tax liability is, as the current tax code is 100X more complicated than the proposed system.
FYI, the spreadsheet does not handle long term capital gains correctly for either the existing law, or the proposed bill. It looks like it treats them the same as short term capital gains, rather than using the LTCG rules.
I appreciate the heads up. The “bug” is well known and correctly advertised here: https://frugalprofessor.com/updated-tax-calculator/. I should have re-disclosed on this post as well.
I basically just made the original tax estimator sheet for fun at the hospital while my wife was in labor with our 5th child. I was interested in better understanding the tax maneuvers I could do to optimize the ACTC and the EITC. At the time, I had $0 in dividends and capital gains to worry about, so that didn’t make it into my sheet. This year I will have both cap gains & dividends, so I have a personal interest in updating the sheet correctly.
I was hoping that the sheet could be crowdsourced into something more useful. On the entirety of the internet I had yet to see something that so clearly and easily calculates tax liabilities across all income ranges for a given family size. TaxCaster comes close, but it’s only a snapshot for a particular value of income. TAXSIM comes close, but it has similar limitations to TaxCaster and is far less user friendly. But I wanted to create a tool to allow parents, in particular, to understand how wacky the tax code is once you account for all the phase ins and outs of the tax code.
Thanks again for keeping me honest.
Nice analysis. Looks like this is going to happen. Unfortunately, I live in very high tax state (highest property tax state) and my wife and I itemize. We’re net losers of around $10k.
Keith, thanks for the comment. Sorry to hear that you are net losers. It’s no fun to be on the negative side of reform.