Tax reform included major changes to gift and estate taxes. The new laws significantly reduces the number of taxpayers who will be subject to gift and estate taxes, at least for the next several years, but factoring taxes into your estate planning is still important if you live in a state with an estate tax.

Exemption increases

The Tax Cuts and Jobs Act (TCJA) more than doubles the combined gift and estate tax exemption and the generation-skipping transfer (GST) tax exemption, from $5.49 million for 2017 to $11.18 million for 2018.

This amount will continue to be annually adjusted for inflation through 2025. Absent further congressional action, however, the exemptions will revert to their 2017 levels (adjusted for inflation) for 2026 and beyond.

The rate for all three taxes remains at 40% — only three percentage points higher than the top income tax rate.

The impact

Even before the TCJA, the majority of taxpayers did not have to worry about federal gift and estate taxes. While the TCJA protects even more taxpayers from these taxes, those with estates in the roughly $6 million to $11 million range (twice that for married couples) still need to keep potential post-2025 estate tax liability in mind in their estate planning. Although their estates would escape estate taxes if they were to die while the doubled exemption is in effect, they could face such taxes if they live beyond 2025.

Taxpayers who could be subject to gift and estate taxes after 2025 may want to consider making gifts now to take advantage of the higher exemptions while they’re available.

Income tax planning, which became more important than estate planning back when exemptions rose to $5 million more than 8 years ago, is now an even more important part of estate planning.

For example, holding assets until death may be advantageous if estate taxes are not a concern. When you give away an appreciated asset, the recipient takes over your tax basis in the asset, triggering capital gains tax should he or she turn around and sell it. When an appreciated asset is inherited, on the other hand, the recipient’s basis is “stepped up” to the asset’s fair market value on the date of death, erasing the built-in capital gain. In this scenario, retaining appreciating assets until death can save significant income tax.

Be aware that many states impose estate tax at a lower threshold than the federal government does.

Whether you need to be concerned about federal gift and estate taxes, having an estate plan in place and reviewing it regularly is important.

The Tax Cuts and Jobs Act (TCJA) initially seemed to eliminate the popular meal expense deduction for businesses in some situations. The IRS has since issued transitional guidance — while it works on proposed regulations — that confirms the deduction remains allowable in certain circumstances and clarifies when businesses can claim it.

The need for guidance

Before the TCJA, the tax code generally prohibited deductions for expenses related to entertainment, amusement or recreation (commonly referred to as entertainment expenses). It provided exceptions, though, for entertainment expenses “directly related” to or “associated” with conducting business.

The code further limited deductions for food and beverage expenses that satisfied one of the exceptions. A deduction was allowed only if 1) the expense was not lavish or extravagant under the circumstances, and 2) the taxpayer (or an employee of the taxpayer) was present when the food or beverages were furnished. The amount of the deduction was limited to 50%.

Tax reform revised the tax code to disallow a deduction for expenses related to entertainment expenses, regardless of whether they are directly related to or associated with conducting business. Some taxpayers interpreted the amendment to ban deductions for business meal expenses as though they were deemed to be entertainment expenses. According to the new guidance, though, the law does not specifically eliminate all of these expenses.

Rather, the law merely repeals the two exceptions and amends the 50% limitation to remove the reference to entertainment expenses. The TCJA does not address the circumstances in which providing food and beverages might constitute nondeductible entertainment, the IRS says, but its legislative history “clarifies that taxpayers generally may continue to deduct 50% of the food and beverage expenses associated with operating their trade or business.”

Deductibility requirements

Until the IRS publishes its proposed regulations explaining when business meal expenses are nondeductible entertainment expenses and when they are 50% deductible expenses, businesses may deduct 50% of business meal amounts if:

  1. The expenses are ordinary and necessary expenditures paid or incurred to carry on business,
  2. The expenses are not lavish or extravagant under the circumstances,
  3. The taxpayer (or an employee of the taxpayer) is present at the furnishing of the food or beverages,
  4. The food and beverages are provided to current or potential customers, clients, consultants or similar business contacts, and
  5. For food and beverages provided during or at an entertainment activity, the entertainment is purchased separately from the food and beverages or the cost of the food and beverages is stated separately from the cost of the entertainment on one or more bills, invoices or receipts.

The IRS recognized that the fifth criterion above could create some confusion. The guidance, therefore, includes illustrative examples.

In the first example, a taxpayer invites a business contact to a baseball game, paying for both tickets. While at the game, the taxpayer also pays for hot dogs and drinks. The game is entertainment, so the cost of the tickets is a nondeductible entertainment expense. However, the cost of the hot dogs and drinks, purchased separately from the tickets, isn’t an entertainment expense. Therefore, the taxpayer can deduct 50% of the cost as a meal expense.

The second example employs a similar scenario, with the taxpayer inviting a contact to a basketball game. This time, though, the taxpayer buys tickets to watch the game from a suite, with access to food and beverages included. The game again represents entertainment, and the cost of the tickets is nondeductible. The cost of the food and beverages is not stated separately on the invoice, rendering it a disallowed entertainment expense, as well.

The final example uses the scenario above, except that the cost of the food and beverages is stated separately on the invoice for the basketball game tickets. The cost of the tickets remains nondeductible, but the taxpayer can deduct 50% of the cost of the food and beverages.

Nondeductible entertainment

TCJA does not change the definition of “entertainment.” Under the applicable regulations, the term continues to include, for example, entertaining at:

Entertainment also includes hunting, fishing, vacation and similar trips. It may include providing food and beverages, a hotel suite or an automobile to a customer or the customer’s family.

Be aware that the determination of whether an activity is entertainment considers the taxpayer’s business. For example, a ticket to a play normally would be deemed entertainment. If the taxpayer is a theater critic, however, it would not. Similarly, a fashion show would not be considered entertainment if conducted by an apparel manufacturer to introduce its new clothing line to a group of store buyers.

Request for comments

The IRS has requested comments on future guidance clarifying the treatment of business meal expenses and entertainment expenses, including input on whether and what additional guidance is required and the definition of “entertainment.” Businesses should submit comments to the IRS by December 2, 2018. If you have questions on how this guidance may affect your business, contact your tax professional.

Because donations to charity of cash or property generally are tax deductible (if you itemize), it only seems logical that the donation of something even more valuable to you — your time — would also be deductible. Unfortunately, that is not the case; however, you can potentially deduct out-of-pocket costs associated with your volunteer work.

The basic rules

As with any charitable donation, for you to be able to deduct your volunteer expenses, the first requirement is that the organization be a qualified charity. You can use the IRS’s Tax Exempt Organization Search tool to find out.

Assuming the charity is qualified, you may be able to deduct out-of-pocket costs that are:

Supplies, uniforms and transportation

A wide variety of expenses can qualify for the deduction. For example, supplies you use in the activity may be deductible. As well as, the cost of a uniform you must wear during the activity may also be deductible (if it is required and not something you wear when not volunteering).

Transportation costs to and from the volunteer activity generally are deductible, either the actual cost or 14 cents per charitable mile driven, but you have to be the volunteer. If, say, you drive your elderly mother to the nature center where she is volunteering, you cannot deduct the cost.

You also cannot deduct transportation costs you would incur even if you were not volunteering. For example, if you take a commuter train downtown to work, then walk to a nearby volunteer event after work and take the train back home afterwards, you will not be able to deduct your train fares. But, if you take a cab from work to the volunteer event, then you potentially can deduct the cab fare for that leg of your transportation.

Volunteer travel

Transportation costs may also be deductible for out-of-town travel associated with volunteering. This can include:

Lodging and meal costs also might be deductible.

The key to deductibility is that there is no significant element of personal pleasure, recreation or vacation in the travel. That said, according to the IRS, the deduction for travel expenses will not be denied simply because you enjoy providing services to the charitable organization. But you must be volunteering in a genuine and substantial sense throughout the trip. If only a small portion of your trip involves volunteer work, your travel expenses generally will not be deductible.

Volunteer Time

Donations of time or services are not deductible. It does not matter if it is simple administrative work, such as checking in attendees at a fundraising event, or if it is work requiring significant experience. Regardless of the service being costlier to the charity if it had to pay for it, such as skilled carpentry or legal counsel, this volunteered time is still not deductible.

Keep careful records

The IRS may challenge charitable deductions for out-of-pocket costs, so it is important to keep careful records. If you have questions about what volunteer expenses are and are not deductible, please contact your tax adviser.

Do you own a vacation home? If you both rent it out and use it personally, you might save tax by taking steps to ensure it qualifies as a rental property this year. Vacation home expenses that qualify as rental property expenses are not subject to the Tax Cuts and Jobs Act’s (TCJA’s) new limit on the itemized deduction for state and local taxes (SALT) or the lower debt limit for the itemized mortgage interest deduction.

Rental or personal property?

If you rent out your vacation home for 15 days or more, what expenses you can deduct depends on how the home is classified for tax purposes, based on the amount of personal vs. rental use:

Rental property. If you (or your immediate family) use the home for 14 days or less, or under 10% of the days you rent out the property, whichever is greater, the IRS will classify the home as a rental property. You can deduct rental expenses, including losses, subject to the real estate activity rules.

Your deduction for property tax attributable to the rental use of the home is not subject to the TCJA’s new SALT deduction limit and your deduction for mortgage interest on the home is not subject to the debt limit that applies to the itemized deduction for mortgage interest. You cannot deduct any interest that is attributable to your personal use of the home, but you can take the personal portion of property tax as an itemized deduction (subject to the new SALT limit).

Nonrental property. If you (or your immediate family) use the home for more than 14 days or 10% of the days you rent out the property, whichever is greater, the IRS will classify the home as a personal residence. You can deduct rental expenses only to the extent of your rental income. Any excess can be carried forward to offset rental income in future years.

If you itemize deductions, you also can deduct the personal portion of both property tax and mortgage interest, subject to the TCJA’s new limits on those deductions. The SALT deduction limit is $10,000 for the combined total of state and local property taxes and either income taxes or sales taxes ($5,000 for married taxpayers filing separately). For mortgage interest debt incurred after December 15, 2017, the debt limit (with some limited exceptions) has been reduced to $750,000.

Be aware that many taxpayers who have itemized in the past will no longer benefit from itemizing because of the TCJA’s near doubling of the standard deduction. Itemizing saves tax only if total itemized deductions exceed the standard deduction for the taxpayer’s filing status.

Year-to-date review

Keep in mind that, if you rent out your vacation home for less than 15 days, you do not have to report the income; but expenses associated with the rental (such as advertising and cleaning) are not to be deductible.

Now is a good time to review your vacation home use year-to-date to project how it will be classified for tax purposes. By increasing the number of days you rent it out and/or reducing the number of days you use it personally between now and year end, you might be able to ensure it is classified as a rental property and save some tax. Also, there could be circumstances where personal property treatment would be beneficial. Please contact your tax adviser to discuss your particular situation.

By and large, today’s employees expect employers to offer a tax-advantaged retirement plan. A 401(k) is an obvious choice to consider, but you may not be aware that there are a variety of types to choose from:

Traditional

Employees contribute on a pretax basis, with the employer matching all or a percentage of their contributions if it so chooses. Traditional 401(k)s are subject to rigorous testing requirements to ensure the plan is offered equitably to all employees and does not favor highly compensated employees (HCEs).

In 2018, employees can defer a total amount of $18,500 through salary reductions. Those age 50 or older by year end can defer an additional $6,000.

Roth

Employees contribute after-tax dollars but take tax-free withdrawals (subject to certain limitations). Other rules apply, including that employer contributions can go into only traditional 401(k) accounts, not Roth 401(k)s. Usually a Roth 401(k) is offered as an option to employees in addition to a traditional 401(k), not instead of the traditional plan.

The Roth 401(k) contribution limits are the same as those for traditional 401(k)s. But this applies on a combined basis for total contributions to both types of plans.

Safe harbor

For businesses that may encounter difficulties meeting 401(k) testing requirements, this could be a solution. Employers must make certain contributions, which must vest immediately. But owners and HCEs can maximize contributions without worrying about part of their contributions being returned to them because rank-and-file employees have not been contributing enough.

To qualify for the safe harbor election, the employer needs to either contribute 3% of compensation for all eligible employees, even those who don’t make their own contributions, or match 100% of employee deferrals up to the first 3% of compensation and 50% of deferrals up to the next 2% of compensation. The contribution limits for these plans are the same as those for traditional 401(k)s.

Savings Incentive Match Plan for Employees (SIMPLE)

If your business has 100 or fewer employees, consider one of these. As with a Safe Harbor 401(k), the employer must make certain, immediately vested contributions, and there is no rigorous testing.

This has been but a brief look at these types of 401(k)s. Contact your financial adviser for more information on each, as well as guidance on finding the right one for your business.

Converting a traditional IRA to a Roth IRA can provide tax-free growth and tax-free withdrawals in retirement, but what if you convert your traditional IRA — subject to income taxes on all earnings and deductible contributions — and then discover you would have been better off if you left it as a traditional IRA?

Before the Tax Cuts and Jobs Act (TCJA), you could undo a Roth IRA conversion using a “recharacterization.” Effective with 2018 conversions, the TCJA prohibits recharacterizations. If you executed a conversion in 2017, you may still be able to undo it.

Reasons to recharacterize

Generally, if you converted to a Roth IRA in 2017, you have until October 15, 2018, to undo it and avoid the tax hit.

Here are some reasons you might want to recharacterize a 2017 Roth IRA conversion:

If you recharacterize your 2017 conversion but would still like to convert your traditional IRA to a Roth IRA, you must wait until the 31st day after the recharacterization. If you undo a conversion because your IRA’s value declined, there is a risk that your investments will bounce back during the waiting period, causing you to reconvert at a higher tax cost.

Recharacterization in action

Sally had a traditional IRA with a balance of $100,000 when she converted it to a Roth IRA in 2017. Her 2017 tax rate was 33%, so she owed $33,000 in federal income taxes on the conversion.

However, by August 1, 2018, the value of her account had dropped to $80,000. So Sally recharacterizes the account as a traditional IRA and amends her 2017 tax return to exclude the $100,000 in income.

On September 1, she reconverts the traditional IRA, whose value remains at $80,000, to a Roth IRA. She will report that amount when she files her 2018 tax return. The 33% rate has dropped to 32% under the TCJA. Assuming Sally is still in this bracket, this time she’ll owe $25,600 ($80,000 × 32%) — deferred for a year and resulting in a tax savings of $7,400.

(Be aware that the thresholds for the various brackets have changed for 2018, in some cases increasing but in others decreasing. This, combined with other TCJA provisions and changes in your income, could cause you to be in a higher or lower bracket in 2018.)

Know your options

If you converted a traditional IRA to a Roth IRA in 2017, it is worthwhile to see if you could save tax by undoing the conversion. If you are considering a Roth conversion in 2018, keep in mind that you will not have the option to recharacterize. See your financial adviser whether recharacterizing a 2017 conversion or executing a 2018 conversion makes sense for you.

For tax years beginning in 2018 and beyond, the Tax Cuts and Jobs Act (TCJA) created a flat 21% federal income tax rate for C corporations. Under prior law, C corporations were taxed at rates as high as 35%. The TCJA also reduced individual income tax rates, which apply to sole proprietorships and pass-through entities, including partnerships, S corporations, and, typically, limited liability companies (LLCs). The top rate, however, dropped only slightly, from 39.6% to 37%.

On the surface, that may make choosing C corporation structure seem like a no-brainer, but there are many other considerations involved.

Conventional wisdom

Under prior tax law, conventional wisdom was that most small businesses should be set up as sole proprietorships or pass-through entities to avoid the double taxation of C corporations: C corporations pay entity-level income tax and then shareholders pay tax on dividends — and on capital gains when they sell the stock. For pass-through entities, there is no federal income tax at the entity level.

Although C corporations are still potentially subject to double taxation under the TCJA, their new 21% tax rate helps make up for it. This issue is further complicated, however, by another provision of the TCJA that allows noncorporate owners of pass-through entities to take a deduction equal to as much as 20% of qualified business income (QBI), subject to various limits. But, unless Congress extends it, the break is available only for tax years beginning in 2018 through 2025.

No one-size-fits-all answer applies when deciding how to structure a business. The best choice depends on your business’s unique situation and your situation as an owner. Your tax adviser can help you evaluate your options.

Charitable giving may help some filers reduce tax liability, particularly for high-income earners or those who have itemize deductions in excess of the new standard deduction. This 18 minute webinar shares a brief overview of tax reform and illustrates three approaches to planning for charitable giving.

As the new tax bill worked its way through Congress last fall, nonprofits across the country raised their voices high to share concerns about its disincentives for charitable donations — as well as the proposed repeal of the Johnson Amendment. Little was heard, though, about changes to the rules for unrelated business income tax (UBIT). It turns out that the final law, the Tax Cuts and Jobs Act (TCJA), includes several provisions that have the potential to boost your organization’s liability for the tax, regardless of whether you operate an unrelated business.

Why your UBI may grow

The most important change relates to how unrelated business income (UBI) is computed. The new law requires nonprofits to calculate UBI separately for each unrelated business, with the $1,000 deduction typically allowed applied to the aggregate UBI for all businesses.

Your UBI also can increase because net operating losses (NOLs) can only be claimed against future income from the specific business that generated the loss. Under previous law, you could use NOLs from one business to offset the income of another or to offset gains from alternative investments or pass-through entities, also considered UBI.

UBI also might grow due to a change in how certain fringe benefits are treated under the TCJA. In previous years, you could provide your employees qualified transportation benefits (including commuter transportation and transit passes), qualified parking fringe benefits and on-site athletic facilities free of income tax for both you and employees.

The TCJA, however, treats the payments for such benefits as UBI unless they are directly connected to an unrelated business (for example, parking benefits provided employees of an unrelated business). Congress made the change to create parity between nonprofits and taxable organizations. For-profit businesses lost a previous tax exemption for certain fringe benefits under the TCJA. The end result, though, is that nonprofits may owe UBIT even without operating any unrelated businesses.

It’s not all bad news. The new law also changes the corporate tax rate that nonprofits pay on UBI to 21% from a range of 15% to 35%. In some cases, a nonprofit’s UBIT liability might fall despite your higher UBI.

What you can do

Fortunately, you have some options to avoid the worst effects of these changes. For example, you may conduct an audit of your unrelated businesses. You might find that you have been over-reporting your UBI because you have not captured all the related business expenses.

Another option for nonprofits with multiple unrelated businesses is forming a single taxable corporate subsidiary to hold all of them, which would permit you to again offset their income and losses. Any restructuring will likely carry some implications, whether tax-related, financial or operational.

Act now

Changes to the UBIT rules have not received as much coverage as some of the other TCJA provisions, but they may impact your organization. Consult with your CPA to determine steps you can take to minimize the impact of tax reform on your bottom line.

Raffles: Follow the rules of the game

If your organization anticipates raising big amounts with a raffle at your next fundraising event, you might want to step back and revisit your assumptions. States vary, but in the State of Colorado you must apply for a State Bingo-Raffle License. The IRS has new rules related to unrelated business income (UBI) and raffle income may be subject to UBI tax. Learn what you need to know before you place all your bets on this event.

A Colorado hospital is denied a tax break

The Children’s Hospital of CO sought a property tax exemption for its day care center, which gave tuition discounts to some clients. The CO Court of Appeals affirmed the Board of Assessment Appeals’ denial, stating the center didn’t meet the statutory requirements for an exemption. One reason: It wasn’t used strictly for charity. Also, tuition discounts were the same for everyone below the federal poverty line, and not “on the basis of ability to pay.”