The new tax year is a true game-changer for taxpayers and their advisers, as many fundamental, decades-old tax rules have been repealed or suspended, with many new ones going into effect. This article, the second of a series, highlights the tax changes that apply in 2018 to individuals relating to deferred compensation, tax-preferred accounts, retirement plans, estate and gift taxes, capital assets and investments, and disaster losses.
New deferral election for stock grants of startups. Generally effective for stock attributable to options exercised or restricted stock units (RSUs) settled after Dec. 31, 2017, a qualified employee can elect to defer, for income tax purposes, recognition of the amount of income attributable to qualified stock transferred to the employee by a qualified employer. (Code Sec. 83(i)) The election applies only for income tax purposes; the application of FICA and FUTA is not affected. If the election is made, the income has to be included in the employee’s income for the tax year that includes the earliest of five events, one of which is the first date on which any stock of the employer becomes readily tradable on an established securities market. (Code Sec. 83(i)(1)(B))
The new election applies for qualified stock of an eligible corporation. A corporation is treated as eligible for a tax year if:
- No stock of the employer corporation (or any predecessor) is readily tradable on an established securities market during any preceding calendar year, and
- The corporation has a written plan under which, in the calendar year, not less than 80% of all employees who provide services to the corporation in the US (or any US possession) are granted stock options, or restricted stock units (RSUs), with the same rights and privileges to receive qualified stock. (Code Sec. 83(i)(2)(C))
Detailed employer notice, withholding, and reporting requirements apply with regard to the election. (Code Sec. 83(i)(6))
ABLE account liberalizations. Effective for tax years beginning after Dec. 22, 2017, and before Jan. 1, 2026, after the overall limitation on contributions to ABLE accounts is reached (i.e., the annual gift tax exemption amount; for 2018, $15,000), an ABLE account’s designated beneficiary can contribute an additional amount, up to the lesser of
- The Federal poverty line for a one-person household; or
- The individual’s compensation for the tax year. (Code Sec. 529A(b))
Additionally, the designated beneficiary of an ABLE account can claim the saver’s credit under Code Sec. 25B for contributions made to his or her ABLE account. (Code Sec. 25B(d)(1))
For distributions after Dec. 22, 2017, amounts from qualified tuition programs (QTPs, also known as 529 accounts) may be rolled over to an ABLE account without penalty, provided that the ABLE account is owned by the designated beneficiary of that 529 account, or a member of such designated beneficiary’s family. (Code Sec. 529(c)(3)) Such rolled-over amounts are counted towards the overall limitation on amounts that can be contributed to an ABLE account within a tax year, and any amount rolled over in excess of this limitation is includible in the gross income of the distributee.
Expanded use of Sec. 529 accounts. For distributions after Dec. 31, 2017, “qualified higher education expenses” for purposes of the Code Sec. 529 rules, include tuition at an elementary or secondary public, private, or religious school, up to a $10,000 limit per tax year. (Code Sec. 529(c)(7))
Crackdown on recharacterizations. For tax years beginning after Dec. 31, 2017, the rule that allows a contribution to one type of IRA to be recharacterized as a contribution to the other type of IRA does not apply to a conversion contribution to a Roth IRA. Thus, recharacterization cannot be used to unwind a Roth conversion. (Code Sec. 408A(d))
Observation: Although the effective date for the provision eliminating the election to unwind such a conversion is stated as being for tax years beginning after Dec. 31, 2017, there has been some speculation among tax professionals that the ability to make such an election to unwind may be able to be made up to the date that a return is due. Simply put, the interpretation at issue is: does the effective date (i.e., before 2018) refer to the tax year when the recharacterization is made, or the tax year when the unwinding occurs?
Liberalized rules for awards to volunteers. For tax years beginning after Dec. 31, 2017, the aggregate amount of length of service awards that may accrue for a bona fide volunteer with respect to any year of service, is increased from $3,000 to $6,000. (Code Sec. 457(e))
Extended rollover period for plan loan offset amounts. For plan loan offset amounts which are treated as distributed in tax years beginning after Dec. 31, 2017, the period during which a qualified plan loan offset amount may be contributed to an eligible retirement plan as a rollover contribution is extended from 60 days after the date of the offset to the due date (including extensions) for filing the Federal income tax return for the tax year in which the plan loan offset occurs—that is, the tax year in which the amount is treated as distributed from the plan. A qualified plan loan offset amount is a plan loan offset amount that is treated as distributed from a qualified retirement plan, a Code Sec. 403(b) plan, or a governmental Code Sec. 457(b) plan solely by reason of the termination of the plan or the failure to meet the repayment terms of the loan because of the employee’s separation from service, whether due to layoff, cessation of business, termination of employment, or otherwise. A loan offset amount is the amount by which an employee’s account balance under the plan is reduced to repay a loan from the plan. (Code Sec. 402(c))
Estate & gift tax exemption increased. For estates of decedents dying and gifts made after Dec. 31, 2017 and before Jan. 1, 2026, the base estate and gift tax exemption amount is doubled from $5 million to $10 million. (Code Sec. 2010(c)(3)) The $10 million amount is indexed for inflation occurring after 2011 and is expected to be approximately $11.2 million in 2018 ($22.4 million per married couple).
New holding period requirement for carried interest. Effective for tax years beginning after Dec. 31, 2017, there’s a 3-year holding period requirement in order for certain partnership interests received in connection with the performance of services to be taxed as long-term capital gain. (Code Sec. 1061) If the 3-year holding period is not met with respect to an applicable partnership interest held by the taxpayer, the taxpayer’s gain will be treated as short-term gain taxed at ordinary income rates. (Code Sec. 1061(a))
Capital asset treatment barred for certain self-created property. Effective for dispositions after Dec. 31, 2017, the definition of a “capital asset” does not include patents, inventions, models or designs (whether or not patented), and secret formulas or processes, which are held either by the taxpayer who created the property or by a taxpayer with a substituted or transferred basis from the taxpayer who created the property (or for whom the property was created). (Code Sec. 1221(a)(3))
Like-kind exchange crackdown. Generally effective for transfers after Dec. 31, 2017, gain on like-kind exchanges is deferred only with respect to real property that is not held primarily for sale. However, under a transition rule, the prior-law like-kind exchange rules continue to apply to exchanges of personal property if the taxpayer has either disposed of the relinquished property or acquired the replacement property on or before Dec. 31, 2017. (Code Sec. 1031)
Repeal of rollover of publicly traded securities gain into specialized SBICs. For sales after Dec. 31, 2017, the tax-favored rollover under former Code Sec. 1033 of publicly traded securities gain into specialized SBICs is repealed.
Broadened incentives for Qualified Opportunity Zone investment. Effective on Dec. 22, 2017, a new rule provides temporary deferral of inclusion in gross income for capital gains reinvested in a qualified opportunity fund and the permanent exclusion of capital gains from the sale or exchange of an investment in the qualified opportunity fund. (Code Sec. 1400Z-2, as added by Act Sec. 13823)
Deductions for net disaster losses. For any tax year beginning after Dec. 31, 2017, and before Jan. 1, 2026, an individual’s standard deduction is increased by the net disaster loss. (Tax Cuts and Jobs Act Sec. 11028(c)(1)(C)) Additionally, if any individual has a net disaster loss for any tax year beginning after Dec. 31, 2017 and before Jan. 1, 2026, the AMT adjustment for the standard deduction doesn’t apply to the increase in the standard deduction that is attributable to the net disaster loss. (Tax Cuts and Jobs Act Sec. 11028(c)(1)(D))
A net disaster loss is the excess of
- Qualified disaster-related personal casualty losses, over
- Personal casualty gains.
“Qualified disaster-related personal casualty losses” are those described in Code Sec. 165(c)(3) that arise in a 2016 disaster area, namely any area with respect to which a major disaster was declared by the President under section 401 of the Robert T. Stafford Disaster Relief and Emergency Assistance Act during calendar year 2016. (Tax Cuts and Jobs Act Sec. 11028(a))