Over the past year, you have heard it in the news about the new updates to the tax system and some of you this year’s tax season might have been a surprise since you found that they had more to pay in taxes than last year or they received fewer refunds from the Internal Revenue Service (IRS).
Like most of you, I have been closely following these reforms because they affect me. The refund check is lower this year than it was last year and it seems the more we progress into the future, the harder it gets, even though some taxpayer report their financial circumstances haven’t changed since filing with the IRS in 2018. In more than 30 years, the Tax Cuts and Jobs Act is the first major change the country has seen. And while the Government argues that many of these new rules are expected to benefit the taxpayer, you’ll agree to the opposite of that. The first tax-filing season pushed the upper middle class (people making between $100,000 – $250,000) to become less likely to receive refunds and more likely to owe money with their returns.
According to IRS statistics, this year’s tax filing season in more than one way looked similar to last years in that 79% of the taxpayers got their refunds averaging $2879, slightly down from 80% an average of $2,908 in 2018. However, if you dig a little deeper, you will find that these figures mask some significant variations by income.
The difference in Income Brackets and Marginal Tax Rates
These are just some preliminary tallies and they only provide the first hard data from the government about the actual refunds, deductions and the taxes reported at various levels in the new tax system. The income tax brackets and the marginal tax rates were perhaps one of the most talked about changes in the 2018 tax reform. But the problem is, many taxpayers are still in the dark, they are not sure how the new changes affect them according to Betterment. So, what are Marginal Tax Rates? These are the percentages of your income that you pay in taxes. And it means that your income is not taxed at one rate but at several different rates, depending on your income.
Tax refunds reconcile you owe with what you paid throughout the year. They affect how people relate the tax system with their expenditure, but they are totally different from the tax cuts. Under the new law passed in December 2017, about two-thirds of households are eligible for tax cuts. According to the Tax Policy Center, about 6% paid more. The tax cut showed up in the take-home pay, not just in refunds as IRS changed the paycheck withholding tables in early 2018.
What most people don’t know about the income brackets and the tax rates is that it is fairly common for tax brackets to change to account for inflation each year, but the marginal tax rates only change when a new tax law is passed. That explains why people were particularly interested in this part of the tax reforms. But the question is, is this a good or a bad thing? It depends on how you feel about Trump’s presidency. However, this year for most, the reform will work in their favor. A lower marginal tax rates meaning you get to pocket more money from your paycheck! If you happen to be one of those people with smaller refunds, you probably noticed that you paid less in taxes thanks to the new law.
Let’s get realistic and impartial about these reforms. I still don’t know why the changes to the tax have remained underwater, not even in the public polls. Nobody wants to talk about it, because they are confused about these changes and the effects. An April poll by Gallup found that 14% of Americans thought that the reform meant their taxes went down. Individually, how the reforms have been felt depending on factors such as the filing status, income levels, and deductions, people in the higher spectrum of the income bracket might have paid more in taxes this year. In addition, fresh data show that while the refund status for the low- and middle-income earners didn’t change, real movement occurred as you approached the upper end of the income distribution.
The outcry is from the people who owed money at the tax time. The IRS gave partial relief from the penalties that apply to those who underpaid during the year. As a result, fewer people owed penalties, but those who did were hit harder. Thus, the IRS has collected 24% more in penalties from 11% fewer returns.
Impact on Standard deductions
One other change brought forth by the reform is the fact that the bill has made the standard deduction almost double. The standard deduction is an automatic reduction in what you owe in taxes. Most of you are familiar with the concept that when paying taxes, you have the option of taking the standard deduction or itemizing your deductions. Itemizing option means you calculate your deduction
one by one; most people don’t like it because it is a hassle, but it’s worth it if the itemized deductions exceed the amount of the standard deduction.
|Filing status||2017 standard deduction||2018 standard deduction|
|Married Filing Jointly||$12,700||$24,000|
|Married Filing Separately||$6,350||$12,000|
|Head of Household||$9,350||$18,000|
Looking at the data, it would make it instant to disqualify the itemizing option, the figures above are so attractive, but there’s another piece of the puzzle.
The 2018 tax reform got rid of the personal exemptions. In 2017 these were about $4,050 per dependent and per tax filer. Therefore, a couple filing jointly with no dependents who made at least $100,000 received $12,700 in standard deductions and $8,100 in personal exemptions, leaving them with a taxable income of $79,200. In 2018, the same couple will receive a $24,000 standard deduction and no personal exemptions, leaving a taxable income of $24,000.
In some way, the tax reform simplified this part of the tax process. Evidently, the higher the standard deductions, the higher the chances of eliminating personal exemptions, thus more money for the taxpayer.
For the upper-class income households, change to the alternative minimum tax was one of the largest tax cut. This is a parallel tax system that features lower top tax rates and also disallows some deductions including the state and the local taxes. The taxpayers subject to it calculate their liability under the regular system and the AMT and pay whichever is larger. Before the reforms, AMT was the predominant tax system for the households making between $250,000 and $500,000 and it showed up on 80% of returns in the prior year’s mid-May data. Now, it is virtually gone for households making under $1 million. For every 62 AMT payers in 2018, there is one in 2019.
The difference for Homeowners
Back in 2017, if you itemized your deductions, IRS would allow you to deduct interest paid on your primary or second residence as long as the original mortgage principle did not exceed $1 million. Under the new reform, the maximum mortgage principle was lowered to $750,000, however, the taxpayers with an existing mortgage in between $1 million and $750, 000 will be under the old deduction. Also, something important to note is that before this year, homeowners were allowed to deduct interest paid on the home equity debt, up to $100,000, the tax reform removed that deduction.
The tax reforms are one thing that I personally think the government has got right whether short term or into the foreseeable future. What that Act has done is that it has made progressive income taxes more regressive, meaning lower taxes for everyone, however, the upper class as always gets to enjoy the most. I like the expansion the Act has brought in the standard deduction and I am sure 6 million taxpayers are set to benefit from this, that’s about 47.5% of all tax filers.
The Joint Committee on Taxation says that the Act will increase growth by 0.7% annually, reducing some of the revenue loss from $1.5 trillion in tax cuts. The U.S. Treasury reported that the Act would bring in $1.8 in revenue and projects economic growth of 2.9% a year on average. However, I think the Treasury overestimates the data because it assumes that the rest of the Trumps plan will be implemented.
The tax cuts seem to be working for most people, but I will side with the JCT projections as they only analyze the cost of the tax cuts themselves. Clearly, tax cuts increase the debt and the burden will eventually be on the ordinary taxpayers. The impact of the $21 trillion national debt will eventually be higher forcing the future Congress to extend tax cuts to 2025. The eventuality of what’s happening now will dampen future economic growth. I wouldn’t be happy now because of the tax cut because we are creating a problem now that its consequences will be felt by future generations. This is especially true if the ration of debt to GDP is near 77% according to the world bank. We don’t want to cross that line. The World Bank found that every percentage addition above this level costs the country 1.7% in growth. Before the tax cuts, the U.S. debt-to-GDP ratio was 104%.
I imagine the government is trying to implement the same tax strategies applied during the Bush tenure. Supply-side economics hold this theory to be true that tax cuts increase growth. However, the Treasury department analyzed the impacts of the Bush Tax Cuts and found them to work only in the short term.
Since the tax rates were not prohibitive, their benefits will not be felt to boost consumerism and economic growth. More so, since these changes occurred during the expansive phase, they will not generate many new jobs. The Act will significantly change personal and corporate taxes with the corporate benefitting more since their cut will be permanent. More burden is to the ordinary taxpayer.
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Eric Lawrence Frazier MBA
Vice President and Mortgage Advisor of First Bank
President and CEO of The Power Is Now Media Inc.
https://www.facebook.com/thebalancecom. “Republicans Economic Views and How They Work in the Real World.” The Balance, 2017.