Three Ways To Cash In On The New Tax Plan Before The End Of The Year

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Clients often ask us for tips on how they can avoid paying Federal Income Taxes. Typically, we refer these folks to their financial and tax advisors for advice. This year has been an unusual year and we have had the opportunity to speak to many of our friends in financial advising and accounting on the subject of smart tax strategies for 2018. This newsletter briefly explores three strategies that have come up most often for our clients to benefit from the new 2018 tax law.

IRA - Roth IRA Conversion

October’s low tax rates and stock-market decline form a perfect storm for Roth conversion. A Roth conversion happens when a taxpayer changes an IRA (which was funded with pre-tax dollars) into a Roth IRA (which is funded with post-tax dollars). The conversion happens by paying taxes on the IRA funds at today’s rates.

Here’s a quick primer of these accounts, what they mean, and how they are different. Since 1974, Congress has allowed taxpayers to take some money each year, put that into a special Individual Retirement Account (IRA) and then deduct the amount deposited into the IRA from annual income when tax time comes the next April. The funds then grow until retirement and neither the contribution nor its gains are taxed while in the account. At retirement, the deposits and their gains are taxed as ordinary income when withdrawn from the IRA. To ensure that the money does not grow tax-free forever, Congress created a Required Minimum Distribution (RMD) schedule that requires a taxpayer to take funds out of an IRA on a schedule that begins at age 70 ½ and ends over age 110. The short summary of an IRA’s taxation is you save taxes at the time of deposit then pay taxes later on what you deposited and on its growth.

Roth IRAs are named for the Delaware Senator that championed the idea, William Roth. A Roth IRA also allows for tax-free growth but differs from traditional IRAs in one important respect: the depositor pays tax on the contribution at the time of deposit but does not report either the deposit or its growth at the time of withdrawal. Since the depositor expects the money to grow substantially over the lifetime of the Roth IRA, the tax benefit in not paying taxes on gains can be substantial over time. Roth IRAs have no RMDs for the initial depositor and can be accessed earlier than retirement age more easily than a traditional IRA.

A person converts a traditional IRA to Roth IRA by transferring the funds from one account to another and paying income taxes on the transferred funds in the year of transfer at that person’s Federal Income Tax rate. In deciding whether to convert an IRA, one weighs a couple of factors:

  • Their current tax rate versus their tax rate when they are in retirement;
  • The amount of gain expected on the IRA balance before it will be withdrawn;
  • Whether they will benefit from the lack of lifetime required minimum distributions (RMDs)that Roth IRAs offer; and
  • Whether they want to take out funds before retirement age without penalty.

Under the current tax bill, Federal Tax rates are at historic lows. To put this in context, when IRAs were created in 1974, the top Federal Income Tax rate was 70%. Under today’s law the Income Tax caps out at 37%. Further, given long-term projections of Federal deficits and spending, it seems likely that a future Congress will increase Federal Tax rates to balance the budget. Remember that the lowest Federal rates in modern times were passed in 1988 then immediately increased by the next Congress in 1990 amid ballooning deficits.

For many people, this is a great time to make a Roth IRA conversion. Let me finish this section with a warning: you should not casually convert an IRA - be sure to talk to your personal advisors and weigh your personal pros and cons before making a conversion.

Pay Off Your HELOC?

In the past, interest paid on second mortgages was deductible from income when calculating your Federal Income Taxes. Here, the term ‘second mortgage’ means a loan secured against a residence and may be branded as ‘home equity loans,’ ‘home equity lines of credit (HELOC)’, or ‘second mortgages.’ The new tax law limits the deductibility of second mortgages in two important ways:

First, the total mortgage balance is not deductible beyond $750,000 for a married joint return ($375,000 for a married separate return); and

Second, the money taken out must be used to improve that home.

The $750,000 limit applies to up to two personal residences and all relevant mortgages are aggregated to come up with the figure. This may affect our clients with property in Northern Virginia and at the Beach. Similar exemptions existed prior to the new law but were set higher at $1,000,000 joint filer/$500,000 separate.

The second criterion is more troubling. In the previous iteration, interest on loans taken against a residence were deductible without regard to the purpose for which a borrower used the proceeds. Now a borrower can only deduct interest if the funds borrowed are spent on home improvement for that home.

In conclusion, if your HELOC was taken out to pay off consumer debt, to purchase an automobile, to help pay for kids’ college or any other non-home improvement expense, you may want to consider paying the debt down as the interest is no longer deductible. Talk to your financial advisor or mortgage expert if this applies to you.

IRA Qualified Charitable Distributions

The new tax law increased personal exemptions which means many people who used to itemize their taxes will not be able to do so next year. For those who do not itemize their deductions, who are charitable inclined, and who are over age 70 ½, a Qualified Charitable Distribution may be of great use.

A Qualified Charitable Distribution allows a taxpayer to distribute up to $100,000 per year to a qualified charity. This distribution counts toward a person’s Required Minimum Distribution as well.

Therefore, for example, if you are of the proper age and were going to give ten thousand dollars to your favorite charity, you could make that gift from you IRA and avoid paying Federal Income Taxes on your IRA annual RMD.


Every new tax law closes old loopholes and opens new ones. There have been a lot of changes this year in Federal Taxes: some will benefit you and some may cost you. Be sure to talk to your personal tax and financial advisors about your situation and which options make the most sense for you.

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