 Hi, I'm Bob Howell at The Street, and I'm here with John Gassman from Gassman Financial Group, and we're talking about the House Republicans' tax reform plan, what stays, what goes, and how you might plan given what stays. John, welcome. Welcome, boy, that's a hot topic. The good, the bad, and the ugly about it. We have a lot to talk about, but we have a lot of time. I'm all yours, and we could debate all we like. We could debate all we want because one of us will be proven right or wrong, perhaps. Yeah, because this is not law yet. This is all proposed, and it's subject to change. Absolutely, and we always know from any tax legislation we've ever gone through, what's proposed to what ends up ultimately being the law could be black and white, could be totally different, could be gray. Right, so let's start with what's proposed before we get to black and white and gray. So some of the big things are the tax brackets. We have a narrowing down to four tax brackets, five, some people might say. So talk, walk us through these tax brackets and how they work. Well, you know, the problem is with the tax brackets, as we have now, we have quite a few, and the highest is 39.6. According to the proposed, well, whether it's really going to be 35 or there's going to be an uptick for the 39%, I think that's where we end up, and that's what ended up coming out in the House proposal is you're really going to end up with another 39.6 that surtax that'll apply for the millionaires. And, you know, the way they're looking at this is they haven't proposed all the brackets yet. So it's hard to say exactly what the impact is. But I think for a lot of people, based on just the brackets without the deductions, there'll be a lot more room for people to really reduce their tax burden considerably. So one of the things that the president and House Republicans have talked about is this notion that the average family will save somewhere around $1400 per household in taxes. Any thoughts? What's average to you is not average to me. You know, I deal with a lot of very high net worth individuals. So I think that spread may be a lot more in terms of tax savings, because as we talk about reducing capital gains rates, as we talk about, you know, maybe the reduction of the brackets, and at the same time the loss of some of the itemized deductions, I think we'll end up probably in the same place, or there may actually be for the uber-wealthy a tremendous tax cut. For the middle class, I don't think there's going to be much of a cut. I think they're going to actually owe more money overall, because the state's going to grab more money, social security is still going to grab more money. I don't think it's the panacea we are all painted, that the picture is painted as. That's a little bit dismal, but one thing that's not dismal though is the notion that AMT goes away, and as we've talked about, you know, the desire for tax simplification, this removal of AMT goes a long way towards simplifying things for people. Absolutely. You think about the AMT and what it's done, there are probably millions of people that are subject to the AMT, more so than the actual regular tax itself. And explain briefly what the AMT is for our listeners. So basically, the way it works is there are two systems, there are two parts to this tax system. There's working through the regular marginal tax brackets, you know, you work your way up and your income gets taxed at a certain rate, you know, and some of its tax at a 15 percent, a 20 percent, 30, 35, you know, so on and so forth, till 39 percent. The AMT basically says, listen, whatever you've done on the regular tax side, you have all this income, you've got all these deductions, medical expenses, real estate taxes, unibond interest, all of this. We're going to take away quite a bit of it, and we're going to give you a flat rate of tax. We're going to give you a basic exemption, right? And it's either 26 or 28 percent. So when you really think about it, what the AMT does is say you're in effectively paying 26 or 28 percent versus marginally, you may be in the 39 percent bracket, but your effective tax rate is really 28. So what happens is the AMT is there to catch people that are not paying in to the system enough tax. So by them doing away with that, it'll lower a lot of people's tax bills. But at the same time, what are they doing? They're taking away a lot of big deductions, state and local taxes. So for people that live in New York State, New York City, people that are living in California, people that are living in New Jersey, very high tax states to do away with that deduction, that's pretty significant. To cap real estate taxes at only 10 grand, that's going to lower your deductions. And you look at some of the other things, you can't deduct your medical, there's no casualty losses anymore, you can't deduct maybe your tax preparation fees, this will put accountants out of business. That's not a good thing for you. Well, I do mostly financial planning, so it's okay. But you know, the bottom line is the AMT is there to capture all these people that have not paid enough tax. And once they take that away, I think the tax will actually go lower. Interesting. So there are lots more things in the proposal, one of which is no change to capital gains and dividends. They still tax at the same rate as they were before. Correct. Very good for investors and that will allow investors to deploy their capital in more strategic ways. So I think keeping the capital gains rates, the rate will apply, will be different because again you walk up the brackets, there is a 0% capital gains bracket, there's a 15, there's a 20. But if they do away with the net investment income tax, that's a 3.8% Medicare tax, that's a big boom for investors. Right. On the Medicare surtax, so it really only affects about a very small number of Americans, right? I think the number is, I've heard maybe around 5 million or so, give or take. Well, I have 500 of those 5 million as clients and it affects every single one of them. So again, depending on what the average client is, our average is paying that tax. Yeah. Okay. So we mentioned standard deductions and I think what it's probably worth noting that the standard deduction is increasing from what it was as well as the child tax credit. Right. And for some people that's a good thing, right? Yeah, I think. They've never qualified for the itemized deductions. 100%. How many people really itemized deductions is kind of small, maybe it's 30% of the population that actually file an income tax claim some sort of itemized deduction, but for most of middle America, they're claiming a standard deduction and they're claiming exemptions. So when you take the standard deduction and you're taking the exemption, you're combining it now into this new proposed number, for those that have a lot of kids, it's going to hurt because they're not getting the benefit of all their children, all those dependency exemptions. For those that are, you know, married couple. You know, we had four kids, we benefited. We have four kids. Right. But remember, the AMT heard us because it did away with the deduction for it. So it got phased out. So again, depending on the client and their situation and their facts and circumstances will be the determining factor of whether or not this is good, bad, or ugly. So it's really a case of not making a blank statement about this is good for all Americans. You can't. Right. There's no way anybody can say that. Yeah. And no one can say necessarily who it's bad for in particular, except in certain cases. I think there are some general rules of thumb you could look at, but without knowing all the facts, it's too difficult to say at this point. Yeah. So let's go back to the some of the itemized deductions that we're losing where there's the limit on state and local tax. Like you mentioned, the high tax states will will not benefit. These are by and large lose states. Right. If you're living in Florida, you don't have to worry. Right. If you're living in New York state, New York City, where the tax rate could be like 12%, this is going to be very painful for a lot of people. Yeah. Yeah. I write about retirement. And one thing that I know is that for the older populations who are itemizing deductions and itemizing their medical expenses, this is going to be painful. This is going to be very painful. And I can't begin to share with you the number of clients that I have seen that do make significant money. But unfortunately, as they've aged, you know, long term care costs have affected them, you know, and that could be, you know, in the state of New York, you could be spending between 80 to 150,000 for long term care. Needs. And if you don't have a long term care policy and now you don't have that medical deduction, that's painful. And you're able to deduct that. You can deduct it. But you have to get your home health care. Absolutely. The thresholds and the limitations. Absolutely. And then you talk about Medicare premiums, you know, not just Medicare A, but the drug plans and everything else, those costs have gone up dramatically. And then for those that are purchasing long term care insurance, which is a deduction subject to certain limitations, that's getting more expensive. So to lose the ability to deduct all of these expenses, that's going to be felt by a lot of retirees. And what's sad about it from my perspective is we're now beginning to see all these studies come out and say how much one needs to have set aside at retirement to pay for retiree health care expenses, which is $250,000. Absolutely. Which they lose in deductions. 100%. And that, as I said, probably one of the most painful aspects for retiree. So mortgage interest goes away if you're your homeowner? Well, there's a cap on it. Right. So right now, you know, you could deduct a million dollars of mortgage interest plus home equity line of $100,000. According to the way the rules are proposed, anything after November 2nd, the cap is going to be reduced to 500,000 for primary residents, right? And there's no home equity loan interest that you could deduct anymore. So that's going away. So that will be grandfathered, you think? For those who have ELOX already? I'm cautiously optimistic and praying that yes, I believe that'll be okay. But it's for the new people that are buying places. And what that does is for the people that are buying vacation homes or second homes, that's going to have a major impact on their ability because how do most people buy a second home? With their home equity, right? They finance it, either home equity or they're taking out a second mortgage. Right. Now it can't deduct it, it's going to go away and it's going to affect the real estate market dramatically. Speaking of things that are affected dramatically, I think there's a provision in there about alimony not being deducted going forward. Right. And which I also imagine that it means that it's not being claimed as income either on the other side. Right. So people that were in a very high tax bracket that were getting a deduction, you know, and getting this big tax benefit, and they're paying their spouse who may be in a lower tax bracket, they're losing that tax arbitrage. Right. So that is going to probably create a lot of issues for those in having matrimonial issues and lawyers I would think would be jumping on this to protest this because it's a big part of the negotiation of how much is alimony, how much is child support. But now if it's all the same and there's nothing to it, it's going to be a problem. Right. So does that mean that in the future that folks, divorce lawyers and their accountants have to sort of look at equating what the pre-tax law effect would have been versus the post-tax effect to say, how do I equalize the alimony? Yeah. And that's always been an issue for matrimonial lawyers is looking at the assets first. How do you divvy up the assets? How do you equalize the assets? And then figuring out the payout from the working spouse to the non-working spouse to pay for support and other obligations. So it's going to be an interesting, we live in interesting times they say. Yeah. It's a great curse. But it keeps us in business. It's job security. Absolutely. Changes in the tax will keep all accounts in business. And financial journalists. So what about the 121 exclusion? We should explain what it means. So the 121 exclusion is basically, it's a provision in the tax code that allows someone or a single person or married couple that has lived in a home for two out of five years to basically exclude $500,000 or $250,000 of gain from taxation. Provided they've lived in their residence? Provided they've lived in it for a certain prerequisite, for a requisite period of time. Now they're changing that to five out of eight years. Longer. Right. So you have to, it's no longer two. Now you have to live in the house for five years. And that impacts those that have sort of flipped homes. Think of the person that has a vacation home. So they move from their primary to the vacation home. They live there for two years, and then they flip it. What do they do? They exclude the game because it's been a primary residence. Then they live in their primary residence two years. They flip that and they're done. So they've probably gotten a million dollars of tax relief, you know, tax benefit. Just by flipping homes. Right. So this provision is basically curtailing the flippers from being able to flip properties. And by doing that five more, five years, you have to live in the property. So that's one element of the provision. It does harm people though, right? Some people who honestly buy a home and have to go into a nursing home or sell their, or downsize or whatever the case might be. You know, it's interesting that you said that because there are provisions in section 121 that allow, under facts and circumstances, for people that maybe don't meet the prerequisite of two years, right? They don't meet that timeframe where they can still exclude a certain amount of it based on, you know, change in jobs, divorce, death. There are certain exceptions to the rule. I don't know whether or not that's going to continue. Well, that will prevail. So that's something that I think a lot of us have to look at. The other part of section 121 that's kind of fascinating is that once your income goes above $500,000, then the exclusion begins to get phased out. That's a big one because whether you made $2 million, $10 million, $500,000, you had a $500,000 exemption. It was whole. But now once your income goes above that threshold, it could be phased out. So it could create problems for those, and that's where timing of sales are going to be really important to consider or manipulate your income in such a way or strategize. How much income can you have in certain years and look at tax bracket planning? Yeah, tax bracket planning is going to become the buzz phrase of the 2018 year, I think. Most definitely. Talk a little bit about some of the exclusion, the elimination of fringe benefits for employees. There seems to be a plethora of them from dependent care to tuition. Yeah, adoption credits. I mean, I had a client last year who was adopting a child and under this new provision, that would be then away with. I mean gone. Educational benefit programs that are provided by firms or companies to their employees. I have somebody that I want to put through a graduate program. I can exclude a certain amount of that from income for them. I could deduct it. Now that's going to be repealed under this proposal. Dependent care benefits. In order to allow both spouses to work at a job or at a company, that will be done away with. That's a $5,000 and that's real money because you can either claim a credit or you can claim a tax deduction. That's worth maybe $2,000 of tax money in your pocket. So for them to do away with a lot of these deductions is really going to impact how much does an employee walk home with in their paycheck. Moving expenses is another one. How common is it in the bigger companies where an individual is asked to move to a different jurisdiction for the company's benefit. And once they do away with the moving expense deduction, that's pretty significant. So there are a lot of these fringe benefits that are basically just going to be zapped and disappeared if this becomes law. And I'm hoping that it doesn't all become law. I think there's a good chance that it does. That there'll be some horse trading. Yeah, lots of horse trading. Horse trading around $5.29 and Coverdales or not? Well that's another great question. So right now there are all different types of college educational credits provided. There's Coverdale, there's Lifetime Learning Credit, there's the Hope Scholarship Credit. Basically all those are going to be combined into one, the American Opportunity Tax Credit. So that's okay because I think most people, that's the credit that they really want. It gives you the best bank for the buck. And I think ultimately the $5.29 plans will continue. I think that's the best savings plan that's out there and it'll continue to be one of the best savings plans. So I don't think there's anything going on in the rules on the $5.29 plan except for, remember $5.29 plans are for college, for university. But now the Coverdales or the ESAs, I forget which one it is, allows you to pay for elementary school and high school. So $5.29 plans will now have a provision if it passes to allow for not only college but also for elementary school payments or high school payments. That seems reasonable. Very reasonable in a way. I could go with that. So what doesn't seem reasonable though is the notion of Roth recharacterizations going away. Disappearing. Ta ta. Right. So and that's bad for folks who've done a Roth conversion this year. And they've lost money. And they've lost money. I don't have any clients like that because the market has been going through the roof. Lucky them. Right, lucky them. And I'm okay with that being repealed. That's one of those that... Financial engineering to those who can afford to know how to do it. Yeah, absolutely. All right, we'll take that one. What about the gift and estate tax? We look at a six-year phase out. Oh my God, that's another huge one. Did buy estate planning attorneys? No, I think, listen, everybody should have a will. Everybody should have a trust. It has nothing to do with the tax consequences, whether it's the federal or the state, who you want to leave your money to. How do you want to leave it so it's protected from creditors and other invaders is the reason most people should have a will. The notion that the exemption goes up to... But the point that they're going to double the exemption per person from roughly 5.6 to 11 million, that's pretty significant in terms of changing the landscape of how people plan. So single, five and a half million they could leave free, go up to 11, marry a couple that's 22 million. Estate planning basically now will sort of fall at the wayside. I think what's more valuable, what's also important to understand is the estate tax and the GST tax, generation skipping tax, will be phased out or eliminated, but the gift tax will remain. So people have to still wonder, but again, you could say, Bob, hey, with 11 million dollars or 22 per couple, who really cares? And I'd say, you're right, but you have to look at the states, because some of the states have gift tax at lower rates. So you have to watch the state. And the other thing I would share is as you talk about the estate and gift tax exemptions, estate and gift tax will disappear, gift tax will remain, but step up in basis. And this is a big one for a lot of people. Mom and dad own assets that they bought a long time ago. They have built-in capital gains tax because the assets have appreciated over time. If they did away with that, that would be herculean. So the fact that they're not repealing the step up in basis rules really gives people a lot of play, that they can receive assets, estate tax and income tax free, if it falls below those specials, which to me is like, that's like a present, that's mana from heaven. Yeah, I don't know a person in the world that could do cost bases on my grandmother's AT&T stock, by the way. Yeah, ma belt split in two and they told two friends and so on and so on. So I don't, I agree with you. And then by 2024, it goes away completely. Correct. So the state tax is no more. Correct. If it goes through. And that's federally. The states will have their own set of rules, which you have to be mindful of. All right. So your best guess about what survives and what doesn't and what people might do given what survives. Yes. So what's going, so I think tax bracket simplification is going to happen. So I think that that's a given. I do believe that in terms of what's going to go, mortgage interest will probably stay with some adjustment to it based on your income. I think property taxes will stay, but with some adjustment based on your income. My guess is that the mortgage mortgage interest we covered, the real estate taxes, state and local will stay depending on your income tax bracket. They may phase out some of it. You know, charity, that always is going to stay because if you're willing to plan a gift, the government is willing to forgive the tax. And what they've done in this proposal is they've actually increased the amount you can give away to charity. There's a 50% limitation, meaning you can only give away 50% of your HCI. But according to the proposal, you can give away even more up to 60%. So they are trying to push people to give more charity because the more charity people give, the less the government has to support those organizations. So I think that's going to stay, nothing's going to happen there. I think itemized deductions, such as employee business expenses reimbursement, I think that's going to disappear. Investment advisory fees for those of us that manage clients money and we collect a fee for that, that's going to stay. You know, if you generate income, you get to deduct the expense associated with it. So those are some of the itemized deductions I think we'll say. Medical, that's a tough one. I'd love to see it stay, I think for the retirees. But again, if they can figure out a way to adjust it to the income, you know, the more income you make, the less you get to deduct, I'm okay with that. I just don't like the idea of hurting retirees, the people that need it the most. So I think that will probably be adjusted. What else could I think of? I think IRAs, retirement planning and that type of stuff, that's all going to stay. Your ability to contribute to your 401K, that'll stay. Pre-tax, Roth 401K, that'll stay. Your ability to contribute to IRA, the government doesn't want to pay for your retirement. They want you to fund your retirement. So I think that will all stay. I do think they will change, and I think this will come up in the horse trading, is maybe, you know, right now there's a cap on how much of your income is subject to social security tax. Medicare tax, which is another piece of the tax, that's unlimited. So we pay 6.2% social security tax and 1.45% for Medicare tax. 1.45 is on your whole W-2 form. The 6.2 is capped at about 120,000. I could see them raising. I could see them raising the cap and making it unlimited for social security tax based on the income you make. And that would be beneficial for social security because now you'd be funding social security. So that has a lot of merit to it. And again, for the retiree, as I think about it, I think they're going to ultimately change the way who will collect social security. I think they're going to go to a system where it's needs-based, not based on your age, not how much you've put in. It's really going to become a needs-based system. If you need it, you can have it. If you make more than a certain amount, you don't get it. That's a tough one for a lot of people to swallow. So that brings up one last question, which is, as you think about the societal need that you've just sort of expressed, maybe rich folks don't need to receive social security and give it to the folks who do need it, who didn't save or bad circumstances or whatever the case may be. This proposal seems to say as much about tax simplification as it does about social policy. It rewards certain types of income. It discusses who can be a beneficiary of a 529 plan in ways that have never been discussed. So just talk a little bit about maybe the social goals that you see in this plan that people need to be aware of that might not be, it's not the tax of it, it's the socialness of it. And again, I'm not going to get into who voted. I was just about to say, I don't let's not talk about who voted for who, but with everything out there, the tax code is so big. It's so voluminous, and it is hard to understand. It keeps a lot of guys in practice. To the extent they can simplify, no it won't be on a postcard, how much did you make, pay it all back, that's not where the code is going, but to the extent that the government can push some of the burden down to corporate America for taxes, that's less money that the government has to pay for social programs. And think about it. If you have a look and I would strongly suggest anybody who fills out a 1040 form, pick up the instructions, look at the last page of the 1040 booklet, and in there you'll see a pie chart, and that pie chart shows for every dollar of tax, where does it go, goes to pay military, social, Medicaid, Medicare, so on and so forth. The less money that the government has to pay into those systems, because now that's why the raising charitable contributions, the less money they have to put into that system, the better off they are that they can expand growth in corporate America, entrepreneurialism. That's like one of the great things about this proposal is you want to form an LLC? We're going to cap that tax rate at 25% depending on your facts and circumstances. So the government doesn't really want to manage all of this. They want to push down some of the effects of this where we're really responsible for our own retirement, for our own social and welfare and wellness programs. And that's where I think ultimately a lot of this is directed. But again, it does benefit certain people. Right, seems to reward those that are job creators versus those that are income takers, I guess. Yeah, no, 100% income makers. Right. Anything else that we should talk about before we close for the session? I think just as we go into the year end, there are some benefits. And again, I know you focus on the retiree market. The QCD is a big tax deduction that a lot of people should look at. Those that are over 70, don't forget they have to take the required minimum distributions by the end of the year. If they don't, what happens? 50% penalty on the amount that you don't take. Exactly. So the ability- Plus you and their income tax. Right. So the ability for people to direct money from their charity if they don't need it and they can fulfill their RMD, I think it's a great opportunity. And that's one thing, again, you could see just based on what the government is proposing. They're not doing away with some of these charitable contribution ideas. The strategies are still there. I would tell everybody don't forget, RMDs qualify charitable deductions. That's my big one for people in retirement. Great. My guest has been John Gassman from the Gassman Financial Group. I'm Bob Powell for The Street.