February 4, 2019

Form 1040 Tax Return: The New Face of Deductions

The new Form 1040: U.S. Individual Income Tax Return for 2018 is intended to simplify the tax return process for most Americans.  Noticeably, the form itself looks quite different than in the past, but taxpayers will also see marked differences this year in other areas, specifically when it comes to itemized deductions vs. the standard deduction.  For 2018 tax filings, many individuals may find themselves choosing the standard deduction for the first time in a long time.

What Is the Difference Between Standard and Itemized Deductions?

On personal tax returns, taxpayers have the option to either take the standard deduction or to itemize deductions, but they cannot do both.  They may also switch back-and-forth, choosing the standard deduction one year and itemizing deductions the next (or vice versa).

The standard deduction is a set amount, adjusted annually for inflation, that a taxpayer may deduct from his or her income and, thus, reduce his or her tax liability.

However, if a taxpayer has certain expenses, he or she can choose to itemize deductions rather than take the standard deduction.  When a taxpayer itemizes deductions, he or she reports qualifying expenses on the tax return, and the total of those expenses reduces income and, consequently, income tax.  Some of the most common expenses that qualify as itemized deductions are covered further herein.

Obviously, the best course of action for a taxpayer when choosing between the standard or itemized deduction is, generally, to opt to take whichever yields the higher deduction amount.

What Has Changed for 2018?

The redesigned Form 1040, issued in response to changes implemented with the Tax Cuts and Jobs Act (TCJA) and signed into law in late December 2017, will be used for individual 2018 tax filings.  One provision of the TCJA increased the dollar amount of the standard deduction and changed the calculation of  itemized deductions.

The following chart reflects information from the IRS publication Tax Reform Basics for Individuals & Families and shows the new standard deduction amounts for 2018 as compared to 2017.

The standard deduction amounts have increased significantly from 2017 to 2018.  This was intentional: the goal of increasing the standard deduction amount was to have more taxpayers take the standard deduction, which simplifies their tax return preparation.  Since the increased dollar value should make the standard deduction more beneficial than itemizing deductions, more taxpayers will likely choose the standard deduction.

In addition to increasing standard deductions, the TCJA also changed rules for itemized deductions—some of which are not favorable.  The following list highlights changes to common expenses, but it is not all-inclusive.

  • Deduction for state and local taxes for 2018 is now limited to $10,000. Previously, there was no specific limitation.
  • Deduction for home mortgage interest is limited to interest paid on only $750,000 of debt, for mortgages entered into after December 15, 2017. The previous debt limitation was $1,000,000.  It is important to note that existing mortgages that commenced on or before December 15, 2017, are grandfathered into the $1 million higher amount.
  • Deduction for home equity loan interest is only allowed if the proceeds from the loan were used to improve the home that secured the loan.
  • Deduction of miscellaneous itemized deductions is suspended under the TCJA. Previously, a taxpayer could take deductions (subject to certain limitations) for unreimbursed employee expenses, such as uniforms and union dues.  Taxpayers could also deduct investment expenses, such as investment management fees and tax preparation fees.  Now, deductions for these items are no longer allowed.

Although there are some unfavorable changes to itemized deductions, there are some favorable ones as well.

  • There is no longer an overall limitation on itemized deductions. Under the prior law, itemized deductions phased out for high-income taxpayers, and some individuals would end up unable to take any amount for itemized deductions.  Now, no taxpayers with high income will lose the benefit of itemized deductions.
  • The itemized deduction for medical expenses was previously limited to 10% of the taxpayer’s adjusted gross income but, under the new law, this was reduced to 7.5%. This means that a taxpayer may have an opportunity to deduct more of his or her medical expenses.  Unfortunately, the lower 7.5% limitation only applies for 2018 and reverts to 10% for 2019.
  • A taxpayer may take an itemized deduction for charitable contributions up to 60% of his or her 2018 adjusted gross income, up from 50% in 2017.

What Does this Mean for the Average Taxpayer?

Because of the increased amount of the standard deduction, and due to the reduction or elimination of some itemized deductions, it is likely that many taxpayers will opt for the standard deduction for 2018 filings because it will allow a larger deduction relative to income.  Many homeowners who previously itemized deductions for mortgage interest and real estate taxes may no longer find it beneficial to do so.

Though the deduction for charitable contributions is still allowed, it may no longer be beneficial if the standard deduction amount is higher than the sum of the taxpayer’s itemized deductions, which includes charitable contributions.  For many individuals, the joy of giving greatly outweighs the tax deduction, but they should be aware that they may no longer receive a reduction in their tax liability as a result of making their usual charitable donations.

If you have questions about how the new tax law affects you, or if you would like to request a speaker on this topic, contact a PYA executive below at (800) 270-9629.

 

© 2019 PYA
No portion of this article may be used or duplicated by any person or entity for any purpose without the express written permission of PYA.

About the Authors