How the New U.S. Tax Plan Affects Retirees

Understanding tax law is important because taxes have a large impact on your finances. It can also be difficult, as tax rules are subject to periodic changes. In late 2017, Congress passed a law called the Tax Cuts and Jobs Act.

In doing so, it made the most extensive changes to United States tax system in over 30 years. Many of those changes have a significant impact on specific groups of taxpayers. For example, wealthy Americans are affected by several aspects of the new tax laws. The tax laws are also impacting retirees in a few ways.

If you are retired or about to retire, it is important to know what effects the new U.S. tax plan can have on you. If you are a wealthy retiree, these effects may be minimal. However, if you are a middle-class retiree, careful planning may be required to maximize your ability to benefit from or at least not be harmed by the new tax laws. Here are some ways in which the new U.S. tax plan may affect you and methods to help you prepare for the changes.

The New Tax Plan Allows a Higher Standard Deduction

When filing taxes, you have the ability to claim itemized deductions or a standard deduction. The standard deduction is a set amount. During retirement, your expenses may decrease. For example, you may have paid off your mortgage or chosen to downsize by moving to a small apartment. Itemized deductions are often more appropriate when you have multiple expenses.

You may already claim a standard deduction each year because of low expenses during retirement. However, the new tax plan doubles the standard deduction, making it even more appealing. Also, prior to the enactment of the new tax plan, an additional standard deduction was available if you were 65 years of age or older when filing your taxes. This additional deduction remains part of the new tax law. As of 2018, you may claim:

  • $12,000 standard deduction when filing as a single taxpayer.
  • $24,000 when filing jointly with your spouse.
  • Additional $1,600 when filing as a single taxpayer over 65 years of age.
  • Additional $2,600 when filing jointly while over 65 years of age.

Expanded Medical Expense Deductions

As a retiree, you are likely to experience increased medical spending. The costs of those medical expenses can be quite high. On a fixed retirement income, these expenses can be difficult to afford. One benefit of the new tax plan you may appreciate is an increase in allowable deductions for medical expenses.

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Under the Tax Cuts and Jobs Act, retirees may claim medical expense deductions for qualifying medical expenses. The expenses in question must exceed 7.5 percent of your adjusted gross income (AGI). This differs from the older system, when medical expenses were required to exceed 10 percent of your AGI. The change in the law may allow you to claim medical expenses not deductible under the previous tax legislation.

The change in required AGI percentage under the new tax plan can provide you with a temporary benefit when filing your 2018 taxes. However, the change is not permanent. The required percentage is set to revert to 10 percent in 2019. Only intervention from Congress can prevent this change from taking place.

Lower Income Tax Rates vs. Reduced Tax Deductions

The new tax plan lowers federal income tax rates in several tax brackets. For example, the 25 percent tax rate is lowered to 22 percent under the current legislation. As a result of these rate changes, the tax you have to pay on your Social Security income may decrease. However, the savings may be nominal when you examine other aspects of the new tax law. Under the Tax Cuts and Jobs Act, income tax deductions are lower across the board. Even though you pay less local, state or federal income tax, your overall savings may be low or non-existent. According to tax experts, the combination of lower income tax and reduced tax deductions is most likely to negatively affect you if you are:

  • Single.
  • Living in a state with high taxes.
  • Not a parent or your children are no longer living with you.
  • Middle-class.

A commonly suggested solution to the negative impact of the income tax rate and reduced tax deduction regulations is to move to a low-tax state. However, moving may not be a viable option for you. Even if it is, doing so may have unforeseen personal or financial consequences negating any potential tax benefits you may receive. For example, it may require you to leave family and friends behind. You may also discover other expenses in the state you move cost more than you are used to paying, such as sales tax or utility costs. You must carefully consider all aspects of a potential move before deciding if moving is a viable option.

Charitable Donations During Retirement

Prior to the enactment of the new tax plan, the tax laws allowed the use of IRA funds to make charitable donations. This law was useful because, as a retiree, you are required to make minimum withdrawals annually from your IRA. The new tax plan has not altered this requirement. In fact, it was a temporary regulation, but the new tax law makes it permanent.

The benefit of this regulation is any money withdrawn from your IRA for charitable donation is non-taxable if you are at least 70-and-a-half years of age. You can reap this benefit using a standard deduction or itemized deductions. Donations you make count as qualified charitable deductions and also allow you to claim a standardized deduction if you so choose. Doing so allows you to obtain the maximum tax benefit while supporting as many charities as you wish, as long as you do not exceed the annual cap on qualifying donations.

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