In case you missed it due to the holiday rush, President Trump recently signed into law the Tax Cuts and Jobs Act (TCJA), representing the broadest reform of tax laws in three decades.
With the new laws now taking effect, you’ll notice both some positive and negative aspects related to individual and business taxes. Suffice it to say, the TCJA will impact you as a freelance professional.
Here’s a quick rundown of the TCJA provisions that are most relevant to the freelance business community:
How the Tax Law Could Benefit Freelancers
1) Potentially lower tax rates. One of the benefits of the TCJA, for some individuals, is a lower tax rate. There will be seven individual income tax brackets under tax reform: 10%, 12%, 22%, 24%, 32%, 35% and 37%.
2) A new pass-through credit for self-employed freelancers. One of the more appealing provisions of the TCJA is the 20% qualified business income deduction for pass-through entities such as partnerships, S-corporations, and sole proprietorships. If your freelance business is structured as one of these entities and your income is under $157,500 ($315,000 for married filing jointly), you are likely eligible for this benefit.
This benefit does phase out at higher income levels, specifically when taxable income increases from $315,000 to $415,000 for joint filers, or from $157,500 to $207,500 for single filers. These higher income levels are subject to much more stringent requirements in order to claim the pass-through credit, including an exclusion for income derived from any IRS-defined ‘specified service business.’
The ‘specified service business’ category includes law firms, accounting firms, medical practices, and any other firms involved in the fields of health, law, accounting, actuarial science, performing arts, consulting, athletics, financial services, or brokerage services. Note that this exclusion does not apply to engineering and architecture firms—and it only applies at the higher income levels discussed above.
For C-corporations, the tax rates will range from 15% to 35% will be reduced to a flat 21% rate under the new law.
3) An increased standard deduction. You’ll see below that many long-standing deductions have been eliminated under the new tax laws. However, likely in an attempt to simplify tax deductions, for the most part itemized deductions have been eliminated in exchange for larger standard deductions, effective in 2018: $12,000 (single and all other taxpayers); $18,000 (head of household); $24,000 (married).
4) The preservation of some key deductions including the...
- Medical expense deduction, which allows people whose medical expenses represent more than 10 percent of their income to deduct those costs. The TCJA improves the provision so you can deduct medical expenses if they equal more than 7.5 percent of your adjusted gross income (AGI) in 2017 and 2018, and;
- Student loan interest deduction which remains intact, meaning that student loan borrowers can still deduct up to $2,500 of the interest they paid directly from their taxable income.
How the New Tax Law Could Help Some Freelancers and Hurt Others
The repeal of the Affordable Care Act’s individual mandate and associated tax penalties. Under the TCJA, starting in 2019, taxpayers will no longer face the levy of $695 per person or 2.5 percent of income, whichever was higher, if they choose not to carry health insurance. However, to be clear, beyond the immediate elimination of the tax levy, many impartial observers predict it will lead to a rise in insurance premiums, so the full impact of this provision is yet to be determined.
How the New Tax Law Could Hurt Freelancers
While there are some benefits available to freelancers in the new tax laws, there are also some mandates that are bound to take the smile off the face of the average taxpayer. Many of these have to do with the elimination of some key tax deductions and new restrictions on other important deductions such as:
1) Reduced deductions for state and local taxes. Under the TCJA, individuals (as opposed to businesses) will only be able to claim an itemized deduction of up to $10,000 ($5,000 for a married taxpayer filing a separate return) for the total of (1) state and local property taxes; and (2) state and local income taxes. This could be a hard hit, especially for those freelancers residing in New York, New Jersey and other locations with high income taxes and property taxes.
2) Meal costs are no longer deductible by employers. Along with business entertainment deductions (see below), there are changes to deductions for meal expenses for businesses under the TCJA. Individual taxpayers are still generally able to deduct 50% of the food and beverage expenses for meals consumed during work travel.
Under the TCJA, the rules for meal expenses for businesses change significantly and are as follows: Meal expenses incurred and paid after Dec. 31, 2017 and until Dec. 31, 2025 are subject to a limitation of a 50% tax deduction as are an employer’s expenses associated with providing food and beverages to employees through an eating facility that meets requirements for de minimis fringe benefits and for the convenience of the employer. An important note: These expenses incurred and paid after Dec. 31, 2025 will not be deductible.
3) Mortgage interest will be deductible only on new mortgages of up to $750,000.
4) There are no longer any deductions for the interest paid on home equity loans.
5) No moving expenses can be deducted for tax purposes. The TCJA suspends the deduction for moving expenses after 2017 (except for certain members of the Armed Forces), and suspends the tax-free reimbursement of employment-related moving expenses.
6) Deductions for business entertaining are gone. Businesses have typically been able to deduct 50% of the cost of entertainment directly related to or associated with the active conduct of a business. However, under the new law, for amounts paid or incurred after December 31, 2017, there's no deduction for such expenses.
7) A higher alternative minimum tax exemption amount may eliminate certain deductions. The new tax law substantially increases the alternative minimum tax (AMT) exemption amount, beginning next year. Some deductions, such as depreciation and the investment interest expense deduction, will be curtailed if you are subject to the AMT. If the higher AMT exemption means you won't be subject to the 2018 AMT, it may be worthwhile, via tax elections or postponed investment transactions, to push such deductions into 2018.
No matter how you feel initially about the new tax laws, be aware that many of these tax reform provisions are applicable only through 2025. As such, it is advisable to talk with a tax professional to see if you need to make adjustments to your business structure or your personal tax situation in order to lower your tax burden.
Fully understanding the impact that tax reform will have on you and your freelance business is the key to successfully navigating these changes now and in the tax years to come.
Jonathan Medows is a New York City based CPA who specializes in taxes and business issues for freelancers and self-employed individuals across the country. He offers a free consultation to members of Freelancer’s Union and a monthly email newsletter covering tax, accounting and business issues to freelancers on his website, www.cpaforfreelancers.com which also features a new blog, how-to articles, and a comprehensive freelance tax guide.
Jonathan is happy to provide an initial consultation to freelancers. To qualify for a free consultation you must be a member of the Freelancers Union and mention this article upon contacting him. Please note that this offer is not available Jan. 1 through April 18 and covers a general conversation about tax responsibilities of a freelancer and potential deductions. These meetings do not include review of self-prepared documents, review of self-prepared tax returns, or the review of the work of other preparers. The free meeting does not include the preparation or review of quantitative calculations of any sort. He is happy to provide such services but would need to charge an hourly rate for his time.