By Jim Terwilliger
Reminiscent of the 1970s hit tune by Fleetwood Mac, “Go Your Own Way,” New York has decided to break tradition from the past starting with the 2018 tax year.
It’s mostly good news for state taxpayers. I think we would all agree, it’s about time for us New Yorkers!
First, some background. The 2017 Tax Cuts and Jobs Act (TCJA) made some sweeping changes to the way federal income taxes are calculated.
• Favorable: Tax rates were lowered, the standard deduction almost doubled, the Alternative Minimum Tax (AMT) was eliminated for most taxpayers, the Child Tax Credit was doubled and income limits were increased significantly, and the itemized-deductions phase-out was eliminated.
• Neutral: Capital gains tax rates and charitable itemized deductions were left intact.
• Unfavorable: Personal exemptions and miscellaneous itemized deductions were eliminated, medical expense and mortgage/home-equity interest itemized deductions were moderated, and state/local tax (SALT) itemized deductions are now limited to a total $10,000.
• Half-and-Half: For divorces and separations finalized in 2019 and beyond, alimony is no longer deductible for the payer and no longer taxable to the recipient.
What will taxpayers find when filing 2018 returns this tax season?
It’s a little too early to tell, but we believe most folks will see lower federal taxes for a given level of income. We are also finding that most will take the new standard deduction rather than itemize.
Enter New York state
From Day 1, Gov. Cuomo has railed against these new federal tax provisions, particularly the $10,000 cap on state and local property and income taxes. He believes the new tax law discriminates against taxpayers in high-tax states. The governor proposed a couple of federal workarounds but to no avail.
Surprise! On Dec. 28, the NYS Department of Taxation and Finance issued Technical Memorandum TSB-M-18(6)I, which essentially decouples New York state income taxes from the federal tax for a number of federal provisions. This now allows one to itemize deductions on the state return even if the standard deduction is used for federal, potentially reducing the state tax that otherwise would be owed without decoupling. The effective tax year is 2018 so it covers state returns currently being prepared and filed.
You now are able to claim some deductions on your New York personal income tax return that are no longer available for federal purposes. For example, you can claim deductions for:
• State and local property taxes paid with no $10,000 federal cap imposed.
• Unreimbursed employee business expenses.
• Certain miscellaneous deductions that are no longer allowed federally (including tax preparation fees, investment expenses, and safe deposit box fees).
See Form IT-196, “New York Resident, Nonresident and Part-Year Resident Itemized Deductions” and its instructions.
Other decoupling provisions, neutral or unfavorable:
• New York opted not to follow changes made by the TCJA to the treatment of alimony or separate maintenance payments for agreements executed or modified after Dec. 31, 2018.
• You may not use the federal child tax credit or additional child tax credit to compute the Empire State child credit for New York. The latter will be based on 2017 federal credit amounts and income limits.
While these changes offer some pluses and minuses, the impact on many state taxpayers, depending on individual circumstances, will be positive, particularly with the preservation of many of the prior federal itemized deductions.
529 College Savings Plan
New York opted not to follow changes made by the TCJA for qualified withdrawals. Withdrawals for K-12 school tuition are not qualified withdrawals under the New York 529 college savings program. However, they now are qualified withdrawals for federal purposes, up to $10,000/year per student.
For folks who wish to use 529 Plans to fund K-12 tuition in addition to funding out-of-pocket college expenses, we recommend the following:
• Establish separate 529 Plans for a beneficiary — one earmarked for K-12, the other for college.
• College account – Take the NYS subtraction for annual contributions and invest aggressively for the long-term. All distributions used for out-of-pocket college tuition, room/board, fees, etc. will be qualified and will escape Federal and NYS taxation.
• K-12 account – Do not take the NYS subtraction for annual contributions (since no distributions will be qualified at the state level) and invest for the short-to-intermediate term. For distributions used for K-12 out-of-pocket tuition, only distributed earnings will be taxed by NYS. Such distributions will be considered qualified and tax-free for Federal tax purposes. Ultimately, K-12 account funds not distributed can be reassigned to the student’s college account.
Given the complexity of all the above, we recommend that you partner with tax and financial planning professionals when dealing with these matters.
James Terwilliger, CFP®, is senior vice president, senior planning adviser, CNB Wealth Management, Canandaigua National Bank & Trust Company. He can be reached at 585-419-0670 ext. 50630 or by email at firstname.lastname@example.org.