The Tax Cuts and Jobs Act (TCJA) of 2017 was touted as a tax savings for all Americans, but clients with college-age children don’t stand to reap those benefits. The Act eliminated the personal exemption and doubled the child tax credit from $1,000 to $2,000, but there’s a catch: The now-defunct personal exemption allowed a $4,050 deduction in 2017 for children — including full-time college students under age 24. The child credit mostly evaporates at age 17, even for college students.
The bad news will sink in for clients when they put together their 2018 tax returns next year. Many tax preparers are already bracing for next year’s complaints from clients who will want to know “Why do I owe so much tax? I thought we had a tax cut?” We did, but Congress left out parents struggling with the ever-rising cost of tuitions and related costs.
Consider the following examples:
Example 1: Take a family with two children under age 17 and income of $200,000. In most cases, their tax for 2018 will be less than in 2017. They lost the exemptions (two @ $4,050) which reduce taxable income, but they will get $4,000 in child credits (two @ $2,000) this year which reduces their income tax dollar for dollar. Using a typical middle-class marginal tax bracket of 25 percent for 2017 against the reduced 22 percent rate applicable for 2018, the family should pay less tax in 2018 than they did in 2017. But don’t forget the paradox here is that this family’s taxable income will increase.
Example 2: When one of those children goes off to college at age 18 (still assuming income of $200,000), the child credit gets reduced from $2,000 to only $500. Not only is this family challenged with coming up with over $50,000 per student for tuition, room, board, etc. on average for college, they also will pay at least $3,000 more in income tax. And the limits on itemized deductions can compound the agony for this family and increase their taxes even more.
To avoid a meltdown next year, CPAs need to remind clients who are in this situation to:
- Grind through their projected 2018 tax return numbers sometime before 2018 gets too far along.
- Understand that deductions and credits were thoroughly renovated under the Tax Act.
- Avoid confusion and false accusations that often circulate about tax cuts.
Did Congress intentionally decide to penalize middle class parents? No one will ever admit it, but it is clear the damage is done.