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Posted on December 24, 2018

Federal Tax Changes May Affect Appeal of Arizona State Tax Credits

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By Bruce Eisenhauer

We are quickly approaching the 2018 tax season and I wanted to touch base on just a few things about the Federal tax law changes and the state credits for Arizona.

While there are many changes, I’m only going to touch on a few that I believe will have the most impact on our current tax clients in Arizona.

 

  • Personal exemptions and dependent exemptions no longer exist.
  • Child Tax Credit increased from $1,000 per qualifying child to $2,000 per qualifying child. Up to $1,400 is refundable per qualifying child.
  • Itemized Deductions: For home equity loans, only interest related to “acquisition indebtedness” will be deductible. This includes debt related to “acquiring, constructing, or substantially improving” your qualified residence. Existing home equity lines of credit will not be grandfathered. In other words, if you had an existing home equity loan that was acquired before the law change, it will no longer be deductible.

On traditional home loans taken out after Dec. 16, 2017, taxpayers filing jointly can only deduct interest on the first $750,000 of the loan, and $375,000 for single and married taxpayers filing separately. For loans taken out before Dec. 16, 2017, the old limits will apply of $1 million for married filing joint and $500,000 for single and married filing separate.
A lot of people who have itemized in the past might not be itemizing for Federal this year. However, the state tax laws have not changed, and it may still be advantageous to have your itemized deductions calculated to help with your state tax liability.

First, a couple of definitions:

  • Credit: A “credit” for tax purposes is a dollar-for-dollar reduction in your taxes. So, if you finished your income tax return and owed, say $500, but had a $200 credit, you would end up only owing the net amount, or $300.  Pretty great, right?  The problem is that credits are hard to come by.On the Federal return, the most common credits are the Earned Income Tax Credit, the Child Care Credit and two different but very similar Education Credits. Of course, you must qualify for the credits, so they don’t apply to everyone. Some credits can reduce your tax liability to zero, but they won’t go beyond that to give you a refund. These credits are “non-refundable” tax credits. Others are “refundable” tax credits, so they will generate a refund if a credit portion remains after covering the tax liability. Of course, if you have no gross tax liability, a non-refundable credit won’t help at all, though it may carry forward to future years when you might be able to use it.
  • Deduction: A “deduction” is not a dollar-for-dollar reduction, but it can still be very powerful. A deduction is an amount that reduces your taxable income. Your actual income tax is calculated from your taxable income, so if you reduce the taxable income, you reduce your taxes. In this case, if you have a $1,000 deduction and are in the 25% tax bracket, your taxes will be reduced by $250, or your bracket of 25% against the $1,000 deduction. So, the higher your income tax bracket, the more taxes you’ll save from a deduction. The most common deductions are the Standard Deduction and the Itemized Deduction.

So now, what about these Arizona credits?

Arizona has several credits designed to encourage us to help others within our own communities and state. They pretty much all surround education or helping the “working poor.” These are Arizona-only credits, but since they are all charitable contributions, they are also deductible on the Federal return if you can itemize.

First the exciting part – OK, helping the charitable organizations and thus helping families out is the best part – but since this is about taxes, you might be thinking “How much can I save?” Here’s a list of the credits and their maximums allowed per year, based on filing status.

Filing Status

So, let’s say you’ve completed your Arizona return, you’re single and you owe $2,000. If you would have given $2,000 to some combination of the above credit organizations, you would show that contribution as a credit on your return and your taxes would zero out. So, you still “spent” the money but were able to direct it to a worthy cause instead of giving it to the state.

That’s great, but the real benefit is that since these are all considered charitable contributions, if you itemize your deductions on the Federal return, you can take them as deductions there, too. So again, if you’re in the 25% Federal income tax bracket and are itemizing your deductions, that $2,000 contribution will potentially save you $500 on your federal return. But please note: With the increase in the Standard Deduction Rates this is the benefit that may be lost by many filers. The state credit would still apply, however.

Let’s recap:  you gave $2,000 to worthy charitable organizations then got it all back on your state return, then saved an additional $500 on your federal return. If you considered the $2,000 like an investment, your return was 25%, potentially in just a few weeks. That’s a pretty good deal.

All these credits have rules that must be followed to get the credits, but it’s not really complicated.  The important thing is to know that they exist, so when you are trying to decide which charity to give to, you can understand that not all contributions are created equal.

On the Arizona Department of Revenue site you can find a list of the organizations that qualify as charitable organizations and foster care organizations.

Also, for those that have a Uniformed Services pension (Army, Navy, Marines, Air Force, Coast Guard or the commissioned corps of the National Oceanic and Atmospheric Administration or NOAA), the subtraction of benefits from your Arizona taxable income will be increased to $3,500 instead of the $2,500 that it was. For those whose pensions are federal or Arizona state and subdivisions, the subtraction remains at $2,500.


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