People rushing to pay their 2018 taxes early to avoid adverse changes in the just-passed Republican tax plan should hit the brakes. It’s very possible that at least some of those early payments will have been made in vain, according to an announcement made Wednesday by the IRS. The payments could also confuse local tax authorities that are scrambling to deal with the unexpected crush of checks and questions as the clock on 2017 winds down.
And it’s winding down fast. Many offices are observing the New Year’s holiday on Friday, making Thursday the final business day of 2017.
Many residents in state with high local taxes are trying to pay some of next year’s taxes before Dec. 31, so they can take advantage of current tax law’s almost limitless deduction. Starting in 2018, the deduction will be capped at $10,000 of combined state and local income taxes and property taxes.
Basically, homeowners who are prepaying (or have prepaid) property taxes based on an educated guess are going to be disappointed. The IRS won’t allow those early payments to be deducted on 2017 taxes, when there was no cap for property tax deductions. Only owners who have actually received their bills (assessments) for 2018, or part of 2018, can make those payments before 2017 and take the old deduction.
Local rules on when the actual assessments occur vary, so you’ll have to check with your taxing authority to find out if you can actually get a bill, or something like a bill, in order to pay and take your tax deduction this year. When you do, be gentle — some local offices are overwhelmed right now.
Here’s the IRS statement today:
In general, whether a taxpayer is allowed a deduction for the prepayment of state or local real property taxes in 2017 depends on whether the taxpayer makes the payment in 2017 and the real property taxes are assessed prior to 2018. A prepayment of anticipated real property taxes that have not been assessed prior to 2018 are not deductible in 2017. State or local law determines whether and when a property tax is assessed, which is generally when the taxpayer becomes liable for the property tax imposed.
The following examples illustrate these points.
Example 1: Assume County A assesses property tax on July 1, 2017 for the period July 1, 2017 – June 30, 2018. On July 31, 2017, County A sends notices to residents notifying them of the assessment and billing the property tax in two installments with the first installment due Sept. 30, 2017 and the second installment due Jan. 31, 2018. Assuming taxpayer has paid the first installment in 2017, the taxpayer may choose to pay the second installment on Dec. 31, 2017, and may claim a deduction for this prepayment on the taxpayer’s 2017 return.
Example 2: County B also assesses and bills its residents for property taxes on July 1, 2017, for the period July 1, 2017 – June 30, 2018. County B intends to make the usual assessment in July 2018 for the period July 1, 2018 – June 30, 2019. However, because county residents wish to prepay their 2018-2019 property taxes in 2017, County B has revised its computer systems to accept prepayment of property taxes for the 2018-2019 property tax year. Taxpayers who prepay their 2018-2019 property taxes in 2017 will not be allowed to deduct the prepayment on their federal tax returns because the county will not assess the property tax for the 2018-2019 tax year until July 1, 2018.
States are racing to figure this problem out. In New Jersey and New York, where property taxes are high and this change will hit very hard, both governors have ordered local tax authorities to collect payments. Merely accepting the payment doesn’t necessarily mean it will qualify for the deduction, however. (I suspect not; if that becomes clear later today, I’ll update this story.)
Other early payments are not affected by this IRS clarification. For example, independent workers who pay estimated state or local income taxes and expect to make their last payment for 2017 on the usual Jan. 15 deadline can make that payment before Jan. 1 and protect their 2017 deduction.
This chaos explains why it’s a bad idea to sign a tax law that has impacts which go into effect only a few days after the President’s ink is dry. But note: this chaos is a one-time issue for people who pay high local income and property taxes and are about to see dramatic reduction in one of their most important federal income tax deductions. It’s a last hurrah for those who pay high local income and property taxes and get the full deduction. Things will be more clear next year, when the $10,000 cap is implemented.
How many people will be impacted by that cap? Many more than you’ve been led to believe. In this story, I show that “average” taxpayers in 32 states may very well lose at least some of this deduction.