• Deduction for Investment Fees and Expenses
• Net Investment Income Tax
• Gains and Losses From the Sale of Capital Assets
• Home Ownership
• Exchanging Properties of Like Kind
• At-Risk Rules
• Understanding Passive Activity Rules
• Excess Business Loss Limitation

Deduction for Investment Fees and Expenses

The new tax law suspends or limits a number of popular deductions, including the miscellaneous itemized deduction for investment fees and expenses. For tax years 2018 through 2025, you will not be able to claim a deduction for investment fees and expenses.

Net Investment Income Tax

Individuals, estates, and trusts with income above certain thresholds are subject to an additional 3.8% tax—also known as the “net investment income tax” or “NIIT”—on their net investment income. Net investment income includes:

• Most interest, dividends, annuities, royalties, and rents
• Income from the business of trading in financial instruments and commodities (trading business)
• Income from a trade or business that is a passive activity as defined in the Internal Revenue Code
• Net gain from the sale of all property other than property held in a trade or business in which the owner materially participates (other than a trading business).

Properly allocable expenses and losses that are allowed as a deduction for income tax reduce the amount of net investment income. The tax on net investment income is not subject to withholding, but is subject to the estimated tax provisions.

Certain income and gain are excluded from net investment income. Excluded income includes:

• Income from self-employment that is subject to selfemployment (SECA) tax
• Wages that are subject to federal payroll (FICA) tax
• Income that is exempt from income tax (such as municipal bond interest)
• Income of nonresident aliens
• Distributions from qualified plans
• Income and gain from a trade or business in which the owner materially participates.

Generally, portfolio income and passive investment-type income are included as net investment income, but if an individual, estate, or trust is sufficiently involved in the operations of a trade or business, the income and gain from that business is generally excluded from net investment income even if it is not otherwise subject to SECA or FICA

If you or your S corporation or partnership owns portfolio investments such as stock in a C corporation or debt securities, your share of the income from the investments and gain or loss on sale of the investment assets is net investment income.

If you own rental property, the rents and gain on sale are generally net investment income. There are very limited exceptions under the passive loss rules that may result in exclusion of some rental income and gain on sale of rental assets from net investment income

Income and gain from stock in a controlled foreign corporation (CFC) and a passive foreign investment company (PFIC) will generally be included in net investment income, but the timing of the inclusion may vary from the general rules applicable to CFCs and PFICs.

Gains and Losses From the Sale of Capital Assets

Almost everything you own and use for investment and for personal purposes (i.e., not for trade or business) is a capital asset. For example, if you own shares in Company X, those shares are capital assets. If you were to sell those shares (or any other capital asset), the resulting gain or loss from the sale would be either a capital gain or capital loss.

A capital gain occurs when you sell a capital asset for more than its basis (generally, the cost of the asset), and a capital loss occurs when you sell a capital asset for less than its basis. If you purchased 500 shares of Company X for $1 per share, your basis in each share would be $1. If you were to sell those 500 shares for $2 per share, the $500 in “profit” from the sale would be a capital gain. Alternatively, if you sold those same 500 shares for $0.50 per share, the $250 loss would be a capital loss.

Capital gains and capital losses are either short-term or long-term, depending upon the length of time you held the capital asset prior to selling it. A capital gain or loss is short-term if you held the capital asset for a year or less. If you have held an asset for more than a year, then any capital gain or loss would be long-term.

Whether a capital gain or loss is classified as short-term or long-term can have significant tax implications. Whereas a short-term capital gain is taxed as ordinary income, a long-term capital gain is taxed at a preferential rate lower than your ordinary income tax rate. Long-term capital gains are subject to tax at either 0%, 15%, or 20% depending upon your filing status and taxable income. See the table in the section "Current Tax Rates" for the income levels at which the different long term capital gain rates apply.

If you sold multiple capital assets during the course of a tax year, it is likely that some of your transactions resulted in losses, and others in gains, and that some of these gains or losses were short-term, while others were long-term. To determine the tax impact of your capital transactions, you must net your short-term gains against your short-term losses and your long-term gains against your long-term losses.

If you have both a net short-term gain and a net long-term gain:

• The short-term gain is taxed as ordinary income
• The long-term gain will be taxed at a preferential rate

If you have both a net short-term loss and a net long:

• You can deduct up to $3,000 ($1,500 if married filing separately) on your tax return.
• If your total loss is more than $3,000 ($1,500 if married filing separately), the excess loss can be carried over to the next year.

If you have a short-term loss and a long-term gain, net the two positions:

• If the gain is bigger than the loss, you have a long-term gain, which is taxed at the preferential rate.
• If the loss is bigger, you have a net short-term loss, of which you can deduct up to $3,000 ($1,500 if married filing separately) and carry forward any excess to the next year as short-term loss.

If you have a short-term gain and long-term loss, net the two positions:

• If the gain is bigger than the loss, you have a short-term gain, which is taxed at your marginal rate.
• If the loss is bigger, you have a long-term loss, of which you can deduct up to $3,000 ($1,500 if married filing separately), and carry forward any excess to the next year as long-term loss.

If you purchased all 500 shares of Company X stock at the same time and sold them all at the same time, then determining whether you have a capital gain or capital loss and whether your gain/loss is short-term or long-term is straightforward. But what if you purchased half the shares January 1 of last tax year for $1, and the other half January 1 of the current tax year for $2, and sold 100 shares today for $1.50? How do you determine whether you had a gain or loss on the sale, and whether that gain or loss was long-term or short-term? That all depends upon the cost basis method you tell your broker to use.

Each time you purchase shares of stock (regardless of the number of shares you purchase or the amount of time in between purchases), your broker assigns your purchase a unique tax lot ID. When you sell shares of stock, your broker uses this tax lot ID to determine the basis of the sale. This determination is often based upon the default cost basis method used by your broker. By default, most brokers use the FIFO (first-in, first-out) cost basis method, which means that the oldest shares are treated as being sold first. If, in the above example, your broker employed the FIFO cost basis method, 100 of the 250 shares of stock in Company X that you purchased for $1 would have been sold for $1.50, resulting in a long-term capital gain of $50. However, you are not limited to the default cost basis method selected by your broker. You may instruct your broker to use an alternative cost basis method or select specific tax lots to sell. In this way, you can exercise a large degree of control over your yearly short-and long-term capital gains and losses.

Home Ownership

Home Ownership is discussed in its own section.

Exchanging Properties of Like Kind

In 2017, it was possible to defer paying tax on gain realized on the disposition of certain property by arranging the transactions as an exchange. Rather than selling your property and reinvesting the proceeds in new property, you were able to “exchange” your property for property of a “like kind” within certain time limits. If you met the requirements for such a like-kind exchange, the gain or loss on the disposition of your old property was deferred until you sold the new property in the future.

The new tax law effective for 2018 limits the like-kind exchange rules to exchanges of real property (other than real property held primarily for sale). The new law’s limitation on like-kind exchanges eliminates deferral for exchanges of tangible personal property and intangible property. However, a transition rule provides that the new law does not apply to any exchange in which you disposed of relinquished property, or received replacement property, on or before December 31, 2017

Although like-kind exchanges offer many advantages, numerous requirements must be met before an exchange can qualify for tax-free treatment. Here are just a few:

• Both the real property you dispose of and the real property you acquire must be held by you for productive use in a trade or business or for investment.
• For transactions initiated after December 31, 2017, the like-kind exchange rules are applicable only to real property, other than real property held primarily for sale. Prior to January 1, 2018, certain property, other than real property, was also eligible for like-kind exchange treatment.
• You must not have actual or constructive receipt of the sales proceeds or any discretionary control over those proceeds during the transaction. It is extremely important to have an airtight written escrow agreement that includes certain restrictions on you for the transaction to qualify as an exchange of property
• The expected replacement property must be specifically identified in writing within 45 days after the date on which you sell the first property to be disposed of in the exchange. Certain limitations apply as to the properties that may be identified.
• You must acquire the identified replacement property no later than 180 days after the date you disposed of the first property in the exchange or the due date (including extensions) of your tax return for the year in which the transfer of the first property occurred, whichever comes first.
• Special considerations apply if an exchange involves related parties. For example, if you swap properties directly with someone related to you, both of you generally must retain the exchanged properties for at least two years. If either property is transferred within two years, you must recognize any gain you deferred on the swap, unless the second transfer occurs because of death or involuntary conversion, or if both transfers qualify as non-tax-avoidance transactions. In addition, you generally may not purchase replacement property from a related party for cash in an exchange.

Many special rules apply in a like-kind exchange, and not all real property is eligible for deferral. As a result, you should consult your tax adviser before entering into such a transaction.

At-Risk Rules

The “at-risk” rules limit your deductible losses to the amount for which you are economically at risk, that is, the amount you could actually lose in a trade or business or a for-profit activity. The rules on what constitutes an activity for at-risk purposes differ and are more restrictive than similar rules under the passive activity loss provisions. Generally, each trade or business activity is treated as separate for purposes of the at-risk rules, with limited exceptions for certain activities conducted through partnerships and S corporations .

The at-risk amount generally includes the cash and adjusted basis of property you contributed to, and the amount you paid for an interest in, the business or for-profit activity. This includes amounts borrowed for use in the activity, but only to the extent you are personally liable for repayment. For example, if you make a loan to the activity or are personally liable through an enforceable guaranty of debt incurred by the business (for which you have no right to reimbursement), your at-risk amount is increased by the amount of the debt and the amount of the guaranty. In addition, there is a special rule that allows inclusion of “qualified nonrecourse financing” in your at-risk amount for real estate activities.

The at-risk amount is increased by income and gain recognized and is decreased by losses and distributions. At the end of the year, if you do not have a positive at-risk amount, deductions or losses generated by the business or for-profit activity are suspended. In addition, if your at-risk amount is less than zero because of distributions, the rules require you to “recapture” (include in gross income) a portion of previously allowed deductions. Finally, when you dispose of the activity, any gain recognized will increase the at-risk amount and allow use of suspended losses to that extent.

The at-risk rules apply to individuals, trusts, estates, and certain closely held C corporations. If a loss or deduction is suspended under the at-risk rules, the loss or deduction cannot be used for any purpose in that tax year. Once the loss or deduction is allowed under the at-risk rules, however, then the rules relating to passive activities (described below) are applied to determine whether you can obtain the benefit of the loss or deduction for tax purposes.

Understanding Passive Activity Rules

The passive activity rules, also called passive loss rules, are designed to prevent individuals (as well as estates , trusts , and certain corporations) from using losses from passive investments to reduce other taxable income. In general, the passive loss rules classify income, gain, loss, and deductions as either portfolio items or trade or business items. Portfolio income (such as interest, dividends, royalties, annuities, and gain or loss from the sale of portfolio assets) is excluded from the passive activity rules. Trade or business activities are classified annually as either passive or non-passive based on your level of participation during the year. Rentals are treated as trade or business activities that are generally passive under the passive loss rules, regardless of your level of participation. (Certain exceptions to this general passive treatment of rentals are discussed above under Second homes and rental property). Trade or business activities may, in some cases, be grouped together if the activities form an appropriate economic unit and satisfy other rules. In this case, your level of participation is determined for the grouped activity, rather than for each trade or business activity within the group. In addition, it is important to note that trade or business activities conducted by partnerships and S corporations you own are classified annually as passive or non-passive based on the participation in the activity by the individual, trust, or estate that is the partner or S corporation shareholder.

Once passive trade or business activities are identified for the tax year, the taxpayer aggregates all income, gain, loss, and deductions from all passive activities. If the total is passive income, then the passive loss rules do not restrict use of any of the losses generated by passive activities.

If the total is a net passive loss, the net passive loss cannot be used for any purpose in that tax year. The suspended passive losses are reallocated among your passive activities and are treated as though incurred in that activity during the next tax year. The effect of the passive loss rules is to suspend net losses from passive activities until you have passive income or dispose of substantially all of the activity in a fully taxable sale to an unrelated buyer. Upon such a disposition, all suspended losses from that activity become deductible against non-passive income.

Excess Business Loss Limitation

For tax years beginning after December 31, 2017, non-corporate taxpayers, such as individuals, estates , and trusts may be significantly impacted by a new limitation imposed on the deductibility of trade or business losses. The recently enacted federal tax legislation includes section 461(l) which introduces a new “excess business loss” limitation. Under the new excess business loss regime, the deduction for certain trade or business losses of a taxpayer may be limited to $500,000 (for married individuals filing jointly) or $250,000 (for other individuals, trusts, and estates). Such limitation amounts are indexed for inflation.

The term excess business loss is defined as the excess (if any) of:

• The aggregate deductions of the taxpayer for the taxable year which are attributable to trades or business of such taxpayer (determined without regard to whether or not such deductions are disallowed for such taxable year under this provision), over
• The sum of (a) the aggregate gross income or gain of such taxpayer for the taxable year which is attributable to such trades or businesses, plus (b) $250,000 (or 200% of such amount in the case of a joint return).

With respect to a taxpayer’s investment in a partnership or S corporation, section 461(l)(4) provides that the taxpayer’s allocable share of income, gain or deduction attributable to trades or businesses of a partnership or S corporation are treated as trade or business income of the taxpayer for purposes of calculating the excess business loss.

Section 461(l) is applied at the individual level after application of the passive loss rules of section 469. Losses that are disallowed under section 461(l) may be carried forward and are treated as part of the taxpayer’s net operating loss (“NOL”) carryforward in subsequent tax years

As noted previously, the new tax law modified the net operating loss provisions under section 172(a). The new law limits the deduction for any particular year to 80% of taxable income for losses arising in tax years beginning after December 31, 2017. Further, for losses incurred in tax years ending after December 31, 2017, you are no longer permitted to carry back such losses, but can carry forward such losses indefinitely. Due to the interaction of the excess business loss and NOL provisions, you should carefully consider the timing (to the extent possible) of realizing items that implicate section 461(l).