Tax Talk: Prepay Property Taxes or Not!

Happy Holidays!

And here is some tax talk in an Oracle blog! New tax bill has been signed into the law last week. There is lots of information on the web on this subject.There are lots of news paper articles on it. Many articles focus on how to save or reduce your tax bill, specifically in 2017. Some of these articles are useful while others are confusing! I did some research on prepaying 2018 property taxes in 2017. The below is the summary of what I learned. 

If you are taking a standard deduction, or you do not itemize, then the discussion of prepaying local property taxes is a moot point. You don’t need to read this message any further.

If you are not taking a standard deduction, then read on. The primary rationale behind the recommendation to prepay local property taxes this year is the provision in the new tax law that will limit, or cap, SALT deductions to 10K. The SALT, which stands for State and Local Taxes, includes state income tax and house/car property taxes. There is no limit or cap on the SALT taxes in the current tax law - you can deduct all your SALT taxes, but the new law imposes 10K limit on it.

For many home owners, the property tax burden is more than 10K. And that’s only the home property tax. To calculate total SALT tax bill, you need to add state income tax and car property tax bill to it, and you are likely to be quite above 10K. If you itemize now, then you can deduct all your SALT taxes, but you won’t be able to deduct more than 10K next year. The max you can deduct in 2018 is 10K. 

Assuming your SALT tax bill is 20K, you are likely to lose 10K deduction in 2018. So the recommendation is – why not to prepay property taxes so that we can deduct all SALT taxes while the current law allows it. Let’s assume that you prepay 10K in property taxes which could save you 2K in taxes (assuming your tax rate is 20%). That’s 20% return on your 10K investment! Quite nice!

Although 20% ROI is quite nice, everyone’s tax situation is quite unique and different. You may not get 20% ROI! One factor that could limit your potential ROI is AMT (Alternative Minimum Taxes). If you prepay now, your total deductions would be further increase which could trigger AMT or increase your AMT tax bill. If you are currently paying AMT, then prepaying property taxes may not yield any federal tax savings. Your tax savings could very well be a wash due to AMT. If you are not currently paying AMT, then additional property tax deductions may trigger AMT and could reduce your federal tax savings. 

In summary, if you decide to prepay property taxes, your federal income tax savings will be based on your situation, or more specifically AMT situation. However, your state tax bill would be lower as AMT calculations are only applicable to the federal taxes, but the state tax savings are not as large as federal tax savings.

Please do crunch numbers for your situation just to make sure before you decide to prepay! 

Hope this helps!