The Blog

December 27, 2018

Bunching Deductions: A Firsthand Application

by Josh Clavell

My wife and I bought our first home at the beginning of last year and for the first time in our lives, we itemized on our 2017 return. With the standard deduction doubling in 2018, we quickly found ourselves in the position where we would not be able to itemize, just like so many other taxpayers. Heeding the advice of my tax-knowledgeable coworkers, we prepaid everything we could before the end of 2017 and now find ourselves better situated to itemize every other year.

Piggybank wearning glasses and looking at a calculator

First time homebuyers should’ve meant annual itemizers

My family is blessed to live in San Diego, where we can be comfortable in shorts, flip flops and a hoodie, any day of the year. What isn’t fabulous is the high cost of housing when looking to purchase a home for a growing family. Early in our housing search, my wife and I decided that we wanted a house where we could rent out a portion of the space to supplement the mortgage until our family required the extra space. We ended up finding the perfect house and we now live in 70% and rent out 30% of our square footage.

Taxwise, we were all set up to take advantage of itemization for years to come. Most of our deductions would come from those associated with our home ownership. We were set to average $17,000 in mortgage interest and $7,500+ in property taxes annually for the next 10 years. We figured that even with 30% of these write-offs going toward a Schedule E for rental income, we would be itemizing annually even before we considered our state income tax or charitable giving.

70% of Mortgage Interest $11,900
70% of Property Taxes $5,250
Total Home Deductions on Schedule A $17,150
2017 Standard Deduction for Joint Filers $12,700

Hoping our first time itemizing wasn’t our last

Then the Tax Cuts and Jobs Act (TCJA) was passed, and we quickly went from a position in which we would be itemizing annually, to perhaps never itemizing, as long as 30% of our home deductions were being allocated to our Schedule E. The TCJA almost effectively doubled the Standard deduction in 2018 to $24,000 for joint filers.

70% of Mortgage Interest $11,900
70% of Property Taxes $5,250
Total Home Deductions on Schedule A $17,150
2018 Standard Deduction for Joint Filers $24,000

70% of our home deductions left us $6,850 short of the $24,000 threshold. Even if we could max out the new $10,000 State and Local Tax deduction limit, we would need over $2,100 in charitable deductions to consider itemizing.

Extra Deductions Needed to Itemize $6,850
State and Local Taxes Available $4,750
Charitable Deduction needed to itemize Over $2,100

At this point if we paid everything when it was due, we would be taking the standard deduction every year.

Bunching deductions for the first time

We at Rowling & Associates were very much on top of the tax legislation that was being passed in the last days of 2017. We advised all clients to prepay anything that was allowable at the end of 2017 in the event it was the last year they’d be able to itemize. My wife and I followed the advice and prepaid our January mortgage payment and our April property tax. This move not only allowed us to itemize more in 2017 than we would have, but it also set the course for us being lean on deductions in 2018 and then heavy on deductions in 2019. Here’s how it works out. In 2018, we will be almost $8,500 short of itemizing after home deductions. We intend to take the standard deduction in 2018.

70% of Mortgage Interest in 2018 (11 payments) $12,950
70% of Property Taxes in 2018 (1 payment) $2,573
Total Home Deductions on Schedule A $15,523
2018 Standard Deduction for Joint Filers $24,000

In 2019, I estimate that we will be $1,000 over the itemization threshold before we even consider charitable deductions.

70% of Mortgage Interest in 2019 (13 payments) $15,015
70% of Property Taxes in 2019 (3 payment) $8,050
Extra State and Local Tax to Reach $10k Limit $1,950
Total Deductions on Schedule A $25,015
2019 Standard Deduction for Joint Filers $24,000

Planning your bunched deductions so you are not caught by surprise

If you are thinking that bunching deductions might be beneficial for you, I have two recommendations. First, plan ahead by saving for your bunched deductions. Because the TCJA was pushed through right before the new year, we only had a few days to prepay our property tax to include it as a deduction in our 2017 filing. We dipped into savings and thought we could get our escrow account, where we are setting aside money for property taxes monthly, to pay us back quickly. Even though we provided proof of the early property tax payment to our lender, they wouldn’t process the request until after the property tax due date. In total, it took 5 months to receive the reimbursement check and we were finally able to replenish what we took from savings.

The second recommendation, which dovetails with the first, is to plan for your charitable deductions. Although we gave both cash and noncash donations in 2017 and 2018, we will not receive a tax deduction for the 2018 tax year. We have a giveaway box in our house that when full is brought to Goodwill. We have 6 or 7 receipts from 2018 that we will not be able to deduct. In future “lean deduction years”, we plan to allocate a shelving unit in the garage to stockpile noncash deductions. We can keep inventory as we accumulate giveaways so that when the “heavy deduction year” rolls around we can bring it all to Goodwill and be well prepared to fill it up again and make another donation by year end. This will also help prepare us to complete Form 8283 for noncash donations exceeding $500 in value, so that we have a list of everything that we gave away.

Applying the same idea of stockpiling noncash donations to your cash donations will also serve you well. If you give $75 per month, you can save enough money in 24 months to open a donor advised fund. From that point forward, you will want to contribute to the fund only in those years you are itemizing, but you can give $100 distributions to your favorite charities whenever you want.

Bunching deductions is a strategy that is going to allow my family to itemize every other year for the foreseeable future. If you think this is a strategy that can work for you, we recommend you speak with whomever prepares your taxes.