The tax law changes that took effect in 2018 were tough for taxpayers to get used to. With brand new tax forms and big changes to key aspects of the tax system, including tax rates, the size of the standard deduction, and the elimination of some favored tax breaks, many taxpayers saw impacts on their taxes they didn't expect.
One big change that had a dramatic impact was the elimination of the personal exemption. Going back for decades, taxpayers had been allowed to claim personal exemptions to reduce their taxable income by thousands of dollars. In 2018, that went away, and although it doesn't look like personal exemptions are coming back, taxpayers need to understand some of the trade-offs that could leave them ahead in the long run.
Why people liked personal exemptions so much
Everyone likes tax breaks, but a simple, easy-to-understand tax break is even better. In general, for every person in your family, including yourself, you were able to claim a personal exemption. So if you were single with no kids, you got one personal exemption. If you were married, filed jointly, and had two eligible kids, you'd get four personal exemptions.
For every exemption you had, you were typically allowed to take a fixed amount off your taxable income. In 2017, the last year when personal exemptions were available, you would have gotten $4,050 per exemption.
Because the personal exemption was a deduction from income rather than a credit against tax, it was worth more for high-bracket taxpayers than for low-bracket taxpayers. But even for those in the 10% bracket, savings of $405 per person was valuable.
What took the place of personal exemptions?
When personal exemptions got taken out of the tax laws, other provisions took their place. In particular, lawmakers focused on the standard deduction and the child tax credit to provide savings similar to what the personal exemption did previously.
The boost to the standard deduction effectively baked personal exemptions into the standard deduction numbers. The amount of the increases worked out to about 1.5 personal exemptions for single filers and three personal exemptions for joint filers. However, that was only valuable if you had taken the standard deduction previously. Many of those who had itemized before the new tax laws took effect got no benefit at all from the standard deduction increase.
Meanwhile, the increase in the child tax credit also helped families who had previously claimed personal exemptions for kids. With the credit amount doubling from $1,000 to $2,000, that extra $1,000 worked out to just over what a personal exemption would be worth to someone in the 24% tax bracket. More taxpayers got to use the credit, as well, because income limitations were increased.
Don't expect to see personal exemptions again
The boosts to the standard deduction and child tax credit didn't perfectly align with every taxpayer, but they did keep things relatively simple. That was especially true for high-income taxpayers, because under previous tax laws, personal exemptions actually got phased out once your income reached certain levels. The phase-out calculations were complicated, so getting rid of the exemptions entirely took away one area of complexity when people filed their tax returns.
All in all, personal exemptions provided more benefit than current tax law to some taxpayers, while other taxpayers save more in taxes under the new provisions. With no likelihood of further tax reform unless the divided government in Washington gives way after the 2020 elections, taxpayers can't reasonably expect personal exemptions to come back anytime soon -- if ever.