The Tax Effects of the Sunsetting of the Tax Cuts and Jobs Act

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Introduction

In 2017, the United States enacted the Tax Cuts and Jobs Act (TCJA). The TCJA introduced sweeping changes including reduced tax rates, changes to individual tax deductions, and significant alterations to business tax calculations. However, many of these provisions are set to expire after 2025, unless Congress acts to extend them. Now is time to consider the effects of these expiring provisions.  

Brief Overview of Key Provisions

Individual Taxes

Some of the major changes resulting from the TCJA were reduced individual income tax rates, elimination of personal exemptions, increase in the standard deduction, doubling and expanding of the Child Tax Credit, capping the itemized state and local tax deduction at $10,000 and reducing interest on mortgage indebtedness to form $1,000,000 to $750,000.

The individual tax rate cuts are scheduled to expire at the end of 2025. This means that starting in 2026, tax rates could revert to pre-TCJA levels if Congress does not take action to extend or make them permanent. Most of the other key provisions will revert to pre-TCJA rules as well.

Business Taxes 

The corporate tax rate was lowered from 35% to 21%, Business owners not operating as a C corporate but rather as a pass-through entity such as a sole proprietors, partnership, or S corporation, benefited from a new 20% deduction on qualified business income to approximate the reduced C Corporation rate. Also, the TCJA provided a 100% bonus depreciation for businesses, which is set to phase down starting in 2023 and expire by the end of 2026, returning to the pre-TCJA depreciation rules.

The reduced C corporate tax rate is permanent, but the 20% deduction on qualified business income for pass-through entities is set to expire at the end of 2025 unless Congress acts to extend it. Other key business provisions, such as bonus depreciation, are scheduled to phase out gradually over time.  

Estate Taxes

The TCJA doubled the basic exclusion amount for estate taxes from $5 million to $10 million, indexed for inflation. For 2021, this meant an individual could leave up to $11.7 million without incurring federal estate tax, and in 2022, the amount increased to $12.06 million.

If the TCJA expires, the basic exclusion amount would revert to the pre-TCJA level adjusted for inflation. This is expected to be around $5 million per person, adjusted for inflation from 2011. This means that the exemption amount would be significantly reduced, potentially subjecting more estates to federal estate tax. There also has been discussion about removing the ability to step-up basis to fair value for assets passed on by the deceased through an estate, but as of now if the TCJA simply expires without new legislation the step-up rules will remain unchanged.

What Should Taxpayers and Businesses Do?

Taxpayers should work with financial professionals to understand potential future tax burdens from these changes. Depending on individual circumstances, it might make sense to accelerate income into the years with lower tax rates or defer deductions until after the rates increase. Non-C corporation tax structures such as S-corporations or partnerships, could become less tax-efficient post-TCJA. Business owners may want to reevalute their entity structures. Those with estates that could be subject to the estate tax should consult with an estate planner to discuss strategies that consider the potential decrease in the estate tax exemption.

Conclusion

The looming expiration of the TCJA’s key provisions underscores the importance of proactive tax planning. Tax laws are subject to change, and there’s always the possibility of new legislation that could extend or permanently adopt some of the TCJA provisions. Keeping abreast of these changes and maintaining a flexible financial strategy is advisable. While it’s impossible to predict exactly how Congress will address the expiring provisions of the TCJA, what’s certain is that change is on the horizon. By preparing now, taxpayers can help mitigate the impact of these changes and secure their financial future in an uncertain tax environment.

The Tax Cuts and Jobs Act (TCJA) brings potential tax changes after 2025, affecting individual and business taxes, as well as estate taxes. It is crucial for taxpayers and businesses to understand these potential changes and strategize accordingly. Don’t get caught off guard — prepare for the future with insightful analysis and advice.

Voss Real Estate Advisors

November 17, 2023

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