Are you Ready for Tax Changes Ahead? by Michael Brennan, CPA
Many of the taxpayer-friendly provisions of the tax code introduced by the Tax Cuts and Jobs Act (TCJA) in 2017 are set to expire at the end of 2025, exposing individuals and businesses to the prospect of significantly higher tax liabilities beginning in 2026. While it is possible lawmakers will intervene and extend some provisions of the law and make others permanent, it is important to recognize that we are in an election year when the winds of political power can shift widely. Not only is 2024 expected to include a contentious race for the presidency, but it also puts up for grabs one-third of the seats in the Senate and all 435 seats in the House of Representatives.
Here, we look at some of the expiring provisions of the 2017 Tax Cuts and Jobs Act that taxpayers should have on their radar and be prepared to address when planning for tax efficiency in the years ahead.
Individual Taxes
Marginal Income Tax Rates
The TCJA effectively lowered tax liabilities for 95 percent of all taxpayers at all income levels in 2018 by reducing the marginal income tax rates (which now top out at 37 percent instead of 39.6 percent) and nearly doubling the standard deduction to $12,000 for individuals and $24,000 for married couples filing joint returns.
Estate Tax Exemption
The law also doubled the federal estate tax exemption from approximately $5.5 million for individuals in 2017 to $11.2 million in 2018. Today, individuals may exclude $13.61 million from estate tax or $27.22 million for married couples filing joint tax returns. However, in 2026, those amounts are scheduled to revert to their 2017 levels, exposing significantly more families to onerous estate taxes at a rate of 40 percent. The good news for taxpayers is that they can employ various gifting strategies and trust vehicles to remove appreciated assets from their taxable estates without giving up all control and access to those assets in the future.
Itemized Deductions
Some of the unpopular provisions of the original law, which are set to expire in 2026, include a suspension of miscellaneous itemized deductions (i.e., fees for accounting and legal services, investment expenses and unreimbursed employee expenses) and a $10,000 cap on deductions for state and local taxes (SALT), including income and property taxes. However, taxpayers operating as small businesses and sole proprietors have been able to circumvent the rules, disallowing deductions for certain miscellaneous expenses when those costs are incurred in the ordinary course of a trade or business activity. Similarly, most U.S. states enacted laws that have helped taxpayers with pass-through entities (i.e., S corporations, partnerships and certain LLCs) work around the SALT limit. Yet, sunsetting these provisions at the end of 2025 may help a broader range of taxpayers deduct more expenses (when they exceed 2 percent of a taxpayer’s adjusted gross income) and ultimately reduce their taxable income. Under these circumstances, many taxpayers may consider deferring income until 2026 to take advantage of the availability of fully deductible expenses to offset taxable income.
Business Taxes
Qualified Business Income Deduction for Pass-Through Entities
The TCJA permanently reduced the corporate tax rate from 35 percent to a flat 21 percent. It also introduced a temporary deduction of up to 20 percent on certain qualified business income (QBI) that flows from domestic pass-through entities (PTEs) to their owners’ individual income tax returns. The QBI deduction, which is also referred to as a Section 199 deduction, is set to expire at the end of 2025, leaving LLCs, partnerships, S corporations and sole proprietorships with the prospect of higher tax liabilities, including an increase in the tax rate on pass-through income from 29.6 percent to 37 percent and a resulting restriction on cash flow. Taxpayers may consider accelerating income into 2025 and deferring expenses until 2026 to increase income eligible for the QBI deduction. This strategy may also enable taxpayers to recognize more income in 2025 before the individual tax rates rise in 2026.
Under certain circumstances, it may behoove taxpayers to restructure as C corporations, provided they also weigh the risks of double taxation and the tax treatment of retained profits and dividends paid to owners and partners of C corporations. For example, a conversion to a C corporation may make sense for business owners who intend to reinvest profits in their companies. For those businesses looking to distribute profits to owners, restructuring to a C Corp would be extremely costly.
Bonus Depreciation
One of the most significant tax benefits businesses will lose in 2027 is bonus depreciation, or the ability to immediately write off the costs of new and used depreciable property, including machinery and office furniture, computer systems and software, vehicles, and certain improvements made to the interior of nonresidential buildings, in the year the taxpayer places that property in service. Under the language of the TCJA, businesses initially received a 100 percent bonus depreciation for qualifying property placed in services between Sept. 27, 2017, and before Jan. 1, 2023. However, the deduction decreased to 80 percent in 2023 and 60 percent in 2024 and will continue to decline by 20 percent until it phases out entirely in 2027. Consequently, it makes sense for taxpayers considering investments in qualifying property to expedite those purchases this year and reap the savings available to them currently.
Business Interest Expense Deduction.
Not all expiring provisions of the TCJA are bad news to taxpayers. For example, the law imposed a cap on business interest expense (BIE) deductions for taxpayers with average annual gross receipts of $25 million or less for the three previous tax years unless they qualified for an exception. For tax years 2018 through 2022, the deduction was limited to 30 percent of adjusted taxable income (ATI) before interest taxes, depreciation and amortization (EBITDA) for tax years 2018. In 2023, the deduction decreased further through 2026 by eliminating a taxpayer’s ability to add depreciation and amortization expenses back into the calculation of ATI. In 2027, the limitation is set to expire, allowing taxpayers again to write off 100 percent of the interest accrued and paid on loans, credit cards and other types of business-related debt instruments executed as part of an active trade or business.
International Corporate Tax Regimes
The TCJA introduced a series of regulations expanding the tax treatment of foreign-derived income and cross-border transactions to prevent multinational businesses and their U.S. investors from shifting profits to low-tax jurisdictions and ensuring they pay their fair share of U.S. taxes. While these regimes are not scheduled to expire, affected taxpayers should be aware of effective tax rate changes that take effect in 2026.
The first is the introduction of a tax on global intangible low-taxed income (GILTI), defined as the foreign income of a controlled foreign corporation (CFC) operating outside the U.S. with more than 50 percent ownership by U.S. shareholders that exceeds 10 percent of the CFC’s return on all foreign depreciable assets, including plants, equipment and real estate. Under the law, U.S. taxpayers who own at least 10 percent ownership interest in a CFC must presently report and pay to the IRS a minimum GILTI tax of 10.5 percent on their pro rata share of the CFC’s income, including Subpart F income. In 2026, the tax rate will increase to 13.125 percent.
By contrast, the TCJA introduced a 37.5 percent deduction on the profits U.S. corporations earn from foreign-derived intangible income (FDII), which is defined as income C corporations earn from (1) sales or other dispositions of property to a foreign person for a foreign use; (2) an IP license granted to a foreign person for a foreign use; and (3) services provided to a person located outside of the U.S. In 2026, the deduction will decrease to 21.875 percent, effectively increasing the effective tax rate on FDII from 13.125 percent to 16.406 in two years.
Finally, there is the Base Erosion Anti-Abuse Tax (BEAT), a minimum tax imposed on certain corporate taxpayers that make certain base-erosion payments to foreign-related parties. The tax, which will increase in 2026 from 10 percent to 12.5 percent, generally applies to domestic corporations with 1) average annual gross receipts of at least $500 million for the preceding three years and 2) a 3 percent or greater base erosion percentage for the taxable year.
About the Author: Michael Brennan, CPA, is a director of Tax Services with Berkowitz Pollack Brant Advisors + CPAs, where he provides tax consulting and advisory services to high-net-worth families and businesses in a wide range of industries, including professional services, manufacturing and private equity. He can be reached at the CPA firm’s New York office at 332-960-1287 or info@bpbcpa.com.
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