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Now that we are officially in calendar year 2024, taxpayers should start planning for the sunset of many tax-favorable positions at the end of 2025.
The 2017 Tax Cuts and Jobs Act (TCJA) made sweeping changes to the tax code that affected both businesses and individuals. The TCJA lowered both corporate and individual income tax rates, almost doubled the amount of the standard deduction, and expanded the amount of the estate and gift exclusion from $5.6 million to $11.18 million, indexed for inflation after 2018. Most of the TCJA provisions are scheduled to sunset at the end of 2025 and these changes have both income tax and wealth transfer implications. Unless legislative action is taken, the window to take advantage of tax saving opportunities will close. See below for further discussion about these expiring provisions.
The TCJA temporarily increased the amount of available estate and gift tax exemption from $5.6 million to $11.2 million, indexed for inflation. For the 2023 tax year, the basic exclusion is $12.92 million ($13.61 million in 2024). After 2025, absent any legislative changes, the exemption amount will automatically return to the pre-TCJA level of $5 million per individual, adjusted for inflation. The IRS has issued final regulations that ensure there will be no claw back of the temporarily increased exemption if the taxpayer makes gifts and claims the higher exclusion amounts in effect from 2018 to 2025. This creates the opportunity for planning to utilize the “excess” exemption before it is reduced at the end of 2025 as the potential cost to a married couple is $5,444,000 in estate and gift taxes. Please see our Gift and Estate Planning Methods article for more information about techniques available to help you navigate and create a successful wealth transfer plan.
The individual income tax rates and brackets in 2026 will revert back to pre-TCJA levels with the expiration of the tax rate cuts enacted by the TCJA. The top marginal rate would increase from 37% to 39.6%. Moreover, for those who had been able to claim the tax benefit of the 20% QBI deduction (discussed below), the rate could increase from an effective rate of 29.6% to 39.6%, resulting in a 33% tax rate increase. Taxpayers should be prepared for this projected rate increase and steps should be taken now to minimize its impact.
After the TCJA, fewer individuals were subject to the AMT because of higher exemption amounts and a phase out at higher income levels. Some of the most common AMT adjustments, including the deductibility of state and local taxes, were limited or repealed. For tax year 2023, the AMT exemption amounts are $81,300 for single taxpayers and $126,500 for married taxpayers filing jointly. After 2025, the AMT liability could return in full for individuals as exemption amounts will reset to pre-TCJA levels.
The TCJA lowered the top marginal corporate income tax rate from 35% to 21%. To level the playing field for businesses that were operated through pass-through entities and sole proprietorships, the 20% QBI deduction was enacted, effectively reducing the top individual rate from 37% to 29.6% for those eligible to claim this deduction. While the lower 21% corporate tax rate is slated to remain in effect, the QBI tax savings opportunity is scheduled to expire after 2025. However, the large projected rate difference between C corporation income and passthrough entity income may offer planning opportunities and places a greater emphasis on choice of entity.
The TCJA eliminated or restricted many itemized deductions beginning in the 2018 tax year and the standard deduction nearly doubled in amount (to $13,850 for single filers and $27,700 for married filing joint filers in 2023). As a result, many individuals who had itemized prior to the TCJA no longer found it beneficial and instead claimed the standard deduction. With the sunset of this provision, the standard deduction would be cut in half in 2026 and more individuals would consider itemizing deductions with their taxes.
Although individuals could continue to deduct state and local taxes, the TCJA capped the deductible amount at $10,000. This cap was not indexed for inflation. For individuals who were resident in states with high income and property tax rates, this limitation significantly increased their federal income tax burden. This limitation is scheduled to expire at the end of 2025 and, absent enactment of a new law, the ability to itemize and deduct state and local taxes in full will return in 2026. Please see further discussion in this article regarding the AMT and the PEASE limitation as the benefit of SALT deductions can be limited by these other provisions returning in 2026.
As a result of TCJA, charitable deductions limitations for individuals were increased in some years to 100% of adjusted gross income (AGI) for qualifying contributions. For the 2023 tax year, cash contributions to public charities are subject to a limitation of 60% of AGI. After 2025, the AGI limitation will return to the pre-TCJA level of 50% of AGI. Careful planning for charitable giving now can help to ensure utilization of the increased charitable giving threshold.
The TCJA limited the deductibility of mortgage interest to the first $750,000 of mortgage debt unless the debt was “grandfathered” as a loan taken out prior to December 15, 2017. Deductibility of home equity interest was also limited to loans up to $100,000 only if the proceeds of the loan were used to buy, build, or substantially improve the home secured by the loan. The deductibility of mortgage loan interest will return to the higher pre-TCJA level of $1,000,000 for acquisition debt plus $100,000 of qualified home equity interest debt unless Congress passes legislation to modify this provision.
Prior to the enactment of the TCJA, there was an overall limitation on itemized deductions, often referred to as the “PEASE” limitation, that could reduce itemized deductions by up to 80% for high income taxpayers. This limitation was temporarily eliminated with the enactment of TCJA, thereby allowing full deduction of itemized deductions regardless of income levels. The PEASE limitation is slated to be reinstated in 2026 and could significantly reduce the amount of itemized deductions allowed for high income taxpayers.
The TCJA provided a new opportunity for taxpayers to defer capital gains into Qualified Opportunity Funds (QOFs) beginning in tax year 2017. The major benefits to investing in the QOFs include:
While some of the incentives for Opportunity Zone investment do not technically “sunset,” it is worth noting the end of the deferral period. A taxpayer who properly reinvested capital gain in a QOF can defer that gain until the earlier of disposition of the investment or December 31, 2026. If the taxpayer continues to hold the QOF investment until December 31, 2026, the taxpayer will recognize the remaining deferred gain, potentially resulting in phantom income. As a result, taxpayers may need to plan to pay additional tax for the 2026 tax year. The maximum amount of incentives available for QOFs dissipate over time, however the exclusion benefit for investments in QOFs will continue to be available for investments made through 2026 if the investment is held for at least 10 years.
Planning for the sunset of these provisions could help to ensure optimal tax savings. Please use the form to reach out to a member of our team to plan for the upcoming tax law changes and develop a comprehensive tax strategy tailored to your specific set of facts and circumstances.
The information provided in this communication is of a general nature and should not be considered professional advice. You should not act upon the information provided without obtaining specific professional advice
