The Effects of Expiring Tax Provisions on Families & Businesses
Matt Wagner, Chief Practice Officer
Taxpayers, individuals, and businesses alike can expect to work some old muscle memory over the next few years as we prepare for the expiration of the 2017 Tax Cut and Jobs Act (“TCJA”). Many provisions will revert to pre-2018 laws if Congress doesn’t take action. A lot of this happens after 2025, but some provisions start to expire at the end of 2022. That leaves us four years or less to plan for personal, business, and estate taxes.
How soon we forget. Before TCJA, we could write off more than $10,000 in State and Local Taxes (“SALT”). Today we are limited to just $10,000 in SALT write-offs. Before 2018, the deduction for SALT was essentially unlimited but subject to phase-out as income exceeded $313,000 per couple. These phase-outs are often referred to as the "Pease limitations," honoring Rep. Don Pease (D-OH), who authored the legislation that disallowed itemized deductions over a certain threshold.
The standard deduction, which taxpayers use when their total itemized deductions are smaller, would also decline. Today, taxpayers use the standard deduction when their itemized deductions are less than $26,000. The standard deduction was much lower in 2017. Adjusted for inflation, the 2017 standard deduction would be around $15,000 today.
Compared to 2017, even after adjusting for inflation, the marginal tax rate and brackets are better today. This adjustment was done because of the limits on SALT deductions. In 2022, the highest bracket is 37%, which starts when couples make approximately $650,000. In 2017, the highest bracket was 39.6%, which started at around $470,000 — adjusted for inflation, that would be about $565,000 today.
So, if TCJA expires, not only does the rate increase, but the level of income where the rate applies is significantly lower. Upon expiration, the same 39.6% rate applies to Trusts & Estates, but this happens when their income is over $13,500.
Alternative Minimum Taxes
One of the most impactful changes under TCJA for business owners and executives impacts Alternative Minimum Taxes (“AMT”) calculations. AMT impacted a lot of taxpayers prior to the TCJA and most have forgotten about this "gotcha" tax since then. For couples, the TCJA raised the exemption level to $118,000 and the income threshold where the AMT exemption phases out to $1 million. The 2017 inflation-adjusted exemption for a couple would be about $102,000 today—not much different. But the inflation-adjusted income level for phase-out would start at just $193,000.
Now is the time to review a list of preference items for AMT to maximize their use over the next couple of years in case this law reverts to 2017 levels.
Estate & Gift Provisions
For affluent families, the most costly law to expire in 2026 impacts the estate and gift tax provisions. TCJA doubled the estate and gift tax exemption and continued to index the exemption levels for inflation.
This year, the federal estate and gift tax threshold increased to $12.06 million per individual and $24.12 million for a couple. In 2026, the estate and gift exemption will revert to pre-TCJA levels, cutting them in half.
The good news?
You don't have to be deceased to use this exemption. You can use the entire $24 million exemption today and not pay the tax if the law reverts. This exemption should be on almost every affluent family's discussion list and it is not a DIY task.
Expert guidance is needed as this subject can get complex quickly.
Guidance for Business Owners
A couple of items related to the TCJA expiration warrant the attention of business owners specifically. First, TCJA lowered the Corporate Tax Rate to 21% from 35%. This impacts what are often referred to as C-Corps.
The good news for C-corps?
This does not expire.
In an effort to equalize certain flow-through companies (LLCs and S-Corps) to C-Corps, they were afforded a similar deduction through section 199(a) that reduced their taxable income by 20%. This effectively makes their marginal tax rate 29%. However, the 199(a) deduction expires after 2025. If it is not addressed before that time, flow-through entities will be less attractive in 2026 because of the lost deduction and the marginal rate increase to 39.6%. Many believe this will likely be extended to keep flow-through entities on the same "playing field" as C-Corps.
The expanded 179 deductions of up to $1 million and the $2.5 million income phase-out remain in place after 2025. So businesses that make less than $2.5 million will still be able to expense 100% of qualified purchases after bonus depreciation expires. Businesses that make more than $2.5 million will slowly lose the ability to accelerate deductions.
Businesses who use Bonus Depreciation want to pay attention here. Today businesses can choose to write off 100% of the cost of tangible assets with a useful life of less than 20 years. Starting in 2023, the maximum first-year bonus depreciation allowed will decline by 20% annually until it reaches 20% in 2026.
While potential tax legislation to extend the TCJA provisions is possible before the sunset in 2026, I would not rely on it. The risk of waiting to see what will happen may put you at risk of running out of time.
Start today with a team of advisors, such as your family office advisor, attorney, and tax advisor, to put a holistic plan in place—understanding both the income and estate tax changes that potentially materialize.
NEW Missouri SALT Parity Act
On June 30th, 2022, Mike Parson signed into law the Missouri Salt Parity Act. Starting in 2023, this allows flow-through businesses whose owners pay Missouri tax to pay that tax at the corporate level and deduct this payment when calculating income that flows through to the business owner's return.
Then, the owner is allowed a credit on their Missouri return of 95% of the taxpayers' pro-rata share of the Missouri taxes paid. In summary, you can get around the $10,000 SALT deduction limits on the federal return if you own a flow-through business. Since the SALT deduction limits are set to expire, this impacts business owners from 2023 to 2025 unless the TCJA is extended.
Chief Practice Officer
Trust & Family Office Advisor
DISCLAIMER: This newsletter is intended to provide thought-provoking commentary. The information presented herein has been obtained from and is based upon sources and vendors deemed to be reliable, but may be incomplete. Parkside Financial Bank Trust does not itself endorse or guarantee, and assumes no liability for, the accuracy or reliability of any third party data or the financial information contained herein. Parkside Financial Bank Trust is not a tax advisor. All decisions regarding the tax implications of your investments should be made in consultation with your independent tax advisor. We will work with you independent tax and/or legal advisor(s) to help create a plan tailored to your specific needs. The material contained herein is for informational purposes only and does not constitute tax advice. Investments are not insured by the FDIC or any federal government agency, provide no bank guarantee, are not a deposit and may lose value.