Tax Policy: The Next Political Battle

We’re in the midst of an election year that, according to polling, very few Americans are excited about. Those seeking relief from political debate will need to wait to the end of 2025 and perhaps beyond thanks to the expected political battle over the expiration of the 2017 Tax Cut and Jobs Act (TCJA)¹, which sunsets on December 31, 2025. 

The fate of the TCJA will have wide ranging implications for many Americans – and create planning opportunities.  If the extensions are ultimately passed by budget reconciliation – which is how most large pieces of legislation are passed today - the party controlling Congress and the White House will have a big influence in policy decisions with very little input from the minority party.  

Adding to the intrigue is the way the TCJA was written, as its provisions sunset with no action required from Congress.  The fiscal environment has changed dramatically as well, with much higher deficits now than in 2017.  This will require serious trade-offs to balance tax cut extensions in one area with revenue raising in another.  

At this early stage, we can’t handicap with much certainty what the tax law will look like in 2026.  We can, however, identify the high impact potential changes that taxpayers need to pay attention to now in order to lay the groundwork for potential planning opportunities over the next 12-18 months.

Estate Tax Exemption:
The federal estate tax exemption was significantly increased with the TCJA, going from $5.49 million in 2017 to $11.8 million the following year, inflation adjusted.  Currently the exemption is $13.61 million for 2024, or $27.22 million for a married couple.  This has rendered the estate tax a non-event for the vast majority of Americans at the federal level.  However, the estate tax is very much impactful at the state level in some cases.

Should the higher exemption not be extended, it will revert back to 2017 levels starting January 1, 2026, adjusted for inflation.  This means an exemption level estimated to be between $7 – $8 million, or $14 – $16 million for a married couple.  

Planning implications: 
In the time since the estate tax exemption was raised, two main sources of wealth for individuals have appreciated considerably.  The S&P 500 has run up 120% from the end of 2017 through March 31, 2024² and home prices have also appreciated substantially, particularly since Covid.  This means the individual who may not have had a federal estate tax issue in 2017 at $5.49 million may have one at $7 – $8 million in 2026.  

The silver lining is the IRS has ruled that there would not be any claw backs of gifts made during the TCJA so that individuals are free to use up the full $13.61 million exemption without fear that half of it may be subject to estate taxes. 

For individuals and families with a potential estate tax liability after 2025, a few techniques should be considered.  Married couples can take advantage of Spousal Lifetime Access Trusts (SLATs), which effectively gift the exclusion amount to the other spouse while retaining an income stream from the gifted assets.  Grantor Retained Annuity Trusts (GRATs) also can be used to donate securities, receive an income stream, and have the appreciation pass on the beneficiaries outside of the estate – though this strategy is somewhat less impactful today than it was during the low interest rate era.  The charitably inclined can establish Charitable Remainder Unitrusts (CRUTs) to benefit a cause meaningful to them, remove assets from their estate, and retain an income stream.  Charitable giving may be more advantageous in 2026 and beyond however, should tax rates increase (more on that below).

The above-mentioned strategies can get complicated and require the expertise of an estate planning attorney.  Examples of “DIY” strategies to reduce your taxable estate include a grandparent gifting $90k to each grandchild’s 529 account to take advantage of the special 5-year gifting rule for 529 accounts.  Outright gifts to children up to the annual exclusion ($18k per person for 2024) can really start to move the needle if done regularly and have the added benefit of seeing how the gifts are enjoyed.  Other examples like this include taking the whole family on a fabulous vacation – if you can’t take the money with you, why not enjoy it?

Taxes:
The TCJA cut the top income tax rate to 37% from 39.6%, along with lowering and widening the other brackets below it.  The standard deduction doubled and is currently $29,200 for married filers, dramatically reducing the number of taxpayers who itemize.  Conversely, many deductions were limited or removed all together, notably the $10,000 limit on state and local taxes (SALT), mortgage interest capped to loans of $750k or less, and miscellaneous itemized deductions removed altogether.

Planning Implications:
Many taxpayers are set to have higher tax rates in 2026 should these provisions expire.  Tax planning techniques should therefore be focused on 1) accelerating the realization of income and 2) delaying deductible expenses.
 

• Roth Conversions – investors should consider converting a portion of their retirement assets to Roth IRAs, benefitting from today’s lower tax rates.  This article has a great summary of this tax strategy.
• Timing of Deductions – particularly in 2025, it may be beneficial to push charitable contributions and other deductible expenses to 2026 as tax deductions are more valuable in a higher tax rate/lower standard deduction environment.
• Timing for Home Improvement Projects – beginning in 2026, mortgage interest on the first $1 million in home indebtedness is deductible, along with $100,000 in home equity loans. 
• Business Structure – the 21% corporate tax rate for C corps is not expiring and thus may become tax advantaged versus partnerships and S-corporations.

Everyone is going to be impacted by the expiration of the TCJA in some way, and not all planning techniques will be applicable in each situation.  It’s important to speak with your financial advisor and coordinate with your estate attorney as early as possible to develop a game plan that makes sense for you.  
 

Meet Matt Cohen, CFP®, CIMA® »

Read the May 2024 Financial Planning Focus:

• “Are You Expecting Too Much from Your Target Date Fund” by Kristan L. Anderson, CFP®, CEBS® »
• “Long-Term Care” By Angel Irazola »
• "Naming a 401K Beneficiary" by Kristan L. Anderson, CFP®, CEBS® »

SOURCES

¹https://www.thetaxadviser.com/issues/2023/dec/tax-planning-for-the-tcjas-sunset.html

²_Factset
 

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