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By now you have probably gotten used to the provisions in the Tax Cuts and Jobs Act (TCJA) that became effective January 1, 2018. But don’t forget, most of the tax changes made by the TCJA are not permanent and will expire (sunset) after 2025. This will have an impact on long range tax planning and will result in a mixed bag of tax increases and tax cuts. How it will impact individual taxpayers will depend upon which provisions of TCJA affect them. The following is a review of the most significant changes for individuals when TCJA expires if Congress doesn’t intervene.
Estate Tax Exclusion – TCJA virtually doubled the inflation-adjusted estate and gift tax exclusion as illustrated in the table below. This benefited wealthier taxpayers with larger estates. Also illustrated in the table is the inflation adjusted amount for 2023.
Most taxpayers have estates well under the pre-TCJA exclusion amount and will not be affected by a restoration of the lower amounts. However, this is not true of wealthier taxpayers, especially considering the estate tax rate is currently 40%. This provision is the most discussed when we look ahead to 2026.
Standard Deductions – The standard deduction is that amount of deductions you are allowed on your tax return without itemizing your deductions. The standard deduction is annually adjusted for inflation. In 2018, the TCJA just about doubled the standard deduction as illustrated in the table below that also illustrates the 2023 standard deduction amounts. With the expiration of TCJA the standard deduction will be cut roughly in half.
The increased standard deduction under TCJA benefited lower income taxpayers and retirees, whose itemized deductions often were just barely more than the pre-TCJA standard allowance. The increased standard deductions also meant fewer taxpayers claimed itemized deductions – roughly 10% of filers now itemize versus 30% before TCJA.
Personal & Dependent Exemptions – Prior to 2018, the tax law allowed a deduction for personal and dependent exemption allowances. One allowance was permitted for each filer and spouse and each dependent claimed on the federal return. Under the current law, there is no dependency exemption.
Child Tax Credit – Prior to 2018 the child tax credit was $1,000 for each child under the age of 17 at the end of the year. With the advent of TCJA the child tax credit was doubled to $2,000 for each child below the age of 17 at the end of the year. This more than made up for the loss of a child’s personal exemption deduction for lower income families.
If the credit is allowed to revert to the pre-TCJA amount of $1,000 and the lower income phaseout levels, it will have a significant negative impact on families.
You may recall that for one year during the Covid-19 pandemic, the child credit amount was increased to $3,000 or $3,600, depending on the child’s age, and other temporary changes were made. Some in Congress want to permanently bring back these enhancements, so that possibility could become part of any legislative negotiations surrounding the sunsetting or extension of TCJA provisions.
Home Mortgage Interest Limitations – Prior to the passage of TCJA taxpayers could deduct as an itemized deduction the interest on $1 million ($500,000 for married taxpayers filing separate) of acquisition debt and the interest on $100,000 of equity debt secured by their first and second homes. With the passage of TCJA, the $1 million limitation was reduced to $750,000 for loans made after 2017 and any deduction of equity debt interest was suspended (not allowed). A return to pre-TCJA levels will tend to benefit higher income taxpayers with more expensive homes and higher mortgages.
Tier 2 Miscellaneous Deductions – TCJA suspended the itemized deduction for miscellaneous deductions for tax preparation and planning fees, unreimbursed employee business expenses, and investment expenses. Most notable of these is unreimbursed employee expenses which allowed employees to deduct the cost of such things as union dues, uniforms, profession-related education, tools and other expenses related to their employment and profession not paid for by their employer. Investment expenses included investment management fees charged by brokerage firms. These types of expenses were allowed only to the extent they totaled more than 2% of the taxpayer’s adjusted gross income. These expenses are currently not deductible.
SALT Limits – SALT is the acronym for “state and local taxes”. TCJA limited the annual SALT itemized deduction to $10,000, which primarily impacted residents of states with high state income tax and real property tax rates, such as NY, NJ, and CA. Several states have developed somewhat complicated workarounds to the $10,000 limits that benefit taxpayers who have partnership interests or are shareholders in S corporations. The elimination of the SALT limitation will favor those residing in states with a state income tax and those with larger property taxes.
Tax Brackets – TCJA altered the tax brackets and although most taxpayers benefited, higher-income taxpayers benefited the most with a 2.6% cut in the top tax rate. The table only reflects different tax brackets. They may or may not apply to the same levels of income.
A return to the pre-TCJA rates would have the largest negative effect on higher-income taxpayers.
Qualified Business Income (QBI) Deduction – As part of TCJA, Congress changed the tax-rate structure for C corporations to a flat rate of 21% instead of the former graduated rates that topped out at 35%. Needing a way to equalize the rate reduction for all taxpayers with business income, Congress came up with a new deduction for businesses that are not organized as C corporations.
This resulted in a new and substantial tax benefit for most non-C corporation business owners in the form of a deduction that is generally equal to 20% of their qualified business income (QBI). If allowed to sunset with TCJA, businesses (generally small businesses) will lose a substantial deduction.
Of course, these potential changes assume Congress does not extend or alter them. And they aren’t the only tax issues impacted by the December 31, 2025, TCJA sunset date, but are probably those that will affect the most taxpayers. Depending upon your particular circumstances, these possible changes can potentially impact your long-term planning such as buying a home, retirement planning, estate planning, future tax liability and other issues. Please contact Cray Kaiser at (630) 953-4900 with any questions.