Before Sunset: Planning for the end of the Tax Cuts and Jobs Act (TCJA)

A credit shelter trust, also known as a bypass or family trust, has long been a popular method of maximizing the federal estate tax exemptions for a married couple. When one spouse passes away, a portion of their assets is placed into a trust, which passes to their beneficiaries on the death of the surviving spouse. The assets in the trust, and any appreciation of those assets, is “sheltered” from estate taxes at the death of the second spouse.

At the beginning of this year, as a bipartisan, bicameral deal between the U.S. House of Representatives and the Senate, dubbed the Tax Relief for American Families and Workers Act of 2024, was announced. Though it is yet to be passed, it does include some lucrative tax benefits, such as extending the child tax credit, allowing immediate research and development expense deductions and providing disaster relief, to name a few. This proposal would retroactively reverse several business-tax changes from the TCJA, so companies with interest costs, capital expenses and research spending would all benefit.

However, waiting for the bill to be passed could be a double whammy for those affected by the sunset of the TCJA in 2026. Taxpayers could end up paying a big chunk of their wealth in taxes as well as re-plan their estate from scratch.

What is the TCJA?

Then-President Donald Trump signed the Tax Cuts and Jobs Act into law on December 22, 2017, bringing sweeping changes to the tax code. Individually, the impact of the changes depended on details like income level, filing status, and deductions. Those living in a high-tax state with soaring property values may have paid more in taxes in 2019. For banks and other corporations, the tax reform package was considered a lopsided victory given its significant cuts to corporate profits, investment income, estate taxes, and more. Financial services companies stood to see huge gains based on the new, lower corporate rate of 21%, as well as the more preferable tax treatment of pass-through companies.

Mitigating higher taxes in 2026

Families who are interested in passing on wealth should keep in mind that the lifetime estate and gift tax provisions in the TCJA are scheduled to sunset, or expire, at the end of 2025 and revert back to 2017 levels. Estate tax-wise, if TCJA sunsets as planned, the estate and gift exemption might decline to approximately $7.5 million per individual and $14.5 million for a married couple, depending on inflation over the next few years. While it’s possible that there may be new tax legislation between now and 2026, families should be reviewing their estate plan with the understanding that the TCJA provisions could expire. There are certain strategies and actions that one can consider to optimize their position by 2026:

1. Rebuilding the credit shelter trust

When the law changed at the end of 2017, many families who no longer expected their wealth to exceed the higher estate tax exemption thresholds opted to forgo a credit shelter trust. Today, families who may have assets above the exclusion when the law sunsets should consider discussing the potential advantages of a credit shelter trust with a tax attorney or financial professional.

2. Maximize annual gift opportunities

TCJA also temporarily increased the annual gift tax exclusion amount. In 2024, individuals can give up to $18,000 to as many people as they want without paying any tax on the gift. Married couples can maximize the annual exclusion by “splitting” the gift and using both of their individual annual exclusions for a maximum of $36,000. Qualifying annual gifts do not count toward the estate and lifetime estate and gift tax exemption total.

In addition, one can reduce their taxable estate by making unlimited payments on behalf of others to educational institutions or medical providers for qualified expenses.

3. Mitigate future tax liabilities

Manufacturers and distributors can work with an estate planning advisor to assess personal wealth, inclusive of cash, investments, properties and business assets. With the wide range of trust vehicles available, structures can be personalized to fit unique situations and needs. For example, a spousal lifetime access trust (SLAT) removes property from an estate by gifting the assets to a spouse in the form of a trust. Any future appreciation of the assets takes place in the trust and is not included in the estate value for federal tax purposes. Similarly, a dynasty trust enables wealth to be passed from generation to generation without incurring federal estate and gift taxes while the assets remain in the trust.

4. Use life insurance strategically

Life insurance is a valuable tool in a well-structured estate plan. One way life insurance is leveraged is to help beneficiaries pay estate taxes and other expenses upon the policyholder’s death. However, large life insurance policies also add value to one’s estate. In that case, creating an irrevocable trust as the beneficiary of the life insurance policy generally excludes the policy from the estate, making it exempt from federal estate taxes.

5. Start planning for growth

Anyone’s estate plan should also factor in the potential appreciation of your assets between now and 2026. A couple with a net worth of $12 million today might feel comfortable forgoing a trust strategy now, but assuming a 6% growth rate, for example, their assets could exceed the potential $14.5 million threshold in 2026.

In order to avoid federal taxes, apart from the annual gifting option, they can transfer a portion of their lifetime estate and gift tax exemption, which for 2024 is $13.61 million, into an irrevocable trust for the benefit of their intended heirs. They can also reduce estate taxes can include leaving assets to charity at death, which can reduce your taxable estate while leaving a charitable legacy.

Note: Consulting with estate planning professionals is recommended for personalized strategies to protect wealth beyond 2024.

Key Tax Considerations To Remember

Qualified Business Income (QBI) Deduction: Pass-through entities, including partnerships, limited liability companies, S corporations and sole proprietors, can deduct up to 20% of its QBI. This deduction is set to expire in 2025, so qualifying entities should take advantage of this tax savings opportunity while they still can.
Bonus Depreciation: This deduction is scheduled to decrease to 60% for the 2024 tax year and decreases by 20% each subsequent year through 2027, under the current phase-out schedule. The current bipartisan framework proposes to extend 100% bonus depreciation through 2025. Regardless of the legislative outcome, it is still a worthy tax benefit for businesses that own machinery, computer systems, software, certain vehicles, equipment or office furniture, to name a few.
State and Local Tax (SALT) Limitation: The TCJA put a $10,000 cap on the SALT deduction, which allows taxpayers to deduct property, income and sales tax, for individuals who itemize their returns through 2025. With the limitation in mind, it’s important to evaluate whether to deduct sales tax versus income tax when itemizing deductions, depending on where one resides or if one has purchased any major items this year.
Section 163(j) Business Interest Expense Deduction: This deduction reverted to its TCJA rules in 2023, which imposes a limitation on the deduction and removes the addback of depreciation, amortization and depletion in the adjusted taxable income calculation. Under Section 163(j), the amount of deductible business interest expense in a taxable year cannot exceed the sum of the taxpayer’s business interest income, 30% of the taxpayer’s adjusted taxable income and the taxpayer’s floor plan financing interest.
Section 174: This tax code was amended under the TCJA and removed the option to expense research and experimental expenditures in the year paid or incurred. Instead, taxpayers are required to capitalize and amortize domestic research expenditures over a five-year period (15 years for foreign expenditures), for amounts paid in tax years starting after Dec. 31, 2021. The amended code also specifies that amortization will begin with the midpoint of the taxable year in which expenses are paid or incurred, creating a significant impact on taxpayers. 6. Net Operating Loss (NOL) Limitation: The TCJA significantly changed the NOL rules, limiting NOL incurred after Dec. 31, 2017, to 80% of taxable income (previously 100%) and disallowing NOL carrybacks. However, the TCJA allows NOL to be carried forward indefinitely. An NOL carryforward allows taxpayers to move a tax loss to future years to offset a profit, which can be beneficial from a tax planning perspective.

Sources

HCM-052024-092