What the Sunset of TCJA Could Mean for Income Taxes
When the Tax Cuts and Jobs Act (TCJA) was passed in 2017, extensive changes were made to the federal tax code. Without any new legislation, certain provisions will sunset at the end of 2025, meaning we will revert to rules that were in place nearly a decade earlier. While this sunset may change with a new Congress, it’s essential to begin scenario planning with your Baird Financial Advisor now to ensure you’re prepared for future planning opportunities.
Changes to Tax Rates
The rate at which your income is taxed is scheduled to increase by 2-4% if there is a sunset, and the income ranges on which the tax rates apply would also be adjusted. This means that, in many cases, taxpayers could be paying a higher tax rate on a lower level of income than what they do now.
How you can prepare
To balance out the potentially higher tax rates in 2026 with the current lower tax rates, consider discussing strategies with your advisor that can pull income out of 2026 and into an earlier year.
Changes to Deductions
A sunset would bring about changes to the rules on both the itemized and standard deduction. For itemized deductions, the sunset would eliminate the $10,000 cap on the deduction for state and local income and property taxes. It would also allow taxpayers to partially deduct a series of miscellaneous expenses, such as tax preparation and investment advisory fees. Additionally, a larger portion of mortgage interest and interest on home equity loans would be deductible. However, the sunset would also bring back the itemized deduction phase-out – meaning taxpayers with income above a certain threshold would start to lose the benefit of their itemized deductions.
On the other hand, this sunset would reduce the standard deduction size by nearly half, meaning some could see thousands in additional taxable income. This may be partially offset by the reintroduction of the personal exemption – a flat dollar amount for yourself and each household member to further reduce your taxable income.
How you can prepare
Be cognizant of when you pay tax-deductible expenses, particularly charitable contributions. With the standard deduction potentially falling in 2026, more taxpayers would be able to itemize their deductions, meaning cash outflows like charitable gifts would be more likely to provide a tax benefit. As a result, delaying 2025 charitable gifts to 2026 could be valuable.
Changes to Tax Benefits for Family Members
While the sunset would reintroduce the personal exemption, it would also reduce the child tax credit by half (to $1,000). Along with this, the $500 credit for other dependents (those not qualifying for the child tax credit) would expire. Just keep in mind that both the exemption and credit would be subject to a phase-out for those with higher income.
How you can prepare
Evaluate whether your children still qualify as dependents after 2025 to determine your eligibility for these tax benefits.
Implications for Business Owners
The TCJA put many provisions in place for business owners that were made permanent, and therefore would not be affected by the scheduled sunset. However, one provision that will potentially sunset is the Qualified Business Income deduction. This provision allows owners of pass-through businesses (sole proprietorships, partnerships and S corporations) to exclude up to 20% of their qualified business income from tax.
How you can prepare
Time income and expenses to maximize this deduction while you can. Additionally, consider whether converting to a C corporation would be appropriate given the fact that the 21% corporate tax rate is not scheduled to expire with the sunset.
For a detailed explanation on how the scheduled sunset of the TCJA could affect taxpayers, watch the below video featuring Tim Steffen, Director of Advanced Planning.
Access Our Year-End Resources
Looking to reap the benefits of a Roth conversion? First, answer these three important questions.
Want to make gifts to your loved ones without incurring a large tax bill? These strategies could likely benefit you.
How far can your charitable contributions go? Optimize their impact by using these five timely strategies.
How can you finish out 2024 to make sure you get a strong start to 2025?