Hi, thank you for tuning into today's Emerald Gem, which stands for Get Educated in Minutes. I'm Josh Landsman, Senior Wealth Strategist for Wilmington Trust's Emerald Family Office and Advisory, and your host for today's podcast and my debut GEM, so I hope you enjoy. In today's GEM, I'm going to answer the question, what impact may the presidential election have on tax planning and potential tax reform talks heading into 2025 and beyond?
The stage is set for this year's presidential election. Former President Trump is the Republican candidate for office and current vice president Kamala Harris has secured the nomination for the Democratic party. Regardless of which candidate is sitting in the Oval Office in January, one of their initial priorities will likely be to work with Congress to address the scheduled expiration of certain provisions of the tax code that were enacted as part of the tax cuts and jobs act of 2017, which was enacted when President Trump was in office.
I'll refer to the Tax Cuts and Jobs Act as the TCJA in this GEM . Many of the provisions of the TCJA are scheduled to expire on December 31, 2025. Since the goal of our podcast is to get you educated in minutes, I'll focus on three key areas that high net worth and ultra high net worth individuals should be aware of as the upcoming presidential and congressional elections and tax reform discussions unfold over the next year and a half.
However, if you have more than a few minutes, I encourage you to read our recently published article on the road to tax reform again, which takes a deeper dive into this topic. The first key area to discuss is the gift, estate and generation skipping transfer tax exemption, which I'll refer to in this GEM as the exemption.
The exemption amount is the amount that you may transfer during your lifetime or at death free of gift or estate tax. The TCJA doubled the gift and estate tax exemption, which is currently 13.61 million dollars per person or 27. 22 million dollars for a married couple in 2024. If the TCJA sunsets without further legislative action, the exemption will revert back to the lower amount currently estimated to be around 7 million dollars per person or 14 million dollars per married couple.
This means that beginning in 2026, the exemption could be around half of today's amount. Republicans, including President Trump, have endorsed making the heightened exemption permanent. Democrats, on the other hand, have proposed reforming the gift and estate tax, including reducing the exemption to pre 2017 levels or perhaps as low as three and a half million dollars per person, which recently received support from Democratic candidate Vice President Kamala Harris.
Planning ahead, you may want to consider and discuss with your advisors, including attorneys and CPAs, a few planning points. Depending on your short and long term wealth planning goals, you could use your available exemption before December 31st, 2025 by making large gifts. If married, you and your spouse could use both of your exemptions, maximizing the amount you could transfer under current law.
If it's not desirable or feasible to make full use of your exemption, a gift of less than your full exemption could still be beneficial, as it would remove any growth and appreciation of the property from your taxable estate. In implementing a gifting strategy, it often makes sense to make larger gifts to trusts rather than to individuals outright.
Trusts can address a number of planning considerations, including tax minimization, creditor protection, and professional management, among other things. It's also important to note that based on current law and recent guidance by the IRS, a gift that is completed prior to the reduction in the exemption should not be clawed back for purposes of determining future tax liability.
If you have used most or all of your exemption, there are still strategies to implement prior to 2026 that could mitigate future estate tax liability. This could include the use of so called grantor trusts. In the past, the Democrats, including President Biden, have proposed legislation that would limit the effectiveness of grantor trusts, but such proposals would likely apply only to trusts created after the legislation goes into effect.
Given that, it may be best to establish and fund a trust prior to 2026 so that, if available, it may be grandfathered in under the current law. One type of grantor trust that might be worth considering is a grantor retained annuity trust or also known as a GRAT. In short, a GRAT would allow you to transfer property to an irrevocable trust in exchange for an annuity payment from the trust for a term of years.
One of the aspects of a GRAT is that if you survive the trust term, Any income or appreciation earned during the term in excess of the annuity would pass to the remainder beneficiaries free of gift or estate tax.
Life insurance is a commonly used planning tool to hedge against the payment of future estate taxes.
If you currently have life insurance, you could review your existing policies to confirm they are adequate and appropriate given the potentially changing tax landscape. A policy purchased using assumptions based on TCJA exemption amounts, for example, an individual exemption greater than 10 million dollars, may not be as effective if the exemption decreases.
If you do not have life insurance, now may be the time to go through the underwriting process to confirm what level and type of insurance may be appropriate if the tax laws change. Whether you currently own life insurance or purchase a new policy, you should consider holding any policies in irrevocable life insurance trust and name the trust as the policy beneficiary.
This may help protect the policy proceeds from federal and state estate taxes, which could be 40 percent or more, depending on your state of residence.
For the next key area, I'll shift our focus to business taxes, and specifically the 199 Cap A deduction. In 2017, Congress permanently reduced the top corporate tax rate from 35 percent in a graduated rate schedule to a single rate of 21 percent.
To provide comparable tax relief to business owners organized as a pass through business, including those structured at partnerships, Congress also enacted certain tax provisions under section 199 Cap A of the Internal Revenue Code, commonly known as the 199 Cap A deduction.
In general, this allows entities with pass through business income to deduct up to 20 percent of qualified business income or QBI from taxable ordinary income. For these purposes, QBI is the net amount of income, loss, gain and deduction for a qualified domestic trader business. Republicans would likely push to make the 199 Cap A deduction permanent.
And based on proposals, President Trump has made while campaigning, they might seek to lower the corporate tax rate from 21 percent to 20 percent. Democrats, meanwhile, may be inclined to support letting the 199 Cap A deduction sunset. In the past, they have also proposed increasing the corporate tax rate to 28 percent as well as expanding the net investment income tax to non passive business income.
You may consider consulting with your tax advisors to evaluate ways to structure your business operation to maximize the QBI deduction before it expires at the end of 2025.
Planning ahead, you may also consider evaluating the taxation of your current business structure. The reduction of a corporate tax rate to a flat 21 percent was a permanent provision, is therefore not scheduled to sunset or expire at the end of 2025.
However, if reelected, President Trump could push for a further reduction in the corporate tax rate, perhaps 20 percent. Given this business owners, especially those who own businesses, taxes, partnerships, or S corporation, should review their current structure of their business and consider whether it's optimal from a tax standpoint, or whether a different structure may be more tax efficient.
Of course, before making such a determination, you should consult with your legal and tax advisors to consider not just the tax impact of any conversion, but how that may impact other facets of your business and personal planning.
For our final key area, let's review the impact the election and tax reform negotiations will have on individual income tax rates.
In an election year like 2024, the focus and debate is usually on the top tax rate. As part of the TCJA, the top ordinary tax rate was reduced to 37 percent down from 39. 6 percent, but it would revert back to the higher rate upon the TCJA's expiration. With regard to capital gains taxes, prior to the TCJA, the rate at which capital gains were taxed at depended on a taxpayer's ordinary income tax bracket.
While the TCJA maintained the existing capital gains rate, 0, 15%, and 20%, it set separate income brackets for capital gains, which are not tied to a taxpayer's ordinary income tax bracket.
In 2024, the highest capital gains rate of 20% applies to individual taxpayers with incomes exceeding $518,901, or married taxpayers with income in excess of $583,751. Upon the expiration of the TCJA, capital gains could again be taxed based on a taxpayer’s ordinary income tax bracket, which could have the effect of lowering the threshold at which taxpayers would be subject to a 20% capital gains tax. The net investment income tax (NIIT), an additional 3.8% tax for taxpayers earning more than $200,000, or $250,000 if married, would add to this tax liability, bringing the total capital gains tax paid by high-net-worth individuals to 23.8%.If the TCJA expires without further legislative action, the 20% tax rate could apply at lower income levels, increasing the amount of taxes due on capital gains, potentially.
President Trump has indicated that one of his initiatives, if he were reelected, would be to make the expiring individual income tax cuts from the TCGA permanent.
The sentiment is generally shared in the Republican party. Based on past proposals, a win by the Democrats could mean an increase in the top income tax rates for those earning over $400,000. This could also include a return to the highest ordinary income tax rate of 39. 6, as well as an increase in the net investment income tax and Medicare tax to 5%.
Additionally, Democrats, including a number of prominent senators, previously proposed a so called billionaire's minimum tax. In short, this proposal would apply a 20 percent tax on total income, generally including unrealized capital gains of taxpayers whose wealth measured as the net asset values less liabilities, which would exceed $100 million.
Planning ahead, you may consider delaying, incurring certain deductible expenses in 2024 and 2025, such as certain business expenses, charitable donations, and state and local taxes. By delaying these expenses into 2026 and later years when tax rates may be higher, you could get more bang for your buck using these deductions then.
Although it's generally good practice to maximize contribution to your retirement accounts, like 401Ks and IRAs, it maybe even more so if tax rates increase. By contributing to these accounts, you could reduce your taxable income and potentially lower your tax liability. In addition to contributing to your retirement accounts, you might also consider converting these accounts to Roth IRAs or 401Ks in 2024 or 2025 prior to the sunset of the TCJA.
Having different buckets of income sources, for example, pre tax and after tax, can help plan for future tax obligations. For example, in years where you anticipate being in a lower tax bracket, it might be prudent to withdraw from pre tax sources and utilize an after tax account such as a Roth in years where you expect to be in a higher tax bracket.
If your income is such that your capital gains are not currently taxed at 20%, but could be if the TCJA were to sunset, 2024 and 2025 may be the year to strategically realize some of those gains, assuming that is consistent with your overall investment plan.
Finally, if you are giving to charitable organizations now, you could review your current annual charitable giving, consider whether donations in future years instead of 2024 may offer a more favorable tax income.
Further, if you donate cash to charity, you could consider donating appreciated assets to charity in lieu of cash to avoid recognizing capital gains, while also receiving the charitable deduction.
Again, we were only able to focus on a few key areas for this GEM. However, other provisions of the tax code that may be impacted by the election and expiring provisions of the TCJA include the reduction of the standard deduction to one half of the current amount, increased cap on mortgage interest deduction, renewal of the deduction for home equity loan interest, and the elimination of the capped on salt deduction.
For more details surrounding these particular provisions and the areas we discussed on today's GEM, I encourage you to review our article on the road to tax reform again.
Thanks again for joining us today. Please contact your Wilmington Trust advisor if you have any questions about what impact may the presidential election have on tax planning and potential tax reform talks heading into 2025 and beyond. We would be glad to help you. See you next time.
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Sources:
1. Trump vs. Harris Tax Plans: Election 2024 | Tax Foundation
2. Accounting Today – The effect of the November election on IRS Funding
3. BNA – Republicans Plan Roadshow to Get Business Input on 2025 Tax Bill
4. BNA – Trump Tells CEOS He Would Cut Corporate Tax Rate to 20%
5. IRS releases Strategic Operating Plan update outlining future priorities; transformation momentum accelerating following long list of successes for taxpayers | Internal Revenue Service
6. Harris Endorses American Housing and Economic Mobility Act Taxes. (forbes.com)
7. Reference Table: Expiring Provisions in the “Tax Cuts and Jobs Act” (TCJA, P.L. 115-97) (congress.gov)
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