Navigating the complicated US tax rules and filling out your tax return can be enough of a headache.
But you can expect new tax stress to come from Washington in the near future.
Important parts of the 2017 federal tax law are set to expire on December 31, 2025. After that sunset, they would revert to what they would have been if the sweeping tax legislation passed in the first year of the Trump administration had never been enacted.
Key points of the tax code will be up for debate: what tax rate you will have to pay, what the standard deduction will be, how business income will be treated, what the exemption limits will be for large items such as an inheritance, etc. a gift and the federal deduction you will have for state and local taxes may apply.
Sound confusing? Well, think about it.
If Congress does nothing, the tax code in 2026 will suddenly change to what it would have been if the law had never changed, effectively creating trillions of dollars in additional liabilities for taxpayers and an equal amount of revenue for the federal government would bring with it. As if that wasn’t complicated enough, the tax code before the 2017 law included provisions for future inflation adjustments—and there’s been a lot of inflation in recent years. These adjustments must be applied if the law expires as planned, making it difficult to estimate actual numbers for important things like federal tax brackets.
Maintaining the current tax code could be a better alternative. But that’s unlikely because it would be incredibly expensive.
The Congressional Budget Office has “estimated that extensions of all provisions to either expire or become less generous would cost $3.5 trillion by 2033.” A handy analysis from the Congressional Research Service breaks down the major components piece by piece.
The source of uncertainty
This slow tax storm is a direct result of the 2017 tax reform.
For most Americans, but not all, taxes fell.
Many people in states with high state and local taxes experienced tax increases because state and local tax deductions were capped at $10,000. This is the infamous SALT cap. The expiration of this provision would be good news for these districts. However, in most parts of the country, the net effect of tax reform was a reduced burden.
This generosity made the tax law enormously expensive. Congress estimated it would cost the federal government $1.5 trillion in lost tax revenue by 2027. But Congress offset the costs by allowing it to expire on Dec. 31, 2025 — a delayed series of tax increases for most people in the country starting in 2026, when everything is allowed to take place.
In 2025—or sometime in 2026, judging by Congress’s reluctance to meet critical budget deadlines—congressional leaders and the next president will craft a solution to this entirely predictable tax dilemma.
Whoever the politicians are, they will try to avoid raising taxes and probably also try to avoid a large increase in the budget deficit. Thanks in large part to the 2017 tax cuts, the deficit reached $1.7 trillion in fiscal year 2023.
At some point there will be some kind of tax agreement. But I really have no idea what the tax code will look like in 2026.
In an ideal world you wouldn’t run a tax system this way, but that’s what we’re stuck with.
Cancel part of the sunset
Aside from the cap on state and local tax cuts, here are highlights of the changes to the tax code planned for 2026, provided by the Congressional Research Service. The service relied on Congressional Budget Office estimates of what it would cost through 2033 to extend certain parts of the 2017 tax:
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Marginal tax rates. The maximum rate will rise from 37 percent to 39.6 percent. Income levels for seven tax brackets will be reduced, increasing tax liabilities for millions of people. The cost of expanding this part of the tax code: $1.8 trillion.
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The standard deduction. For the 2024 tax year, taxpayers can deduct $14,600 if they are single and $29,200 if they are married filing jointly. About 90 percent of taxpayers now take advantage of this deduction. Before the 2017 law, the standard deduction was only $6,500 for single taxpayers and $13,000 for those filing joint returns. In 2026, the standard deduction would return to its old level, plus adjustments for inflation. The cost of an extension: $1 trillion.
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The tax allowance for children. For those who qualify, the amount is $2,000 per child. (Pending legislation would increase the amount through 2025.) In 2026, it is scheduled to drop to $1,000. The cost of an extension: $600 million.
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The business pass-through deduction. It allows some self-employed individuals whose business income “passes through” to their personal return to deduct up to 20 percent of qualified income. After the deadline, their individual income tax rates would apply. The cost of an extension: $548 billion.
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The alternative minimum tax. Originally, this was intended to ensure that rich people paid at least part of the income tax. According to the nonpartisan Tax Policy Center, only 0.1 percent of households are currently affected, but after the deadline, 3.7 percent would be affected. The cost of an extension: $1.09 billion.
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Inheritance and gift tax. Now $13.6 million in estates and lifetime gifts are excluded. With a sunset, those numbers would drop to $5 million plus an inflation adjustment.
A shift in the inheritance tax threshold could pose a serious problem for a wealthy person. Remember the “throw mommy off the train” tax incentives that accidentally popped up earlier this century? You could save a lot of money if you plan very carefully for the death of a wealthy patron in the next few years. The same applies to gifts. If you want to give away millions of dollars, it might make sense to speed up your giving.
The cost of an extension: $126.5 billion.
A colossal shrug
Effective – and humane – tax planning requires some sense of what the tax code will look like in the coming years, but we don’t have that.
“I wouldn’t make any big assumptions about where this is going,” said Joel Dickson, who leads tax planning research at Vanguard. “The only thing you can count on is greater uncertainty.”
If you defer income and, say, taxable events like the death of a rich aunt from 2026 to 2025, assuming the current tax rules expire on time, you may be able to save money. But Congress might well intervene, taxes might not go up, and your various efforts might be a colossal waste of time. (But also morally wrong, depending on what you end up planning, let’s be clear about that.)
In fact, tax rates could be cut again and the budget deficit could rise much further, even if it seems rational that this is not the case. A lot depends on the national elections. American politics is not entirely rational. That is undeniable.
So pay your taxes now and empower yourself. An interesting political year awaits us, along with new fiscal challenges in 2025 and especially in 2026.
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2024-03-02 10:01:59
www.nytimes.com
