Post-Election Tax Planning
Written By: Brian Ellenbecker, CFP®, EA, CPWA®, CIMA®, CLTC®
On November 5, a red wave appears to have swept through the country with Republicans winning the election for President and control of the Senate and House. One of the burning financial questions is how tax law might change after the election. Now that the results are in, the odds of certain things happening may appear to be more certain, but please note that a lot needs to happen for any of the proposals floating around to actually become law. Nothing is a done deal at this stage, and it’s important to relax, take a deep breath and be patient.
There’s no rush to make any drastic decisions at this time. Wait until things progress before taking any action. Most importantly, work with your Shakespeare advisor or tax advisor to ensure any actions you do take make sense with current tax law and future expectations.
With that in mind, let’s examine some of the key proposals floated by Republicans during the election cycle.
Key Tax Cuts and Jobs Act (TCJA) Provisions
In late 2017, the largest change to tax legislation in 30 years passed, taking effect in 2018. Most people and businesses saw their tax liability decrease as a result of the TCJA. The legislation had a sunset provision so that the budget did not have to be balanced to offset the reduction in revenue. The TCJA is set to expire at the end of 2025, reverting back to pre-2018 law in 2026 if Congress does not act.
Here are the key provisions in the TCJA:
1) Cut to income tax rates and a widening of the income brackets. Not only were tax rates cut by 2-4% in each bracket, but the brackets were widened, meaning more income was taxed at lower rates.
2) The standard deduction was doubled, personal exemptions were removed, and several itemized expenses were eliminated. The overall impact for the vast majority of taxpayers was an increase in allowable deductions.
3) The estate tax exemption doubled from $5 million to $10 million and was adjusted for inflation. This removed the possibility of being subject to estate or gift tax for all but the wealthiest of the wealthy in the country.
4) Introduction of qualified business income (QBI), which exempted 20% of qualified pass-through and self-employment income from tax.
5) A permanent increase in the alternative minimum tax (AMT) exemption and phaseout meant that most taxpayers would no longer have to worry about AMT.
New Provisions Being Floated
Beyond what was included in the TCJA, Trump floated five other tax-related reductions that would apply to a portion of the population:
1) No tax on tips.
2) No tax on overtime.
3) No tax on Social Security.
4) Allowing auto loan interest to be deductible.
5) Lowering the corporate tax rate to 15% for domestic production.
These above provisions would be considered campaign promises. As is common in politics, the ability to deliver on these promises is sometimes oversold. Remember the classmate in grade school running for class president who promised 1-hour of extra recess and junk food for lunch? Those things were never going to happen, but that didn’t stop them from making the promises. Try to take them with a grain of salt.
A few of these provisions present significant policy changes and the devil will be in the details. It’s nearly impossible to try to act on any of the above items until more clarity is provided. However, a few of them, especially the taxation of Social Security, could result in a meaningful increase in tax planning opportunities for many Social Security recipients.
What Will Happen with the Tax Cuts and Jobs Act of 2017?
Because it was Republicans who passed the TCJA to begin with, it’s assumed that most, if not all, of the provisions will be extended beyond 2025. While that is the most likely scenario, it’s not yet a certainty.
Both the House and Senate will need to ensure there are enough votes in support of such a large tax law, which could be challenging considering the scope. While there may be agreement on the majority of provisions, there will be jostling to get favorite provisions extended or unpopular provisions removed, which will likely be far from unanimous. If there is enough opposition, it could potentially derail the extension as a whole.
Additionally, there is a concern about fiscal responsibility. The Tax Foundation, a non-profit, independent tax research group, provides estimates of what the cost of the extension would be if it’s extended from 2026-2034:
1) The TCJA extension with a cap on SALT deductions (state and property taxes currently capped at $10,000) would cost $3.4 trillion.
2) The TCJA extension without a cap on SALT deductions would cost $4.4 trillion.
3) Additional business deductions (bonus depreciation, amortization of R&D expenses, tightening of the business net interest deduction) would cost $680 billion.
4) Overall, the TCJA extension is estimated to reduce revenue by $4- 5 trillion.
5) The cost of the five additional tax provisions mentioned above are estimated to add another $2.5 trillion to the 10-year revenue reduction.
These are estimates and the actual amount will most likely come in above or below the estimate, but either way, the reduction in revenue is significant. While offsets aren’t required to pass the legislation, once these estimates are examined more closely it could create pause with some legislators who are worried about the ballooning budget deficit.
What Do I Make of All This?
The point of the above is the tax laws being discussed are significant and expansive, and there are some considerations that need to be debated before the legislation may pass.
Even if it does pass, it’s possible certain provisions will be added, edited and/or removed. Details matter, and we won’t know any of those until much later in the process. Without those details, it can be quite difficult to derive a viable tax planning strategy.
The best course of action is to be patient. Wait and see how things unfold. As the picture becomes clearer, so will the appropriate tax planning strategies. Rushing to make a decision is how mistakes are made.
Reach out to your Shakespeare Advisor to discuss how any upcoming tax changes might impact you and your financial plan.