Tax Changes on the Horizon

As Financial Planners, we try to help you answer two key questions: “Will I make it?” and “Do I have any financial blind spots?” Once you have a plan in place, adapting to changes in the financial landscape becomes much easier. Instead of redoing everything, you just make small adjustments to your plan. Having this baseline becomes even more crucial as we prepare for a potential shift in the tax code when the Tax Cuts and Jobs Act (TCJA) sunsets in 2025.

Understanding the Current Tax Code

The current tax code has been in place since late 2017 when the TCJA was signed into law. Some key components of the legislation included significantly increasing the standard deduction (by nearly double), capping the state and local tax deductions, doubling the estate tax exemption to $11.2 million for single filers and to $22.4 million for couples, while also continuing to index the exemption levels for inflation. The top estate tax rate remains at 40 percent. Most provisions, including personal income tax rates and brackets, expire at the end of 2025 unless Congress acts. The 21% corporate tax rate and long-term capital gains tax rates do not expire. 

Upon expiration of the TCJA, certain income tax brackets could increase by as much as 9%[i]. Under the current law, these tax brackets would expire at the end of 2025 and be replaced with the tax brackets that were in place prior to the TCJA. 

Congress could still act before 2025 and extend the current tax structure or make other changes. However, given rising budget deficits and insolvency issues facing major programs like Social Security and Medicare, it’s reasonable to expect higher taxes in the future. 

Planning Strategies to Consider

There is still time to take advantage of the favorable tax environment. Here are some planning strategies you may want to utilize under the current law:

1. Consider Roth retirement accounts. Roth retirement accounts require you to pay taxes upfront, which can be a tactical strategy if you anticipate higher tax rates in the future. When you meet the requirements for qualified distributions[i], earnings in Roth accounts are tax-free. A qualified distribution is any payment or distribution from your Roth IRA that meets the following requirements:
   • Made after the 5-year period starting from the first tax year for which a contribution was made to a Roth IRA set up for your benefit.
   • The payment or distribution is:
     • Made on or after the date you reach age 59½,
     • Made because you are disabled,
     • Made to a beneficiary or to your estate after your death, or
     • One that meets the requirements listed under First home under Exceptions in chapter 1 (up to a $10,000 lifetime limit).
2. Consider taking larger RMDs before 2025. While you may not need the income yet, you could potentially lower your future tax liability in certain instances by taking distributions greater than your required minimum distribution before 2025.
3. Be strategic with your income before 2025. If part of your compensation package includes stock options, deferred compensation or installment sales, you may want to consider exercising, avoiding or electing out before 2025. You may also want to defer using deductions (i.e. capital losses) until 2025 when the tax savings impact could potentially be greater.
4. Utilize the current estate and gift tax exemptions while you still can. Depending on the size of your estate, it could be advantageous to gift income-producing property to family members who may be in lower tax brackets. If you consider making charitable donations, it could also make sense to Donate IRA assets to a qualified charity if you are over age 70½ to draw down pre-tax retirement savings tax-free and potentially reduce the amount of future required distributions.
5. If you have an inherited IRA and are subject to the 10-year rule, consider taking larger distributions before the TCJA expires if you are concerned about higher tax rates later in the 10-year window required to fully distribute the account.

Time is our most valuable resource. When you have a financial plan in place, most of the work is already complete. Then, when significant changes are afoot, you have the foundation to help make prudent decisions. If you would like to discuss any of these strategies, please reach out to your Sentinel Financial Planner.

Financial planning and investment advisory services are offered through Sentinel Pension Advisors, Inc., an SEC registered investment advisor