Business owners face a pivotal year of potential tax changes and fiscal uncertainty. The expiration of key provisions under the Tax Cuts and Jobs Act (TCJA) of 2017 and a shifting political landscape point to significant changes for businesses. Here are the provisions all business owners need to know about: Section 163(j) Interest Deduction Limitation, R&D Expense Limitation, State and Local Tax (SALT) Deduction Cap, Estate Tax Exemptions, Capital Gains, and Universal Tariffs.
Sunset Provisions and the Tax Cuts and Jobs Act of 2017
The TCJA resulted in many favorable and a few unfavorable tax law changes. It introduced sweeping changes to the tax code, significantly altering individual, corporate, and business-related tax provisions. Many of these changes were designed to stimulate economic growth but were implemented with built-in sunset clauses to meet budgetary constraints. As these provisions expire in 2025, businesses should prepare for possible shifts. These changes include adjustments to individual tax rates, the Qualified Business Income (QBI) deduction, bonus depreciation, and the estate tax exemption.
Section 163(j) Interest Deduction Limitation
The TCJA limited the deductibility of business interest expenses to 30 percent of adjusted taxable income. This provision limits excessive corporate debt and prevents tax avoidance strategies that allow companies to reduce taxable income by deducting interest payments on loans. By capping the interest deduction, the TCJA encouraged businesses to adopt more balanced capital structures, relying less on debt and more on equity financing. This limitation tightened further in 2022, and its impact will continue to grow as EBITDA-based calculations shift to EBIT, excluding depreciation and amortization. This change could increase tax liabilities, especially for capital-intensive industries such as manufacturing, real estate, or energy, where substantial depreciation is common. This provision is not sunsetting.
R&D Expense Limitation
Before 2022, businesses could immediately deduct R&D expenses, reinvesting the tax relief into growth. Since 2022, they must amortize R&D expenses over five years. This change impacts innovation-driven industries, such as technology and pharmaceuticals, where R&D is crucial. Amortizing the deduction over five years reduces immediate tax benefits, increasing taxable income and potentially limiting cash flow. The future of this policy is uncertain, and businesses must plan for potential changes in tax strategies and R&D funding.
State and Local Tax (SALT) Deduction Cap
The TCJA capped SALT deductions at $10,000, a controversial provision that has disproportionately impacted taxpayers in high-tax states. Before the TCJA, there was no limit on SALT deductions, allowing taxpayers to deduct the full amount of their state and local taxes. While the cap will expire in 2025, its potential extension or modification will spark significant debate with significant implications for taxpayers, state budgets, and the broader economy.
Estate Tax Exemptions
The TCJA substantially increased the estate and gift tax exemption, effectively shielding larger estates from federal taxation. In 2023, the exemption was $12.92 million per individual and $25.84 million for married couples, compared to the pre-TCJA exemption of $5 million, adjusted for inflation. This temporary benefit will revert to pre-TCJA levels in 2026, potentially subjecting more estates to federal taxation. The new administration has proposed making these higher exemptions permanent, allowing individuals to transfer more wealth without incurring estate or gift taxes.
Capital Gains
The TCJA preserved favorable capital gains rates, incentivizing investment in long-term assets and encouraging economic growth. It also modified carried interest rules to address concerns over tax loopholes, ensuring fund managers pay higher taxes on their compensation. With favorable rates set to expire after 2025, higher taxes on investment income could lower after-tax returns and reduce investment appeal. Business owners must monitor policy developments and adjust strategies as needed.
Universal Tariffs
While not directly part of the TCJA, the universal tariff approach has implications for businesses reliant on international trade. The new administration has proposed significant import tariffs, including a universal 10 percent to 20 percent tariff on all imports. Additionally, it has expressed intent on raising the tariff on imports from China to 60 percent. Companies should monitor evolving trade policies for potential shifts.
Effective Tax Planning Strategies
To thrive amid these changes and mitigate potential impacts, business owners should adopt proactive strategies, including:
Consult with Tax Professionals: Engage professionals to analyze how expiring provisions and new proposals may impact your business.
Accelerate Income and Deductions: Consider timing strategies to optimize tax liabilities before rates increase.
Evaluate Entity Structure: Reassess whether your current business structure aligns with evolving tax policies.
Plan Capital Expenditures: Take advantage of remaining bonus depreciation opportunities.
Adapt Trade Strategies: For businesses reliant on imports or exports, explore diversifying supply chains to mitigate tariff risks.
Monitor Legislative Developments: Stay informed about potential legislative changes regarding tax and trade policies.
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