August 2024 - ATA 2.0

Get ready: The upcoming presidential and congressional elections may significantly alter the tax landscape for businesses in the United States. The reason has to do with a tax law that’s scheduled to expire in about 17 months and how politicians in Washington would like to handle it.

How we got here

The Tax Cuts and Jobs Act (TCJA), which generally took effect in 2018, made extensive changes to small business taxes. Many of its provisions are set to expire on December 31, 2025. As we get closer to the law sunsetting, you may be concerned about the future federal tax bill of your business. The impact isn’t clear because the Democrats and Republicans have different views about how to approach the various provisions in the TCJA. Corporate and pass-through business rates The TCJA cut the maximum corporate tax rate from 35% to 21%. It also lowered rates for individual taxpayers involved in noncorporate pass-through entities, including S corporations and partnerships, as well as from sole proprietorships.

The highest rate today is 37%, down from 39.6% before the TCJA became effective. But while the individual rate cuts expire in 2025, the law made the corporate tax cut “permanent.” (In other words, there’s no scheduled expiration date. However, tax legislation could still raise or lower the corporate tax rate.) In addition to lowering rates, the TCJA affects tax law in many other ways. For small business owners, one of the most significant changes is the potential expiration of the Section 199A qualified business income (QBI) deduction. This is the write-off for up to 20% of QBI from noncorporate entities. Another of the expiring TCJA business provisions is the gradual phaseout of first-year bonus depreciation. Under the TCJA,100% bonus depreciation was available for qualified new and used property that was placed in service in calendar year 2022. It was reduced to 80% in 2023, 60% in 2024, 40% in 2025, 20% in 2026 and 0% in 2027.

Potential Outcomes

The outcome of the presidential election in three months, as well as the balance of power in Congress, will determine the TCJA’s future. Here are four potential outcomes:

All of the TCJA provisions scheduled to expire will actually expire at the end of 2025.
All of the TCJA provisions scheduled to expire will be extended past 2025 (or made permanent).
Some TCJA provisions will be allowed to expire, while others will be extended (or made permanent).
Some or all of the temporary TCJA provisions will expire — and new laws will be enacted that provide different tax breaks and/or different tax rates.

How your tax bill will be affected in 2026 will partially depend on which one of these outcomes actually happens and whether your tax bill went down or up when the TCJA became effective years ago. That was based on a number of factors including your business income, your filing status, where you live (the SALT limitation negatively affects taxpayers in certain states), and whether you have children or other dependents. Your tax situation will also be affected by who wins the presidential election and who controls Congress because Democrats and Republicans have competing visions about how to proceed.

Keep in mind that tax proposals can become law only if tax legislation passes both houses of Congress and is signed by the President (or there are enough votes in Congress to override a presidential veto). Look to the future As the TCJA provisions get closer to expiring, and the election gets settled, it’s important to know what might change and what tax-wise moves you can make if the law does change. We can answer any questions you have and you can count on us to keep you informed about the latest news. © 2024

Are you buying a business that will have one or more co-owners? Or do you already own one fitting that description? If so, consider installing a buy-sell agreement. A well-drafted agreement can do these valuable things: transform your business ownership interest into a more liquid asset, prevent unwanted ownership changes, and avoid hassles with the IRS.

Agreement Basics

There are two basic types of buy-sell agreements: cross-purchase agreements and redemption agreements (sometimes called liquidation agreements). A cross-purchase agreement is a contract between you and the other co-owners. Under the agreement, a withdrawing co-owner’s ownership interest must be purchased by the remaining co-owners if a triggering event, such as a death or disability, occurs. A redemption agreement is a contract between the business entity and its co-owners (including you). Under the agreement, a withdrawing co-owner’s ownership interest must be purchased by the entity if a triggering event occurs.

Triggering Events

You and the other co-owners specify the triggering events you want to include in your agreement. You’ll certainly want to include obvious events like death, disability and attainment of a stated retirement age. You can also include other events that you deem appropriate, such as divorce.

Valuation and Payment Terms

Make sure your buy-sell agreement stipulates an acceptable method for valuing the business ownership interests. Common valuation methods include using a fixed per-share price, an appraised fair market value figure, or a formula that sets the selling price as a multiple of earnings or cash flow. Also ensure the agreement specifies how amounts will be paid out to withdrawing co-owners or their heirs under various triggering events.

Life Insurance to Fund the Agreement

The death of a co-owner is perhaps the most common, and catastrophic, triggering event. You can use life insurance policies to form the financial backbone of your buy-sell agreement. In the simplest case of a cross-purchase agreement between two co-owners, each co-owner purchases a life insurance policy on the other. If one co-owner dies, the surviving co-owner collects the insurance death benefit proceeds and uses them to buy out the deceased co-owner’s interest from the estate, surviving spouse or other heir(s).

The insurance death benefit proceeds are free of any federal income tax, so long as the surviving co-owner is the original purchaser of the policy on the other co-owner. However, a seemingly simple cross-purchase arrangement between more than two co-owners can get complicated, because each co-owner must buy life insurance policies on all the other co-owners. In this scenario, you may want to use a trust or partnership to buy and maintain one policy on each co-owner. Then, if a co-owner dies, the trust or partnership collects the death benefit proceeds tax-free and distributes the cash to the remaining co-owners. They then use the money to fund their buyout obligations under the cross-purchase agreement. To fund a redemption buy-sell agreement, the business entity itself buys policies on the lives of all co-owners and then uses the death benefit proceeds buy out deceased co-owners.

Specify in your agreement that any buyout that isn’t funded with insurance death benefit proceeds will be paid out under a multi-year installment payment arrangement. This gives you (and any remaining co-owners) some breathing room to come up with the cash needed to fulfill your buyout obligation. Create certainty for heirs If you’re like many business co-owners, the value of your share of the business comprises a big percentage of your estate.

Having a buy-sell agreement ensures that your ownership interest can be sold by your heir(s) under terms that you approved when you set it up. Also, the price set by a properly drafted agreement establishes the value of your ownership interest for federal estate tax purposes, thus avoiding possible IRS hassles. As a co-owner of a valuable business, having a well-drafted buy-sell agreement in place is pretty much a no-brainer. It provides financial protection to you and your heir(s) as well as to your co-owners and their heirs. The agreement also avoids hassles with the IRS over estate taxes. Buy-sell agreements aren’t DIY projects.