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Baker Tilly’s inaugural Tax Strategy Playbook discusses the outlook for the new year’s tax policy landscape, outlines how current tax policy impacts your business, and discusses opportunities for tax planning and mitigating inherent risks. We delve into various areas within federal, global, and state and local tax.

Our Tax Strategy Playbook addresses current tax policies that may affect individuals and private wealth in 2024, including the changing gift and estate tax exemptions, TCJA sunsets, SECURE 2.0 impact on individuals, grantor retained annuity trusts, and donor advised funds and charitable giving. From policies impacting the structure of a single-family office, to Net Investment Income Tax on gains from a sale of business, to private placement life insurance — this section will cover key updates you’ll want to be apprised of in 2024.

The passage of the Tax Cuts and Jobs Act (TCJA) in December 2017 brought sweeping changes to our tax landscape. Over the last several years, taxpayers have established tax planning strategies under current law; however, many TJCA provisions will sunset at the end of 2025, absent any new legislation by Congress. Some of the changes back to pre-TCJA law are small in effect but a few provide significant changes that may give rise to short-term planning opportunities:

  • Estate and gift tax exemptions: The lifetime exemptions for individuals doubled under the TCJA and currently sits at a per person limit of $12.92 million for the 2023 tax year. This amount will increase again in 2024 and 2025, as it is adjusted for inflation. However, on the first day of 2026, the exemption will be cut in half. Taxpayers who would benefit from the larger exemptions amount should explore estate planning opportunities before this adjustment.
  • Qualified business income (QBI) deduction: This deduction of up to 20% of business income from pass-through entities, including partnerships, S corporations, limited liability companies (LLCs) and sole proprietorships is set to expire at the end of 2025. Qualifying entities should be looking to take advantage of this tax savings deduction before it sunsets and explore which tax structures would provide the most tax benefit in subsequent years.
  • State and local tax (SALT) itemized deduction limit: The TCJA limited the SALT portion of itemized deductions to a maximum of $10,000. Many taxpayers who live in high-tax states lost out on a considerable portion of a deduction for taxes paid. While this limitation is currently set to sunset after 2025, there are meaningful discussions on Capitol Hill over retaining the limit at an increased amount.

Other notable changes post-TJCA:

  • Ordinary tax rates increase from 37% to 39.6%.
  • Home mortgage interest deduction limit increase from $750,000 to $1 million.
  • Taxpayers will be able to claim 2% miscellaneous itemized deductions again.
  • The standard deduction will decrease, reduced almost by half.
  • Alternative minimum tax exemption phase out will decrease from $1 million to $160,000.

Any of these sunsetting items could be extended and/or modified, but there is no consensus prediction as to where each provision may land, as any law changes will likely occur after the next Congress is elected. However, our system provides many planning opportunities to maximize tax benefits, especially in light of current uncertainty.

This year is ripe with opportunity for estate and wealth transfer planning, as one of the more taxpayer-favorable provisions of the Tax Cuts and Jobs Act (TCJA) of 2017 is set to sunset.

The TCJA doubled the estate and gift tax exemptions from $5 million to $10 million per person at the time it was passed. With significant yearly inflation adjustments since 2017, the exemptions are currently $13.61 million (or $27.22 million for married couples). This means that individuals can make lifetime gifts or pass away with a net worth up to these amounts without having to pay gift or estate tax. This is the highest gift and estate tax exemption since the tax was enacted; however, beginning in 2026, barring further congressional action, the gift and estate tax exemptions will revert to half of the current level, an amount projected to be roughly $7 million per person with exact amounts varying depending on inflation.

To lock in the potentially expiring exemptions, individuals can make gifts to friends and family members in the amounts of the current exemptions anytime from now through Dec. 31, 2025. Often the most advantageous form of transferring wealth from a tax and liability protection standpoint is to make gifts in trust. In certain circumstances, married couples have the additional benefit of making gifts in trust to each other, which allows the spouse making the gift to maintain indirect access to the gifted funds as long as the spouse receiving the gift is living and the couple is married.

The timing and structure of these gifts is critical to realizing the full tax benefits. Thus, it is important to obtain expert advice well ahead of any contemplated gift transaction. While there are two years as of the time of this writing, clients are encouraged to begin planning today in order to take full advantage of this opportunity.

The SECURE 2.0 Act of 2022 (SECURE 2.0) contains significant changes to employer-sponsored retirement plans and individual retirement arrangements. Some of the key provisions impacting individuals include:

Required minimum distributions

Required minimum distributions (RMDs) are minimum amounts taxpayers must withdraw once the attain a certain age. Under SECURE 2.0, as of 2023, the age at which individuals must begin taking RMDs increased from 72 to 73. This change allows investors an additional year to grow their retirement savings.

Another taxpayer favorable change under SECURE 2.0 was the reduction in penalties for missed RMDs. The penalty decreased from 50% to 25% of the RMD amount and may be further reduced to 10% if the individual withdraws the RMD amount and corrects their tax return within a two-year window.

Catch-up contributions

Starting in 2025, individuals ages 60 to 63 will have the opportunity to make larger catch-up contributions of up to $10,000 or 150% of the regular catch-up contribution limit, whichever is greater.

Effective in 2026, all taxpayers with income of over $145,000 in the prior year must designate their catch-up contributions as after-tax Roth contributions. This ensures taxpayers over the threshold pay tax on any income before it’s contributed to their retirement account. This rule doesn’t apply to regular (non-catch-up) contributions, regardless of the taxpayer’s income.

529 education savings plans

As of this year, 529 education savings plans that have been in effect for a minimum of 15 years may roll up to $35,000 into a beneficiary’s Roth IRA, subject to Roth IRA annual contribution limits.

Incorporating these changes into your financial plan can allow for more efficient tax planning and increased flexibility.

In 2013, the tax landscape underwent a significant change with the introduction of the Net Investment Income Tax (NIIT). This 3.8% tax is levied on various forms of income, including interest, dividends, capital gains, rental and royalty income, and non-qualified annuities. The NIIT is essentially an “unearned income Medicare contribution” tax that applies once a taxpayer exceeds a certain income threshold.

The scope of NIIT

The NIIT is a formidable presence with wide applications, but it's crucial to understand its limitations. It does not apply to income already subject to the Medicare tax at the same 3.8% rate. This ensures that income streams are not doubly burdened, offering a measure of relief for some taxpayers.

Capital gains exclusion

One aspect frequently overlooked in applying the NIIT rules is the exclusion of certain capital gains arising from the sale or exchange of pass-through entities. This exclusion, however, is contingent upon whether the partnership or S corporation is classified as passive vs non-passive.

NIIT guidance explicitly outlines that only gains derived from passive income are factored into the NIIT calculation. Active gains, including those from non-passive activities, are spared from this additional layer of taxation. This caveat becomes pivotal in determining the appropriate treatment of partnership and S corporation activities both preceding and during the year of exit.

Strategic considerations

Recognizing and navigating this exception is paramount for businesses aiming to optimize their tax position. Properly characterizing the nature of the partnership or S corporation activity becomes not just a matter of compliance, but also a strategic move to unlock significant savings by sidestepping the 3.8% tax levied by the NIIT.

Since 2006 when Congress clarified the definition of a donor advised fund (DAF), they have grown by leaps and bounds in popularity. DAFs allow for administrative simplicity and provide the ability to optimize a taxpayer’s charitable contribution deduction.

Donor advised fund basics

A DAF is a charitable investment account with the single purpose of accepting charitable contributions from a taxpayer in any given year (giving rise to an immediate income tax deduction), holding and investing those contributed assets (where they grow tax-free), and disbursing assets to a qualifying charity in a subsequent year. A contribution to a DAF is an irrevocable commitment to charity; the funds can never be accessed by the contributor and can only be distributed to a qualified charity.

Administrative simplicity

Prior to DAFs, a private foundation (PF) was a commonly utilized vehicle to follow the same path of generating an immediate tax deduction and distribute them to charity at a later date. The creation and ongoing maintenance of a PF often turned into an expensive, highly regulatory endeavor. Additionally, the income and assets of a PF are public records and certain levels of privacy are foregone through the utilization of a PF. In contrast, a DAF has minimal costs, no administrative burden is placed upon the contributor, and doesn’t require the DAF’s holdings to be publicly disclosed.

Strategic tax benefits

The power of a DAF lies in its ability to accept large, or “bunched” charitable contributions in one year (to match a significant income event, or in anticipation of a significant income drop-off), then allow for the disbursement of those funds at the contributor’s discretion. A DAF can accept various types of assets, including cash and marketable securities. The contribution of appreciated marketable securities to a DAF can amplify the tax benefits by permanently excluding the built-in gain while allowing for a deduction of the full fair market value.

Strategic considerations

Taxpayers with charitable intents should speak to their tax advisors about how the benefits of a DAF could apply to their individual situation, particularly if they anticipate a significant one-time income event or future decline in income. The utilization of a DAF can often be used strategically to amplify the value of other tax planning strategies.

Single-family offices (SFOs) are organizations that actively manage and oversee the business and investment assets of a single family in a business-like manner. The right legal structure and circumstances can generate significant tax benefits for SFOs. Tax law changes brought about by the Tax Cuts and Jobs Act (TCJA) of 2017 have created a need for SFOs to revisit their structures and operations in order to maximize their income tax deductions.

Before the TCJA, expenses incurred for the production or collection of income were deductible as miscellaneous itemized deductions; a category of deductions that reduced taxable income to the extent they exceeded 2% of adjusted gross income. For SFOs, the most notable expense that fell under the miscellaneous itemized deduction category was investment management fees, which could amount to $1 million or more per year. Unfortunately, the TCJA suspended all miscellaneous itemized deductions until after 2025.

Luckily, the Tax Court, in a 2017 case called Lender Management LLC v. Commissioner, provided guidance that allows SFOs to deduct investment management fees as “trade or business” expenses. As long as the SFO’s activity rises to the level of a trade or business (broadly, the activity is engaged in with continuity and regularity, with the primary motive being achieving income or profit), it can still deduct its investment management fees.

A structure like the one described in Lender Management will continue to provide superior benefits even past 2026 when the miscellaneous itemized deductions are reinstated. Trade or business deductions, unlike miscellaneous itemized deductions, are not added back when calculating alternative minimum taxable income.

If you have or are considering establishing a SFO, proper structuring is required to qualify for the deduction of investment expenses. Importantly, the analysis of whether a SFO is engaged in a trade or business is heavily facts-and-circumstances driven and should be performed with the assistance of a trusted tax professional.

A grantor retained annuity trust (GRAT) is a sophisticated estate planning technique for high-net-worth taxpayers that provides an opportunity to transfer property without incurring gift tax, which has rates as high as 40%. A GRAT is like a savings account where a taxpayer (the grantor) puts property aside for someone else's benefit (usually family members). The grantor still gets a stream of fixed payments from this account for a set number of years. Once that time is up, the remaining balance in the account passes to the family members without extra gift taxes.

In more technical terms, a GRAT is an irrevocable trust to which the grantor makes a transfer of property for the benefit of a remainder beneficiary. The grantor retains an interest in the trust for a specific period of years. When the trust term ends, the property passes to the remainder beneficiary without the imposition of any further gift tax.

In order for a GRAT to be successful, the economic return on the trust assets must exceed the IRS interest rate at the time of trust funding. With the IRS rate for December 2023 approaching 5.8%, selection of assets is critical. Additionally, the grantor must outlive the term of the GRAT for the strategy to succeed. If the grantor dies prior to the end of the term, the contributed property is pulled back into the grantor’s federal taxable estate.

A GRAT can be an excellent estate planning technique, with minimal downsides. If a GRAT fails, the only thing the grantor has lost is the administrative cost of creating the trust. Taxpayers with substantial assets who wish to transfer assets to family members should discuss the benefits of this opportunity with their tax advisors.

Private placement life insurance (PPLI) is a life insurance product that offers death benefit protection while also providing access to a variety of investments that are accessible solely within the life insurance policy structure. Interest in PPLI has risen recently because its unique features make it attractive during periods of increased tax uncertainty and market volatility. Those interested in planning with PPLI, however, should be aware that there are substantial financial thresholds, investment profiles and liquidity requirements that must be met to realize the benefits of PPLI.

PPLI is a form of variable universal life insurance providing both death benefit protection and a cash value component that accumulates investment growth within the policy. Premiums paid in excess of the cost for the death benefit coverage are credited to, and grow as part of, the policy’s cash value. Variable universal life policies enhance this investment feature by permitting policy owners to direct the allocation of the policy’s cash value among various investment options.

The key factor distinguishing PPLI policies from conventional variable universal life policies (those available to the general public) is the range of investment options. While insurance carriers provide limited investment choices for conventional policies, with PPLI insurance, the policy owner can select from a wider array of investment options, including actively managed accounts, hedge funds, funds of funds, and alternative assets (such as credit products, private equity, commodities, real estate funds, currencies, etc.).

PPLI contracts are highly regulated and must comply with state insurance department regulations and qualify as life insurance under the Internal Revenue Code. Assuming the requirements are met, the PPLI benefits are many. Those interested in PPLI should be aware that the use of PPLI has risk and the use of PPLI planning for high-net-worth families has recently come under scrutiny. Beware of plans that are too good to be true, for example plans that suggest that you cannot transfer 100% of the stock of an operating company into the PPLI insurance plan and obtain tax free treatment on all company income in perpetuity.

PPLI is not for everyone, but for certain taxpayers looking for more flexible life insurance options, it may be a great fit.

The information provided here is of a general nature and is not intended to address the specific circumstances of any individual or entity. In specific circumstances, the services of a professional should be sought. Tax information, if any, contained in this communication was not intended or written to be used by any person for the purpose of avoiding penalties, nor should such information be construed as an opinion upon which any person may rely. The intended recipients of this communication and any attachments are not subject to any limitation on the disclosure of the tax treatment or tax structure of any transaction or matter that is the subject of this communication and any attachments. Baker Tilly US, LLP does not practice law, nor does it give legal advice, and makes no representations regarding questions of legal interpretation.

Duncan Campbell
Michael Lum
Director, J.D.
William Grady
Adam Goehring
Timothy Hole
Managing Director
Mark Heroux
Randi Schuster
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