Understanding Potential Tax Changes for Businesses and Their Owners: Preparing for 2025

As we approach the end of 2024, business owners are beginning to prepare for potential tax changes that could significantly impact their financial strategies. 

Not only is there uncertainty about policy change given the upcoming Presidential election, but there is also uncertainty over the current provisions of the 2017 Tax Cuts and Jobs Act (TCJA) – many of which are set to expire unless Congress enacts new tax legislation that addresses them. 

While the specifics of future tax policy remain uncertain, it’s essential for businesses and their owners to stay informed to be able to remain proactive.

The Changing Tax Landscape

The TCJA introduced numerous tax cuts and changes when it was enacted in 2017. The bill was the largest tax change since 1986, enacting sweeping changes to the tax code. However, many of these provisions were designed to be temporary, with expiration dates set for the end of 2025. As we approach this deadline, business owners and investors must be aware of the potential changes and their implications.

Corporate Tax Rate

Currently, the corporate tax rate stands at a flat rate of 21%, a permanent change implemented by the TCJA. This rate is not scheduled to change automatically, but there have been proposals to change it. It’s important to note that any such change would hinge on the incumbent administration’s policy and/or new legislation.

For businesses, the stability of the corporate tax rate is a significant factor in long-term planning and investment decisions. Any potential future increase could have far-reaching effects on corporate strategies, impacting everything from capital investments to international operations. 

Pass-Through Entities and the Qualified Business Income Deduction

One of the most impactful provisions for privately-held businesses set to expire is the Qualified Business Income Deduction (Section 199A). This deduction allows eligible owners of pass-through businesses—including sole proprietorships, partnerships, and S corporations—to deduct up to 20% of their qualified business income. For business owners in the highest tax brackets, this effectively brings their federal income tax rate down to 29.6%.

The potential loss of this deduction could significantly affect many small and medium-sized business owners. Many have relied on this provision to reinvest in their operations, hire new employees, or maintain profitability in challenging economic times. This is also timed with the expiration of itemized deduction limitations, creating further challenges.

However, the $10,000 cap on state and local tax deductions (known as the SALT Cap), also enacted by the TCJA, is set to expire. This will allow small business owners to once again be able to deduct state taxes on their individual returns, eliminating the need for pass-through entity tax workarounds at the entity level.

Depreciation and Expensing

The TCJA introduced 100% bonus depreciation, allowing taxpayers to immediately deduct the full cost of eligible property. However, this provision is already phasing out. It began decreasing by 20% each year starting in 2023 and will continue through 2026, with full phase-out occurring in 2027.

This gradual reduction in bonus depreciation could impact business decisions about capital investments. Companies may need to reassess their strategies for purchasing equipment and other eligible property, considering the changing tax implications over the next few years. 

Research and Development (R&D) Expenses

Changes to the treatment of R&D expenses took effect in 2022, requiring businesses to capitalize and amortize costs related to R&D over five years (15 years for foreign expenses) instead of deducting them immediately. 

This change has had significant cash flow implications for businesses heavily invested in research and software development, potentially influencing decisions about the timing and scale of R&D investments.

This change is in active debate and the possibility of reverting to the immediate expensing mode is not fully off the table at this point in time. 

On February 1, 2024, the U.S. House of Representatives passed the “Tax Relief for American Families and Workers Act,” which included provisions to restore the ability to immediately deduct R&D expenses through 2025. If passed by the Senate and signed into law, this bill would be retroactive to 2022, allowing taxpayers to deduct all R&D expenses that were previously amortized.

As of October 2024, this has not passed the Senate, but there is limited optimism since the restoration of R&D expensing language remains in the current bill.

International Tax Provisions

For international businesses, several key provisions are scheduled to change:

• Global Intangible Low-Taxed Income (GILTI): The tax rate on GILTI is set to increase from 10.5% to 13.125% in 2026. This change could impact the global tax strategies of multinational corporations.
• Foreign-Derived Intangible Income (FDII): The tax rate on Foreign-Derived Intangible Income (FDII) will increase from 13.125% to 16.406% in 2026. This provision was designed to incentivize companies to increase investment in the U.S. and gives FDII income a deduction by lowering the tax rate on this category of income.
• Base Erosion and Anti-Abuse Tax (BEAT): This tax will increase from 10% in 2025 to 12.5% in 2026. This change could affect how large multinational companies structure their cross-border transactions and supply chains.

If they go forward, these changes could have significant implications for global businesses, potentially altering the competitive landscape.

Impact on Business Owners

Changes to individual tax provisions can also significantly impact business owners, especially those of pass-through entities.

Individual Income Tax Rates

The individual income tax brackets and rates established by the TCJA are set to expire after 2025. If no action is taken, rates will revert to the pre-TCJA structure. This could potentially push more income into higher tax brackets, affecting the overall tax burden of business owners.

Estate Tax Exclusion

The estate tax exclusion, which was significantly increased under the TCJA to $13.61 million per individual (as of 2024), is set to revert to pre-TCJA levels in 2026, adjusted for inflation. The reduction to approximately $6.5m could have substantial implications for business succession planning and wealth transfer strategies. The team at Smith + Howard Wealth Management analyzed the pending sunset of estate tax exemptions in a recent article available here.

Preparing for Potential Changes

Given the uncertainty surrounding future tax policy, flexibility and proactive planning are key. As companies consider these potential changes, they may find themselves evaluating various strategies across several key areas:

• Tax Planning and Income Timing: Regular reviews with qualified professionals can help businesses stay ahead of potential changes. Companies might explore the timing of income recognition and deduction claims in light of potential rate changes and 199A deduction sunset provisions. Forward-looking estimates and cash flow projections should consider these potentially increased liabilities.
• Investment and Capital Expenditure Decisions: Consider how potential changes in depreciation rules might affect capital investment strategies. Evaluate the scheduling of major capital expenditures, considering the phasing out of bonus depreciation.
• International Operations: For multinational corporations, it’s imperative to review global tax strategies in light of potential changes to GILTI, FDII, and BEAT. This may involve reassessing the structure of international operations and transfer pricing policies.
• R&D Strategies: Businesses heavily investing in R&D should carefully consider the timing and structure of these investments, given the changes in expense treatment. Businesses should also consider the impact of foreign vs. domestic activity given the difference in capitalization timing. 
• Succession and Estate Planning: Business owners should review their estate plans and structure to ensure effective usage of the lifetime exemption if applicable. 

Because the tax landscape continues to evolve, these are only general considerations. The appropriateness of any strategy depends on a company’s specific circumstances, long-term goals, and overall business environment. Balancing potential tax implications with broader business objectives is key in navigating this uncertain landscape. 

As always, consulting with tax professionals who understand your unique situation is crucial in developing a tailored approach to these potential changes.

Plan Ahead for Upcoming Tax Changes with Smith + Howard

The tax landscape for businesses appears set for significant change in the coming years. While the exact nature of these changes remains uncertain and subject to political processes, businesses can benefit from staying informed and proactively preparing for anticipated changes.

Frequent conversations with trusted advisors, including tax accountants—especially those with fluency in your industry or unique circumstances—are a must. The advisors at Smith + Howard can help you stay current on any potential opportunities or changes that could impact your business.

For more insight on how to prepare your tax strategy for the future, contact your advisor today.