Preface: “Friends and neighbors complain that taxes are indeed very heavy, and if those laid on by the government were the only ones we had to pay, we might the more easily discharge them; but we have many others, and much more grievous to some of us. We are taxed twice as much by our idleness, three times as much by our pride, and four times as much by our folly.” –Benjamin Franklin:
The Changing Scenes of Taxes
Credit: Jacob M. Dietz, CPA
Tax laws and regulations come and go. If a taxpayer earned the same income five years in a row, he might not pay the same taxes each year. What does the future hold for taxes?
Some of the changes are hard to predict. Congress and the president can change tax laws, and they can even make changes retroactive. Currently the presidency and Senate are controlled by one political party, and the House of Representatives is controlled by another political party. Since the parties often disagree, that makes it unlikely, but not impossible, for major new tax legislation to pass while the government is divided.
Even without major new legislation, however, they might pass minor legislation that changes the code. Also, there are some changes that are already scheduled to happen without requiring new legislation.
Tax Brackets and Standard Deductions
One example of a change that happens without major legislation is that the tax brackets change. The federal income tax uses different percentages for income you earn. The lowest taxable amount is taxed at 10%, then the next amount is taxed at 12%, then 22%, then some other percentages all the way up to 37%. Even a taxpayer that earns enough to pay the 37% top tax rate will still have some of his income taxed at the lower 10% amount.
Those tax brackets have increased for 2023 from 2022. Taxpayers can pay the lower tax percentages on a higher amount of earnings. For example, in 2022 a single person was taxed 10% on their first $10,275 of taxable income after deductions. For 2023, that 10% bracket extends up to $11,000. A married filing jointly couple in 2022 would encounter the 37% bracket at $647,850 or more of taxable income. For 2023, a married filing jointly couple will not pay the 37% tax until their taxable income is $693,750 or more.
The standard deduction for taxpayers that do not itemize their deductions also increased for 2023. Married filing jointly taxpayers may now shield $27,700 of their income from taxes using the standard deduction instead of $25,900. Single taxpayers may shield $13,850 instead of $12,950.
Fortunately, there is no pop quiz for you to answer at the end of this article regarding these dollar amounts. Just remember that with these bracket and standard deduction increases, a taxpayer that earned the exact same amount of money in 2023 as 2022 could end up paying less federal tax.
Ticking Tax Trap
Have you ever set a ticking alarm clock in the evening to wake you up in the morning? If so, then you may know the experience of setting in motion something that will happen in the future, then blissfully ignoring it until you get a rude awakening.
Sometimes the tax code includes ticking tax traps. One such “trap” was included in the Tax Cuts and Jobs Act, which was signed in December 2017. That bill scheduled a provision to take effect in 2022. The provision prohibits taxpayers from immediately deducting research and experimental expenses but instead requires them to capitalize and then amortize (expense) the research and experimental expenditures over 5 or 15 years, depending on the details. At the time of this writing there is still a slight possibility that Congress will pass a law to throw this alarm clock out the window and allow immediate expense, but as time goes on it is unlikely that this will happen retroactively for 2022.
Some people after waking up to an alarm try to lessen the challenge of waking up by consuming coffee. I don’t know that drinking coffee will help much with the tax bill that some taxpayers will face by capitalizing and amortizing research and experimental expenses. What may be more effective, however, for taxpayers that encounter this tax trap is a conversation with their tax accountant about the research and development credit. That credit can reduce taxes.
Sometimes tax code changes have sunsetting provisions. The change is only to last for a certain amount of time, and then it expires. 2025 is a big year for sunsets, with over 40 provisions set to expire.
Although we just covered a tax increase that was listed in the Tax Cuts and Jobs Act, there were also some significant taxpayer advantages included in that act. One huge tax cut in it was the 20% Qualified Business Income Deduction (QBID). That tax cut is scheduled to sunset at the end of 2025. Congress and the president could act to keep the 20% QBID, but absent action there could be a built-in tax increase as the 20% QBID sunsets.
The complexities and full details of the 20% QBID are beyond the scope of this writing. In a nutshell, it allows business owners to protect 20% of their business income from taxes. If that provision is allowed to expire, business owners might see a significant tax increase even if they make the same amount of money.
If you are a business owner that is currently taking advantage of the 20% QBID, you may want to start having conversations with your tax accountant about how to plan for the scheduled sunset of this deduction.
Some other sunset provisions that could increase taxes at the end of 2025 are changes to the child tax credit and changes to the alternative minimum tax (AMT.)
Climbing Down the Ladder
Bonus depreciation allows taxpayers to accelerate their depreciation on certain asset purchases. For various years, including 2022, bonus depreciation was 100%. Taxpayers could completely expense through bonus depreciation certain asset purchases.
There is a ladder that taxpayers climb down each year reducing it by 20% until it hits zero. In 2023 bonus is 80%, in 2024 it drops to 60%, in 2025 it goes to 40%, in 2026 it falls to 20% and in 2027 the bottom of the ladder touches the earth and there is no more bonus.
It’s possible that the president and Congress will increase bonus in the future. Taxpayers may also still use 179 expense on qualifying items to get the immediate deduction.
In addition to federal taxes, most states have their own income tax. State taxes do not need to follow federal rules. I will mention two notable changes that are occurring in Pennsylvania taxes. If you are not from Pennsylvania, you can ask your accountant if there are notable changes in your state.
Starting in 2023, Pennsylvania’s personal income tax rules will follow federal rules for section 179 expense, which allows for the immediate expensing of qualified business assets. In the past, Pennsylvania allowed 179 expense but significantly limited it. Also effective in 2023, Pennsylvania now allows the like kind exchange deferral.
New Every Morning
Tax rules change. Sometimes taxes go up, sometimes they go down. Prudent accountants watch these changes and sometimes take action to try to reduce taxes based on the changes in the law. Regardless of the tax rate when the alarm goes off in the morning, the Lord is still merciful.
22 It is of the LORD’s mercies that we are not consumed, because his compassions fail not.
23 They are new every morning: great is thy faithfulness.