While it is still very early in the process of the bill becoming law, and this will be a grueling and grinding process, we thought this would be a good time to summarize what is in the initial draft of the legislation.
This past week, an initial draft of the fiscal year 2025 reconciliation bill, entitled the “One Big Beautiful Bill Act,” was released by Republicans in the House of Representatives. The bill quickly passed through the Committee on Ways and Means, and on its second try, cleared the House Budget Committee on May 18. The bill is currently under consideration in the House of Representatives. The House will likely negotiate and make significant modifications to the bill over the next week or two before putting it to a vote in the House. The bill will then go to the Senate as early as June, where it will be even further modified, with the final version requiring votes in the Senate and House. Republicans are aiming to have a final bill on the president’s desk for signature by July 4. While the Republicans’ goal is passage by this summer, we would not be surprised if the legislation is not finalized until the fourth quarter of this year.
While it is still very early in the process of the bill becoming law, and this will be a grueling and grinding process, we thought this would be a good time to summarize what is in the initial draft of the legislation.
As we have mentioned in prior Alerts, the 2017 Tax Cuts and Jobs Act (TCJA) was the biggest tax overhaul in decades, and many of the provisions of this bill that pertain to individuals are set to expire after 2025. A significant portion of the current reconciliation bill focuses on extending or making permanent these provisions to preserve the existing framework for individuals, pass-through entities and estates beyond 2025. Additionally, if the bill is passed in its present form (and in our view it will not), the highest earners will see a continued top tax rate of 37 percent and many individuals and businesses will find new tax treats. Most notably missing from the current proposed tax legislation is the end of the carried interest loophole. Following are key provisions, along with a brief description of the change brought about by the TCJA, and how the current reconciliation bill impacts each of them.
Extensions of TCJA Provisions
Modified Tax Rates
Among other modifications, the TCJA decreased the highest individual income tax rate from 39.6 percent to 37 percent. The new bill would make these tax rates permanent and tweak the inflation adjustments for lower brackets.
Increase in Standard Deduction
The TCJA essentially doubled the standard deduction, which is indexed to increase every year for inflation. The new bill would make these increases permanent and includes a temporary additional increase in the standard deduction for 2025 through 2028.
Termination of Deduction for Personal Exemptions
Prior to the TCJA, in addition to either the standard or itemized deductions, taxpayers with income amounts below certain thresholds were entitled to additional deductions known as personal exemptions. This deduction amount was based on the number of people claimed on the return, i.e., taxpayer, spouse and dependents. Under the TCJA, the deduction for personal exemptions was suspended until 2026. The new bill seeks to eliminate the deduction for personal exemptions permanently.
$2,000 Enhanced Child Tax Credit and $500 Credit for Other Dependents
Prior to TCJA, the credit was $1,000 per child, and there was no credit for other nonchild dependents. The new bill would make the $2,000 child tax credit permanent and would temporarily increase the credit to $2,500 for 2025 through 2028.
Qualified Business Income Deduction
The TCJA introduced a deduction of up to 20 percent of the taxable income from flow-through entities on the individual’s personal income tax return, subject to certain restrictions. The new bill would increase the deduction from 20 percent to 23 percent.
Increase in Estate and Gift Tax Exemption
The exemption amount of $15 million per taxpayer in 2026, indexed for inflation, is scheduled to revert back to the pre-TCJA amount of around $7 million per taxpayer, which is indexed for inflation to increase every year. The new bill would make these increases permanent.
Increase in Alternative Minimum Tax (AMT) Exemption Amount and Phase-Out Thresholds
AMT has existed since before the Tax Reform Act of 1986 and is designed to ensure that high earning taxpayers pay a minimum tax of 26 percent of their income. The TCJA increased the exemption amounts and phaseout thresholds, reducing the number of taxpayers subject to AMT each year. The new bill would make these increases permanent.
Limitation on Deduction for Qualified Residence Interest
Previously interest on home mortgage acquisition debt of up to $1 million was fully deductible as an itemized deduction. For home mortgage acquisition debt in excess of this amount, the mortgage interest deduction is partially limited. The TCJA lowered this amount to $750,000. The new bill would make the $750,000 limitation permanent.
Limitation on Casualty Loss Deduction
Prior to 2018, taxpayers were able to deduct losses resulting from a wide array of events, such as theft or natural disasters, as “casualty losses.” With a few exceptions, the TCJA limited the casualty loss deduction to losses that are attributable to federally declared disasters. The new bill would make this restriction permanent.
Termination of Miscellaneous Itemized Deductions
Before the TCJA, there were several itemized deductions, such as unreimbursed business expenses and tax preparation and investment advisory fees, that were available to individuals if the total of all these deductions that exceeded 2 percent of their adjusted gross income. These deductions were suspended under the TCJA, until 2026. The new bill would permanently eliminate these miscellaneous itemized deductions.
State and Local Tax (SALT) Deduction Limitation
The TCJA imposed a limit of $10,000 on state and local taxes that can be deducted as an itemized deduction on Schedule A. The new bill would increase the SALT deduction from $10,000 to $30,000 ($15,000 for taxpayers that are married filing separately) and would be phased down to an amount no less than $10,000 ($5,000 married filing separately) for taxpayers with adjusted gross income exceeding certain amounts. This limitation is being discussed heavily in Congress and we expect further modification to this provision.
New Provisions for Individual Taxpayers
No Tax on Tips
The new tax bill would create an above-the-line deduction (which means you do not need to itemize your deductions to get the deduction) for qualified tips that are included in other income. The tips need to be paid voluntarily and are customarily received as part of the occupation and now includes gig economy workers (think Uber, Lyft and the like). Additionally, highly compensated employees are ineligible for this deduction. This provision does not modify any W-2 or 1099 reporting requirements, but provides a deduction for such qualified tips on the individual’s personal income tax return. This is potentially confusing, as while tips are required to be included in W-2 income, or on a 1099 if working as an independent contractor, in practice, often cash tips are not reported as income. In order to claim a deduction for such tips, taxpayers would have to first ensure the tips are reported on the return as taxable income.
No Tax on Overtime
The new bill would create an above-the-line deduction for “qualified overtime compensation,” which only includes the additional rate that is required to be paid to nonexempt employees for hours worked exceeding 40 in a single workweek. In other words, the deductions would be for the “half” in the “time and a half” overtime rate. Additionally, this deduction is not available to highly compensated individuals.
No Tax on Car Loan Interest
This provision will create an above-the-line deduction of up to $10,000 for qualified passenger vehicle loan interest paid during the year. The final assembly of the vehicle needs to occur in the United States, and the deduction is gradually phased out if the taxpayer’s adjusted gross income exceeds $100,000 ($200,000 married filing jointly). The deduction would be available for tax years 2025 through 2028.
New Above-the-Line Charitable Deduction
Charitable contributions up to $150 for single and $300 for married filing jointly would be eligible for a deduction even if the taxpayer does not itemize.
Establishes Money Accounts for Growth and Advancement for Children
Individuals would be able to contribute up to $5,000 in after-tax dollars to each of these accounts. For children born in the years 2024 through 2028, the federal government will contribute $1,000 into the child’s account.
Eliminated Credits
The new tax bill eliminates clean vehicle credits for purchases of both new and used vehicles, and eliminates the residential clean energy credit.
Business Tax Provisions
Increase in Bonus Depreciation
Bonus depreciation allows taxpayers to deduct a certain percentage of the cost of qualified property placed in service during the year, in addition to depreciation calculated under the Modifeid Accelerated Cost Recovery System (MACRS). This bonus depreciation percentage was previously 50 percent. As part of the TCJA, bonus depreciation increased to 100 percent of the cost of qualified property placed in service after 2017 and before 2023. Through 2023 to 2027, this percentage decreases in increments of 20 percent, until for 2027 when it is to be reduced to zero percent. Bonus deprecation rates are as follows: 2022, 100 percent; 2023, 80 percent; 2024, 60 percent; 2025, 40 percent; 2026, 20 percent; 2027, zero percent. The new tax bill would restart this incremental phaseout beginning with 100 percent bonus depreciation in 2025 and lasting through 2030, in which it would be reduced to zero percent.
Enhanced Business Interest Expense Limitation Calculation
As part of the TCJA, for businesses with average gross receipts over the prior three years exceeding $25 million indexed for inflation, interest is limited to 30 percent of adjusted taxable income (ATI). Prior to 2022, deductions for depreciation amortization and depletion expense were added back to the entity’s taxable income when calculating ATI. Beginning in 2022, and for all subsequent year, these expenses are no longer added back. The new bill would allow taxpayers to add back these expenses once again to arrive at ATI for the years 2025-29, resulting in more interest expense deductions for taxpayers.
International Tax Enhancements
The new tax bill would make permanent the current deduction rates of the foreign-derived intangible income and global intangible low-tax income that are scheduled to decrease beginning in 2026. Also, the new bill would maintain the same 10 percent minimum tax on base erosion payments that is scheduled to increase to 12.5 percent beginning in 2026.
Special Depreciation Allowance for Qualified Production Property
The new bill would create a new provision that would allow an immediate deduction of 100 percent of the value of qualified real property placed in service that previously was required to be depreciated over 39 years. In order to be considered “qualified,” the property effectively needs to be used for manufacturing.
Increase the Three Year Average Gross Receipts Threshold
The new bill would increase the threshold for small manufacturing businesses to be required to utilize the accrual method from $31 million (indexed for inflation) to $80 million.
New Opportunity Zone (OZ) Program
Qualified opportunity funds were popular investment vehicles created by the TCJA to defer and exclude gains. The new bill would create an entirely new OZ regime based on the one created under the TCJA, not extend the current one. This would mean new zones, new investments and gain recognition from the initial OZ investments. For more insight, see the Duane Morris Opportunity Zones Blog.
Increase 179 Deduction
The new tax bill would increase the maximum amount of the deduction from $1.25 million to $2.5 million, while phaseout of the deduction would also increase from $3.13 million worth of qualified property placed in service to $4 million.
Interest Income Exclusion
The new bill would exclude 25 percent of interest income received by a qualified lender on loans secured by rural or agricultural real property.
Pass-Through Entity (PTE) Tax Deduction
As a workaround to the SALT limitation, several states enacted PTE provisions to their tax code, allowing flow-through entities to elect to pay that state’s income tax at the entity level, which flows to the individual owner’s state tax return as a tax credit. Since the tax is assessed and paid at the entity level, the tax is deducted on the entity return, which is not subject to the SALT limitation. The SALT limitation is only applicable to taxes deducted on an individual’s tax return as an itemized deduction. When the state PTE provisions first came into effect, the IRS allowed this workaround. This provision of the new tax bill would eliminate this loophole, which will essentially render the various PTE state tax elections useless. This is something that we are going to be paying particularly close attention to, and we encourage others to do the same, as it could have very significant ramifications. For business owners in states with high income tax rates, this could significantly increase your overall tax liability even without an increase in tax rates.
Retroactive Enforcement Provisions with Respect to Employee Retention Credits (ERC)
As part of the CARES Act, the ERC payroll tax credit was established to aid businesses in keeping their employees on payroll during the economic disruption brought about by the COVID-19 pandemic. There were very specific requirements that a business needed to meet in order to qualify for this credit. While it was certainly a lifesaver for many struggling businesses, it also was subject to significant manipulation and fraud from organizations known as “promoters.” These promoters aggressively marketed to businesses, often falsely implying that all businesses qualified for the credit. Claims were then filed by businesses with questionable circumstances at the direction of these promoters, who in turn charged a fee for such consulting services. The new bill would significantly increase the penalties imposed by these promoters to the greater of $200,000 or 75 percent of the gross income derived from these services. No new ERC claims filed after January 31, 2024, will be processed. Additionally, the new tax bill would extend the statute of limitations for assessing these ERC claims to six years to provide the IRS with additional time to audit and address potentially improper claims. It is important to keep in mind that if determined to be improper, in addition to the penalties imposed on the promoter, the recipients of these credits may be required to pay all or a portion of the credit they received back, plus interest and penalties.
TAG’s Perspective
At this early stage, the draft legislation reflects an initial framework aimed at extending key provisions of the TCJA, while introducing a range of additional tax measures, largely consisting of provisions addressing promises made during the presidential campaign. While many of these provisions are intended to provide continued relief and certainty for all taxpayers, including certainty and support for small businesses and manufacturers in America, others introduce new limitations or enforcement measures that could have the opposite effect. Plus, as the legislation presently stands, it would increase the complexity of the tax code and increase the federal deficit. Given the complexity of the proposals and the certainty of further negotiations, we feel it is premature to draw definitive conclusions regarding the bill’s ultimate scope or impact. We will continue to closely monitor and study the changing tax legislation. As major tax developments and opportunities emerge, we are always available to discuss the impact on your personal or business situation.
For More Information
If you would like more information about this topic or your own unique situation, please contact John I. Frederick, Michael A. Gillen or any of the practitioners in the Tax Accounting Group. For information about other pertinent tax topics, please visit our publications page.
Disclaimer: This Alert has been prepared and published for informational purposes only and is not offered, nor should be construed, as legal advice. For more information, please see the firm's full disclaimer.