Preparing for the Tax Sunset

Our U.S. tax law is constantly manipulated largely due to the changing political winds. The 2024 presidential election is no different, with the outcome shaping future income tax policies for years to come. Currently, change is in the cards. The Tax Cuts and Jobs Act (TCJA) of 2017 implemented a vast number of tax changes for 2018 through 2025, leaving most personal items to revert to 2017 law in 2026.

 

The Sunset

Ringing in the new year on Dec. 31, 2025, will accompany automatic tax increases for millions of American taxpayers. Tax rates will become higher for almost every bracket. Tax brackets will shift down, so the higher rates apply at lower income levels. The standard deduction will shrink by about half. Child tax credits revert to much lower levels. And the estate tax exemption is cut in half! Rather than wait until the TCJA provisions expire, let’s examine the implications of the proposed tax cuts.

 

Tax Rates

Tax rates apply to each tax bracket in a progressive manner, meaning the rates increase as your taxable income increases. Looking at the projected tax rates below, the only rate that stays the same in 2026 is the bottom rate of 10%.

Current Tax Rates1	Projected 2026 Tax Rates
10%	10%
12%	15%
22%	25%
24%	28%
32%	33%
35%	35%
37%	39.6%

This chart is for illustrative purposes.

 

Tax Brackets

As I wrote in  “Navigating the Impact: Inflation Adjustments to U.S. Tax Brackets,” the tax brackets are increased each year to pace inflation. For example, someone that makes $100,000 in year one and $103,000 in year two should pay the same tax if inflation over the year was 3%.

Since the brackets are inflated, it hard to pinpoint exactly what the brackets will be in 2026 since 2024 and 2025 inflation is unknown. However, we can utilize today’s known brackets and compare them to 2017’s brackets after adjusting for inflation. The table below indicates the top income threshold for each tax bracket, starting with one as the 10% bracket, two as the 12% bracket under current law and 15% under the sunset law, etc. All data in the “Sunset” columns are estimates in 2024 dollars.

Bracket	Single – Current	Single – Sunset	Married, Filing Jointly – Current	Married, Filing Jointly – Sunset
One	$11,600	$11,600	$23,200	$23,200
Two	$47,150	$47,200	$94,300	$94,400
Three	$100,525	$114,300	$201,050	$190,500
Four	$191,950	$238,400	$383,900	$290,300
Five	$243,725	$518,400	$487,450	$518,400
Six	$609,350	$520,500	$731,200	$585,500
Seven	Unlimited	Unlimited	Unlimited	Unlimited

 

Standard Deduction

A major component of the TCJA was to simplify individual income tax filing. While still a long way from achieving a “simple” tax filing, the law removed about 90% of filers from utilizing itemized deductions by nearly doubling the standard deduction. Naturally, the opposite will be the case in 2026 if no adjustments are made, causing the standard deduction to drop by approximately $7,000 for single filers and $14,000 for married filers.

On the plus side, the personal exemption comes back at $5,050 (in 2024 dollars) per person.

 

Child Tax Credit

The child tax credit is currently $2,000 per qualifying dependent under the age of 17 with more than half that amount refundable. For other dependents, a credit of up to $500 may be permitted. The 2017 law provides a $1,000 credit and none of it is refundable.

 

Estate Tax Exemption

The federal estate tax exemption is currently $13.61 million per person and is scheduled to drop by half in 2026. While most people are safe from this tax, even at the reduced level, if your estate is expected to exceed about $7 million, prompt action should be taken. Reach out to your financial advisor today to begin establishing your estate plan.

 

Examples

Looking at a few basic examples will help you understand the impact of the sunset. In every case below, the taxpayer is assumed to only have W-2 ordinary income and take the standard deduction.

W-2 Income	Single – Current	Single – Sunset	Difference	Married, Filing Jointly – Current	Married, Filing Jointly – Sunset	Difference
$50,000	$4,016	$4,988	+$972	$2,080	$2,468	+$388
$75,000	$8,341	$10,247	+$1,906	$5,032	$6,218	+$1,186
$100,000	$13,841	$16,497	+$2,656	$8,032	$9,968	+$1,936
$125,000	$19,539	$22,747	+$3,208	$11,182	$14,227	+$3,045
$150,000	$25,539	$29,692	+$4,153	$16,682	$20,447	+$3,765
$175,000	$31,539	$36,692	+$5,153	$22,182	$26,727	+$4,545
$200,000	$37,539	$43,692	+$6,153	$27,682	$32,977	+$5,295

The above are hypothetical examples for illustrative purposes.

 

Planning Ideas

The most obvious planning idea is recognizing more income in 2024 and 2025 while delaying deductions to 2026. Advancing or delaying income recognition isn’t always possible but may be feasible for self-employed individuals. Another option is performing Roth conversions where it makes sense to do so.

The state and local tax (SALT) deduction cap is removed in 2026, when the standard deduction drops. This provides the opportunity for higher income taxpayers to shift 2025 state income tax payments into 2026. With a lower standard deduction and higher tax rates, charitable giving becomes more powerful. Consider delaying 2025 giving, if possible, into 2026 or spending down from a Donor Advised Fund for the next two years and refund it in 2026.

Taxpayers potentially subject to estate tax should consider adjusting their estate documents and possibly including a trust to take advantage of today’s much higher exemption. Today we are primarily focused on the income tax changes so additional trust discussions are beyond the scope of this article.

 

Conclusion

Is the sunset guaranteed to happen? No. The next Congress could decide to extend the sunset or make certain parts of the current law permanent (as if anything in tax is truly permanent). We went through a similar situation in 2010 to 2011 when the “Bush Tax Cuts” were set to expire. Former President Obama’s administration extended the law for two years and then made most of it permanent.

While the tax landscape continually changes, it is always prudent to consider how future adjustments can impact your overall financial well-being. Preparing early and working with your advisor to put together a holistic plan that understands the tax provisions both today and in 2026 can help. If you are not already working with Mercer Advisors, and would like more information, contact us.